I'm now at a panel on financial regulation, moderated by the inimitable Clive Crook. The panel is, as Clive put it, a "dream team" for discussing the question. Beth Brooke is currently discussing whether the problem was inadequate financial regulation, and making a persuasive case (to me, at least) that it was not. As long as house prices were rising, the decisions that the borrowers and lenders made were rational. And I'm pretty unconvinced by the argument that the housing bubble could have been popped by better regulation. The last, desperate mortgages might have been avoided through better regulation of the mortgage brokers, but much of the horrible debt had already been accumulated by then.
At this point in the coversation, many eyes turn to the Fed and blame Bernanke for excess liquidity. But given the aggressive determination of Asian central banks to keep their currencies low relative to the dollar, and the foreign savers seeking safe haven here, I find it hard to see how this would have ultimately helped. Higher interest rates would simply have raised the value of the dollar, causing further lending by Asian central banks, and of course, they would have made America even more attractive to foreign investors.
If your talking purely about the housing crisis then I agree. The problem as I see it is the speed at which this sector's shakeup (a relatively minor one at that) has disturbed investment in completely unrelated fields. Specifically the credit business. As you point out Asia has maintained its currency rates in certain ways to ensure manufacturing doesn't move.
Since credit has fueled income in the last two decades, we need to look at ways to grow without using loans or credit cards to the degree we currently do.
It seems a lot of problems are exacerbated by excessive leverage. Would changing this have avoided a bubble? Of course not. But it would have reduced its negative effects.
If we're going to be willing to forgive debt via bankruptcy, gov't bailouts, as well as limiting housing loan defaults to the collateral itself we should also be willing to legally limit leverage much more than we do now.
At its core, the problems in the mortgage industry are largely the result of poor underwriting. So long as housing prices were appreciating, there was little incentive for originators to be concerned about repayment ability...their borrower could always refinance out of the problem or sell the property. The entire subprime industry was based on this concept. No one cared whether borrowers could be expected to maintain payments over a prolonged period. Higher reserve requirements, more accountability for ratings agencies, reserve requirements for investment banks...all laudable ideas, but none of them would have prevented or mitigated the current situation in the absence of heightened scrutiny and enforcement of underwriting standards at the originators.
We should buy Megan a Segway. Riding on oneseems to produce even richer blogging than usual.
As to whether, on balance, the Fed should have kept US interest rates higher, I leave to be debated between those who have sufficiently well specified and powerful simulation models to say something interesting. I am among the don't knows for now.
However, one side effect of Fed policy has been that a good deal of the necessary loss of purchasing power in the world economy now that we have a financial crunch is being bourne by those who built up massive dollar balances. These balances are now less valuable for purchasing non-dollar goods and services. The US has got the benefit of what amounts to a very large arrangement with its creditors without defaulting on a single obligation. Quite a neat trick for the Fed.
I agree with Steve Donegral@1:54 and it's something I have suggested in my own writing.
While leverage causes problems to be exaggerated, leverage is not inherently bad and allows our financial firms creativity and flexibility in income streams and product potential.
But the CAUSE of everything falling apart was people being unable or unwilling to pay the mortgages they had signed on for. And why is that? Because those who wrote the contracts were unwilling to apply reasonable standards of financial prudence and working under the assumption that all boats will continue to rise. And not an unreasonable assumption given that the better brains on Wall Street worked under the same logic.
Steve says:
Higher reserve requirements, more accountability for ratings agencies, reserve requirements for investment banks...all laudable ideas, but none of them would have prevented or mitigated the current situation in the absence of heightened scrutiny and enforcement of underwriting standards at the originators.
That says it all. Of course politicians will never focus on the individuals who signed on for more house than they could afford, and selling someone more house than they could afford was not necessarily illegal. But that's where the focus needs to be.
Maybe Federal income/home ratio requirements, or the banning or regulation of new loan products (like no documentation loans).
It's easier for the politicians to point to Wall Street, and the masses to point at government (that Bush!) or Wall Street, when the core of the problem was down at the level of document signing. That's where the stupidy ran rampant.
In my mind adjusting loan standards would be the easiest method without tampering or adding tons of regulation to other institutions.
For example, if you are going to offer a no documentation loan product, then that loan must be backed by proven, audited assets held in a custody account (and up to a certain percentage value of the home) or otherwise documentation for income must be provided. It might effectively kill no documentation for all but those with considerable assets, but that's as it should be.
Everything else is just ignorning the core of the problem and a solution, libertarian or otherwise (and I am otherwise) should be limited to the source of the problem.
I agree with Steve Donegral@1:54 and it's something I have suggested in my own writing.
While leverage causes problems to be exaggerated, leverage is not inherently bad and allows our financial firms creativity and flexibility in income streams and product potential.
But the CAUSE of everything falling apart was people being unable or unwilling to pay the mortgages they had signed on for. And why is that? Because those who wrote the contracts were unwilling to apply reasonable standards of financial prudence and working under the assumption that all boats will continue to rise. And not an unreasonable assumption given that the better brains on Wall Street worked under the same logic.
Steve says:
Higher reserve requirements, more accountability for ratings agencies, reserve requirements for investment banks...all laudable ideas, but none of them would have prevented or mitigated the current situation in the absence of heightened scrutiny and enforcement of underwriting standards at the originators.
That says it all. Of course politicians will never focus on the individuals who signed on for more house than they could afford, and selling someone more house than they could afford was not necessarily illegal. But that's where the focus needs to be.
Maybe Federal income/home ratio requirements, or the banning or regulation of new loan products (like no documentation loans).
It's easier for the politicians to point to Wall Street, and the masses to point at government (that Bush!) or Wall Street, when the core of the problem was down at the level of document signing. That's where the stupidy ran rampant.
In my mind adjusting loan standards would be the easiest method without tampering or adding tons of regulation to other institutions.
For example, if you are going to offer a no documentation loan product, then that loan must be backed by proven, audited assets held in a custody account (and up to a certain percentage value of the home) or otherwise documentation for income must be provided. It might effectively kill no documentation for all but those with considerable assets, but that's as it should be.
Everything else is just ignorning the core of the problem and a solution, libertarian or otherwise (and I am otherwise) should be limited to the source of the problem.
(Also, awesome work doing posts over a holiday weekend and while travelling... very nice).
Sorry for the double post! (The page seemed to time out, upon which I added a new last line).
Finn:
But the CAUSE of everything falling apart was people being unable or unwilling to pay the mortgages they had signed on for. And why is that? Because those who wrote the contracts were unwilling to apply reasonable standards of financial prudence and working under the assumption that all boats will continue to rise. And not an unreasonable assumption given that the better brains on Wall Street worked under the same logic.
Considering the better brains on Wall Street basically determine everything else that happens in the economy, I would say this means we (we being everyone else but the better brains on Wall St.) are pretty much screwed. I doubt they're suddenly going to become smarter.
Of course politicians will never focus on the individuals who signed on for more house than they could afford, and selling someone more house than they could afford was not necessarily illegal. But that's where the focus needs to be.
Wall Street created a market for garbage loans, and the other participants did what they did under that umbrella. Who has more of a responsibility for maintaining the integrity of the financial system, Wall Street or people who wouldn't in any sane system have enough financial resources to get a home loan in the first place?