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Obama Chief of Staff Hopes to Exploit the Economic Crisis to Expand the Growth of Government:

In earlier posts (e.g. - here and here) I have emphasized the risk that the combination of economic crisis and unified Democratic control of Congress and the White House would lead to a vast expansion of government. It looks like key Obama advisers and congressional Democrats are thinking along the same lines. As Obama Chief of Staff Rahm Emanuel puts it, the crisis is "an opportunity to do things you could not do before . . . You never want a serious crisis to go to waste." The WSJ article from which the quote comes makes clear that the "things" Emanuel has in mind are government policies that "pick winners" by subsidizing particular industries on a massive scale - as Congress is already doing with the finance industry, auto industry and others (HT: David Boaz).

Given the serious flaws in this kind of central planning, it is highly unlikely that even a well-intentioned federal government could do a better job than the market in choosing which industries to fund. On this point, F.A. Hayek's critique of government planning is still relevant - even more so than I thought when I defended Hayek's continuing relevance earlier this year. In the real world, of course, it is highly unlikely that government planning decisions will be determined by experts whose only concern is the public good. Rather, politically powerful industries will use their influence to lobby for bailouts and other government assistance that will probably be denied to the politically weak - irrespective of the true merits of helping the industries in question.

Interest group pressure has already played a key role in the congressional vote on the finance industry bailout, and it is likely to be equally important in structuring the massive future bailouts to come. Once Obama takes office, we are likely to see some $500 billion to 1 trillion in additional bailout spending - and that may be just for starters. Interest groups will play a major role in allocating this money, and they are already ramping up their lobbying efforts.

The end result will probably be an enormous transfer of resources from taxpayers and wealth-producing industries to interest groups with political leverage. That is likely to serve the interests of those groups and of the political leaders in charge of doling out the government largesse. But it will also impede economic growth by transferring resources away from productive firms to those that are failing.

MarkField (mail):
This is a peculiar time to tout the efficiency of markets in allocating resources.

I know, I know: it's all the government's fault. Just like it is with my kids -- it's always my fault, the only thing that changes is the explanation of why, exactly, it's my fault.
11.25.2008 7:07pm
Ilya Somin:
This is a peculiar time to tout the efficiency of markets in allocating resources.

I can't think of a better time to do so than when a crisis caused by poor government allocation of resources (through its promotion of easy credit and subsidization of Fannie Mae/Freddie Mac) has led to a massive push for even more government.
11.25.2008 7:17pm
FWB (mail):
All this is merely a way to strip the waelth of the people and transfer it to the hands of the greedy. Thes financial experts have already proven themselves as failures. The evidence is in our faces. They couldn't manage themselves out of a wet paper bag.

When the government is in charge of making wheels, we get square wheels.

As the British have said for decades: America has the best government money can buy.

I will sit back having already planned for most scenarios.

Dominus providebit!
11.25.2008 7:23pm
Dilan Esper (mail) (www):
Given the serious flaws in this kind of central planning, it is highly unlikely that even a well-intentioned federal government could do a better job than the market in choosing which industries to fund.

Of course, that's a strawman. Whatever you say about Obama's economic policies (or Bush's, for that matter), they aren't buying up assets and businesses or advocating spending and stimulus as a form of central planning. Rather, they are trying to inject capital into the economy. And as far as I know, Hayek didn't say THAT puts us on the road to serfdom. Because it doesn't.
11.25.2008 7:31pm
Ilya Somin:
Of course, that's a strawman. Whatever you say about Obama's economic policies (or Bush's, for that matter), they aren't buying up assets and businesses or advocating spending and stimulus as a form of central planning. Rather, they are trying to inject capital into the economy. And as far as I know, Hayek didn't say THAT puts us on the road to serfdom. Because it doesn't.

As the linked article makes clear, they are doing more than just providing "stimulus." They are planning to give targeted subsidies to numerous individual industries. Choosing which industries to fund and which ones not to, necessarily requires some form of central planning, even if it doesn't require full-blown socialism in the form of government ownership of the means of production. Moreover, the Paulson plan does in fact involve lots of "buying up assets and businesses."
11.25.2008 7:34pm
Dilan Esper (mail) (www):
I can't think of a better time to do so than when a crisis caused by poor government allocation of resources (through its promotion of easy credit and subsidization of Fannie Mae/Freddie Mac) has led to a massive push for even more government.

By the way, while one can certainly talk about Fannie/Freddie and government credit policies as factors in the credit crunch, there's no evidence that they "caused" them, as compared to various private sector practices that went unregulated. Fannie and Freddie didn't create the credit default swap, for instance. And there was a concerted decision of the government not to regulate that practice.

Ilya, you make many broad ideological claims about the economy. But this stuff is very, very complicated. There are many of things on heaven and earth that are not dreamt of in libertarian philosophy. And this point in no way means there aren't government policies that were bad ideas or are bad ideas, or that we shouldn't listen to libertarians when they are making sense. Of course we have to retain our basic skepticism of government intervention in the economy. What it does mean, however, is that anyone who is reflexively assuming "markets good government bad" isn't really examining the economic problems critically and carefully.
11.25.2008 7:35pm
gcruse42 (mail) (www):
Given the serious flaws in this kind of central planning,

Given Obama's musing over the waste of agriwelfare, if he's serious about getting rid of it, would you call that negative central planning? Dumping support programs (dairy, Peanuts, cheese, sugar, etc) would seem to be unwinding central planning. A financial crisis with a concurrent new govt advocating change seems to be the optimal moment for putting many, many oxen to the gore. Do it, I say. Do it while you can before political inertia allows special interests to regain their footing.
11.25.2008 7:37pm
Dilan Esper (mail) (www):
As the linked article makes clear, they are doing more than just providing "stimulus." They are planning to give targeted subsidies to numerous individual industries. Choosing which industries to fund and which ones not to, necessarily requires some form of central planning, even if it doesn't require full-blown socialism in the form of government ownership of the means of production. Moreover, the Paulson plan does in fact involve lots of "buying up assets and businesses."

