Financial crisis was avoidable: FCIC

FCIC chairman Phil Angelides says the financial crisis was the result of 'human action and inaction.'





NEW YORK (CNNMoney) -- The financial crisis, which wreaked havoc on the economy and sparked a painful recession, could have been avoided, according to a federal commission.

The Financial Crisis Inquiry Commission, in its final report on the causes of the crisis, said Thursday that federal authorities, who failed to curb reckless behavior on Wall Street, bear much of the blame for the turmoil that erupted in 2008 and 2009.

"We conclude first and foremost that this crisis was avoidable," said Phil Angelides, the commission chairman, at a press conference in Washington.

Angelides was flanked by the five other commissioners who endorsed the report. There were four dissenters, three of whom are scheduled to hold a press conference later Thursday.

The crisis was the result of "human action and inaction," the chairman said, warning that it could happen again "if we do not learn from history."

"In many respects, our financial system is unchanged from the eve of this crisis," he said. "We believe that much more needs to be done."

In the first official government review of the root causes of the crisis, the commission challenges the notion, expressed by many on Wall Street and in Washington, that the crisis could not have been foreseen.

"There were warning signs," the report says. "The tragedy is that they were ignored or discounted."

The crisis was also the product of "dramatic failures of corporate governance and risk management at many systemically important financial institutions," according to one of the report's nine conclusions.

The commission faults policies under both Presidents Bush and Obama, as well as actions taken by the Federal Reserve under Alan Greenspan and the current chairman, Ben Bernanke. Tim Geithner, the current Treasury Secretary who was president of the New York Fed during the crisis, and his predecessor, Henry Paulson, were also named in the report.

"As our report shows, key policy makers -- the Treasury Department, the Federal Reserve Board, and the Federal Reserve Bank of New York -- who were best positioned to watch over our markets were ill prepared for the events of 2007 and 2008," the commission states.

The report also cites "a systemic breakdown in accountability and ethics" as a factor in the crisis. However, it states that "to pin the crisis on mortal flaws like greed and hubris would be simplistic."

"It was the failure to account for human weakness that is relevant to the crisis," the report reads.

The commissioners were asked repeatedly at the press conference about cases where individuals may have broken the law. But they declined to comment, other than to say that the commission is mandated to refer such cases to the Justice Department or state authorities.

The commission tells a familiar story of banks churning out trillions of dollars worth of poor quality home loans that were bundled into mortgage-backed securities, rubber-stamped by ratings agencies, and sold to unsuspecting investors around the world. As the housing market soured, those assets became worthless, leading to massive losses for banks and giving rise to a severe liquidity crisis.

The crisis was driven by the proliferation of "synthetic" securities, such as collaterized debt obligations, and the excessive use of leverage at many financial firms, the report finds. These and other practices were carried out in a "shadow banking system" the report says, which was almost entirely unregulated.

Some of the major operators in the shadow banking system included Lehman Brothers and Bear Stearns, which didn't survive the crisis, as well as heavyweights Goldman Sachs (GS, Fortune 500), Merrill Lynch and Citibank (C, Fortune 500). The commission also faults the lending practices of commercial banks such as Countrywide, now owned by Bank of America (BAC, Fortune 500), Wachovia and JPMorgan Chase (JPM, Fortune 500).

Fannie Mae and Freddie Mac, two government-sponsored enterprises, were "the kings of leverage," the report says. By the end of 2007, according to the report, the companies had a combined leverage ratio of 75 to 1.

The report faults government officials for encouraging Fannie and Freddie to increase their exposure to the mortgage market. The firms were placed under government control in 2008, and many analysts worry that their liabilities will be borne by taxpayers.

AIG, the bailed out insurance giant, also features prominently in the report for its role in the crisis. AIG had to be rescued by the government in 2008 after it sold $79 billion worth of insurance contracts on mortgage-backed securities.

The report also criticizes the three main credit rating agencies -- Moody's, S&P and Fitch -- as "essential cogs in the wheel of financial destruction."

"Their ratings helped the market soar and their down-grades through 2007 and 2008 wreaked havoc across markets and firms," the report reads.

The report reflects the majority opinion of the commission, which is made up of 10 members appointed by Congress. Three commissioners, who were appointed by Republican lawmakers, issued a dissenting report.

Keith Hennessey, Douglas Holtz-Eakin and Bill Thomas argued that the majority report is simply a litany of things that went wrong, rather than a study of specific causes. They suggest that more government regulation may not have prevented the crisis because it was a global problem.

Peter J. Wallison, a commissioner who is a fellow at the conservative American Enterprise Institute, also dissented.

The commission, which investigated the crisis for more than a year, held 19 days of hearings and interviewed more than 700 witnesses. The witnesses included officials from the Treasury, Wall Street executives and representatives from the main credit rating agencies.

The commission briefed reporters on their findings early Thursday morning before the report was officially released. Some of the conclusions were published Wednesday by the New York Times. The conclusions and dissents are now available to the public on the commission's website, and the commission said it will release additional materials in February.