The housing bubble and its aftermath arose from market distortions created by the Federal Reserve, the government backing of Fannie Mae and Freddie Mac, and the Department of Housing and Urban Development and its Federal Housing Administration. Americans suffered through a severe recession in 2008 and 2009, a downturn unfortunately precipitated by perverse government policies.
Regarding bad decisions made by the private sector, the traditional remedy for severely mistaken investment policies was to shut and dismantle those firms making mistakes to stop the bleeding, to free their assets and personnel to go where they can add value, and to make room for firms with better entrepreneurial ideas. That sort of market restructuring should have been allowed to happen in the U.S. financial sector.
A financial market in which failed enterprises like Freddie Mac or AIG are never shut down is like an American Idol contest in which the poorest singers never go home. The closure of Lehman Brothers (and the near-closure of Merrill Lynch), by raising the interest rate that the market charges to highly leveraged investment banks, forced Goldman Sachs and Morgan Stanley to change their business models drastically. The most effective and appropriate form of business regulation is regulation by profit and loss.
The long-term remedy for the severely mistaken government monetary and regulatory policies that have produced the current financial train wreck is similar. We need to identify and undo policies that distort housing and financial markets, and dismantle failed agencies and departments, such as HUD, whose missions require them to distort markets. We should be guided by recognizing the two chief errors that have been made. First, cheap-money policies by the Federal Reserve do not produce sustainable prosperity. Second, delivering mortgage subsidies by imposing affordable housing mandates on banks and by providing federal support to Fannie Mae and Freddie Mac bonds can backfire in a tragic way that damages the broader economy.
Wednesday, November 25, 2009
Cato on the housing crisis
The Cato Institute's view of the housing bubble and resulting financial crisis:
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It looks like this article was written with a conclusion looking for a justification.
ReplyDeleteBlaming it partly on FHA loans, then the author doesn't actually address how much of the market was made up of FHA lonas. Isn't this readily available data?
Than blame the CRA, and say that it didn't even make up that much of the total loans.
Then blame HUD, Fannie and Freddie. Which are probably the most credible culprits, but diluding your argumeent by even mentioning the first two.
The author glosses over so much about the Modernization act of 1999.
There are so many better articles written about the housing bubble than this one. It was a solution looking for a problem. Saying greed is a contstant was just silly. So many people and institutions were chasing slightly larger gains because interest rates were so low, leading to the proliferation of the mortgage backed securities. It wasn't exactly greed, it was institutions trying to eek out slightly higher gains as safe as possible. This artice was just annoying. It didn't feel like it had any meat to the argument, just a bunch of "some people say" type of ideas.
I agree with "cpa1." Cato is a libertarian "free market" think tank which regularly produces papers to promote that agenda. Not objective analysis.
ReplyDeleteFor example, they didn't mention how deregulation of the financial industry (banks allowed to expand into investment services; derivatives such as CDOs and CDSs completely unregulated) contributed greatly to the meltdown. Why? Because regulation "distorts the market." It would violate their near-religious view of "free markets."
If "non-distortion" of market were to be treated as a theory of everything (the way libertarians propose), everything we accept as a necessity of civil society would be unregulated. (Police departments. Libraries. Building codes and zoning laws. Environmental protection. State creation of corporate charters.).
Libertarians will say those things are "necessary." But, they won't admit that the pragmatics of "necessity" are really the basis of their argument. They'll just continue to promulgatie an atmosphere of deregulation using principle-laden rhetoric (like everyone who disagrees is unprincipled and likes to "distort markets.").
Greenspan took the same position. Before the LTCM meltdown in '98 he said "counterparty surveillance" (willing buyers and sellers) is enough to prevent a meltdown. After government intervention, he said we faced a financial meltdown. That's the typical libertarian psychosis. Free markets *should* work, if you're willing to accept the occasional meltdown.
Even Greenspan admitted (after the recent meltdown) that the libertarian philosophy which guided most of his life was flawed.
