Posner finds this defense unconvincing:
The federal funds rate, being the rate at which banks borrow reserves (cash) from each other, has a strong influence on long-term interest rates. The lower the cost at which a bank acquires capital to lend, the lower will be the rates at which it lends, whether long term or short term, because competition will compress the spread between the bank's cost (its interest expense) and its revenue (such as interest on the loans it makes). At the beginning of 2000, when the federal funds rate was 5.45 percent, the interest rate for the standard 30-year fixed-monthly-payment mortgage rate was 8.21 percent. By the end of 2003, the federal funds rate was below 1 percent (and was negative in real terms, because there was inflation), and the mortgage interest rate had fallen to 5.88 percent. The Fed then gradually raised the federal funds rate, to 5.26 percent in July 2007, and the mortgage interest rate rose also, to 6.7 percent, a smaller but still significant increase; and the bubble burst. Furthermore, given the popularity of adjustable-rate mortgages--which Greenspan encouraged--short-term interest rates had a direct effect on the cost of mortgages during this period.
Greenspan's analysis implies that the Federal Reserve lost control of long-term interest rates because of foreign capital and therefore could not have lanced the housing bubble even if it had wanted to, which is hard to square with the fact that the bubble did burst when the mortgage interest rate rose. (Though there was a lag, as I explained in a blog entry of May 19, because of the self-sustaining tendency of a bubble.) And it is plain from the earlier statements to which Greenspan has directed us that he neither was aware that there was a housing bubble nor would have lanced it had he realized it, since it was and appears to still be his position that bubbles should be allowed to expand and burst, and then the Federal Reserve will wake up, step in, and clean up the debris ("mitigate the fallout when it occurs")--which we have discovered it cannot do.
One wades into a debate between Richard Posner and Alan Greenspan with more than a little trepidation. Still, I have to disagree with Judge Posner on a substantive point: the power of short term interest rates is not nearly as powerful as he implies.
I say this for two reasons. First, we observe (and observed, during the bubble) marked disconnects between short-term and long term rates. It is true that they usually vary roughly in tandem, but there is a confounding factor: the Fed's expectations are tied to the market's expectations. So if everyone thinks there will be inflation, both short term and long-term interest rates rise; if everyone things there will be a recession, they both fall. But this does not mean that the fed's action mechanistically determines the direction of long-term rates--if it did, we would not now be witnessing Treasury yields rising as the Fed holds interest rates to nothing. It is true that many adjustable rate mortgages (ARMs) are pegged to the Fed funds rate, but many others are not. And at any rate, the problem ARMs had teaser rates or odd structures (negative amortization rates) that further broke the relationship between the Fed and the sticker price of peoples' mortgages.
Indeed, there's some possibility that the decision to raise interest rates by the time a bubble is firmly established may be counterproductive--John Kenneth Galbraith chronicles how the attempt to raise the price of margin loans in the late 1920s simply attracted more European money into the trade. If the price of stocks or houses is rising by double digits every year, raising the interest rate from 6 to 8 percent doesn't much dim the mania, but it does make lending into it more lucrative.
But also, the price of credit is not merely the interest rate--it's also the availability. Mortgage interest rates are low right now, but the credit score required to get one of these low priced loans is much higher than it used to be. That means that the price of loans has increased for alll but the most creditworthy. For those with the lowest credit scores, it approaches infinity.
We know for a fact that American markets were flooded with foreign loans in the early part of the decade--the current account deficit marched upwards when rates were low, and when they were high. The price of loans fell in both interest rate and availability terms. By that time, the house price increases that were already well established--the Case-Shiller 10 city index shows home appreciation reaching 10% a year in the late 1990s, with only a mild dip after 9/11. In those circumstances, it's hard to see how he could have stopped this by fiddling with interest rates. Perhaps he might have managed it had he jammed interest rates up to somewhere between 8-10%. But the result would have been a recession like the early 1980s--the one with the double-digit unemployment levels that we now fear we may repeat. Assuming that he had succeeded in averting the worst of the runup, most of us would now remember Alan Greenspan as the lunatic who threw millions out of work in order to pop an imaginary housing bubble.
Greenspan might have had more success with changes in the mortgage origination rules. But his power in this area was much more limited--America's fractured system of bank regulation, which desperately needs reform, has six different agencies that oversee banks. This patchwork affords quite a few opportunities for regulatory arbitrage (remember the Savings and Loan crisis?), which leave it an open question whether Greenspan could have succeeded in cracking down on loose lending standards.
A few weeks ago, I was talking to a well-respected journalist who doesn't cover financial matters. She was pushing me for the culprit behind this mess, and was unsatisfied when I pointed out that there were a lot of good reasons to make most of these bad decisions. Ultimately she cried in frustration, "but somebody must have done it!" This is how we approach the problem: we want villains, guilt, punishment. But when systems fail, they usually fail systemically. If one person, even Alan Greenspan, could bring down the entire edifice, then we'd be in massive trouble, so we should be grateful that it isn't the case.
We also have to be careful in recognizing just where changes in Fed Rates affect consumers and businesses the most.
For consumers the impact is clearly felt in housing more than anywhere else. It is hard to argue that the housing bubble was fueled largely by very inexpensive mortgages, coupled with non-existing requirements for these mortgages.
Even if the requirements for mortgages never slackened, we would have still seen a housing bubble because loans were so cheap. It was a classic "too much money chasing too few goods," bidding up the prices.
Other goods, like cars, also benefited from the loose money. The only reason that prices didn't fall is that there were so many manufacturers competing.
So what are we seeing now? In housing we have seen prices collapse. In autos we have seen prices slacken, but capacity collapse.
"Free money" is always a dangerous policy.
Even if the requirements for mortgages never slackened, we would have still seen a housing bubble because loans were so cheap.
Really? Even if we take your hypothesis, the bubble would be no where near as bad. Why? Because a lot of people that received loans would have never gotten them in the first place. Housing prices don't always go up in a straight line. They replayed, on CNBC last night, a piece about the Housing bubble. The banks might as well have just given the money away.
