Friday, December 03, 2010

I Think I'm Starting to Understand the Recession

I'm not a financial guru. I do know a few things about not being foolish with my money. I know, for example, that credit card debt is like being pirated by permission, so I do not have any credit card debt. I also know that cars are about the best way to throw away money that you can think of due to depreciation. So I have resolved to buy used cars until I have money to throw away. I also know that, over the long haul, the stock market is not a bad investment if you put your money into reputable companies and diversify. I also know that, as a Christian, it is my duty to be a good steward of the resources that I have.

Recently, I have been thinking of buying a small farm. I would like to have a few acres to grow some watermelons, some sweet corn, and some peas and beans. Not a large scale operation, just a place where my children can grow up outdoors and win prizes for goats at 4-H. I have some money saved up, interest rates are low, and so I decided the time is right for such a venture.

As I was shopping for a loan, I was pleasantly surprised, at first, to find that the government will back a farm loan through an entity called the FSA for up to 90%. That is, if I borrow the money and default, the bank is guaranteed to get back 90% of the investment from the government. I was perplexed to find, however, that the bank required 15% down for the land purchase. I asked why they would do this if they have a 90% guarantee, and they replied that they felt it was best if I "had some skin" in the investment. I responded by saying, "Here's my skin: 10% down. Where is your skin? You are making money day one because of the guarantee, right?"

Much to my amazement, I found that home loans have a similar backing by the FDIC (I believe). The government backs home loans, and correct me if you are in the know, up to 80%. That means if a bank loans $200,000 on a house, they are guaranteed a $160,000 payback on default by the government. If they require a 10% down payment, they are only risking $20,000 on the first day. That's a pretty safe risk on a 30 year mortgage with a person of good credit.

After finding these things out, I nodded at first and thought that this is a pretty good way to stimulate the economy. You lower the risk for banks so that they will not be afraid to loan money to people. People will then buy houses and open businesses, generating commerce. As I was having this happy thought, I began to think about how awesome it would be to open a bank if all those loans were practically guaranteed and risk free....

And then my happy thought went away. I suddenly realized that if banks had very little risk, they might just get greedy and make lots and lots of loans, knowing that the government would have to bail them out if people defaulted. They might even go from the standard 10% down to something like a 0% percent down to get people to buy. If you couple this with low-interest, front end, ballooning loans, you might just make a bunch of money. Unless, of course, lots and lots of people started defaulting and you starting bleeding those 10-20% losses all over the place.

Oh my! Is that why the economy tanked? And here I thought it was all George Bush's fault! Or that some Wall Street broker goon did it. Could it have been that a policy designed to help people was twisted by greed and used corruptly, not by one person, but by thousands of people trying to grab too much too fast?

I don't know. This is my own little personal conspiracy theory. If I am totally wrong about this, I'd appreciate the correction.

1 comment:

Andrew Locks said...

Brad, I'm starting to enjoy your blog and I have little to argue with. But if that changes I'll let you know. Keep it up. I would be cautious on making any large purchases right now. It might be better to keep what money you have saved and pay a guy down the road to keep your kids goat. There may be some more conspiracies come to light in the next year not including Cam Newton.