Sure it does. But you are defining deviancy down. These guys aren't running around deliberately planning the economy and usurping the market. They are attempting to clean up a mess. If this constitutes "central planning", than every governmental economic policy does. And if that's your claim, that goes far beyond anything that Hayek claimed in "Road to Serfdom".
11.25.2008 7:37pm
Ilya Somin:
These guys aren't running around deliberately planning the economy and usurping the market. They are attempting to clean up a mess. If this constitutes "central planning", than every governmental economic policy does. And if that's your claim, that goes far beyond anything that Hayek claimed in "Road to Serfdom".

"Central planning" and "cleaning up a mess" are not mutually exclusive categories. The former can be adopted for the supposed purpose of achieving the latter. That, of course, is Emanuel's point: a crisis can be used to expand the scope of government planning beyond what would be politically feasible otherwise. And when government spends hundreds of billions "picking winners" by choosing to fund some industries at the expense of others, that goes far beyond the level of central planning inherent in "any" government policy. As for Hayek, he was pretty clearly against central planning in the form of subsidies for private industries chosen as "winners" by the government, a point he discussed in The Constitution of Liberty, among other works.
11.25.2008 7:42pm
Dilan Esper (mail) (www):
Again, though, by that definition, all economic policies pick winners and losers. So they are all a form of central planning. I'm still waiting for us to get to totalitarianism though, despite the fact we've picked winners and losers for over two centuries.

What you would need to prove is that the "central planning" element in what we are doing right now is somehow worse or different in quality than what we have done during previous panics and depressions. But in fact, bailouts are a common feature of every financial downturn, and they all pick winners and losers.

Again, you are defining deviancy down. If there's a particular reason why the current spending spree puts us on the road to serfdom even though previous actions haven't, I'd like to hear it. But the definitions you are using are so broad that, as we used to say in debate, "your case is non-unique".
11.25.2008 7:49pm
darrenm:

These guys aren't running around deliberately planning the economy and usurping the market. They are attempting to clean up a mess.


"The road to Hell is paved with good intentions". Not original, but appropriate.
11.25.2008 8:02pm
SenatorX (mail):
Again, though, by that definition, all economic policies pick winners and losers

Really? there policies that apply to every sector or all citizens are picking winners?

Anyway I thought this article the other day was revealing :

US officials flunk test of American history, economics, civics

The key rot "The question that received the fewest correct responses, just 16 percent, tested respondents' basic understanding of economic principles, asking why "free markets typically secure more economic prosperity than government's centralized planning?"

We are being led by idiots.
11.25.2008 8:03pm
Steve:
I don't know how long the government has been in the business of picking and choosing which industries to subsidize, but somehow our nation has achieved a degree of prosperity that is the envy of the world in spite of all that. So it's hard to argue with a straight face that disaster will ensue because Barack Obama intends to continue picking and choosing which industries to subsidize.
11.25.2008 8:19pm
Martin000 (mail):
In the current circumstance, it seems to me that a reasonable policymaker could conclude both:

1. Some sort of large more-or-less Keynsian style fiscal stimulus is called for (certainly a lot of well informed, non-crazy, mainstream economists think so); and

2. The Hayekian and public choice objections to government attempts to plan the economy at a microeconomic level remain valid.

The logical implication seems to be that the government should give out the money to the citizenry in a random fashion. E.g., some sort of reverse lottery, or dump cash out of low-flying airplanes, or something.
11.25.2008 8:21pm
frankcross (mail):
Ilya, the crisis was not caused by Fannie Mae, it just did its little part to contribute. Fannie Mae used the instruments but was actually late to the party, and the cake was largely baked. When they reduced exposure to mortgage-backed securities, private industry picked up their share. Barry Ritholtz has documented this all very well at The Big Picture, probably the best macroeconomics blog.

Saying "easy credit" was to blame is like a murderer blaming a store for selling him a gun.

Of course, none of that necessarily counsels for government intervention. But this one was a private market failure.
11.25.2008 8:26pm
John Steele (mail):

Ilya, the crisis was not caused by Fannie Mae, it just did its little part to contribute. Fannie Mae used the instruments but was actually late to the party, and the cake was largely baked. When they reduced exposure to mortgage-backed securities, private industry picked up their share. Barry Ritholtz has documented this all very well at The Big Picture, probably the best macroeconomics blog.

Saying "easy credit" was to blame is like a murderer blaming a store for selling him a gun.

Of course, none of that necessarily counsels for government intervention. But this one was a private market failure.

The crisis was created by government not the private market. The private market received more than adequate signals that "investing" in questionalbe "securities" such as high-risk mortgages was a good idea; such practices were being encouraged by government essentially guaranteeing the junk being peddled. The private market simply did what government told them it was safe to do.