I agree. In fact, I believe that's what I said.
We'd have still seen a bubble - there's no getting away from the effects of "free money" on housing. The Clinton/Bush/Frank/EveryOtherLiberalInDC actions exacerbated it dramatically.
No disagreement.
Did CNBC mention that the banks couldn't have made these loans if Washington hadn't allowed it? I'd say "forced them, at least at first" and I'd be accurate, but it really doesn't matter.
Really? Even if we take your hypothesis, the bubble would be no where near as bad. Why? Because a lot of people that received loans would have never gotten them in the first place.
Whatever theory you end up with has to account for the fact that several European countries had greater run-ups in housing prices than the U.S. (some of them MUCH greater) without the fire having been fueled by 'NINJA' loans. That's pretty strong prima facie evidence that American mortgage shenanigans were neither the cause nor even much of a contributing factor to the bubble--otherwise how do you account for far greater housing price increases in the UK, Ireland, Spain, Australia, South Africa, and even France:
http://www.finfacts.ie/irelandbusinessnews/publish/article_10002284.shtml
U.S. housing price increases were quite mild (73% from 1997-2005) compared to 192% in Ireland, 154% in the UK, and 145% in Spain.
The key difference between Western European housing and US/Canadian housing is supply. The USA and Canada sprawl and build new houses for the simple reason: they can. Europe doesn't, largely because there's not a lot of land remaining - particularly for housing. In times of a strong economy (and Ireland, in particular, was smoking these past years) you'll see much greater housing inflation there than here.
I'm sure somewhere in Graduate School Land there's a Ph.D. waiting to be written that isolates the pure monetary vector, versus the "NINJA" vector in the US Housing bubble. Clearly both were involved.
It is not just the interest rate. Greenspan makes it sound like that the Fed only controls the interest rate. Far from it, it is the main regulator of banks. Capital levels and asset quality (and thus lending practices) should all be levers within its purview to pull.
If banks had not participated as much as they did we could still have the subprime problem driven by unregulated lenders but we shouldn't have the follow on financial meltdown.
But if anyone has memory, Greenspan was actually encouraging Mortgage Equity Withdrawal (MEW) because he needed the consumer spending to stimulate the economy.
I seem to recall "the bubble" bursting right around the time oil skyrocketed and collapsed this last summer/fall. I don't think the housing bubble burst as a result of the interest rates change recently. But certainly it was all connected at some level.
the crisis was a result of our culture and the regulation provided by Greenspan and the Fed Gov were simply symptoms of our culture that will always provide a efficient [sometimes more efficient than others] tug of war in innovation and regulation.
the crisis was a result of our culture and the regulation provided by Greenspan and the Fed Gov were simply symptoms of our culture that will always provide a efficient [sometimes more efficient than others] tug of war in innovation and regulation.
You mean lack of regulation?
Innovation produces new things, regulation arrives to place rules around how they can be used. Excessive regulation curbs innovation, while excessive innovation can outstrip regulation's ability to keep up. Hence the tug-of-war analogy.
Seems to me that looking for a single cause for the housing bubble and its burst are as silly as looking for a single cause for global warming or war.
It was a tsunami of mounting pressures. Lending strength to the wave were cheap money that was leant to anyone as long as they breathed, a belief prices would always go up, that risk had been eliminated, cheap oil, and lots of foreign money flooding the market. The wave broke on a reef of prices above what buyers could afford, a glut of new construction, increasing oil prices, the discovery that risk elimination was really over-leveraging, and growing foreclosures as folks who shouldn't have borrowed found they couldn't repay and couldn't either refinance or sell because of the falling prices.
This patchwork affords quite a few opportunities for regulatory arbitrage (remember the Savings and Loan crisis?), which leave it an open question whether Greenspan could have succeeded in cracking down on loose lending standards.
Problem was, they didn't even try. Not Mr. Ayn Rand. Not the SEC. Not one of the regulatory bodies did a damn thing. And that was on purpose.
I accept the validity of the observations concerning the global savings glut, and the negative impacts of this glut on the balance sheets of rich country consumers. That said, it does take two to tango. But the other guilty party (that is, the counterparty to the Chinese government) in my view is the US political leadership much more so than the Federal Reserve. It seems to me anybody with even a passing interest in economic matters was aware the US had been saving too little for too long. That could have been remedied -- given sufficient political leadership and political courage -- by reforming the tax code and by running a fiscal surplus during non-recession years.
Interesting article today talking about how the Chinese are now trapped. If they stop borrowing the dollar will free-fall and badly devalue their holdings. If they keep borrowing they enable this massive cash glut that is like so much inflation-fuel waiting for a spark.
Obama has no other way out but to inflate the dollar.
Obama has no other way out but to inflate the dollar.
You mean "B-52" Ben? Problem is, inflation will kill any chance of recovery. Just look at rising gas prices(even has demand decreases and supply increases). Bernanke boxed himself in real good.
What does the Chinese government care if its holdings "free-fall?" This a serious question, and one I've never gotten an answer to.
A government isn't the same as an individual. An individual might need to save for retirement, or to pay for a child's college education, or perhaps a fancy wedding some day for his daughter. But what exactly is the Chinese government planning to do with all those treasuries that it won't be able to do if they fall in value some day? Does it have its eye on a nice retirement condo in Boca Raton its afraid it might not be able to afford?
Governments are made up of individuals. A large part of the problems government causes are from their acting on their personal beliefs rather than thinking systemically about what the actual causes of problems and the systemic effects of their actions will likely be. Unfortunately, I can see no way to counter this, which is why I am a libertarian - governments will almost necessarily screw-up whatever they try to do.
He may have been referring to the Financial Times article:
http://www.ft.com/cms/s/cb2e1262-48c3-11de-8870-00144feabdc0,Authorised=false.html?_i_location=http%3A%2F%2Fwww.ft.com%2Fcms%2Fs%2F0%2Fcb2e1262-48c3-11de-8870-00144feabdc0.html%3Fnclick_check%3D1&_i_referer=http%3A%2F%2Fpajamasmedia.com%2Finstapundit%2F&nclick_check=1
Paywall, though.
