Page 133 - untitled

 FINANCIAL CRISIS INQUIRY COMMISSION REPORT

As the United States ran a large current account deficit, flows into the country
were unprecedented. Over six years from  to , U.S. Treasury debt held by
foreign official public entities rose from . trillion to . trillion; as a percentage
of U.S. debt held by the public, these holdings increased from . to .. For-
eigners also bought securities backed by Fannie and Freddie, which, with their im-
plicit government guarantee, seemed nearly as safe as Treasuries. As the Asian
financial crisis ended in , foreign holdings of GSE securities held steady at the
level of almost  years earlier, about  billion. By —just two years later—
foreigners owned  billion in GSE securities; by ,  billion. “You had a
huge inflow of liquidity. A very unique kind of situation where poor countries like
China were shipping money to advanced countries because their financial systems
were so weak that they [were] better off shipping [money] to countries like the
United States rather than keeping it in their own countries,” former Fed governor
Frederic Mishkin told the FCIC. “The system was awash with liquidity, which helped
lower long-term interest rates.” 
Foreign investors sought other high-grade debt almost as safe as Treasuries and
GSE securities but with a slightly higher return. They found the triple-A assets pour-
ing from the Wall Street mortgage securitization machine. As overseas demand drove
up prices for securitized debt, it “created an irresistible profit opportunity for the U.S.
financial system: to engineer ‘quasi’ safe debt instruments by bundling riskier assets
and selling the senior tranches,” Pierre-Olivier Gourinchas, an economist at the Uni-
versity of California, Berkeley, told the FCIC. 
Paul Krugman, an economist at Princeton University, told the FCIC, “It’s hard to
envisage us having had this crisis without considering international monetary capital
movements. The U.S. housing bubble was financed by large capital inflows. So were
Spanish and Irish and Baltic bubbles. It’s a combination of, in the narrow sense, of a
less regulated financial system and a world that was increasingly wide open for big
international capital movements.” 
It was an ocean of money.

MORTGAGES: “A GOOD LOAN”
The refinancing boom was over, but originators still needed mortgages to sell to the
Street. They needed new products that, as prices kept rising, could make expensive
homes more affordable to still-eager borrowers. The solution was riskier, more ag-
gressive, mortgage products that brought higher yields for investors but correspond-
ingly greater risks for borrowers. “Holding a subprime loan has become something of
a high-stakes wager,” the Center for Responsible Lending warned in . 
Subprime mortgages rose from  of mortgage originations in  to  in
. About  of subprime borrowers used hybrid adjustable-rate mortgages

(ARMs) such as /s and /s—mortgages whose low “teaser” rate lasts for the

first two or three years, and then adjusts periodically thereafter. Prime borrowers
also used more alternative mortgages. The dollar volume of Alt-A securitization rose

almost  from  to . In general, these loans made borrowers’ monthly