Steve Forbes: How Capitalism Will Save Us

Steve Forbes gave a very good talk today, on the topic of his new book (co-authored with Elizabeth Ames), How Capitalism Will Save Us: Why Free People and Free Markets Are the Best Answer in Today’s Economy. Just as importantly, though, he also explained how it was the undermining of capitalism by persistent government intervention that brought us to the current financial crisis. He singled out a few specific reasons.

First, the Federal Reserve kept interest rates too low for too long. This created what Forbes termed, the “fuel” for the housing bubble, which would not have occurred — or at least not grown into the enormous problem it did — had the Fed not flooded the economy with “liquidity.” I have long believed this, and several pundits have argued in favor of this view, but it was good seeing someone couch the problem of excess in the money supply in the context of a larger pattern of government intervention.  I especially liked his analogy of currency to time: If the number of minutes in an hour were to constantly change, we’d soon see derivatives and hedging strategies for time, just to keep track of how many hours we’ve worked.

Second, the bubble was further exacerbated by the moral hazard created by the guarantee of unnecessarily risky loans afforded by Fannie Mae and Freddie Mac.

Third, mark-to-market accounting forced companies to value their assets as if they were day-traders. This inflated asset values at the top of the market, and depressed them when the market went down. This effect was so extreme that it created paper losses for firms that had a positive cash flow.

So how to move away from these problems toward a more prosperous future? Quite simply, government should get out of the way of the productive sector. Specifically, he said, government should focus on securing the rule of law and sound money, as well as facilitating the ease of doing business by removing barriers to entrepreneurs starting new business.  (Thanks to Myron Ebell for his input in this post.)

For more on mark-to-market accounting, see here.

For more on Fannie and Freddie, see here (page 4).