Interesting article today talking about how the Chinese are now trapped...
Not too many years ago people were saying the exact same about the Japanese, when they were the huge holders of T-bonds.
Nobody's said anything about it lately, but the Japanese have very quitely and calmly stopped buying on net and have been gradually diversifying out of T-bonds for some while.
(Maybe they are thanking the Chinese for stepping in as the bigger fools.)
This is how we approach the problem: we want villains, guilt, punishment. But when systems fail, they usually fail systemically. If one person, even Alan Greenspan, could bring down the entire edifice, then we'd be in massive trouble, so we should be grateful that it isn't the case.
I couldn't have said it better myself, Megan. Brava...
For those who are interested, Time Magazine put together a pretty good list of 25 people/institutions that share blame for the financial crisis. I like the list because it's diverse, and drives home the point that no one person or group can be held fully accountable.
My only beef with Time is that you need to click "Next" 25 times to see the whole list. I've posted the complete list (with links to each of the 25 pages) here.
If one person, even Alan Greenspan, could bring down the entire edifice, then we'd be in massive trouble, so we should be grateful that it isn't the case.
Exactly.
The problem was international in scope. It's hard to see what Greenspan could have done that would have prevented, say, the Polish mortgage problem, that left huge numbers of people with loans denominated in a currency that doubled against their earnings.
Also, the problem was not under-regulation, as many have claimed. The problem was bad, overcomplicated regulation. The Europeans had more regulation and actually face more problems than we do. The Canadians had a much simpler system and avoided a lot of pain.
Your own Clive Crook reported in FT on Greenspan not following the Taylor rule in setting interest rates in the early 2000's. This involves a formula of using 1/2 the trend and actual GDP rise difference + 1 plus the rate of inflation as 'the' interest rate. Not doing so left too much monetary stimulus. I wonder if our current bubble burst might be seen as an aftershock of 9/11. Greenspan may have been concerned about the fragility of our spending after 9/11. Bush said 'go spend' and if the economy had been falling in addition to the uncertainty in Iraq, then the 2004 election would have gone to Kerry. Thus in some sense Greenspan's monetary policy supported Bush and the country through the Iraq adventure and we are now paying the price given that we also have a supporting cast like the Andrews.
What should be noted about the US housing bubble was how geographically dependent it has been. Take out FL, CA, AZ, NV and the overall state of housing is much different. I think the Fed funds rate applies to all banks equally, and should thus affect a mortgage in NC the way it would one in FL. That doesn't mean low short-term rates didn't influence, but there are definitely other factors.
A look into why the bubbles in certain places inflated so much faster and bigger than other places is needed.
Take out FL, CA, AZ, NV and the overall state of housing is much different.
In fact, 80% of all dollar losses on homes are in those four states. Many other states are doing fine. In fact, the last time I looked, for 4th Q '08, home prices increased in 28 states. (Data through the link.)
Those are the four states that destroyed the world economy.
The issue to figure out is why those four states? (Or three, as Florida's been having land boom and busts since the Spanish found the place.)
But they were only the trigger, the fuse, to what really destroyed the world economy.
US mortgages did not sink Iceland, Russia, eastern Europe, leave Britain in debt over its eyeballs, and all the rest. World financial losses have been vastly larger than US mortgage losses.
There was something world-wide that was seriously wrong with the financial system. Nobody can blame Greenspan for that.
The mortgages just triggered that off.
I think this also relates to the physical structure of these areas. The most affected prices are in the exurbs. People have been harping on exurbs being uneconomical because of distance, but I doubt that's what really is the problem for those homes. I bet it's lack of roads. It isn't the distance it's the congestion that makes drive times long and wastes more gas. It's having all the jobs in one place and too many people between their homes and jobs.
The issue to figure out is why those four states?
Florida, California and Arizona are hubs of illegal immigration.
Nevada's gaming industry has been decimated by the Indian Gaming loophole.
That's certainly a start.
I don't follow. Illegal immigrants are, by large, not rich enough to drive up the price of houses. Likewise, decimating a states main industry is not going to push the housing prices up.
You could try to argue that these are the reasons for the bubble bursting, but that won't hold either, for taxes and New Mexico are also hubs for border crossers, yet they remain relatively unaffected, and finally, bubbles burst by their very nature. That is why we call them that.
No, I think bubbles are a self reinforcing loop. The price rises fastest at places where it has been rising fastest, because those are the places that attract the most speculation. Once started, bubbles will tend to concentrate. And they had to have started somewhere, it helps that those are the states with relatively high pre-bubble land values.
Interest rates are ultimately determined by the market, particularly when the federal funds rate is low. The spread is based upon what investors are willing to accept, not on a government edict.
It's simplistic to blame the Fed for the spread. Spread is a function of perceived risk; when the market was bullish, investors were willing to pay more, which equated to a lower spread.
The Fed could have raised the base rate, just as Volcker did in the early 80's when he was attacking inflation. But the then-hot housing market would have predictably responded in the short run by making loan products more creative, in order to get around the borrower's ability to get in.
Had the Fed pumped up rates, we'd have a lot more ARM's, Option ARM's, interest only loans and the rest than we do now. Lending standards may have deteriorated further and spreads may have tightened even more, as the rising rates caused investors to become even more interested in the returns available from the rising of mortgage securities. It's not possible to look at this in a vacuum and have a clear picture of what would occurred.
Had the Fed pumped up rates, we'd have a lot more ARM's, Option ARM's, interest only loans and the rest than we do now.
Really? Then why was Greenspan famously pumping up ARM's when he was Fed Chair towards the later part of the bubble?
It seems that what Posner want to find is not necessarily a villain who, while twirling his mustache, caused last year's banking panic, but he wants to boil it down to a single mistake, i.e. find the butterfly flapping it's wings in Japan who caused the tornado in Oklahoma. Any such explanation will be very complicated, involved, learned sounding, and wrong.
Last year's banking panic was caused by lot's of people screwing up independent of each other at the same time, by independent, one means that none of the actors screwed up because someone else screwed up, there was no chain of dominos. If any of them doen't screw up, the banking panic wouldn't have happened, but they did.