The Democrats created the CRA, expanded the CRA, encuraged Fannie Mae/Freddie Mac to "guarantee" the loans; what was the private market supposed to think? And the Democrats are proud of what they did.
11.25.2008 9:02pm
Elliot123 (mail):
"Fannie and Freddie didn't create the credit default swap, for instance. And there was a concerted decision of the government not to regulate that practice."

Right. Government decided to keep the CDS market unregulated even after the CFTC told them what would happen. That's government.
11.25.2008 9:17pm
Metoo:
Professor Lawrence H. White explains the financial meltdown:

Those who fault "deregulation," "unfettered capitalism," or "greed" would do well to look instead at flawed institutions and misguided policies.

The expansion in risky mortgages to underqualified borrowers was encouraged by the federal government. The growth of "creative" nonprime lending followed Congress's strengthening of the Community Reinvestment Act, the Federal Housing Administration's loosening of down-payment standards, and the Department of Housing and Urban Development's pressuring lenders to extend mortgages to borrowers who previously would not have qualified.
Meanwhile, Freddie Mac and Fannie Mae grew to own or guarantee about half of the United States' $12 trillion mortgage market. Congressional leaders pointedly refused to moderate the moral hazard problem of implicit guarantees or otherwise rein in their hyperexpansion, instead pushing them to promote "affordable housing" through expanded purchases of nonprime loans to low income applicants.
The credit that fueled these risky mortgages was provided by the cheap money policy of the Federal Reserve. Following the 2001 recession, Fed chairman Alan Greenspan slashed the federal funds rate from 6.25 to 1.75 percent. It was reduced further in 2002 and 2003, reaching a record low of 1 percent in mid-2003 - where it stayed for a year. This set off what economist Steve Hanke called "the mother of all liquidity cycles and yet another massive demand bubble."
His full Cato
11.25.2008 9:19pm
Larry Shapiro (mail) (www):
What a bunch of paranoid nonsense
11.25.2008 9:31pm
David Warner:
The market/government or public/private dichotomies cloud the issue. The concern is not government per se, it is the power of the government at the mercy of particular private interests arrayed against the public interest.

On this both libertarians and traditional liberals of good faith should be able to find broad agreement.

Prof. Somin,

"The end result will probably be an enormous transfer of resources from taxpayers and wealth-producing industries to interest groups with political leverage."

Given the levels of debt involved, I'm less concerned about current taxpayers than future generations of taxpayers who enjoy no representative power at all.
11.25.2008 9:31pm
David Warner:
Steve,

"I don't know how long the government has been in the business of picking and choosing which industries to subsidize"

Before 1781, the relevant government was very fond of doing so, leading in no small part to a Revolution among those not so favored to replace said government with a more liberal one.

"but somehow our nation has achieved a degree of prosperity that is the envy of the world in spite of all that."

Given that the world of which you speak has been and still is chock full of governments much more in the business of intervention than our own, perhaps that "somehow" involves our relative tendency to refrain therefrom.
11.25.2008 9:37pm
frankcross (mail):
Professor Lawrence White is wrong --

Those loans to low income people under CRA were a very small percentage of the overall loans and few of them were subprime, and their default rate was not bad. Edward Gramlich has documented this.

The free market is the best thing invented by mankind. But it is not all sunshine and lollipops, even it has shortcomings and crises. And this one's on the market. Stupid buyers of bad securitized mortgages and ratings agencies in the tank. And the government never encouraged them or said it was safe to do it. The government never "essentially guaranteed" the junk, that's must made up. Fannie and Freddie were explicitly not guaranteed in the law, and the market was buying up the junk even when unrelated to Fannie and Freddie. And the same thing happened overseas without any involvement of Fannie and Freddie.
11.25.2008 9:42pm
Mark Rockwell (mail):
8,000 years of recorded history, and we still have absolutists.

Haven't caught on to the trend yet, huh?
11.25.2008 10:05pm
Metoo:
Edward Gramlich was criticized for a too optimistic view point. He also died more than a year ago. Subprime mortgage defaults have continued to increase since that time.

Also, Alan Greenspan has admitted his cheap money policy has contributed to this current economic problems we current face.
11.25.2008 10:06pm
Metoo:
Sorry, let me try that again, Alan Greenspan has admitted that his cheap money policy contributed to the current economic problems we face.
11.25.2008 10:07pm
Brian K (mail):
The private market simply did what government told them it was safe to do.

so the private market is utterly incapable of thinking for itself? or realizing a bad investment when it sees one?

comments like these don't exactly instill confidence in the private market.
11.25.2008 10:10pm
Metoo:
As of mid-2008, the default rate on sub-prime mortgages was 26.6%, up from 11.6% a year earlier, and threatens to go higher. Poor Prof. Gramlich is unavailable for comment.
11.25.2008 10:13pm
Mike G in Corvallis (mail):
The end result will probably be an enormous transfer of resources from taxpayers and wealth-producing industries to interest groups with political leverage.

-- Ilya Somin

When buying and selling are controlled by legislation, the first things to be bought and sold are legislators.

-- P. J. O'Rourke
11.25.2008 10:21pm
Frank M Howland (mail):
It's interesting that you credit the current government intervention in the financial marketplace to Congress when by far the most decisive action has been taken by the Federal Reserve and the Bush administration. Congress seeing that financial markets were about to collapse, ceded authority to the executive branch.

