Signs of Backlash Against Paulson

A guy whose nickname is “the Hammer” might not seem a great fit with public service, where finesse generally goes further than brute force. So it isn’t a complete surprise that a Bloomberg article, “Paulson’s Focus on `Excesses’ Shows Goldman Gorged” by Mark Pittman, contains some harsh criticisms of the Treasury secretary.

We’ve commented before that the Treasury department’s deep and obvious involvement in the SIV rescue plan is inappropriate and unprecedented. Pittman brings up a related theme, that Paulson didn’t deem housing to be a problem until it started affecting Wall Street, and that he helped create the situation while at Goldman’s helm.

The ire among the Congressmen quoted in the story is the result of Paulson’s opposition to provisions in pending legislation that create “assignee liability.” If an underwriter were to sell a bond that contained mortgages that the borrowers had no realistic hope of repaying at the time the mortgage was signed, the underwriters could be sued.

I don’t find the concept unreasonable, since in a world of structured finance. there are so many players in the product creation chain that effectively no one is responsible, yet the securities are so complex as to impede investors making their own assessment (even if they could get the data, the process would be too costly). It would have the effect of forcing the underwriters make sure that the loan originator had proper procedures in place.

And apart from Paulson’s objections, I doubt many structured finance products will come back unless there is a mechanism to create accountability. If he doesn’t like assignee liability, what does he suggest instead? The status quo isn’t viable.

From Bloomberg:

Treasury Secretary Henry Paulson says the U.S. is examining the subprime mortgage crisis to ensure that “yesterday’s excesses” aren’t repeated. He could be talking about himself and his former firm, Goldman Sachs Group Inc.

Paulson, 61, doesn’t mention that Goldman still has on the market some $13 billion of almost $37 billion in bonds backed by subprime loans or second mortgages that it created while he was chief executive officer. Those bonds have an average delinquency rate of almost 22 percent, higher than the average of other subprime bonds from the period, according to data compiled by Bloomberg….

The value of Goldman’s outstanding subprime bonds trails Lehman Brothers Holdings Inc.’s $33 billion, out of $106.8 billion created during Paulson’s years at Goldman, and Morgan Stanley’s $28.8 billion, out of $82.5 billion.

“He should admit to having been involved in creating the problem that we have now,” said Representative Brad Miller, a North Carolina Democrat, who introduced a bill Oct. 22 to make firms packaging subprime mortgages liable for bad loans in some circumstances….

Starting in March, Paulson said the damage was “largely contained” and was no risk to the larger economy. When other credit markets began to be affected, he and others began pushing for solutions.

“I can’t help but notice that when middle-class homeowners were losing their homes to foreclosure, he was pretty nonchalant about it,” Miller said of Paulson. “But when Wall Street CEOs start seeing trouble in their absurdly complicated financial instruments built on the mortgages of middle-class homeowners, he feels their pain.”….

Paulson’s involvement in the subprime crisis “points out that there needs to be complete accountability up and down the system,” said Allen Fishbein, the director of credit and housing policy at the Consumer Federation of America in Washington. “Goldman wasn’t alone. All the brokerages did this.”

Goldman ranks 10th among 118 issuers, based on the amount of subprime loans still on the market. Bonds with a face value of $484.6 billion remain from those created in the years Paulson ran Goldman…..

The House bill Miller introduced is backed by Representative Barney Frank, the Massachusetts Democrat who is chairman of the Financial Services Committee. One provision would make firms that package and sell subprime mortgages liable for damages if loans violate certain minimum standards, including ensuring a borrower’s reasonable ability to repay.

Paulson criticized the liability idea in an Oct. 16 speech at Georgetown University in Washington.

“We need to ensure yesterday’s excesses are not repeated tomorrow,” Paulson said. Penalizing Wall Street for packaging mortgage loans “is not the answer to the problem,” he said.

The House measure would “potentially paralyze securitization,” which, Paulson said, has been “extremely valuable in extending the availability of credit to millions of homeowners nationwide and lowering the cost of financing.”

In New Delhi on Oct. 30, Paulson repeated his pledge to find what went wrong in the financial system. “We need to shed light on it and make the policy adjustments so this doesn’t happen again,” he said….

Paulson’s public role increased in the past month as the credit crunch spread to the commercial paper markets and off- balance-sheet structured investment vehicles, known as SIVs. He urged major lenders in a Sept. 12 meeting in Washington to help subprime borrowers keep their homes.

Paulson and Robert Steel, a former Goldman Sachs vice chairman who is the Treasury’s undersecretary for domestic finance, helped persuade Citigroup and other banks to set up an $80 billion partnership to buy assets from any SIVs that couldn’t refinance their debt….

The average delinquency rate for subprime bonds sold from May 1999 through June 2006 is 19.3 percent as of yesterday, according to data compiled by Bloomberg. Among the top 20 issuers that have more than $5 billion outstanding, Goldman’s GSAMP ranks ninth with 21.7 percent for delinquencies of 60 days or more, foreclosures or real estate that has been taken away from borrowers.