There were dominoes. Greenspan helped set them in motion.
Along with a million other people, yes. Greenspan may have been one of the bigger players, but singling him out is folly.
This was a REAL ESTATE bubble, whcih means the cause was in the HOUSING market. What entity or entities were created for the express purpose of distorting the housing market? FANNIE AND FREDDIE. The CRA, FANNIE AND FREDDIE regulatory loosening caused this mess and more money followed the money. The greed of the investment bankers and other bankers then made it worse than it otherwise would have been.
This is really not a very complicated issue unless you do not understand that markets cannot be fooled for very long.
You really are clueless, aren't you? You conflate two different things. A real eatate bubble is different from a housing bubble. Unless you don't think there is something called commercial real estate. If you want to learn something, I suggest you read Barry Ritholtz(who actually deals with Wall Street every day since he runs an investment advisory firm). Blaming Fannie and Freddie(who actually came late to the bubble) and the CRA(I see you have the RW talking points down) shows how little you really do know.
This very convenient and unnamed person is hardly representative of what 'we' want.
In fact, the cause is well-known, and was in fact widely predicted: the extremely unwise application of a discredited 'conservative'/'libertarian' economic philosophy wherein lightly regulated industries were subject to laxly enforced rules. We also had a rather ideological Fed Chief, Greenspan, whose actions and pronouncements are extremely suspect.
Of course, as the Pointed Man told Oblio, pointing in all directions is the same as having no point at all. That is, by trying to smear the blame over a number of parties, certain people are hoping to avoid the indictment and scrapping of the economic theory that was behind this mess.
You could just as easily blame it on the the extremely unwise application of a discredited 'non-libertarian' economic philosophy of government intervention including Fannie Mae, Freddie Mac, implied (and realized!) guarantees that the government will clean up the mess if anything goes wrong, tax incentives for home ownership and artificially low interest rates.
The libertarian version would have just let investors take losses and remind them to be more careful next time. Nothing quite like losing billions to drive the point home.
You think Greenspan wouldn't have bailed out BoA, Citi, Goldman, AIG and J.P. Morgan? Think again.
I think it's fair to say if we hadn't allowed them to become so large, we could have let them fail.
A free market cannot have players that aren't allowed to fail. I worry about how long it's going to take policymakers to understand this.
To the extent that he would have, he's not a libertarian zero-regulation purist like people are making him out to be.
Then why was Greenspan famously pumping up ARM's when he was Fed Chair towards the later part of the bubble?
Interesting. I didn't know that Alan Greenspan was a mortgage broker.
Lenders and investors set mortgage rates, not the Fed. Investors determine what constitutes an acceptable spread.
If rates are raised, lenders don't just passively accept it, shrug their shoulders and go fishing. Adhering to the premise of the Theory of Substitution, they go find alternative products that they can sell.
When beef gets expensive, people will switch from beef to chicken. When money gets expensive, lenders will migrate from fixed to variable rate terms and opt for longer amortizations. If that doesn't do the trick, they'll lower standards.
To pretend that the Fed can singlehandedly make everyone behave like robots is a bit much. It can influence behavior to a point, but the price of money is less important than is the ease of obtaining money. During the boom, getting money was exceptionally easy, and easy credit feeds bubbles.
Interesting. I didn't know that Alan Greenspan was a mortgage broker.
You missed the point. The point is that the Fed chief was helping to further inflate the housing bubble. In so many words, the Fed chief was echoing Kevin Bacon at the end of Animal House. Banks and lending institutions were sure to notice.
Shrug. So were lots of people, including Senate Democrats who were claiming risky loans to poor credit risks weren't that risky.
There's enough blame to go around.
And when the price of energy goes up, the price of everything goes up and the only substitute is to do nothing (but increase enegy supply).
The point is that the Fed chief was helping to further inflate the housing bubble.
That isn't really a point, that's just you restating your opinion, one that you haven't really supported.
You should notice, for example, that spreads between the federal funds rate (which the Fed does set) and real world mortgage interest rates (which the Fed does not set) are far higher today than they were in the past. This is particularly true in the jumbo market, which don't receive GSE protection.
The Fed doesn't establish the spread, investors do. Spreads are not the same during all markets, at all times.
When rates go up, you end up with more creative loans that use variable rates, longer (or no) amortization and lower standards to loan more money to more people. That's just how it works; short of outlawing easily abused loan types, something that we didn't do, Alan Greenspan couldn't prevent anyone from getting an interest only loan.
That's just how it works; short of outlawing easily abused loan types, something that we didn't do, Alan Greenspan couldn't prevent anyone from getting an interest only loan.
So are you telling me that if Greenspan spoke up and said it was a bad idea, people wouldn't have listened? Because interest only loans are inherently a stupid idea(for houses).
Remember the tech stock boom? In 1996 Greenspan spoke up and said it was a bad idea. The phrase "irrational exhuberance" was used. Google it.
You may also remember that: surprise, surprise, people didn't listen.
Sure they did, the stock market dropped a few hundred the next day. Thing is, they all forgot about it the next day, and it went right back up again.
I thought he did say it was a bad idea.
You could just as easily blame it on the the extremely unwise application of a discredited 'non-libertarian' economic philosophy of government intervention including Fannie Mae, Freddie Mac, implied (and realized!) guarantees that the government will clean up the mess if anything goes wrong, tax incentives for home ownership and artificially low interest rates.
You could try. But then you'd have to forget all of the depressions that we used to have before we began to manage our markets.
Deregulated markets are more volatile by nature. If you allow people do whatever they want, they tend to get a bit nuts during the good times to the point that they overextend themselves and create bubbles. Every bubble started out looking like a good opportunity to make money, until it blew up in somebody's face.
I enjoy Posner's writing, which I have usually found measured and well-considered. But I'm afraid that here he has waded outside his depth (not a bad thing) without his usual measured consideration (the bad thing).
