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Generational Dynamics Web Log for 29-Jan-07
When did lending standards start changing so much?

Web Log - January, 2007

When did lending standards start changing so much?

The world was a very different place right after World War II, according to a comment posted by "Olive," a reader of the the Housing Bubble blog, in response to a comment I posted.

Here's the comment by Olive:

"It seems the lending standards have been loosening gradually as part of the ongoing economic cycle, as stated by John X, since the last depression. Although you could buy Model T Fords on credit in the twenties, by the late 1950’s/early 60’s when my dad was a banker (in Canada), he says there was no such thing at that time as a car loan. If you wanted a car - you paid for it in cash. No one had credit cards. I recall in the mid 1980’s when I was coming of age, you had to prove your credit worthiness before you were allowed the honour of getting a credit card. Ten years later, university students without jobs were getting them. Finally today total credit insanity has taken over! No doubt after this blows up the lending standards will go back to how they were in the 1930’s and 40’s and it will all start over again…."

I thought this was interesting because I had forgotten that car loans are such a new thing (or rather, a new thing since WW II). I do remember my father buying a car in the 1950s and paying for it with a check, but it was a used car, and the cost was just $250! Later, around 1960, they bought a new car. I don't recall the cost, but they paid for it out of savings.

Of course my parents lived through the 1929 crash and the Great Depression. My mother, who insisted that everyone (including me) call her Roxie, often told the story of her father's candy store. These were high quality candies, and the store did very well in the 1920s, but people simply stopped buying candy in the 1930s. Roxie said that her father could hardly sleep for months until the day that he lost the candy store to bankruptcy, and then "that night he slept like a baby." After that, Roxie managed to get a job by lying about being able to operate the business machines of the day, but she figured them out on the job. Her pay? $8 per week.

By the 1950s, when I was growing up, Roxie had become a full-charge bookkeeper, and eventually the equivalent of the CFO for a midsized manufacturing firm. But she never stopped fearing a new Great Depression. Every bit of bad business news raised her concerns - "Is this a Depression again?" It affected every decision my parents made. I recall the day that Roxie was absolutely furious. They had enough savings to prepay the remaining balance on their home mortgage. They had just come back from the bank, and the bank manager had told them that they would be charged a "prepayment fee." She just couldn't believe that the bank had the nerve to do that, but somehow my parents had talked the bank manager into accepting the prepayment without the fee.

When Roxie fell ill in 1995, I had the gut-wrenching job of reviewing her finances, and I was utterly astounded by what I found. She lived on almost nothing. She paid rent for a decent apartment, she paid the electric and phone bills, and she subscribed to TV Guide, and that was it. I mean that literally -- she had no more recurring expenses. Her only other expenses were for groceries, cigarettes, her (1972) car, and occasional clothing. Her Depression-era experiences caused her to count every penny as if it were her last. No one born after 1940 would ever live like that -- although we may have to learn to as the next few years progress.

A fascinating example of this from literature is Charles Dickens' 1843 novel, A Christmas Carol, which describes a generational struggle between an old skinflint, Ebenezer Scrooge, and his struggling employee, Bob Cratchit, who has a crippled son, Tiny Tim.

Almost every depiction of this story portrays Scrooge as a skinflint who hoards money to the point of being evil about it. But in fact, Scrooge's miserliness was quite justified, according to what the novel tells us about his past. The bankruptcy of the French Monarchy had impoverished all of Europe, and many people starved to death or went to debtors' prison. In fact, Ebenezer Scrooge's own father had died in poverty, and Scrooge had been separated from his sister because of poverty. So Scrooge's whole life was shaped by the horrors of his experiences with the bankruptcy, and he was perfectly justified in saving every penny.

The three ghosts ("Christmas past," "Christmas present," and "Christmas future") represent the voices of the younger generation of arrogant, self-assured people who were born after the war. The period following a crisis war (like WW II) is almost always a time of great prosperity, since so many people have been killed by the war that there is plenty of food and other resources for the few that survive. These people (like our Boomer generation) see no need to suffer by saving every penny, and they despised and ridiculed the Ebenezer Scrooges of the world.

Over the years, I've come more and more to appreciate Scrooge. He was a man who knew what he had to do, ran his life that way, and didn't let other people talk him into stuff he didn't believe in. Of course, he let himself slip for a day after that psychotic episode with the three ghosts, but hopefully it was only a brief episode, and he was back to his old self by December 26.

Anyway, those stories, together with Olive's, illustrate the vast differences in world view between the generations that lived through the 1930s Great Depression, and the Boomer generation, who believe that there are no risks left, since somebody else will take care of everything. What almost everyone in my generation of Boomers is clueless about is that those "someone elses" are all gone now.

Incidentally, here's the question originally posed by the Housing Bubble blog:

"[W]hen did lending standards start changing so much? I was involved in real estate 20 years ago, mostly as a property manager, but also doing some sales in Capitol Hill/DC, a lot of shells and distressed stuff that was being rehabbed by investors.

I remember how difficult it was to get ‘investor’ loans back then, and that rental income was really discounted in terms of qualifying, etc.; as a result, we did a lot of seller-financed deals with a balloon in 3 to 5 years (usually paid off in a year or two when the property was rehabbed and sold).

When did it start becoming easy for folks to get these low- and no- doc loans and by 3, 5, 10 — whatever — properties to try and flip? I’d love a history of the change in standards if someone has some good insight — who (agencies/companies) started this shift?"

And here's the comment that I posted in response:

"The answer to your question is that it's completely generational.

The people who were born before the 1929 crash, and who lived through the 1930s Great Depression and its horrors -- homelessness, starvation, bankruptcy -- were extremely cautious investors.

That generation of people all disappeared (retired or died) all at once in the early 1990s, and suddenly the senior financial managers and investors were from the Baby Boomer generation, with absolutely no fear of credit, and convinced that "Great Depressions" went out with dinosaurs.

If you go back through history, there are of course many small or regional recessions. But since the 1600s there have been only five major international financial crises: Tulipomania bubble (1637), South Sea Bubble (1721), French Monarchy bankruptcy (1789), Hamburg Crisis of 1857, and 1929 Wall Street crash.

Each of these major international crises occurred roughly 70-80 years after the previous one. What you find is that each new "debt bubble" occurs at exactly the time that the generation of people who grew up during the previous financial crisis all disappear (retire or die), all at once. Thus, the length of time between these "generational" financial crises is approximately equal to the length of a maximum human lifetime.

Today, the GI and Silent generations are gone, and the Boomer generation has been loosening lending standards ever since it took over, starting with loose credit card requirements in the 80s and 90s. It's this generational change that answers your questions about "when."

Our 70-80 year interval is pretty much over. The next major 1930s style Great Depression is just around the corner, with 100% certainty. Nothing can be done to stop it. All we can do is prepare for it."

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Generational Dynamics Web Log for 29-Jan-07 When did lending standards start changing so much?

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When did lending standards start changing so much?