The National Commission on the Causes of the Financial and Economic Crisis in the United States cast blame wide and far, in releasing its report Thursday on the causes of the 2008-2009 financial crisis.
The crisis inquiry panel said “widespread failures in financial regulation and supervision proved devastating to the stability of the nation’s financial markets.” But not once in the 662-page report did high-frequency traders come up.
Such traders became a whipping post in much of 2009 and 2010, as the crisis roiled capital markets and the 1,000-point whipsaw of the Dow Jones Industrial Average occurred on May 6, 2010. But they never came up as a cause of the crisis – even if technology or a lack of it did.
“Technology has transformed the efficiency, speed, and complexity of financial instruments and transactions,’’ the commission said. As a result, “there is broader access to and lower costs of financing than ever before. And the financial sector itself has become a much more dominant force in our economy.
By the report’s count, the amount of debt held by the financial sector soared from $3 trillion to $36 trillion in the three decades ending in 2007, more than doubling as a share of gross domestic product. And technology-fueled trading of securities led to a reshaping of the U.S. economy.
On the eve of the crisis, financial industry profits were 27 percent of all corporate profits, up from 15 percent in 1980.
Technology, it said, helped make the securitization of mortgages, a central force that led up to the crisis, feasible.
“With these pieces in place—banks that wanted to shed assets and transfer risk, investors ready to put their money to work, securities firms poised to earn fees, rating agencies ready to expand, and information technology capable of handling the job—the securitization market exploded,’’ the panel found. By 1999, about $900 billion of securitization was occurring, “beyond those done” by the U.S. government’s main agents of mortgage-creation: the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac) and the Government National Mortgage Association (Ginnie Mae).
This included $114 billion of automobile loans, $250 billion of credit card debt and $150 billion of mortgages ineligible for securitization by Fannie Mae and Freddie Mac. As widely reported, many were subprime mortgages, the commission noted.
Securitization was not just a boon for commercial banks; it was also a lucrative new line of business for Wall Street investment banks, with which the commercial banks worked to create the new securities.
And, like in the Long-Term Capital Management Crisis a decade earlier, market players “underestimated the likelihood that liquidity, credit, and volatility spreads would move in a similar fashion in markets across the world at the same time,” speed made possible by information systems that are interlinked.
Lawrence Lindsey, a former Federal Reserve system governor who was responsible for the Fed’s Division of Consumer and Community Affairs, said banks had an incentive to invest in technology that would make lending to lower-income borrowers profitable by such means as creating credit scoring models customized to the market.
And the creators of securities were not relying on Fannie Mae’s numbers, because their “processes were a bowl of spaghetti,’’ according to one examination specialist. According to Austin Kerr and a colleague in the Office of Federal Housing Enterprise Oversight, Fannie Mae, a multitrillion-dollar company, employed unsophisticated technology.
Their conclusion: “it was less tech-savvy than the average community bank.”