At least according to mainstream economic throught, the fed never had the "control of long-term interest rates" that Posner accuses it of losing. The long-run, real interest rate is determined by the balance of the supply of savings and the demand for capital investment. The fed simply controls inflation.
In the short run, the markets may over- or under-supply capital at a given nominal rate of return because they have mis-judged the fed's comitment to controlling inflation and thus mis-judged the real rate of return to which the nominal rate corresponds. But in the long run creditors and debtors care about the division of the real, not the nominal, spoils of their common endeavours.
In one sense we could agree with both Posner and Greenspan in their concept of the abstract.
However, where the rubber meets the road is the application of a solution to fix the abstract problem.
Some of the current techniques do not appear to pass the smell test.
Let's see:
Greenspan vs. Posner
My money is on Greenspan. Ponser's treatise is full of assumptions about the FedFunds being too low, etc. Posner is an amateur economist.
Greenspan learned, perhaps quite late in life, that the Fed has much less control of market interest rates, especially long-term rates, than the Fed would like.
Interest rates are determined by the supply and demand of loanable funds. Nothing else.
Supply and demand (both being mathematical functions)reflect participants views about inflation and the relative value(s) of currencies.
That is all there is to it.
For Posner to say "the Fed lost control of long term interest rates" only reveals Posner's ignorance. The Fed never has and never will control long-term rates. Even now with the Fed buying long Treasury bonds, corporate rates (and the supply of longer term private credit) reflect a dearth of suppliers of funds to fund long-term dollar-denominated assets.
So are you telling me that if Greenspan spoke up and said it was a bad idea, people wouldn't have listened?
I guess you must have missed the "irrational exuberance" speech?
When people want to make money putting together loan tranches or desperately want to own a house, they aren't going to let Alan Greenspan's wisdom and and chiding prevent them from doing it. Come on, now, let's get real here.
Since this has been done to death a dozen times already, no, you can't. The numbers behind those statements have been posted ad nauseum, so unless you're prepared to dispute those numbers, I'm not even going to go there yet again.
That's odd; other libertarians have told me that we had no choice but to bail out these firms. Which libertarian am I supposed to believe.
Funny thing about labels for political ideologies, they suck. Megan is a soft libertarian(social liberal, fiscal conservative, no real need for ideological purity) who favours (some) bailouts, I'm a soft libertarian who opposes (these) bailouts, and any hard libertarian(government shall not do anything besides defend negative rights) will oppose all bailouts. There's only so much meaning that can be conveyed in one word, and it's not really enough for most political debate.
If reality were allowed to obtrude, this blog probably wouldn't exist, let alone these types of discussions. The only thing that keeps them going is that certain people are determined that a certain credo not die an undignified death. Getting them to admit that deregulation was the big problem, that permitting lax lending practices and lax enforcement of existing law explains by far the biggest part of this foulup is an unrealistic goal.
On the other hand, stepping in to counter what seems to be a determined push to dictate the official narrative is always laudable.
Posner should look at this chart of bubble prices around the world, from the Netherlands to Australia, most much larger than in the US, and explain to us how Greenspan managed to pull all of that off.
I mean, if he could really do that, I want him back!
Posner is a truly great judge, and a very good economist on legal related issues (taxes, anti-trust, regulation, law-and-econ, etc.) but he is soooooooo prolific he spreads himself a little thin sometimes on his non-legal work, and it shows.
I'm trying to follow him here....
Hey, in my work during all those years everybody knew the long-rate was abnormally low, the question was not *if* that was true but *why*.
Now Posner is *denying* it, saying the long rate was always under Greenspan's control, via moving the short rate, his evidence being that as the Fed raised the short rate from 1.0 to 5.26, an increase of 4.26 points, the long mortgage rate increased from 5.88% all the way to 6.7% ... an increase of 0.82 points.
Hmmm....
Of course, there is nothing at all logically inconsistent and in need of squaring between Greenspan's claim that the Fed lost control of long rates and the fact that the housing bubble burst when long interest finally rates rose.
I agree with you that the need to find some "villain" is driving pundits to irrational provinces. On top of that, I think that China's role in creating this crisis is severely under-rated. As I noted elswhere:
Contrary to popular beleif, the current crisis was not caused by lack of government intervention; it was caused by excessive government intervention. Everyone agrees that the US and China are the world's most important economies. Let's have a look at what the governments of these two countries have been up to since the end of the previous (dot com) crisis.
In China, exports went up by more than 300% between 2003 and 2008. During this period, the value of China's currency was managed by the Chinese Government (as opposed to the Market) and was pegged to the USD in various ways. China did its best to keep the RMB low and thus sustain an incredible growth in exports that gained it trillions of US dollars in cash. What did China do with all this cash? It spent it on US Treasury Bills, thus ensuring that interest rates in the US remain low and that American consumers can continue to buy Chinese junk like there's no tomorrow. And so, China gave the Americans artificially cheap goods (low RMB) and artificially cheap money (low interest rates) to buy them with.
But the Chinese were not alone in this game. They were aided and abetted by American politicians, central bankers, and financial institutions. Each of the three groups contributed to the overall effort in its own way: The politicians failed to take China to task over its unfair trading, mostly because they needed China's support on a variety of other issues (The War on Terror, Darfur, N.Korea, Iran); the central bankers were happy to keep interest rates low and pretend that the consumption boom in the US was driven by various positive factors; and the financial industry had a ball with all the excess liquidity created by this process and funneled plenty of dollars to Washington to make sure it never ends. Coincidentally, the number of registered lobbyists in D.C. doubled in the 4 years between 2001 and 2005. This is similar to the growth in the 17 years between 1980 to 1997.
So, crisis due to lack of government intervention? I think not. When the world's third largest economy doesn't play by the basic rules of international trade and the world's largest economy is supporting these efforts, it's a far stretch to claim that the Market did not work properly.
See the full post for additional details.
Just to toss in a dissenting perspective. There are many levels of analysis between the idea that the "system" is to blame and that "some ruffian" is to blame.
