Capitalism and the Cheating Ethic

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The further we get from the housing bubble that helped to prompt our current financial meltdown, the less we seem bothered by the decline in trustworthiness and the rise in cheating that fueled the irrational exuberance of the home mortgage market. And then along comes New York Times reporter Edmund Andrews to remind us of that era via his own personal story of attempted mortgage deception and borrowing irresponsibility. If you want to understand how individual wrongs by seemingly upstanding members of society piled up and helped fuel our national ruin, read Andrews’ piece, My Personal Credit Crisis, in last Sunday’s Times.

As an economics reporter for the Times, Andrews analyzed and described the frothy housing market before he made his own unwise plunge. In a story he published in June of 2004 he explained the growing risk that home borrowers were taking on, including those who used “innovations” in the market, like no-documentation mortgages that were nicknamed “liar’s loans,” which didn’t require income verification. In the story, Andrews noted that their growing use alarmed housing experts.

In Sunday’s personal account of his troubles, Andrews remarkably admits that he was fully intent on using deception, in the form of a liar’s loan, to get his own mortgage. In August of 2004, just two months after his Times story about the increasingly irrational mortgage market, he resolved to buy a $460,000 home in Silver Spring, Md., for himself and his new fiancée. The problem is that he had just $2,777 a month left from his paycheck after paying $4000 in a month in alimony. And so, following his mortgage broker’s advice, Andrews did not list the alimony payments on his application, though the standard mortgage form explicitly asks for such information. To accomplish the deception he applied for a no-doc loan so he wouldn’t have to submit income tax returns or pay stubbs, which would indicate that alimony payments were being deducted from his paycheck.

Still, basic underwriting procedures almost foiled him. A credit check by the lender’s underwriters revealed he was still carrying a mortgage on the home his ex-wife lives in with his kids, which raised questions. So Andrews shifted tactics. Knowing that he couldn’t own up to the divorce without owning up to the alimony payments, he applied instead for a “no ratio” mortgage that doesn’t calculate a borrower’s debt-to-income ratio, so he wouldn’t have to worry about the underwriter asking uncomfortable questions about the house that was still in his name. After he got a mortgage using the new application Andrews admitted that he couldn’t shake the feeling of “having done something bad,” but he also admitted he felt “kind of cool” for making such a big score.

At this point I leave it up to you to decide whether Andrews is guilty of mortgage fraud or not, though the good nuns who educated me in grammar school would have pointed out that his intent was clearly to cheat. Still, it is emblematic of the culture of home lending in the bubble that rather than report Andrews for filing a fraudulent application, the lender, American Home Mortgage, merely let him re-file for another kind of even riskier mortgage. And so, American got what it deserved when Andrews, awash in debt, eventually defaulted on the loan. The only problem is that so did tens of thousands of other borrowers of American, which eventually collapsed and was seized by the government--costing taxpayers untold millions.

Since Andrews published his provocative personal story a few days ago, the tale has evoked online comments ranging from outrage at his taking out so much debt, to empathy at his predicament. But what I find remarkable is that a Times reporter would admit in so blunt a way his intention to defraud—a fact which itself has caused barely a ripple of comment. It’s a reminder that during the housing bubble cheating became so commonplace that those who did it were barely considered to be engaging in fraud. While authorities have pursued rings of con artists who used the mortgage market to swindle builders and banks, the kind of ordinary, everyday deceits that went on have largely been ignored, though they probably played a far greater role in the market’s meltdown than we understand.

The FBI says reports of mortgage fraud increased a whopping 10-fold from 2001 to 2007, while mortgage servicers who have investigated portfolios of bad mortgages have found as many as 70 percent had “misrepresentations” on them. It is possible that hundreds of thousands, and even millions, of borrowers, brokers and salespeople cheated over the space of just a few years, helping to bring down themselves and an entire industry, and contributing mightily to the economic and fiscal predicaments in which we find ourselves.

The German sociologist Max Weber once noted that capitalism was not the pursuit and accumulation of wealth by any means—something that lots of societies had engaged in over the millennia. Rather, Weber noted, what set capitalism apart was that it was an ethic which evolved for “the pursuit of profit, and forever renewed profit [Weber’s italics], by means of continuous, rational…enterprise.” Looking out over the brief history of capitalism when he was writing in 1904, Weber observed that America best embodied this capitalist ethic thanks to what he described as our “ideal of the honest man of recognized credit.” Although we had our share of con men, speculators and robber barons, nevertheless in America, Weber noted, “the infraction of [capitalism’s] rules is treated not as foolishness but as forgetfulness of duty.”

That was a long time ago, apparently. Today, the infraction of capitalism’s rules is opportunity for a publishing contract. Andrews’ remarkably frank tale of his mortgage failings is going to be published in a provocatively titled book, "Busted: Life Inside the Great Mortgage Meltdown,” even while the rest of society grapples with the fallout from such misdeeds.

Is there a larger consequence to such shifts in attitudes? Adam Smith would certainly have thought so. A moral philosopher, Smith laid the groundwork for his ideas on trade and commerce in his first book, Theory of Moral Sentiments, in which he traced the evolution of mankind’s ethics from our nature as social beings who feel bad if we do something that we believe an imagined impartial observe would consider improper. Out of this basic mechanism for making judgments, what Smith called sympathy and modern psychology calls empathy, we create civilizing institutions, like courts of law, to help us govern our economy as it becomes more complex. Over time a society relies on these institutions to reinforce our individual values.

But when real neutral observers—a book agent, an editor at a newspaper, the paper’s readers—no longer blanch at outright deviousness so frankly told, society has lost the mechanism that restrains its citizens from widespread cheating. That’s exactly what happened in the mortgage meltdown, when untold numbers of applicants, their brokers, real estate agents and assorted others openly discussed how to collude in obtaining mortgages through fraudulent means without stopping to consider the implications for society as a whole. And without the slightest sense of embarrassment, apparently.

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