Now that the election is over, the most important issue facing the
new president and Congress is the economy. To deal with it effectively,
they will have to understand its causes. Americans were doubly unlucky
that the crisis broke in the last weeks of a heated presidential
election — which guaranteed that it would be exploited for partisan
purposes. The Democrats certainly made more hay than the Republicans,
blaming it on core Republican ideals like free markets and
deregulation. Yet liberals helped cause this problem; whether they are
willing to admit this is a real test of whether we have actually
entered a new kind of politics.
While Republicans must bear
their share of the blame, the really inconvenient truth is that
Democrats must also share that blame — from Bill Clinton to Barney
Frank. If we are to find a way out of this crisis, we need to honestly
appraise its causes. There is plenty of blame to go around. Here’s a
partial list of culprits.
The Clinton administration:
Beginning in the early 1990s, the Clinton administration pursued a
superficially laudable policy of extending home ownership into the less
advantaged sectors of society. In the name of racial and economic
equality, banks and lenders were subjected to carrots and sticks to get
them to offer more loans to people who would not traditionally qualify,
with Fannie Mae and Freddie Mac backing up the policy. This helped
weaken traditional underwriting disciplines. New products were
invented, which quickly spread through the market and proved
particularly attractive to property speculators. This is where the
toxic assets at the base of the financial scandal originated.
Bush administration and the Federal Reserve: Since the early 90s, the
Fed has responded to financial crises by a series of interventions
designed to lessen their effect. These mini-bailouts had all seemed to
work. Faced with the collapse of the dot-com boom, not to mention the
aftermath of 9/11, the Fed and the Bush administration collaborated to
engineer another “soft landing” for the economy by promoting a
sustained increase in housing values. Loose monetary policy and
favorable tax treatment made real estate an extremely attractive
investment vehicle. People were thus able to keep spending on the basis
of credit guaranteed by their house values, kept up by government
Fannie Mae and Freddie Mac: The Government
Sponsored Entities (GSEs) known as Fannie Mae and Freddie Mac grew in
strength and power in the early part of this decade. Although they did
not invent subprime loans, they quickly became their biggest buyer,
effectively guaranteeing a continued market even as house prices
started falling. Without this market, the bad securities would not have
spread throughout the global financial system. The GSEs lobbied
Congress heavily to keep their powers and privileges. Their statutory
regulator appeared not to notice.
Congress: In 2004, even as
congressional Republicans were beginning to warn of the distortions of
the mortgage market caused by government interference, congressional
Democrats blocked reform. Senator Chris Dodd (D., Conn.) called the
U.S. mortgage market “one of the great success stories of all time.”
Unwilling to suggest that housing was a privilege to be paid for,
rather than a right, Congress failed to restrain the GSEs or the
subprime market when they got out of control.
While history and prudence both should have provided a lesson that
house prices would not go on rising forever, Wall Street convinced
itself that the finance houses’ mathematical models proved that they
had successfully mitigated that risk. Directors and shareholders failed
to exercise due diligence at least partly on the grounds that they
thought regulators had given the seal of approval to credit ratings
agencies, which also failed to analyze risk properly. On learning of
their mistake, Wall Street financiers ran straight to government and
the taxpayer to save their jobs — and preserve their massive bonuses —
rather than accept the market discipline of creative destruction.
this brief survey suggests, blaming the financial mess on
“deregulation” is facile (just look at the similar problems in Britain
where the financial regulator, the Financial Services Authority, is
much more powerful than any previous financial regulator there.)
Instead, what happened was that government — successive
administrations, Congress, the Federal Reserve — sent bad signals to
the market that severely distorted it. The market proceeded to make
mistakes that were reinforced by government at every step of the way.
we are to solve this problem, the American people must realize how
deeply involved government was in creating it. If the new president and
Congress fail to admit that, then the recession we are entering can
only be prolonged. It is therefore in liberals’ political interest to
recognize the real causes of the crisis and act accordingly. In that
respect, this provides a great opportunity to demonstrate that
Americans have indeed got the change they deserve.
— Iain Murray is director of projects and Analysis at the Competitive Enterprise Institute, and writes on this subject at www.beyondbailouts.org.
He is author of The Really Inconvenient Truths: Seven Environmental
Catastrophes Liberals Don’t Want You to Know About — Because They
Helped Cause Them.