Up until the last two decades of revived neoclassical ideology, many ordinary people used to refer to "class," as in "the working class" and the "capitalist class." The mainstreaming of stock investment, the (evidently temporary) appearance of a secure middle class, and the many refinements and complications of the "class" concept do not entirely refute it, in my opinion.
Nearly every economic policy will still have a differential impact on those who control bonds and large assets based on capital investment and who remain above the inflation rate, and those who depend on a salary and/or government benefits. No economic policy really serves a common national interest. Greenspan and others of the "ruling class," to use a quaint term, may compete with one another, but will still make decisions based on what is "best for the world," which means higher investment earnings generally, which may or may not lead to higher relative wages in the long run.
I realize such views are now considered primitive. But a wild confusion of individual and collective agency seems to be rampant these days. Greenspan sees the world as a banker, which is why he is not alarmed by indicators as long as bankers appear to be thriving and selling more debt. That, to him, indicates a healthy world. In his memoir his main concern seems to be not bankers, but the dangers of what he calls "economic populism," which is the world viewed through the eyes of voting publics acting in their apparent self-interest (formerly known as democracy). He believes such "populist" views are "incorrect" and misinformed, though his basis for this axiom seems to have collapsed rather dramatically.
Greenspan is a libertarian idealist, Posner is libertarian pragmatist. The market idealist insists his economic theories will work in the long run. The problem with this view is that ANY economic theory will "work," as long as you don't care about "populism" or how many people suffer. Stalin's Five Year Plans were enormously productive.
Another Nelson, Hi!
Economic populism can screw us if used for the forces of evil, such as what Chavez and Mugabe are doing to their countries. It sounds fun to rob Peter to pay Paul, but policies like that are self destructive. The way to grow the economy is let both Peter and Paul create their own wealth (or fend for themselves, depending on perspective) without too much interferrence.
Hello Nelson, Mugabe and Chavez are not at all the same. I am not a huge fan of Chavez the blowhard, but no one disputes that he was democratically elected in a real election and has generally acted to control his countries' assets and distribute them downward. We, on the other hand, have recently seen a huge redistribution upward. I am really surprised at the number of people who accept the idea of "government interference" and "free market," especially now. It is simply ahistorical and blatantly at odds with today's daily news. A "market" is the result of a great deal of central planning, corporate charters, government backed currencies, government tax base and infrastructures, millions of restrictions, patents, licenses, tariffs, bonds and rating authorities, international exchange rates, police protections, etc. What most people define at the "free market" has never existed and what they usually mean is "that institutional structure that favors me." Most professionals, such as Greenspan, who profess to belief in the "natural" benefits of the free market are willing to accept mass layoffs or foreclosure on, say, a million homes as the "price of liberty," but not the failure of a hedge fund like LTC or the banks. Why not? Why is Goldman Sachs suddenly "too big to fail"? Why shouldn't tax payers be allowed to decide if we wanted to give our money to the banks? It was simply taken. A blatant use of the state monopoly on violent power to transfer wealth. Yet I do not see Greenspan protesting. To protest was considered "populist." Personally, I have no idea what would have happened without this transfer of tax funds into private banks. I don't think anyone really knows. But I don't accept it as obvious that what is good for bankers is good for everyone. And I certainly don't see how anyone can square this massive tax transfer with a continued idea of a "free market" in which we are all just interacting as free "individuals." Few governments are as centrally organized and restrictively planned as Wal-Mart, Exxon, or the New York Stock Exchange. We really need to clarify what is meant by the increasingly metaphysical term "the market." It seems to me little better than the fetish word of an absurd fertility cult. Cheers.
Populism can mean different things to different people and the meaning can change over time. In my view redistributing up and redistributing down are both worse than generally letting people control their own resources without strongmen (democratically elected governments or otherwise) taking from them.
I don't think anyone claimed Mugabe and Chavez are the same. They're not, but they do share a common trait - they're economic illiterates(or at least, they're acting like they are) running their countries into the ground for temporary political advantage. That is why economic populism is a dirty phrase - sometimes people support some really stupid policies for some really petty reasons, and it's the responsibility of those who know better to try to resist that trend(in a democratic way, of course - convince, don't force - but still, do your best to stop that sort of nonsense).
And when the price of energy goes up, the price of everything goes up and the only substitute is to do nothing (but increase enegy supply).
The recent bubble burst illustrates that this isn't quite accurate. On the supply/demand side, consumers of energy can improve their efficiency, and over the medium run, they usually do. Consumers have difficulty responding in the short run, but over time, their demand becomes more elastic and we end up with supply gluts.
The last bubble was pushed by demand for oil investments, more so than it was demand for oil. (That differs from the 70's spike, which was created by a cartel.) That bubble eventually burst, because bubbles always do.
Posner doesn't seem to understand that low spreads are the market equivalent of bubble pricing. It happens, particularly when markets are lightly regulated and exuberance is left unchecked. Exceptionally low spreads are also unsustainable over the long run; eventually, investors wise up, and start looking for better priced returns.
In part, spreads are up because investors realized that their previous spreads did not adequately price for risk. Those spreads will probably decline somewhat as the market's fear burns off, but they aren't going back to what they were any time soon.
Greenspan could have (and should have) raised the short-term rate to take the edge off of the bubble, but ultimately it would have been the market that made the call, and there isn't much that he or any other Fed chairman could have done about that. In part, investors were drawn to the cheap dollar, which was weakened by the US' budget deficits, which were climbing due to Bush's fiscal and foreign policies. The Fed doesn't create fiscal or foreign policy, the government does.
I'm not particularly a fan of Greenspan, but the dogpile on him is getting to be a bit much.
Age of Turbulance:
Greenspan saw the potential problems and often warned about them. Characterizing his view of that of a banker isn't quite right. What caused him to not speak more about the problems wasn't a faith in markets, it was a faith in individuals.
Like most other major players, Greenspan is not blame free. However, the mess was international; just as the solution needs to be international unless we want to live through a decade long recovery.
