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Subprime Lending to the World

1 January 2010 1 January 2010 Tags: , No Comment Print This Post Print This Post

While working in data processing management for financial services I learned a practical principle: a suitable remedy to a problem must itself be monitored and adjusted as needed; otherwise, the expected remedy may become an unexpected problem making things worse.

The above principle reoccurred to me when, a couple of days ago, I watched Damned By Debt Relief by Worldwrite featured on Current TV. This short documentary piece deals with side-effects of lending to the African developing countries and illustrates how an intended remedy may turn into a fatal problem with no easy solution in sight to deal with it.

The main players related to the Current TV piece are the World Bank (WB) and the International Monetary Fund (IMF). They were created in the aftermath of World War II: WB to direct investments to the neediest countries of the world, and the IMF to ensure international monetary cooperation. These International Financial Institutions (IFIs) have changed their roles over the last few decades, becoming international advocates and, recently, became a source of controversial economic policies in the developing countries. Those include an initiative concerning some of heavily indebted poor countries (HIPCs), that are just barely coming out of the previous debt crisis, incorporating conditional debt remedies and bogus debt cancellations.

At first, while researching basics of the sub-prime lending boom, I came across the below graph with blue bars indicating the yearly volume of subprime loans.

Then, researching the basic trend of funding to the developing countries, I came across the graph, in “Financial Flows to Developing Countries: Recent Trends and Prospects” report by the World Bank, with orange bars indicating the yearly volume of funding flow into the developing countries.

To my surprise, both graphs showed unprecedented surge in their related volumes that are almost identical in the scale and timing: sometime in 2001~2002 period both financial activities took off. They both, after being heralded as remedies for the masses, turned into unmanageable burden for millions of people just a couple years later. Also, I started asking myself an obvious general question: how it is possible that financial an economic experts can be so fundamentally wrong in predicting, controlling and preventing suffering of millions of people? An another obvious question followed: how much suffering is needed to trigger practical and lasting solutions for those who suffer most?

The answers came quite quick.

Until the financial boom of predatory subprime mortgage lending turned into a national and international nightmare, the few people, who tried to warn federal banking officials, might as well stay home. For one, Edward M. Gramlich, a former Federal Reserve governor clearly warned in 2002 in his remarks, you can read here, that:

…the ability to refinance mortgages allows borrowers to take advantage of lower mortgage rates, but sometimes easy refinancing invites loan flipping, which generates high loan fees and unnecessary credit costs. And again, credit life insurance is often desirable, but sometimes the insurance is unnecessary, and at times borrowers pay hefty up-front premiums as their loans are flipped.

But when Mr. Gramlich started to urge Fed examiners to investigate mortgage lenders affiliated with national banks, he was rebuffed by Alan Greenspan, then all-knowing Fed chairman. And there were others.

When the exuberant lending to the developing countries started taking off, “A Letter to the U.S. Congress”, that you can read here, was included in the book titled Democratizing the Global Economy” byKevin Danaher, published by Common Courage Press in 2001. It contained clear warnings such as:

IMF and World Bank policies have forced poor countries to make foreign debt service a higher priority than basic human needs. The World Bank claims that it is “sustainable” for countries like Mozambique to pay a quarter of their export earnings on debt service. Yet after World War II, Germany was not required to pay more than 3.5 percent of its export earnings on debt service. Poor countries today need a ceiling on debt service similar to the one Germany had. According to U.N. statistics, if Mozambique were allowed to spend half of the money on healthcare and education that it is now spending on debt service, it would save the lives of 100,000 children per year.

The problems, stemmed from ill-implemented remedies created for Africa, are staggering. The below map, found here, illustrates a high debt service levels African countries face (2003 data). African governments are still turning to the IFIs for emergency support as their public finances deteriorate.

But Africans have no choice except to deal radically with resolving their own local problems and gaining control of the resources of their rich continent through debt cancellation or repudiation, or through alliances with allies and others, who have already cut their ties to the IMF; furthermore, to mobilize these resources for well planned and implemented remedy instead of allowing unsympathetic forces to hemorrhage Africa.

The remaining answer to the issue of how much suffering is enough to develop practical and lasting solutions may require a closer look at neoliberalism, referred to as “capitalism with the gloves off”, which is presented well in the book “Profit over people: neoliberalism and global order” by Noam Chomsky; but you are welcome to make your own mind.

Written by Mark Bajkowski.
Mark, born in Poland, is a Jack of all trades, master of none, who lives in New York since 1979. Mark has an unusually wide range of interests and is known to relate well to the people half of his age. Since his early childhood, he felt a curious relation to Africa, which unavoidably brings up the controversial subject of multiple life experiences.

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