Flawed Incentives and Dubious Morals: JPMorgan & CDOs That Were "Built to Fail"

It's been a busy week for JPMorgan Chase. It's only Wednesday, and already the bank has settled one civil fraud lawsuit, and been slapped with another one. Both shed light on Wall Street's flawed system of incentives that helped bring on the financial crisis. They also raise questions as to the morals of bankers.

On Tuesday, JPMorgan agreed to pay $153 million to settle civil fraud charges brought by the SEC alleging that it "misled" investors when it sold them junky mortgage bonds. The deal in question was put together by Magnetar Capital. If you're not familiar with Magnetar, it's an Illinois-based hedge fund that made a killing shorting synthetic mortgage-backed securities that were essentially built to fail. Here's how it worked: Magnetar would put down a few million bucks to start a collateralized-debt obligation (CDO), cram it full of the junkiest mortgage bonds it could find, then get a bank like JPMorgan to sell it off to investors as a triple-A, gold-plated piece of the booming housing market; when in reality it was a time bomb filled with toxic waste.

Did Lobbying Contribute to the Financial Crisis?

The answer is a firm yes, at least according to three IMF economists who studied the correlation between firms' lobbying efforts, financial risk-taking, and default rates. Their findings (abstract here; full report here) show that:

[L]obbying was associated with more risk-taking during 2000-07 and with worse outcomes in 2008. In particular, lenders lobbying more intensively on issues related to mortgage lending and securitization (i) originated mortgages with higher loan-to-income ratios, (ii) securitized a faster growing proportion of their loans, and (iii) had faster growing originations of mortgages. Moreover, delinquency rates in 2008 were higher in areas where lobbying lenders’ mortgage lending grew faster.

Another Financial Prophet Unearthed

In the wake of any financial crisis, a few people are always trotted forth (sometimes they do the trotting themselves) as having seen the particulars of the crisis in advance -- but who, despite all their hand-waving and teeth-gnashing, were roundly ignored. In the Wall Street Journal, Jason Zweig profiles Melchior Palyi, an economist who seemingly predicted many of today's big economic problems. But here's the twist: he did it some 70 years ago.

What Kind of Stories Are the Media Failing to Cover?

Dan Froomkin of the Nieman Watchdog Project interviews William K. Black about the media's underreporting of fraud cases.

Now's the Time to Buy That Island

The recession has apparently put a real dent in the market for islands, The Seattle Times reports.

Should the Nobel Folks Be Sued for the Financial Crisis?

The recent financial crisis clearly had many contributing villains. But if you're looking to sue someone to recover losses, Nassim Nicholas Taleb maintains, the choice is clear: the Swedish Central Bank, which awards the Nobel Prize in Economics,

And the Winner is…

While speculation is rising about just who will win this year's Nobel Prize in Economics (to be announced on Monday), it's probably worth pointing out that the far more important Ig Nobel Prizes for the year have already been announced.

Things to Know About Cars

Steven Rattner, the financier, onetime journalist and recent "car czar," has just published a book called Overhaul: An Insider's Account of the Obama Administration's Emergency Rescue of the Auto Industry. This weekend, the Wall Street Journal published an excerpt, and if this snippet is a good indication, there is a lot of sensible, factual material to be read.

Correcting Krugman

Paul Krugman and Robin Wells caricature my recent book Fault Lines in an article in The New York Review of Books. The article, and their criticism, however, do have a lot to say about Krugman's policy views (for simplicity, I will say "Krugman" and "he" instead of "Krugman and Wells" and "they"), which I have disagreed with in the past. Rather than focus on the innuendo about my motives and beliefs in the review, let me focus on differences of substance. I will return to why I believe Krugman writes the way he does only at the end.

The Verdict on Cash for Clunkers: a Clunker

From a new working paper by Atif Mian and Amir Sufi: "We examine the ability of the government to increase consumption by evaluating the impact of the 2009 "Cash for Clunkers" program on short and medium run auto purchases."