There was an extraordinary surplus of saving in some parts of the world (why? Maybe largely because inappropriate IMF response to the east asian crisis scared some governments into putting a fantastic premium on holding foreign exchange reserves). This produced a massive capital inflow into US 'safe' securities. The US capital markets neutralised part of that by re-exporting a great deal of capital to other countries, particularly Western Europe. The rest raised US asset prices. Since the Fed rate, an instrument which affects the whole economy, was effectively targeted only on prices excluding asset prices, there was no raising of interest rates in response. Greenspan was aware of the imperfect match between policy instrument and target, but was not offered by economists any way of resolving it. So he applied the best intellectual framework he had, and rates stayed low.
In fact, as Megan says, it would have been nearly impossible to sterilise the inflow into 'safe' US securities through raising interest rates alone. The effective sterilisation of this flow would probably have required the federal government to run a cash surplus,
and certainly would have required a major reduction in the federal deficits. Such a response was not even near the horizon of Bush administration politics; just as it was pretty remote from the thinking of the European governments who were expanding their economies on the back of their share of the surplus savings re-exported from the USA.
Megan rightly calls it a systematic failure. For me, that does not mean nobody is to blame; it means that a great many people deserve blame for getting their parts of the system wrong. Greenspan owned one fairly important part of the system. He got it wrong in an important way. But even if he had got it right, that would not have been enough to save us.
Hah. Today on Free Exchange:
Speak for yourself.
A surefire way not to get a second date is for her to notice you have nasty underwear the next morning.
Commando.
And you're the one true keeper of the flame? Here is what I was responding to:
Is this anything like Bush is 'not really a conservative', or Colin Powell 'is not really a Republican'?
If you want hard core libertarian, check out Mises.org. I'm not going to say I agree with everything they believe in, but they do provide a good counterbalance to "trendy" policy.
There were several libertarians (and others) against the bailouts in this blog's comment section if you look back. I personally have never seen the point of bailing out incompetent bankers or bondholders. I can understand bailing out FDIC insured depositors above the limit so they could make payrolls, etc... (which kicks me out of the pure libertarian camp) but not stock and bond holders who made bad investment decisions nor the incompetent executives running these firms. That's just not right.
Like I said, labels suck. I'm not the one true libertarian - a lot of th hardcore consider me a total poser. I just have a fairly good idea of where the factions lie. There are some who think bailouts are a monstrous evil(Mises types), some who think they're theoretically justifiable but ill-advised in this case(me), and some who think they're better than the alternatives around(Megan). If you're arguing over who the "true" people fitting under a label are, you're into a discussion about as useful as arguments over Kirk vs Picard. The two sides define the terms differently, and no common ground is possible.
Also, would it kill you to use the Reply button? Makes it way easier to follow the conversation.
Does he mean to imply that large numbers of men don't tend to get socks and underwear as traditional Christmas presents? I'm shocked, I tell you, shocked.
It's an odd bit of reverse-misogyny too. My daughter recently objected to her mother trying to throw out her old bras and buy new ones because the old was 'comfortable' and the new, 'scratchy'. I've heard this from many women, and only mention my daughter because she is fourteen, ie, someone who hasn't been wearing one of those things for all that long.
If reality were allowed to obtrude, this blog probably wouldn't exist, let alone these types of discussions. The only thing that keeps them going is that certain people are determined that a certain credo not die an undignified death.
So to barrel off on a threadjack, here's an example of the kind of insults I was talking about in the other thread (I said I'd point it out when it arrived...) You suggest that this blog lacks contact with reality, and therefore our gracious hostess is presumably mentally ill, stupid, or lying. You go on to suggest that unnamed parties, similarly bereft of reality, are fighting to save an unnamed credo. Even assuming you are entirely correct (and you might be), it's still rather insulting.
I'm sure you would agree that the psychology and/or motivations of someone are entirely irrelevant to the correctness of their argument, and therefore for you to bring it up is to commit a logical fallacy. And what is more, your analysis of their motivations does absolutely nothing to more this discussion forward, given that this discussion is about the causes of the late crisis. This stands in contrast to my oft-mentioned remark about vegans/environmentalists, which came in a discussion about people's motivations.
It's worth noting that I am largely persuaded by RW here on causes, although I am far from convinced that "de"regulation (as opposed to "non"-regulation) is to blame, or that the libertarians were the only ones who stood in the way (given that forcing tighter standards would have run afoul of the goals of the CRA, even if not literally afoul of the law itself, and would therefore have excited the opposition of liberals, too).
My point is that while just about everyone I know who calls themselves a libertarian is foursquare for deregulation, the variance on other issues is quite a bit wider.
Note, btw, that I did not address the proposed the libertarian 'solution' at all.
Well, the counterbalance to being for deregulation is allowing firms to fail and investors to go bankrupt if things go wrong. If you have deregulation but are unwilling to let firms (and people) fail from their own mistakes and force taxpayers to pay for those mistakes, you can't seriously call yourself a libertarian. Maybe a corporatist, but not a libertarian. The whole point of being a libertarian is increased individual freedom. Forcing them to bail out banks and other corporations is contrary to freedom.
Sigh. And this is exactly what I am talking about. It is my opinion (which, per you, I don't have to defend at all . . . though I in fact have) that the economic philosophy of libertarians and it's concomitant prescriptives has been roundly, thoroughly debunked. It is my opinion that Megan styles herself an 'econoblogger' and that this blog is primarily about economics, particularly about libertarian-style economics.
So, yes, "If reality were allowed to obtrude, this blog probably wouldn't exist, let alone these types of discussions" is an opinion. It is not an insult, nor is it given to obliquely question anyone's mental stability.
That's your problem in a nutshell: what you(generic) call 'opinion' and just 'telling it like it is' is what a lot of other people call 'insults'. And what you call 'insults', like the above, is just an opinion, with no intent to call anyone mentally ill, stupid, or lying. That's you reading something into the discussion that simply isn't there. That's also you being an arbiter of what is and is not acceptable, and further, doing it in a way that gives one group preferential treatment at the expense of another. Planks and motes, remember? :-)
I do agree. But that's not what I was addressing. Here's a related situation: despite an immense amount of evidence to the contrary, there are people who still staunchly maintain that there is a clear link between vaccinations and autism. And that all that other evidence to the contrary isn't 'conclusive' or that it has somehow been manufactured. And of course the always-popular 'How can you say that if you didn't account for X?' and 'How do you know you accounted for every confounding variable?'