Steve says he doesn't know how long the government has been in the business of subsidizing particular industries. David Warner says the British imperial state was in this business. To partly answer Steve's question, Alexander Hamilton was the first to propose that the United States government subsidize industries via a protective tariff in his famous Report on Manufactures. A tariff supporting industry of course put non-protected economic activities at a disadvantage and therefore picked winners.
11.25.2008 10:22pm
LN (mail):

The private market received more than adequate signals that "investing" in questionalbe "securities" such as high-risk mortgages was a good idea; such practices were being encouraged by government essentially guaranteeing the junk being peddled. The private market simply did what government told them it was safe to do.


Let's see, was it actually safe to do so? No? Whose fault is that?

I guess if the government tells you something is a good investment, then the free market is powerless couldn't possibly not make the investment. The free market is amazing!

If you're going to insist that there was no market failure here, then you should insist that *nothing bad has happened*. People made some bad investments that didn't pan out, that's all. Life goes on. Usually free-market capitalist societies generate a lot of growth but this time they really screwed the pooch and the markets are down 50% or whatever.

Interestingly, the libertarians can't seem to go down this route. Nope, it must have been the government's fault.
11.25.2008 10:25pm
Metoo:
"People made some bad investments that didn't pan out, that's all. Life goes on."

Except in this case, the people who took the risk are not paying the price - the government is transferring the burden of the losses to the taxpayers.

And the government DID mettle in the process - interfering with the market indicators.
11.25.2008 10:34pm
Mark Rockwell (mail):

Sorry, let me try that again, Alan Greenspan has admitted that his cheap money policy contributed to the current economic problems we face.


So the problem, essentially, is that we have money?
11.25.2008 10:35pm
Chris Newman (mail):
Wait, you mean Obama's pals view a crisis as a good opportunity to implement what they view as desirable policy? Has anybody told Naomi Klein about this? She'll no doubt conclude that Obama is a closet Friedmanite.
11.25.2008 10:38pm
LN (mail):

And the government DID mettle in the process - interfering with the market indicators.


I don't understand. The free market is full of smart, knowledgeable people. You're saying the government tricked them? If the government interfered with the market indicators, why didn't the market see that? Did the government sneak into the market indicator warehouse in the middle of the night and mess with them when no one was watching?

If the government made the market indicators unreliable, then why did the market continue to rely on them? Are they stoopid?
11.25.2008 10:41pm
frankcross (mail):
Metoo, you seem unaware that subprime mortgages have no necessary connection with the CRA or government policies. The CRA loans were not generally subprime. That is what Gramlich showed. So your response failed. The subprimes were commonly private mortgages to higher income people.

It is definitely true that the easy money was bad, it created too much incentive to go into greater debt and it created the housing boom. But the easy money was unrelated to the free market's decision to buy up bad debt, which provoked the crisis. The point is that the free market adapted very badly to the easy money.
11.25.2008 10:48pm
Metoo:
"So the problem, essentially, is that we have money?"

Neither a funny nor smart comment.
11.25.2008 10:52pm
jt007:
I can't believe we are still arguing the merits of capitalism versus socialism. We haven't had anything close to unfettered captialism in this country since at least the beginning of the 20th century. The government has engaged in all sorts of economic planning (from trade protectionism, to the New Deal, to manipulation of the tax code, to rent control ordinances at a local level) and its record is abysmal. For those commenters stating that Fannie and Freddie didn't single handedly cause the "crisis", you are in command of the obvious. However, there are no single entities, public or private, that are more culpable. On October 3, 2008, the Wall Street Journal reported, "For 1996, the Department of Housing and Urban Development (HUD) gave Fannie and Freddie an explicit target — 42% of their mortgage financing had to go to borrowers with income below the median in their area. The target increased to 50% in 2000 and 52% in 2005." Peter Wallison and Charles Calomiris found that between 2005 and 2007, Fannie and Freddie "acquired so many junk mortgages that, as of August 2008, they held or had guaranteed more than $1.011 trillion in unpaid principal balance exposures on these loans." Whether or not you want to call it "economic central planning", the government pumped trillions of dollars of liquidity into the sub-prime mortgage market over the last decade. The derivatives that caused these sub-prime "toxic waste" mortgages to metastisize throughout the world economy derived their value (or lack thereof) from those sub-prime loans. The holders of those deriviatives obviously failed to accurately assess the risk associated with those investments; the five investment banks that asked the SEC to abandon capital requirements in favor of their own risk models are obviously culpable as well. However, Fannie and Freddie are at the center of this meltdown and no private actors have contributed as much to this mess as they have.

That being said, Ilya's point is well taken. Obama's chief of staff has openly admitted that he wants to use this crisis to expand the size and scope of government. As one example of many, Obama has admitted that his end goal for health care reform is the creation of a single payer system. Nationalizing health care is the text book definition of socialism and/or economic central planning. Obama has already said that, in consideration for bailing them out with tax payer's money, he wants to force auto makers to produce "green cars", etc. It is exactly that kind of intervention into the markets that conservatives find objectionable and for which there is a long history of failure.
11.25.2008 10:58pm
Metoo:
The subprimes were commonly private mortgages to higher income people.


That is simply not true. The subprime did make its way to the middle and upper middle income borrowers, but it started in the 'lower income' borrower market.

And community activist groups used the CRA to muscle lenders into lowering standards with their lower income lending programs. Lower income borrowers were given mortgages with little to no down payment. Income was not verified. The lending process became divorced from all good lending standards.

