The 'hidden' in Hidden In Plain Sight

As promised, HSIB is back to review more of Peter Wallison's Hidden In Plain Sight: What Really Caused the World's Worst Financial Crisis and Why It Could Happen Again.

Wallison's writings have provided much grist for our mill over the years. Thus, we haven't been taken by surprise by anything in his latest book. What did get our attention though was his stress, in his new book, on the extent to which the GSE's misrepresentations of the quality of their portfolios rippled through the economy. As Alan Greenspan put it in his most recent book;

The true size of the American subprime problem was hidden for years by the defective bookkeeping of the GSEs. Fannie Mae was unable to get its books certified and had to stop reporting publicly between November 2004 and December 2006, pending an often delayed clarification of their accounts. Freddie Mac had had similar problems earlier. ....the source of loss did not become fully evident until September 2009, when Fannie Mae very belatedly disclosed significant reclassification of loans, from prime to subprime, dating back to loans that it had made and held in 2003 and 2004. More important, those revelations helped to explain how what was thought to be a relatively sound portfolio of prime conventional mortgages in mid-2007 could generate the huge losses Fannie and Freddie had been reporting. [our bold]

Greenspan is actually understating the deception, as it wasn't until 2013 that Freddie Mac made its last disclosures of 3-1/2 million more mislabeled-as-prime loans. That brought the total to about 32 million non-traditional loans out there tick, tick, ticking. Which is about two and a half years after the Financial Crisis Inquiry Commission dismissed, officially, Ed Pinto's data on the extent of the hidden problematic lending by the two 800 lb gorillas of mortgage finance. Something a reader will learn by reading Hidden In Plain Sight.

Wallison now argues that this mislabeling deceived virtually all analysts of the American housing market. Including, rating agencies--Fitch, Moody's S&P--officially recognized by the federal government as authorized certifiers of the risk-quality of securities backed by those loans. And risk managers at major financial institutions.

The ratings agencies everyone relied on were particularly vulnerable to the FM's tactics, because the specialists there do not inspect individual loans. They use statistics. Data that wasn't accurate for the housing market as a whole. Not rating the GSE's bonds themselves (only privately issued securities), the ratings agencies wouldn't have even had raw clues available to them, over which they might have stumbled upon the true weaknesses (and dangers). Say the way, Harry Markopolos recognized that Bernie Madoff was operating a Ponzi Scheme years before that scandal broke.

This is in addition to the GSEs being roped into the affordable housing corral in the first place by such government policies as the GSE Act of 1992, HUD's Best Practices Initiative (essentially the CRA extended to non-bank lenders like Countrywide Mortgage) and the amendments to the CRA in 1995. Prior to that big push by politicians of both parties--Henry Cisneros, Bill Clinton, George H.W. Bush, Newt Gingrich, Barney Frank, Chris Dodd--Fannie and Freddie rarely bought a subprime mortgage (and few were even made, about 1 in every 200 home loans being such, prior to the affordable housing fad).

Oh, what a tangled web.... unraveled in Hidden In Plain Sight.