That is the context in which I speculate about motivations, nothing more. It is also, quite frankly, a bog standard application of a well-known fact of human nature. To say otherwise would be preferential treatment, which is what you want whether you realize it or not.
Which goes back to my point: who died and made you King of the Libertarians? Why do you get to decide who is 'really' one of the tribe, and who is not?
SoV, you're threadjacking again. Second warning. Rob, please don't feed the trolls
Yes, ma'am. Although the alternative is actually working for a living, you know.
It is my opinion...that the economic philosophy of libertarians and it's concomitant prescriptives has been roundly, thoroughly debunked...[autism example]...That is the context in which I speculate about motivations, nothing more.
So in other words, you speculate about motivations because you are so obviously right, nothing can explain disagreement except some kind of cognitive error. It is impossible for you to imagine that an intelligent, thoughtful, logical person might see the same data as you and come to a different conclusion. Psychoanalyzing people who disagree is not insulting because hey, the truth hurts.
Is that a fair summary, or have I missed something?
I am far from convinced that "de"regulation (as opposed to "non"-regulation) is to blame, or that the libertarians were the only ones who stood in the way (given that forcing tighter standards would have run afoul of the goals of the CRA, even if not literally afoul of the law itself, and would therefore have excited the opposition of liberals, too).
I've implied it on this thread or elsewhere, but the real problem with bank deregulation is that it assumed that it was somehow positive for banks to become more profitable and efficient, as are truly market driven companies in other industries.
The problem with this is that higher returns require higher risk, and higher risk is exactly what banks don't need. The urge to create revenue and market share are drivers for creating these bubbles, when banks venture into realms where they have no business being.
Banks are not like software companies or coffeehouses. They are de facto extensions of the Fed, so they can't fail en masse without harming the entire system. We can absorb the odd blowout, but a broad meltdown is systemic by nature. They can't just fail without inflicting broad collateral damage.
Retail lending should be a horrifically boring business, and it should be kept separate from investment banking and more speculative institutions. There's nothing wrong with having some element of speculation, but when it becomes substantial, it can overwhelm what are supposed to be the stable parts of the system.
The subprime loan issue can be viewed in a similar context. A little bit of risk is fine, and if it serves a social purpose, may be desirable to a degree. The government's social engineering less than 10% of the lending market would not be particularly problematic if its scope is kept narrow and it doesn't grow too much.
The free market decided to jump in with both feet and with lower standards, which was problematic. Had subprime lending been kept limited to CRA and the rest of the market not ventured into the same low LTV's, then we'd be dealing with a modest recession, not a near depression.
I'd recommending looking at the work of Fisher, Shiller and Minsky. If we are willing to acknowledge the premises that markets are not always efficient and that bubbles are natural occurrences when allowed to fester, then it's fairly easy to see where we've come from and where we might be going.
The Austrian fixation on the cost of capital strikes me as a political position that has a chip on its shoulder about government, not an economic one based upon what actually occurs during economic cycles. Cheap capital does not necessarily produce bubbles on their own, and it's quite possible to have bubbles when capital isn't particularly cheap.
CRA does not require a bank to make unsafe or unsound loans. Thus this canard about CRA is false.
Where the banks failed was in business practice. The overall drive for greater and greater profits for shareholders, board members, and management led to a short term and cyclical view of profit margin and stability.
Deregulation too is a canard. Regulation in and of itself is not designed to be costly or to prevent an institution from making profits, indeed regulation seeks to do just that. But profit for one bank at the expense of systemic risk is what Sarbanes-Oxley was all about (funny how no one mentions reinstating that law), and the loss of that law and the blind eye of the SEC and the insestuous relationship of the Federal Reserve to Banks can be directly attributed to the collaspe.
And to the authors point that there are nebulous villians, there are. In this case, there are sooooo many that to prosecute them all (before the next generation is ready to assume leadership) would be financially and politically costly.
Megan, you need to stop it with this bias. Especially since you're one of those not 'really real libertarians' who believed that government intervention was the correct call . . . and this comment was made on your blog.
Blink. Blink. Once for each eye. Well, yes you have:
So in other words, Megan is speculating about motivations because she are so obviously right, nothing can explain disagreement except some kind of cognitive error. It is impossible for her to imagine that an intelligent, thoughtful, logical person might see the same data as her and come to a different conclusion. Psychoanalyzing people who disagree is not insulting because hey, the truth hurts.
Have I got that right? Rob? Remember what I was saying about motes and beams? :-)
The point is that said well-respected journalist hadn't seen the same data, because they weren't in the same specialty. In this context, it's not so much a difference of opinion as a genuine argument from ignorance. "Somebody must be to blame!" is hardly the rallying cry of someone who understands the issue, after all.
Exactly so. Indeed, to focus on 'villains' misses the point, as does the very vague 'systemic risk'. What is needed now (among other things) is re-regulation of these financial entities, and more aggressive enforcement of laws already on the books.
If you insist on the villain of piece, it's simply this: in the name of the 'free market', the finance industry was allowed to go unregulated. As RW says: the real problem with bank deregulation is that it assumed that it was somehow positive for banks to become more profitable and efficient, as are truly market driven companies in other industries. The problem with this is that higher returns require higher risk, and higher risk is exactly what banks don't need. The urge to create revenue and market share are drivers for creating these bubbles, when banks venture into realms where they have no business being.
And as several people have been saying, there is nothing particularly mysterious or arcane about this bit of wisdom. Here's a straightforward question: is there anyone pushing this 'pervading systemic risk' theory who does not think that we need to increase regulatory oversight of the financial industry? And if so, what is their alternative proposal?
I would submit that arguments against new/enhanced regulations exist only in the absence of proposed changes to existing regulations.
Once someone suggests actual change, then experts tend to weigh in on the pros & cons. In the abstract, the discussion is mainly just tilting at windmills....