There is plenty of blame to go around, but the government has to take it share.
11.25.2008 10:59pm
Metoo:

"The subprimes were commonly private mortgages to higher income people"

From the Housing and Urban Development's (HUD) website:

..subprime borrowers are more likely to have low incomes or be members of minority groups than their primary market counterparts. Subprime borrowers in general also tend
to be less financially knowledgeable and sophisticated and less comfortable dealing with banks.

I guess YOUR response failed.
11.25.2008 11:03pm
LN (mail):

And community activist groups used the CRA to muscle lenders into lowering standards with their lower income lending programs. Lower income borrowers were given mortgages with little to no down payment. Income was not verified. The lending process became divorced from all good lending standards.


So essentially "community activist groups" "muscled" the entire financial sector into completely melting down?

Or in other words, poor people bullied helpless millionaires and billionaires into melting down the entire financial system?

A trillion-dollar company like AIG lost virtually all of its wealth overnight just because of some community activists somewhere?

Tell me more.
11.25.2008 11:04pm
Metoo:
LV: Do you choose to be so willfully ignorant?
11.25.2008 11:10pm
Metoo:
LV:

Banks are a very heavily regulated industry. And yes, they are bullied by the 'grievance industry' through the CRA and other similar legislation. If the government determines that they are not following the CRA policy they can lay heavy penalties on the lenders. The grievance industry knows this and has become very sophisticated at using this to their advantage.

I also think the investors did not understand how much lending standards had fallen. For this, they can be faulted. They should have kept informed.

But again, I say, the government played a role in the current situation.

You make light of this - and it is to your discredit.
11.25.2008 11:18pm
LN (mail):
No metoo, please enlighten me.

Which community activist groups agitated for interest-only loans, complete elimination of background checks on incomes, and other arrangements that only made sense if everyone assumed that housing prices would rise indefinitely?

Normally when the government forces an industry to sell a product at an artificially low price, you have shortages. Why was there a massive oversupply of cheap and easy credit instead?

Were community activist groups responsible for the rating of mortgage-backed securities? Did they infiltrate investment management operations around the globe, thereby further increasing the supply of cheap and easy credit?

And once the subprime rot got into the financial system, what role did community activist groups play in making sure the risk was spread everywhere, causing investments banking to disappear as an industry, for banks around the world to become nationalized by the government, and for massive institutions to become bankrupt overnight?

Enlighten me, metoo. I love learning.
11.25.2008 11:20pm
William D. Tanksley, Jr:
Stupid buyers of bad securitized mortgages and ratings agencies in the tank. And the government never encouraged them or said it was safe to do it.


I absolutely agree with the rest of your post (for example, blaming the CRA is just ridiculous); but this isn't right. The government requires lenders to keep in reserve a fraction of their capital; that reserve amount depends on the type of capital. The terrible regulatory incentive here is that a bank can lend out more against "securities" than it can against loans that it originated, even though it certainly knows more about its own loans than it does about any securities (much less securities composed of other banks' loans).

There's a terribly perverse incentive, therefore, to make more money available for loans by securitizing one's own loans, selling the result, and buying other banks' securitized loans.

The problem here wasn't caused by the free market. It was caused by regulation -- bad regulation. And it's hard to see how the most well-meaning regulators could have avoided the problem with mere foresight; they thought that banks obviously needed to diversify.

The CDOs and so on were merely obvious elaborations in order to be able to move more loans from orginator bank to securitized second owner. Blocking them would have helped, but again, they weren't the origin of the problem.

One has to watch out for explanations like yours, which point the finger of blame at "stupid" people, as though there were a sudden gust of stupid a few years ago. (I feel the same way about McCain's blaming the "greedy". Um, they were greedy before too, no changes.)
11.25.2008 11:21pm
MarkField (mail):
Frankcross is, as usual, both sensible and right. This crisis was NOT caused by government, it was caused by people who were not as smart as they thought they were acting in purely private capacities. The fact that Prof. Somin's ideology blinds him to the simple facts which led to the problem is itself a pretty damning indictment of that ideology.


The market/government or public/private dichotomies cloud the issue. The concern is not government per se, it is the power of the government at the mercy of particular private interests arrayed against the public interest.


Agreed.
11.25.2008 11:25pm
richard cabeza:
I like how people are using sarcasm to indicate that government doesn't distort the market.

After all, whose police force and courts are they going to use to enforce lending laws?
11.25.2008 11:32pm
Metoo:
I never said the CRA was the sole cause of the problem -- my original post listed many different ways that government's involvement contributed to this problem.

But your argument doesn't make sense - to argue that you can prove the CRA was not the sole cause of this crisis = it was a total failure of the market system, and not at all government's fault.
11.25.2008 11:40pm
LN (mail):
I am not arguing that the government does not distort the market, I am ridiculing the idea that community activists are a significant part of the largest global financial meltdown in over 70 years.

I wasn't aware of any lending laws that said "It is illegal to check how much money the borrower makes" and "You must offer borrowers the option of interest-only loans in which they never pay down the principal." Can you point me to those?

If the main driver of bad loans was government laws forcing lenders to make cheap loans, then all the clever millionaires on Wall Street surely could have found some ways of steering clear of real estate. Instead, loans were being made like crazy. Let me guess, the all-powerful grievance industry forced their arms. If only Wall Street billionaires had similar access to government power. Unfortunately, we live in an unequal world.

