In my October 15th, 2008, column for the Pittsburgh Tribune-Review I criticized those who blamed the 2008 financial crisis on “market fundamentalism” and deregulation. You can read my column beneath the fold (link added):
Gnarled reality
Is today’s financial turmoil caused by deregulation and “market fundamentalism,” as many pundits assert? Or does the blame for this problem lie chiefly with government — namely too much of it, despite the sporadic deregulation of the past 30 years?
To my mind the answer is clear: The culprit is government. And while I’ll give some reasons to justify my answer, I note first the distance between the proponents of the first view and the proponents of the second.
These past couple of weeks, to read newspapers or to listen to radio and television talking heads is to encounter what seems to be two entirely different species of creatures, each from a different planet, observing and reporting on a reality that is utterly imperceptible to the other species.
Has there been deregulation? Yep. The Gramm-Leach-Bliley Act of 1999, for example, repealed the Glass-Steagall Act’s prohibition on the mixing of commercial banking with investment banking. Has there been government involvement in the mortgage market? Of course. Fannie Mae and Freddie Mac are Uncle Sam’s children — children that investors worldwide understood correctly would have access, in a severe pinch, to papa’s bank account.
As long as there isn’t complete government control over the economy, opponents of free markets can always point to those remaining segments of private, decentralized decision-making that still exist and scream “See! If only government had regulated/taxed/prohibited these private activities, we’d not be suffering these problems! Market forces are to blame!”
Likewise, as long as there is some government involvement in the economy, even if it is minimal, proponents of free markets can always point to this involvement and scream “See! If only government had not done what it did, we’d not be suffering these problems! Government is to blame!”
The unfathomable complexity of our economy and the many ways — direct and indirect — that government can both regulate and deregulate make it impossible simply to look at reality straight on see what’s happening. A person can observe a rock fall into a puddle of water and see clearly most of the relevant reality without having to do a great deal of serious pondering: falling rock; splash; ripples; the water eventually becomes calm again.
Not so with most economic phenomena, and especially not so with ones featuring as many politicians, bureaucrats, regulations, businesses, consumers and products as are involved in the American housing market.
It’s impossible simply to observe the relevant facts, as you would observe a rock falling into a puddle, and understand what’s going on.
To weave knowledge of the facts into a coherent account of what went wrong requires a compelling understanding of economics.
So what does economics tell us? Most importantly here: No one knowingly makes precarious loans if that person must pay the price of doing so. If one of the observed facts is an unusually large slew of extra-risky loans that (surprise!) went bad, this fact is a clue to look for some forces at work compelling — with either carrots or sticks — lenders to make such loans.
Well, what do you know?! Seems that such forces were indeed in play.
Here’s how my colleague Walter Williams summarizes:
“Starting with the Community Reinvestment Act of 1977, which was given more teeth during the Clinton administration, Congress started intimidating banks and other financial institutions into making loans, so-called subprime loans, to high-risk homebuyers and businesses. The carrot offered was that these high-risk loans would be purchased by the government-sponsored enterprises Fannie Mae and Freddie Mac. Anyone with an ounce of brains would have known that this was a prescription for disaster but there was a congressional chorus of denial.”
Government was intent on extending homeownership beyond its economically prudent limit.
State governments joined in this game. Earlier this year on its Web site, Freddie Mac helpfully explained that “Mortgage Revenue Bonds (MRBs) are tax-exempt bonds that state and local governments issue through housing finance agencies (HFAs) to help fund below-market-interest-rate mortgages for first-time qualifying homebuyers. Eligible borrowers are first-time homebuyers with low to moderate incomes below 115 percent of median family income.”
Freddie Mac, though, did not merely cheer on these state-government efforts from the sidelines. Along with Ginnie Mae (another “government sponsored enterprise,” like Fannie and Freddie), Freddie chipped in actively by purchasing MRBs from these state housing-finance agencies.
These government actions, of course, are like all government actions: paid for by taxpayers — that is, by individuals each with no immediate or discernible stake in the outcome of what government does, and certainly with no personal control over how government spends their money. So it’s difficult to hold anyone firmly accountable.
And in the soil of that reality grows the gnarled roots of this sorry episode.
