Michael Lewis & Ivy Zelman: Entitlements Are Bigger Risk Than Moral Hazard

by REIT Wrecks on June 10, 2010

The buzz around Michael Lewis these days comes from his new book “The Big Short,” which is why he and Ivy Zelman were invited to speak at the Pacific Coast Builders Conference this week. Ivy Zelman, of course, is the now former the Credit Suisse housing analyst who famously asked Toll Brothers CEO Bob Toll on the Q4 2006 Toll Brothers conference call “Which Kool-Aid Are You Drinking?

She was, as they say on Wall Street, a little early.

As for Lewis, he became a best selling author with his very first book, Liars Poker, which chronicled the implausible deceit, greed and lack of governance at Solomon Brothers, then a leading bond shop on Wall Street. At the time, Lewis thought he was “describing period of absurdity in the financial world that would never be repeated.”

But then the subprime mortgage crash came along, and he got a chance to do it all over again. Lewis was introduced to Zelman while researching his new book (“all roads led to Ivy”), and both agree that the big banks are using an elegant form of theft to rip off tax payers. They imply this theft is being perpetrated with government complicity, and it is being greased with the ultimate form of other people’s money – tax money. In Washington, tax money is easy money, and as Lewis would have said in Lair’s Poker, we are about to get our faces ripped off if we don’t do something about it.

According to Lewis and Zelman, taxpayer-funded Moral Hazard has subsidized hundreds of accident-prone financial firms back to health, via the hundreds of billions of dollars that were pumped into the banking system after the Congress discovered that lair loans were not good credit instruments. The only thing surprising about this discovery was that several members of Congress had actually lied on their own liar loan applications.

The naive among us would hope that Chris Dodd’s Countrywide low interest home loan was simply the result of a fact-finding mission. Sadly, Lewis and Zelman argue implicitly that this was the result of an insidious sense of entitlement, and that this sense of entitlement now permeates the entire country – from Congress on down to the lease option flipper in Phoenix, to Aunt Betty in Birmingham. Furthermore, they wonder, without at least some pain for somebody, how could there be real reform?

The loquacious Lewis has a book to sell, so he was careful not to answer Zelman’s politically sensitive rhetorical questions on this topic directly. However, he did say that the “American Way” dictates consequences for those who make poor choices, yet the politicians seem to want to favor a path that produces no casualties.

Lewis says that the experience he’s had after writing this book was unlike any he’s ever had, and that Capital Hill is out of touch with the popular mood. According to Lewis, the financial reform bill that is now about to emerge from Congress is not just the art of compromise, but the result of politicians not wanting to piss off some of their most munificent donors – the Wall Street firms who helped create the whole mess in the first place. He said the “American Way” was not perpetual re-election (or, as Zelman put it “the entitlement of the strategic defaulter”), but consequences for one’s actions. Zelman contended the administration actually seemed to be welcoming and encouraging this soft approach.

Zelman, interestingly enough, was not willing to give homeowners a free pass either. She correctly pointed out that there were two signatures on each liar loan application, not just one, and that many of them knew exactly what they were doing. It’s hard to know how many were duped by the system or the other way around, but Lewis and Zelman both agree that weak financial services reform will not produce the results it intended. It seems to me that the law of unintended consequences has been in effect since Lehman failed, and with higher taxes and higher inflation almost surely to accompany toothless financial services reform, these unintended consequences are about to get much, much worse for everyone.

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