Mark
I found this article to be kind of lazy. When you try and prove that government regulation was to blame for the problem, you really need to do a better job of shooting down the other arguments for the problem.
ReplyDeleteTo completely ignore the sausage factory that was the ratings agencies, banks, mortgage brokers, mortgage insurance, credit default swaps and institutional investors seems obtuse.
Also, to say greed is a constant and just leave it at that is strange. It makes it sound like greed cannot be controlled. That it is an unstoppable monster. One way to control greed is through regulation of the markets. So, therefore it isn't a constant.
It just goes back to the glibertarian attitude that the free market is always right no matter what. They will contort themselves into all sorts of mental pretzels trying to make sure it can be justified.
Frankly, I would expect more from a professor at a school that has a nobel prize winner. I know there aren't as many conservative economists out there as liberal ones, but, when they write articles like these, they give all of them a bad name.
cpa1 said...
ReplyDeleteThe author glosses over so much about the Modernization act of 1999.
I liked how the article says it was a good thing for banks to be allowed to get involved in risky investment services. He says that without that deregulation, Chase would have been unable to takeover Bear Stearns.
He leaves out how, months later when the crisis was well underway, broker-dealers were scrambling to find a bank to buy so they could use the bank's deposits as collateral for their own highly-leveraged investments (which were becoming even more leveraged every day due to the deteriorating value of toxic assets on their own books).
What that really means is that the '99 repeal of Glass-Steagall allows regulated-bank deposits (backstopped by society through FDIC) to be pledged as collateral when the unregulated broker-dealer businesses make bets (at 32:1 leverage, far beyond the capital reserve requirements of regulated banks) that go bad.
In other words, society's guarantee to depositors becomes a guarantee to broker-dealer counterparties when they demand collateral due to worsening market conditions.
That's the problem with libertarian thought-experiment rhetoric treated like it could be implemented in reality. Eventually libertarians would say
- Broker-dealers pledging socially-backstopped deposits is a "distortion of the market."
- Socially-backstopped deposits in regulated banks are a "distortion of the market."
- Regulated banks are a "distortion of the market."
*Poof.* 200 years of social progress gone. We're back to the early 1800s when anyone could open a bank and issue their own currency (which usually wasn't accepted by other banks, and often not even by the bank that issued it.).
But, we could sleep well at night knowing we're true to the principle of "non-distorted markets."
He also failed to mention how the '99 deregulation of socially-backstopped banks has contributed greatly to record numbers of banks being taken over the past few years. And, how Citigroup may never repay the bailout money it received.
Cato articles are just cheerleading exercises for those who already need no convincing.
"Underqualified borrowers" didn't need the government to encourage them. There were plenty of others (realtors, lenders, etc) that were helping.
ReplyDeleteWhat realtors, buyers, sellers, builders and flippers had nothing to do with this crisis? Sure the mortgage industry and government played their part and maybe Cato was only focusing on them, but seriously. Something this big had a whole host of bad and stupid actors.
I know Cato hates government and so I expect them to focus on more than just governments role may be unrealistic.
Anonymous said...
ReplyDeleteI know Cato hates government ...
The problem with Cato (and the libertarian mindset that inspires it) is that it doesn't hate government. It selectively likes government. But, it can't argue its positions from a pragmatic cost/benefit position like everyone else. It has to couch its arguments within high-minded, principle-based rhetoric (government is bad, if you disagree you want a "handout," or you're being "breast fed.").
Here's what I mean. Libertarians employ the philosophy behind Adam Smith's "Invisible Hand." We should have natural markets, with natural consequences. But, Adam Smith said:
--->>>
"People of the same trade seldom meet together, even for merriment and diversion, without the conversation ending in a conspiracy against the public, or in some contrivance to raise prices, ... It is impossible indeed to prevent such meetings, by any law which either could be executed, or would be consistent with liberty and justice. ... But though the law cannot hinder people of the same trade from sometimes assembling together, it ought to do nothing to facilitate such assemblies, much less render them necessary."
