Regulation of Financial Markets

by Russ Roberts on February 5, 2009

in Financial Markets

Michael Smith comments over at EconTalk on a comment by one Mark K:

Mark K wrote:

These jokers on Wall Street, who according to Russ made
‘innovative’ products like credit default swaps, showed us unregulated
free market capitalism in all its glory.

The notion that we have an “unregulated free market” is false.

If we had an unregulated free market, the organizations and
individuals that made stupid investment decisions — those "jokers on
Wall Street" — would now be bankrupt, to be replaced by more competent
organizations and managers. Instead, under the current system, they are
“bailed out” — at your expense — and allowed to continue operating.

If we had an unregulated free market, the investment rating agencies
that rated securities containing subprime loans as “AAA” would be
disgraced, bankrupt and out of business — no one on earth would deal
with them any longer — they wouldn't be able to pay people to use
their services. Instead, under our current system, not only are all
those rating services still in business, the S.E.C. requires that all
issuers of investments use those rating agencies.

If we had an unregulated free market, no one would be forcing
bankers to make riskier loans than they wish to, as is currently done
by legislation such as the Community Reinvestment Act and threats of
lawsuits from organizations like ACORN and from the Federal
Government‘s Justice Department (Clinton‘s DOJ filed 13 major lawsuits
against banks for failure to lend to “minorities“).

If we had an unregulated free market, there would be no central
banking entity in charge of a fiat money supply with the ability to:

a) Make vast amounts of credit available at below-market interest rates.

b) Follow such a persistent policy of inflation as to convince
virtually everyone in the country that purchasing a house is “a good

c) Eliminate ( or at least significantly reduce) risk aversion by
guaranteeing bankers that they (the Fed) will always be there as
“lender of last resort”.

d) Condone and make possible a preposterously over-leveraged
fractional reserve banking system under which banks currently hold
total reserves of only about 4% and are thus extremely vulnerable to
any sort of a run or loss of confidence in the bank.

If we had an unregulated free market there would be no
quasi-government entities like Fannie and Freddie and the FHA to insure
that trillions of dollars of that cheap credit made possible by the Fed
was directed into the residential housing market, producing an
unsustainable boom in housing construction, which, when it ends, leads
inevitably into an economic bust.

If we had an unregulated free market, the Federal Government would
not now be contemplating looting the American taxpayers of another
trillion dollars or so to pay off various special interests that helped
the latest collection of looters get into power.

We don’t have an unregulated free market. We have a “mixed economy”,
with a few elements of capitalism struggling under the weight of
literally thousands of pages of rules and regulations and dozens of
government agencies interfering in virtually every aspect of our
economic lives.

And under this set-up, it is you, the “little guy”, the individual
who doesn’t have a powerful lobby in Washington to get the rules bent
in your favor — you, who cannot command an audience with Congress to
beg for your personal bailout — you, who can do nothing as government
uses your funds to save the incompetent and the dishonest from the
consequences of their own actions — it is you who gets screwed.

We don’t have an unregulated free market; we have an out-of-control government intent on looting us blind.

My only quibble is the use of the word "intent." I see government malfeasance and error as a more emergent phenomenon rather than intentionally destructive. But other than that (and that is basically nothing), lots of wisdom here. Thank you, Michael.


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