On the other hand, if you assume that there was a housing bubble and everyone thought that housing prices couldn't possibly go down, then suddenly things start to make a little more sense. I'm sure it's possible that community activists may have had some small role in the development of the housing bubble, and I'm not saying that the government's hands are clean here, but free-market capitalists were blinded by the bubble as much as anyone else. And they messed up.

At the end of the day, don't blame the financial crisis on the police.
11.25.2008 11:43pm
DaveJustDave (mail):
"Fannie and Freddie didn't create the credit default swap, for instance."

No, they created the need for some mechanism to mitigate the effect of bad lending practices on lenders balance sheets. Again, no CRA forcing banks into bad lending practices and no Fanny and Freddie expanding into subprime guarantees means no (or far fewer) bad loans that need creative packaging instruments.

We are seeing the effect of too much vote buying via central planning, not too few regulations. The fact that this is getting dumped into the lap of a Democratic administration is actually just deserts. Now lets just hope reality reigns in their worst policy ideas.
11.25.2008 11:44pm
Metoo:
I think the problem with fully acquitting the government from all blame (which it doesn't deserve), is that it prevents the desirable skepticism of big government solutions to the current crisis.

These people sitting in the halls of our government do not possess Solomon-like wisdom. Many, such as Mr. Emanuel, will seek to use crisis such as these to expand the power and influence of government to undesirable levels - aided by people to place far too much trust in the government regulation and oversight. Trust they have neither earned nor deserve.
11.25.2008 11:48pm
LN (mail):
Personally, I am not interested in acquitting the government of all blame. In fact, I'm not even especially interested in assigning *blame* rather than understanding what happened so that we can avoid it in the future. The world is a complex place and we will always have greed and short-sightedness and these aren't even always bad things.

However, there's some goalposts-shifting going on here. Here's the comment I was responding to:

John Steele

The crisis was created by government not the private market. The private market received more than adequate signals that "investing" in questionalbe "securities" such as high-risk mortgages was a good idea; such practices were being encouraged by government essentially guaranteeing the junk being peddled. The private market simply did what government told them it was safe to do.
The Democrats created the CRA, expanded the CRA, encuraged Fannie Mae/Freddie Mac to "guarantee" the loans; what was the private market supposed to think? And the Democrats are proud of what they did.


This is simply a ridiculous comment, and I don't have to endorse "the government never does anything bad" to ridicule it.
11.25.2008 11:55pm
Metoo:
there's some goalposts-shifting going on here

Projection!
11.25.2008 11:58pm
LN (mail):
No, they created the need for some mechanism to mitigate the effect of bad lending practices on lenders balance sheets. Again, no CRA forcing banks into bad lending practices and no Fanny and Freddie expanding into subprime guarantees means no (or far fewer) bad loans that need creative packaging instruments.


This is also completely ridiculous. Credit default swaps were not invented so that lenders could "mitigate the effect of bad lending practices". This is a perfect example of inventing a story so that your preferred scapegoat (community activists and the CRA) gets the blame.

Three years ago, if some liberal had come onto this board and said "Banks are making terrible loans and derivatives are blasting their risks all over the financial sector, we need to do something about it," most people here would have pooh-poohed this as revealing a typical lack of trust in the free market on both counts. Absolutely no one would have said, "You're right, this is a problem, but community activists are to blame."
11.26.2008 12:03am
richard cabeza:
most people here would have pooh-poohed this as revealing a typical lack of trust in the free market on both counts


1. You don't trust markets to do the best by you. You trust actors to act in their best interest. If you're ever going to fool people, you can't talk like you think that your supposed opposition believes in markets the same way you pretend to.

2. "We have to do something" and "there ought to be a law" are not impulses we should encourage when the alternative is greater individual freedom and economic study.
11.26.2008 12:14am
Metoo:
"I'm not even especially interested in assigning *blame* rather than understanding what happened so that we can avoid it in the future."

Then I believe you need to work to understand the more subtle factors at work in the current crisis. You should talk to people who actually made mortgage loans about the forces and pressures that influenced their work (not the owners of the companies, but the people who worked for them), and talk to Bankers to understand how government pressure works on their industry. FNMA was prohibited from doing business with lenders that practiced 'predatory lending'. Because FNMA is a big player in the mortgage market, this could seriously could impact a lender's business - and therefore placed great pressure on the lender to conform. As I stated above, the community activists knew this and used it to their advantage. In some cases the normal, prudent loan structuring was interpreted to be discriminatory against lower income people. How do you make good loans in that environment? Granted, many unscrupulous people took full advantage of this to make money - and passed the risk on to others who failed to fully appreciate the risk with these loans -- to their discredit.

This is but one of the (many) factors that led us to the place we currently find ourselves. Not the only problem, but part of the problem. And I believe that that was my point.
11.26.2008 12:21am
David Warner:
Frankcross,

"The point is that the free market adapted very badly to the easy money."

And did the alphabet write your post? Or perhaps language?

Your statement is a category error.

The responsibility lies with actors in public and private capacities. A (very defensible) argument for a more effective regulatory regime has nothing in common save for the traditional political affiliation of its expected advocates with the crony capitalism (sometimes known as industrial policy) warned of by Professor Somin.