-- Adam Smith - Wealth of Nations
You don't hear libertarians complaining about social creation of corporate charters (a fictional, yet legal "person" created by the fiat of state legislatures). What stronger influence on the assembly of business people is the state creation of a "fall guy" to protect officers and investors from their own poor judgment? Without this legal "person" to take the fall, we wouldn't even have a stock market! Investors would be true co-owners under common law, personally responsible for the liabilities incurred by the company they co-own. That would slow commerce.
So, Adam Smith's "invisible hand" isn't really that invisible. The fictional, yet legal "person" is an 800-pound gorilla in the room that Cato (libertarians) hope nobody will notice. They want us to go along with them when they use high-minded rhetoric about how sacred certain "market" principles are.
If anyone suggests that Cato should truly take Smith's words seriously (as seriously as Cato wants everyone else to) and oppose state-creation of corporate charters, suddenly all we'll hear about is how they aren't Big-L Libertarians. They're for pragmatic socialization of markets, etc.
But, if you or I suggest that the fact that society literally gives birth to corporations (in violation of sacred beliefs concerning "an invisible hand", and therefore has a legitimate interest in how business conducts itself for society's benefit, all we hear is libertarian puffery about how "free markets are sacred" and "government doesn't work," and "you want a handout! Socialist!"
To me, the libertarian belief system which informs Cato is a religion. It's not an objective and rational philosophy. The principle of the religion has to be proven correct, regardless of reality. (Instead of the philosophy adapting to explain reality.). It's self-serving. We all are. But, it claims not to be. Adherents claim to put themselves above their own wants and needs to promote a sacred, absolute market force. But, in actuality, they don't.
cpa1 said ...
ReplyDeleteAlso, to say greed is a constant and just leave it at that is strange.
IMO, greed is like a cancer cell. It mindlessly seeks growth for the sake of growth until it overwhelms its host.
That's essentially what happened in the recent bubble/meltdown. The mortgage process was broken down into fee-generating divisions of labor. Each division only concerned itself with how much fees it could generate for itself ... not who would be left holding the bag.
Look at the post-bailout largess. Financial institutions which essentially went into receivership to society are now acting like it was their genius that rescued us from ourselves. (Giving huge bonuses to themselves.).
That's what Greenspan said caused him to question the faith he placed in his own libertarian worldview. He thought that a market of related individuals would naturally look out for the whole (instead of selfishly and destructively to the whole).
In 2005, the 300,000 individuals who comprised top tenth of 1% of income shares had nearly as much income as all 150 million Americans who made up the bottom 50%. Of each dollar earned, the top 10% got 48.5 cents. That's the top tenth's greatest share of the income pie since 1929.
Just like in 1929, when wealth and political power disproportionately grow, greed becomes like the cancer cell. Back then, society undertook to strengthen the middle class over the following 5 decades.
Today, we've got Cato arguing for Gordon Gecko's philosophy. ("Greed is good.").
First, I wholeheartedly agree that you will never find Cato advocating more government. Unlike older think tanks like the Brookings Institution, "think tanks" created since the 1970s tend to be advocacy organizations rather than true research organizations. Post-1970 think tanks tend to decide their facts based on their predetermined conclusion, rather than deciding their conclusion based on the facts.
ReplyDeleteMark F said...
"The problem with Cato (and the libertarian mindset that inspires it) is that it doesn't hate government. It selectively likes government.
You seem to have libertarians confused with anarchists. Libertarians are not entirely opposed to government, nor do they pretend to be. They generally oppose government spending, government taxes, government subsidies, government regulation, and government meddling in the lives of peaceful people. To use sport as an analogy, they believe government should set the rules of the game and referee the game, but should not be a participant in the game.
Mark F quoted Adam Smith...
