Republican Congressman Jim Saxton, the ranking member of the Joint Economic Committee (JEC), recently issued a report outlining the policy blunders that have led to the “inflated and unsustainable housing bubble” and the ensuing crash and financial crisis. What follows is an outline of that report and what voters need to consider before casting a vote in November.
There has been a literal flood of terrific commentary and analysis on this topic, and we’ve been linking many examples in our Recent Headlines section. The Cato Institute’s Neal McCluskey recently summed it up nicely in a piece titled, “If Anyone Blames the Market, I Swear I’ll…“:
Right now, it’s very popular with politicians to blame the free market for our mortgage-driven economic woes. It’s also, as with most things popular among politicians, utter nonsense: Fannie and Freddie are Dr. Washington’s monsters, and DC has practically forced lenders to float loans to high-risk borrowers…
Federal politicians, with their constant bribery of voters and special interests, have made our colossal financial messes, and they haven’t got a leg to stand on acting like they are the solution and freedom is the problem.
What follows is the Joint Economic Committee’s opening followed a list of several of the policy mistakes. Note the statement explaining out private sector mistakes contributed but “could not have created and sustained such a large housing bubble over so long a time without” government policy screwing things up.
Macroeconomic and microeconomic policy blunders by both the U.S. government and foreign governments inflated an unsustainable housing bubble in the United States and other developed economies. When this bubble inevitably popped, a global financial crisis ensued.
Although misaligned private incentives, methodological errors in rating structured credit products, and the recklessness of some private financial institutions and investors did play a contributory role in the recent financial turmoil, individuals and firms could not have created and sustained such a large housing bubble over so long a time without major macroeconomic and microeconomic policy mistakes.
Among these government policy mistakes, according to the JEC, were these:
- The Federal Reserve pursued, at least in retrospect, an overly accommodative monetary policy after 2000 that kept U.S. interest rates too low for too long.
- That policy helped “produce extremely low long-term interest rates that stimulated housing demand.
- Financial regulators in the United States and other developed economies failed to exercise adequate prudential supervision over highly leveraged non-depository financial institutions in the alternative financial system.
- Regulations mandating the use of value-at-risk models to determine the capital adequacy of financial institutions (1) caused both these institutions and their regulators to underestimate risk exposure, and (2) encouraged these institutions to increase their leverage.
- Regulations mandating the use of ‘fair value’ accounting (also known as ‘mark-to-market’ accounting) for illiquid financial assets exacerbated liquidity problems at financial institutions after the housing bubble burst.
- The strengthening of affordable housing regulations governing Fannie Mae and Freddie Mac in October 2000 had the unintended consequence of creating a large regulatory induced demand for subprime residential mortgage loans that mortgage banks proceeded to satisfy.