The bad adaptation you note could just as easily be seen as a classic Tragedy of the Commons problem. Everyone thought that the government was backing their debt (often laundered through Fannie/Freddie), but of course the government couldn't back it all, so we have rationing. Add in a classic bubble (the eternally rising market expectation), and you've got trouble. The first a state failing, the second a widely noted human one. None of this is a valid excuse to (further) institute crony capitalism.
11.26.2008 12:25am
David Warner:
LN,

"Absolutely no one would have said, "You're right, this is a problem, but community activists are to blame.""

I would have underrated the severity of the problem, but I've been worried about CRA since I worked for one of those community activists in the mid-90's. It creates some very perverse incentives.
11.26.2008 12:30am
Metoo:
I have a friend who investigates airplane accidents. He always says that it is never one thing that caused the accident. Its always a succession of little things - a chain of little events - that leads to the accident. If anyone of these was stopped or prevented, the accident wouldn't have happened.

The current crisis seems that way. It had its roots in the subprime mortgage lending industry. There were many causal factors, many actors sharing the blame. But I am concerned that people will look to government to solve the problem and prevent it from happening again. But the government, I think, is incapable of this - and they don't appear to have learned their lesson. God help them, they are still trying to make sure low income borrowers have access to mortgages. Not that I'm against lower income borrowers - as long as the loans are well structured. But perhaps I'm just discriminatory.
11.26.2008 12:32am
frufru:
Distinguishing between market and government was cute one hundred years ago, today it's just bizzarre. Maybe if libertarians argued about the really existing world instead of just stringing magic words into sentences they'd achieve some small amount of depth and intellectual respectability.
11.26.2008 12:38am
LN (mail):
Absolutely no idea what you mean by "fooling people," Richard. I'm also unsure what you mean by the "we have to do something" comment -- I did not say that my hypothetical liberal commenter was correct about anything.

You trust actors to act in their best interest.

Exactly. Or as my original comment in this thread stated, in some sense nothing really bad has happened. The financial crisis is a story of a large number of actors attempting to act in their best interest and failing miserably. Life goes on.

When I brought up the hypothetical commenter from 3 years ago, my point was that people here would have assumed for the purposes of discussion that the housing and derivative markets were basically free markets. Of course they may be subject to various regulations, but it would be silly for an outsider to worry about them. Lenders know their business best, and all the parties in derivatives trades are sophisticated, etc. That's not to say that everything ends up rosy, of course, but as you say we trust actors to act in their best interest. It's hard to do better.

Flash forward to the present day, when we are in something of a crisis mode. Now the crisis is largely the fault of the CRA? Were any lenders complaining about the CRA before the crisis actually hit? How does the CRA explain why lenders relaxed standards *so much*?

This is very silly. The CRA's role in the current financial crisis is, at most, very small. When libertarians focus on the CRA as an explanation, they seem to be insisting that financial crises are virtually impossible when you have truly free markets. "Oh the only reason anything bad happened was because the government intervened."

Isn't the consistent libertarian response to acknowledge that the crisis happened as the result of market forces, but to insist that government regulation can't really fix things, and will probably make things worse? Or am I just concern trolling?

I just feel the constant references to the CRA are absurd in the greater scheme of things.
11.26.2008 12:38am
Michael Turton (mail) (www):
What quaint fun it is to read 'conservatives' -- in an age where the US government monitors virtually all internal and external telecommunications, where a no-fly list is maintained aimed largely at democracy activists and dissidents in the US, where the Administration has added a massive and intrusive new agency, Hopeless Security to go along with a massive prison-industrial complex, where it has piled up the largest debts in human history, runs a network of illegal prisons both secret and open, tortures its prisoners, demands the right to spy on Americans anywhere in the world, provides hundreds of billions in Federal funds to the financial institutions which it has taken over, where the Administration actually attempted to establish the position that the Executive is above the law etc etc etc, -- moaning about massive new expansions of government. I actually admire the individuals in these comments able to maintain an artful sarcasm; my own meager gift for invective recedes in the face of such godlike hypocrisy.

Michael
11.26.2008 1:11am
RPT (mail):
"SenatorX:

We are being led by idiots."

Since 2001.
11.26.2008 1:11am
geokstr:
LN:

"This is simply a ridiculous comment, and I don't have to endorse "the government never does anything bad" to ridicule it."

No, but how about actually doing something to rebut the
people you so easily ridicule then?

All you've done in your numerous posts is attack anyone who says the left had anything to do with this, with nothing but assertions that you don't believe it. Why don't you tell us why this is not true?

Ever heard of the Greenlining Institute? No? They're one of those itty-bitty community organizers you think had nothing to do with this. In a recent profile, they bragged of being responsible for forcing lenders to make 2.4 trillion in loans in low-income communities (by the way, that's a "t" as in trillions):
Greenlining Institute

That doesn't even include the mau-mauing, coercion and outright extortion used by ACORN and La Raza for decades to force banks to make hundreds of billions if not trillions more bad loans. This has all been heavily documented, but you can easily google that for yourself.

"Community organizing" has been a heavy hitter in forcing government policy to the left for over 40 years. It is not just a few poor people getting together to protest substandard public housing. ACORN alone consists of hundreds of interlocking affiliates and "public interest" groups with a budget estimated at over $100 million a year.

Other posters here have already tied the subprimes to the CRA and Fannie/Freddie, so I won't rehash that. But without the government forcing lenders to make subprimes, and then loosening up Fannie/Freddie's standards in 1995 to open the floodgates, there is no "crisis".