"People of the same trade seldom meet together, even for merriment and diversion, without the conversation ending in a conspiracy against the public, or in some contrivance to raise prices ... But though the law cannot hinder people of the same trade from sometimes assembling together, it ought to do nothing to facilitate such assemblies, much less render them necessary."
You misunderstand Smith. In this quote he is clearly referring to price fixing and collusion, which are illegal in the U.S. There is nothing in this quote that suggests that partnerships or corporations should be prohibited, or that government shouldn't create laws that facilitate commerce. That is your own invention.
Mark F said...
So, Adam Smith's "invisible hand" isn't really that invisible. The fictional, yet legal "person" is an 800-pound gorilla in the room that Cato (libertarians) hope nobody will notice.
I'm sorry, but you seem to be thoroughly confused about what the invisible hand metaphor refers to. It refers to the fact that the business person "By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it." Nothing more; nothing less.
Mark F said...
"If anyone suggests that Cato should truly take Smith's words seriously (as seriously as Cato wants everyone else to) and oppose state-creation of corporate charters, suddenly all we'll hear about is how they aren't Big-L Libertarians.
I don't understand this line of argument. A big-L Libertarian is a member of the Libertarian Party (just as big-D Democrats and big-R Republicans are members of their respective parties—that's why the first letter is capitalized). Can you point to anything in the Libertarian Party platform where they oppose the creation of corporations? Also, again, you are distorting Smith.
Mark F said...
"But, if you or I suggest that the fact that society literally gives birth to corporations (in violation of sacred beliefs concerning 'an invisible hand'...
Again, you thoroughly misunderstand the invisible hand metaphor.
James said:
ReplyDeletelibertarians confused with anarchists. Libertarians are not entirely opposed to government, nor do they pretend to be.
Libertarianism is based upon the "non-coercion" principle. Coercion is just only justified as a response to coercion (self-defense, punishment of unjusfied coercion).
You say libertarians are ok with government establishing the rules of the game, etc. The problem is that these rules (and the "social contract" which implicitly enforces them) are an act of coercion.
That's the problem with Libertarianism. It uses high-sounding rhetoric about coercion, meddling, "invisible hand" which are all based upon coercion compared to natural, consentual markets. But, they do so selectively.
They rail against various things as being "coercive." But, they are ok with various things like zoning laws and social-creation of corporate charters which are also coercive (altering what willing buyers and sellers would freely negotiate between themselves).
Therefore, the principle-based rhetoric isn't justified. It's self-serving, giving the libertarian an advantage so they don't have to delve into the shades of gray called pragmatism (like everyone else).
I believe that explanation goes to the heart of your other responses.
For example, the "invisible hand" isn't literally invisible when society creates fictional, yet legal "persons" for officers and investors to hide behind.
That's ok. But, it's libertarians who (selectively) invoke the "invisible hand" against everyone else, as if it's an absolute principle against "government meddling."
They selectively ignore how social creation of corporate charters interrupts the common-law relationship which would exist between debtors and a business's officers and co-owners. That little meddling (which libertarians selectively ignore) creates winners and losers in what would otherwise be a market of consenting buyers and sellers. Essentially a "handout."
That's the problem with libertarianism. It acts like the world should operate without any rules, because consensual buying/selling is paramount. Then, when confonted with a variety of rules which we take for granted, libertarians say those rules are not "meddling" like other rules they disagree with. (Ignoring how the rules we take for granted artificially create winners and losers in the same way as other "meddling" rules.).
For example, you said Adam Smith's opposition to government encouraging business organization had nothing to do with society creating corporate entities (a legal, yet fictional "person" to stand as the fall guy.). It is this "personhood" which gives corporations the same freedoms real persons enjoy (speech, association, protection from unreasonable search/seizure). It is at the very heart of corporations joining together (National Manufacturers Association) to lobby Congress for rules to promote their own interests (often at the expense of real individuals who work in manufacturing).
That's why (IMO) libertarianism is a joke. A religion instead of an objective philosophy. It uses absolutist rhetoric based upon the core "non-coercion" principle. When its own selective use of the principle is revealed, believers (for lack of a better term) begin to backpeddle to a "minimalist" (pragmatic) position.
