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Ponzi Nation — A Land of Believers

My brother and his wife are huge believers in the power of Oregon State University teams: baseball, basketball, football, and any other kind of ball they play out there in Corvallis.  There are a lot of avid Beaver supporters in the Pacific Northwest-so many that they have begun calling themselves Beaver Nation.  As in: there are so many of us OSU supporters that we are not just a local phenomenon, we’re a nation.  A land of believers.

In that vein, I’m naming my first blog on the 21st Century Fusion Economy: “Ponzi Nation-A land of Believers.”  How else could millions of people believe they could invest in houses that cost way more than they could afford?  Don’t worry, they told themselves, someone will come along and pay us way more than what we paid.  It’s happened before, it’ll happen again.  And by the way, don’t worry, the banks and mortgage companies told them, we’ll loan you all the cash you need.

Back in the 1920’s, a swindler named Charles (Carlo) Ponzi figured out that he could make a lot of money by taking people’s money to invest for them, promising them unrealistic returns.  But that didn’t stop people from giving him their hard-earned cash.  Instead of investing it, however, he just paid the new money to earlier investors.  Enthralled that they were getting a much higher return on their money than they would have at a bank or at a reputable financial institution, many invested the money back with Ponzi.  Others told their friends and families about the fantastic returns.  Soon there was a steady flow of money in the Ponzi funds.  The scheme worked fine as long as there was someone down the line, ready to join in and get the same high return as those that went before.

The great housing boom of the early years of the 21st Century worked just like that-a Ponzi scheme that relied on blind belief and devoid of economic logic.  If there was someone coming in the door in a little while to pay you much more than what you paid did it really matter what it was worth?  All you had to do was believe.  By all appearances, the banks and the mortgage companies that provided the loans believed in the scheme as well.  Why else would they provide the money-sometimes up to 100 percent of the purchase price-to home buyers who didn’t have the wherewithal to purchase a house at all just a few years before?

What were they thinking, putting their precious assets in the hands of zombie homebuyers, some of whom who had no income, no assets, nothing to guarantee that the mortgage would be paid back on time and with interest?  Did they believe in the Ponzi Nation as well?

Or did they even care?  The trick of the Ponzi economy was to convince others to believe.  If you could do that, you had it made.  The banks and mortgage companies simply packaged up their mortgages and sold them offto managers around the world who put them in pension funds, and university endowments, IRA’s and portfolios from Bangkok to Basel to Bahrain.  What made these investors think they would get paid on time?  Three letters: AAA.

The world’s top rating companies had somehow been convinced, by their computers churning the numbers overnight, putting in thousands of test scenarios to see what would happen to these securities over time.  In the morning, when they came to see what happened to these exotic mortgage-backed securities full of bells and whistles that no one could really explain-under every possible scenario-they found that they held up pretty well.  As long as the U.S. housing market didn’t crash, apparently.  They didn’t put that scenario into their computers, apparently.  Or if they did, the computers weren’t programmed to doubt the resiliency of the U.S. economy.  Even they were programmed to believe.

And believe they did.  A flood of these bonds, backed by U.S. mortgages of increasingly shaky and shady origin, hit the world financial markets, precisely when there was a tsunami of money looking for a good home.  China and every other hard-working nation on the planet had been running trade surpluses, you see.  And, instead of getting their citizens to become U.S.-style consumers, spending way beyond their means, the governments put their surplus money into the international capital markets.

This flood of funds-trillions of dollars worth of yen, yuan, rupees and reals roaming the world in search of high returns-ensured that every new bond, no matter how dubious in origin, got bought.  They believed they would get paid back, on time and with interest.  As did the banks that issued the bonds.  As did the ratings agencies that guaranteed the creditworthiness of the paper.  As did the banks and mortgage companies that provided the loans to home buyers who believed-and how-that they would be able to see for a profit.

As long as the next buyer came along.

But like all Ponzi schemes, this one was doomed to fail.

As soon as people stopped believing, the Ponzi nation ground to a halt.  And when the U.S. housing market stumbled, it brought the rest of the world to its knees.  Banks and investment funds around the world crashed and burned.  Governments and Central Banks were powerless to stop the downward spiral.  Mainly because people have simply stopped believing .

Or have they?  Retail sales in the U.S. rose unexpectedly last month.  And my brother and his wife are still counting on the Oregon State baseball team to win another National title in Omaha this coming June.

Who knows?  Maybe the naysayers will be proved wrong this time around.

Stay tuned for further developments.

One Response to “Ponzi Nation — A Land of Believers”

  1. Sheila Desbans Says:

    Dear Randy,

    Was good to see you yesterday! Congrats on your God-sons first birthday – Jesper is such a fantastic little boy (Maria and Ray are just great parents)! Elsa is very lucky to have a little buddy like him showing her the way with walking and exploring.

    Checked out the website and the blog and looks very good. Love the idea of Ponzi-Nation – this for me describes very well. I would encourage the explanations that use comparisons – I am a big believer in this making things easier to understand for the non-finance educated persons like myself :)

    I had heard the ‘Ponzi’ comparison with Madoff as well http://www.huffingtonpost.com/2008/12/11/ponzi-scheme-madoff-charg_n_150401.html

    Good luck with the book launch – I will do a pre order for Guy and I. Will be checking back to the website – is very well done and easy to navigate.

    See you again in the near future.
    Sheila

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