Riding Out the Storm

Our world is in financial turmoil today.

The chickens have all come home to roost. Millions of smart people world-wide became convinced that they could make quick, easy money without contributing or adding value of any kind. Since it is ultimately impossible to get something out of nothing, the house of cards eventually had to come crashing down.

In 1977, the Jimmy Carter administration passed the Community Reinvestment Act, designed to harass banks into making unsafe loans in poor neighborhoods populated by people who could not afford to buy a house. Eventually these loans became known in the industry as "Ninja Loans."

This meant, "no job, no income, no assets, no money and no credit rating." When Clinton came into power, he fired up the Community Reinvestment Act and threatened banks with lawsuits and fines if they did not make loans to people that they knew could not, or would not pay them back. So called "Community Organizers" and other individuals and groups began holding demonstrations in bank lobbies to bully banks into providing these loans so that more and more people with no credit rating could buy homes that they could not afford and agreed to paying off debts that they had no money to cover.

These "Ninja Loans" began growing in the 1990’s and when interest rates dropped dramatically after the dot.com explosion in 2001, more and more people, including millions with good credit ratings, began demanding these "Ninja Loans" as well.

What to do? The banks, in all good conscious, could not make bad loans. They were forbidden by law to issue mortgages to people who couldn’t repay them. So the federal government stepped in with Fannie Mae and Freddie Mac, the government mortgage lending organizations, to "guarantee" these loans, actually converting them into a form of "cash reserve" that banks and other financial institutions could use to inflate their assets.

As you may know, banks have what are called "reserve requirements." This means that they must have one dollar of cash on hand for every ten dollars that they lend to consumers or corporations. This is called "leverage" and is the reason why banking can be an extremely profitable industry.

Banks and other financial institutions found that they could package hundreds and thousands of these mortgages, some good, but mostly bad, into packages that obscured the fact that they were lending far more than the unlined properties were actually worth. This so called "securitization" of mortgages, backed extensively by the federal government through Fannie Mae and Freddie Mac, became treated as cash reserves for banks all over the world. Since the yield on these "securitized loans" was substantially higher than the banks could earn in the process of normal banking business, banks and financial institutions world-wide began buying these "government guaranteed notes" and adding them to their reserves.

Then the impending disaster began. These financial institutions began to lend against these shaky sub-prime securitized notes, leveraging them by ten times and more. When Lehman Brothers went broke, they were leveraging these underline sub-prime assets as much as 40 times. To put it another way, for every dollars worth of sub-prime mortgage assets they had, they were extending 40 dollars in loans to more and more people and corporations who were then using the money to bid up real estate and assets and corporate stock prices. This was very much like a reverse pyramid with the dollar on the bottom and forty dollars on the top. When the dollar on the bottom shrunk to 50 cents, the banks had to reduce their leverage by ten times and twenty times the shrinkage of their "assets." As we see today, this led to financial collapse of multi-billion dollar financial organizations.

The Bush administration attempted on sixteen different occasions to reign-in in the out-of-control lending of Fannie Mae and Freddie Mac, which eventually reached as high as $1.5 trillion in "government backed loans." Time and time again, the supporters of Fannie Mae and Freddie Mac, all of whom received huge political campaign donations from these organizations, fought back the federal regulators and refused to reign-in the out-of-control lending. The result is the financial meltdown that we are experiencing today.

What is to be done? If there is any good news, it is the fact that there have been financial panics and crashes since the first founding of the first bank shortly after the successful American Revolution. In every case, the smartest and best brains in America have gotten together to solve the problem and return the situation to some semblance of normalcy.

This financial crisis is the worst since the Great Depression of the 1930’s. Nonetheless, is it not as bad because the experts are far more knowledgeable about what works and what doesn’t work in getting the country out of a financial panic.

The process is messy. Every day people like Henry Paulson and others are announcing different ideas and plans to bail out banks, corporations and institutions. The most important factor is that the economy receive enough government backing to stabilize, very much like a small ship that has been hit by a squall and is listing over, taking on water and threatening to sink. This will not happen.

What can you do? In any storm, you have no choice but to "batter down the hatches." You should cut all discretionary spending and build up cash reserves in any way possible. Make a decision today to get out of debt and stay out of debt. Start paying down your high interest credit cards and be prepared to take a hit in your standard of living. This will mean eating at home more often, spending less on Christmas presents and discretionary expenses, and concentrating intensely on financial liquidity and solvency.

The biggest lesson of this financial crisis is that we have lived beyond our means for far too long. The United States Government has been borrowing 500 billion dollars per year from overseas to give the American voting public benefits and goodies that it is not willing to tax them for. The American public themselves have become like pigs at a trough, demanding ever more money and benefits from the federal government without being willing to pay for it. All of this debt is being passed onto our children and grandchildren.

The average American family now owes $450,000 as their share of the national debt. A child born today starts off with a personal debt of almost $200,000 that will have to be taken out of his standard of living in the form of reduced wages and interest payments for the rest of his or her life.

Here is the bottom line: Government must live within its means. Government should be able to manage 100% of it’s expenditures on 90-95% of its income, and use the balance to pay down the national debt.

Personally, you should make a decision today to live on 90% of your income or less, and save/invest the other 10% for financial security and financial independence. You should never again go into debt. You should never again live beyond your means. You should never again spend money that you don’t have on the off-chance that you might enjoy a financial loophole by flipping a property sometime in the future. Remember, "Hope is not a strategy." The entire population has been on the equivalent of a financial drinking binge and is now going to suffer the effects of a long and painful hangover. But at the end, with what we have learned, each of us should be able to put our financial house in order, budget appropriately, live within our means, and go on to build a solid financial estate in the years ahead.

Brian Tracy

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About Brian Tracy — Brian is recognized as the top sales training and personal success authority in the world today. He has authored more than 60 books and has produced more than 500 audio and video learning programs on sales, management, business success and personal development, including worldwide bestseller The Psychology of Achievement. Brian's goal is to help you achieve your personal and business goals faster and easier than you ever imagined. You can follow him on Google+, Twitter, Facebook, Pinterest, Linkedin and Youtube.

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