Nothing wrong with being pragmatic. Everyone is. The problem is that everyone else doesn't feel the need to beat everyone over the head with absolutist, principle-based rhetoric. They admit the world is a shade of grays -- coercion is a reality, and it has more to do with who's ox is being gored, not high-minded principles.
In other words, we're really talking about duplicity and self-serving rhetoric. Not principles.
Mark F,
ReplyDeleteAgain, you obviously don't understand the invisible hand metaphor because you keep using it incorrectly.
Second, although you keep advocating zoning laws in your comments, you are wrong in assuming libertarians support them. Quite the opposite, libertarians generally oppose them. Here's how the libertarian Advocates for Self-Government puts it:
"Do we need zoning laws to protect our communities?
Liberal: Yes. Zoning is necessary to control sprawl, to protect open spaces, and to guarantee sufficient low-income housing. It’s also needed to make sure that profit-hungry businesses like WalMart can’t build “big-box” stores wherever they want.
Conservative: Yes. Zoning is necessary to ensure stable property values, to protect historic neighborhoods, and to maintain the quality of life we want in our communities.
Libertarian: No. Zoning denies the right of individuals to make the best use of their property. Experience in unzoned cities like Houston proves that cities can thrive without zoning. Rents are lower, property values are protected, and compatible uses tend to cluster together. Other free-market alternatives are things like private deed restrictions or covenants."
Third, ALLOWING people to organize their efforts in the form of a corporation is not coercion. Neither is ALLOWING people to organize themselves into a labor union. I think you need to crack open a dictionary and look up the definition of "coercion".
For the record, I consider myself a classical liberal, not specifically a libertarian. I consider libertarianism to be a subset of classical liberalism. (Thus, all libertarians are classical liberals, but not all classical liberals are libertarians.) However, if I feel the people I'm speaking to don't know what a classical liberal is, then I will call myself a libertarian. If I feel the people I'm speaking to don't know what a libertarian is, then I will call myself a moderate.
Second, delivering mortgage subsidies by imposing affordable housing mandates on banks and by providing federal support to Fannie Mae and Freddie Mac bonds can backfire in a tragic way that damages the broader economy.
ReplyDeleteInteresting thought, replace the mortgage with health insurance, housing mandates with insurance mandates, and banks with insurance companies, and you get:
Second, delivering health insurance subsidies by imposing affordable insurance mandates on insurance companies can backfire in a tragic way that damages the broader economy.
James, the confusion seems to be coming from you. None of your counter-arguments to Mark F.'s views demonstrate that you even understand what he is saying. When he suggests that libertarians don't hate government, but rather "selectively likes government", your response is that he's confusing libertarian with anarchist and that libertarians aren't entirely opposed to government. I guess anyone who disagrees with your point of view is just confused, right?
ReplyDeleteTuskenrayder, I did not (and still don't) interpret Mark F's words literally. Instead, I interpreted his statement as implying that libertarians say one thing but do another. That is, they say they hate government but actually selectively like government.
ReplyDeleteIf you interpret his words literally, then he must not think much of the Democrats either. After all, they support government entitlement programs, and yet don't want government to interfere with a woman's right to choose. That's selectively liking government.
All American political parties (and, with exception of anarchists, all Americans) selectively like government. Mark F's criticism only makes sense if you interpret it as suggesting that libertarians are somehow being hypocritical, saying one thing but doing another.
Let me take this opportunity to clarify two points about libertarianism. First, the "invisible hand" is an economic concept, not a libertarian concept. Even left-wing economics professors teach this concept. Second, libertarians (at least as far as the Libertarian Party is concerned) describe their ideology as an opposition to "force", not "coercion". Specifically, the Libertarian Party pledge is, "I hereby certify that I do not believe in or advocate the initiation of force as a means of achieving political or social goals."