Community Organizer (CO) Barack Obama has repeatedly stated that this financial crisis proves a fundamental failure of our economic system. He’s right. Although, I doubt he realizes exactly why. CO Obama believes these hard times point to the failure of free enterprise, markets, and Capitalism. On that count, he’s incorrect…nearly treasonously so. We are witnessing the results of decades of bad government policy. Social engineering on so many convoluted levels has finally caused such a severe blow to our society that we are finally taking notice. The best explanation comes from Harvard University economist, Jeffrey A. Miron.
With the NASDAQ falling 10% in a day, real estate prices off more than 30% from 2006 highs, and financial institutions crumbling left and right we must ask ourselves what went wrong. More important than any kind of temporary fix to alleviate pain is to get to the root causes of this mess and ensure it does not repeat itself.
Miron explains:
“The current mess would never have occurred in the absence of ill-conceived federal policies. The federal government chartered Fannie Mae in 1938 and Freddie Mac in 1970; these two mortgage lending institutions are at the center of the crisis. The government implicitly promised these institutions that it would make good on their debts, so Fannie and Freddie took on huge amounts of excessive risk.”
The establishment and promotion of these monopolies has plenty of pros and cons, but the crux of the problem is from Congressional and regulatory mandates to promote universal homeownership:
“Worse, beginning in 1977 and even more in the 1990s and the early part of this century, Congress pushed mortgage lenders and Fannie/Freddie to expand subprime lending. The industry was happy to oblige, given the implicit promise of federal backing, and subprime lending soared.”
Couple this with historically unprecedented loose monetary policy dictated by the overlords of the Federal Reserve and we have the seeds for disaster:
So we have a government-created-sponsored lending monopoly, mandated by Congress to open the floodgates of credit to low-income subprime borrowers, and an omniscient Federal Reserve dropping interest rates to near-zero, actually negative when adjusted for inflation! Why are we now hearing calls for MORE government? It seems as though we ought to demand tens of thousands of resignations, dissolve dozens of agencies, and rethink the role of a central bank and monetary policy!
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Rob, Rob, Rob…
You do know that Fannie and Freddie weren’t in the sub-prime lending field right? Fannie and Freddie has due diligence on their loans and were completely unable to do liar loans and while they did allow banks some leeway in mortgage lending it didn’t come close to the type of sub-prime lending that ended up happening. Here in Canada we have very strict controls over mortgage lending and no sub-prime crisis. In fact, the only real economic hardship we are facing is the result of tight coupling with your (far less regulated) economy.
This crisis you are facing is a failure of governance… in that the government failed to properly regulate the financial sector.
Fannie and Freddie were absolutely in the subprime business. A quick reference is this wiki page, but if you want more detail use the references they list.
http://en.wikipedia.org/wiki/Subprime_mortgage_crisis
“The U.S. Department of Housing and Urban Development’s mortgage policies fueled the trend towards issuing risky loans.[77][78] In 1995, Fannie Mae and Freddie Mac began receiving affordable housing credit for purchasing mortgage bank securities which included loans to low income borrowers. This resulted in the agencies purchasing subprime securities.[79] Subprime mortgage loan originations surged by a whopping 25 percent per year between 1994 and 2003, resulting in a nearly ten-fold increase in the volume of these loans in just nine years. [80] As of November 2007 Fannie Mae a held a total of $55.9 billion of subprime securities and $324.7 billion of Alt-A securities in their portfolios[81]. As of the 2008Q2 Freddie Mac had $190 billion in Alt-A mortgages. Together they have more than half of the $1 trillion of Alt-A mortgages.[82] The growth in the subprime mortgage market, which included B, C and D paper bought by private investors such as hedge funds, fed a housing bubble that later burst.”
I cede your point, however it should be pointed out that Fannie and Freddie did have considerably better standards of due diligence than commercial banks, refusing NINJA loans and liar loans. It should also be pointed out that Canada has an equivalent agency (CMHC) that is government run and has nowhere near the issues the US has.
Here there really is no major difference between what you consider sub-prime loans and mainstream loans, our criteria is simple… a 5% down payment, enough income that the mortgage payment is less than 50% of take home income and a decent (but not necessarily perfect) credit score.
Many of the issues you see in housing are actually the result of deregulation, not excessive regulation, and that is why they didn’t exist until deregulation happened.
I am a strong supporter of any type of free market – be it milk, gasoline or mortgages I see no reason for the government to step in and regulate prices and/or supply. I also see no reason why the government should feel responsible for rescuing people from their financial spending habits, or in this case help put people in a position of unreasonable financial strain with promise of support if all else fails. Those borrowing money should do so at their own risk – knowing full well what they can afford. Same applies to those loaning money – at their own risk. If Bob’s Bank wants to offer rates of 3% to low income families for high dollar houses that is their decision – There is no reason for the government, or taxpayers for that matter, to back these transactions. A free market system sets the pricing naturally – government regulation only taints the process with artificial variables…the fact is in almost any market scenario, any regulation is too much regulation!
One of my favorite examples of wasted efforts in regulation is minimum wage. Wages should not be regulated; market conditions would determine what’s appropriate. When wages are “established,” the increase affects employer’s abilities to remain profitable – Ultimately the cost is passed onto the consumer via higher costs.
These sound like harsh realities, especially since we’ve dug our country in so deep with government regulations and dependencies, but we need to dig ourselves out of this situation without Uncle Sam holding us down.
To reference a line from Jeffrey A. Miron’s article:
“The fact that government bears such a huge responsibility for the current mess means any response should eliminate the conditions that created this situation in the first place, not attempt to fix bad government with more government.”
Very true regarding commercial bank standards. There were many mistakes by many people, and my harping on government is not meant to conceal the myriad issues on the private side. When private entities make mistakes they should suffer consequences of failure, as should public groups. Yet no one is calling for the dissolution of HUD, break up of the mortgage monopolies, or resignations of congressmen who were responsible for driving public policies related to this mess. There are few mechanisms to truly enforce public accountability, mainly b/c so few recognize the policy mistakes that took us down this path. I would like to see serious re-evalution of how we govern ourselves.
Jeff,
Well said. On the issue of minimum wage I’d also like to add that there is no such thing as a corporation. Well, I should say that it’s merely a fictional paper entity, a legal form. Whenever taxes are levied or wages set on a corporation there are well-known effects. For example, minimum wage set above market equilibrium means the quantity of labor demanded decreases (i.e. less people are hired), and prices go up as you stated.
Increasing corporate taxes does not mean you are punishing a company, you are punishing real people. Companies are made up of owners (shareholders), employees, and consumers. So whatever tax you levy affects all three categories. You decrease shareholder rates of return, which is usually the politically popular option since politics is rife with class warfare nowadays, you decrease employment benefits (wages, number of jobs, benefits, etc.), and you increase consumer prices. In practice, there is usually a combination.