And back to the original posters concern about government expansion due to this "crisis". In fact, manufacturing crises has been a standard tactic of the left since the 1960's, and grew out of Saul Alinsky's seminal works on radical action to force governmental and societal change. Two radical academics at Columbia University actually wrote about forcing crises and then using the resulting chaos to destroy capitalism in 1966 in "The Nation", hardly a right wing rag:
Barack Obama and the Strategy of the Manufactured Crisis

This was the mother of all manufactured crises.
11.26.2008 1:27am
LN (mail):
geokstr, the PDF you link to is heavy on words like "shakedown" and light on actual evidence that the CRA contributed meaningfully to the subprime crisis. Loans being made to low-income communities, even if they amount to trillions of dollars, are not equivalent to a subprime crisis.

According to Michigan law prof Michael Barr, who testified before the House of Representatives, the majority of subprime loans were made by independent to mortgage companies not subject to comprehensive federal supervision.

According to a 2008 report by the law firm Traiger &Hinckley, CRA banks were substantially less likely than other lenders to make the kinds of risky home purchase loans that helped fuel the foreclosure crisis. They were also more likely to retain loans on their books.

Now perhaps other people can look at the evidence on CRA loans and disagree, but no such analysis is found in your paper on the Greenlining Institute. In fact, given that the article is about how community organizers are strong-arming banks into destroying themselves, the article is also remarkably light on statements from banking industry. "It's nearly impossible to get anyone in the banking industry to talk about Greenlining and whether its dealings with the group constitute a shakedown" (page 5). He calls Rabobank's headquarters but no one calls him back. We get quotes from a banking consultant and a Sacramento attorney instead. It's all so secretive and mysterious -- maybe the bankers are afraid to talk because the Greenlining people will have them killed?
11.26.2008 2:08am
LN (mail):
Oh man, I didn't even read the second half of that comment. The financial crisis was manufactured by radical socialist professors trying to destroy capitalism? Aren't there more obvious culprits, like the Illuminati?

What's the point?
11.26.2008 2:40am
JosephSlater (mail):
Wait, Sarah Palin told me that community organizers were like small town mayors, except that the organizers didn't have any responsibilities. Now they are responsible for the biggest financial meldown in eighty years?
11.26.2008 9:36am
josh:
This post is filled with pretty broad, conclusory assertions. Freddie and Fannie's role in the debacle may have had an influence, but calling it the "cause" seems a little hollow (particularly for a law prof, presumably well versed in the rules for showing causation).
11.26.2008 10:06am
frankcross (mail):
David Warner, asserting "everyone thought" is not much of an argument. And that itself expresses a free market rationality because, as you say, it would have been impossible to do so.

Metoo, it may be that CRA was a part of the problem, but it was a very small part. Subprime loans were often low income (depending on the definition), but they weren't CRA. CRA was quantitatively a very small part of the problem. Look at the numbers. How many loans overall went bad? How many of these were CRA?
11.26.2008 10:30am
Kent G. Budge (www):
Ironic, given the charges that Bush exploited the War on Terror to expand governmnent powers.

I suggest that we ain't seen nothing yet.
11.26.2008 11:12am
Connecticut Lawyer (mail):
1) If Fannie and Freddie had only supported or financed, directly or indirectly, fixed-rate mortgages to credit-worthy borrowers with 10-20% down payments, does anyone here think that we'd still be in the middle of the current financial meltdown? It was the securitization of all those crappy mortgages that infected the entire financial sector. Had those crappy mortgages never been written, there would have been no securitization and no infection.

2) I keep reading folks complaining about credit default swaps but I do not understand what is so bad about them. Which institutions have failed because of their liability on credit default swaps? Have any? My understanding is that the problem is two fold - financial institutions are overleveraged, and they are holding toxic assets that they can't sell or write down without exposing that they are in fact insolvent. Having a balance sheet filled with bad assets makes it both imperative to deleverage and hard to do so. If you were talking about regulations limiting the leverage that financial institutions can have, well, you're a little late to the party but that's a good idea. But what do credit default swaps have to do with anything?
11.26.2008 11:42am
David Welker (www):
Ilya Somin is pretty funny.


I can't think of a better time to do so than when a crisis caused by poor government allocation of resources


Wow. You basically are conforming exactly to Mark Field's point.


Just like it is with my kids -- it's always my fault, the only thing that changes is the explanation of why, exactly, it's my fault.


I think among serious commentators who find problems in with government action and inaction that led to the crisis, they are usually smart enough to not place the entire blame for the financial crisis at the government's feet.

Basically, what I am saying is that, with comments like these, you have no credibility on these matters, Mr. Somin. None whatsoever. You are not serious.

If you want to be persuasive outside of the libertarian echo chamber, I strongly suggest that you adopt a more careful and reasoned point of view.

Another thing. To the extent that the financial crisis was "caused" by government, it was caused by government inaction as much as action. I don't suppose that you would find anything resembling the truth to ideologically convenient, though. And ideological convenience is what really matters, isn't it?
11.26.2008 12:03pm
David Warner:
frankcross,

"David Warner, asserting "everyone thought" is not much of an argument."

OK, not everyone. Just the Chinese. Which is ultimately the same thing. <-- not quite the exaggeration I wish it were.

"And that itself expresses a free market rationality because, as you say, it would have been impossible to do so."

I don't understand this sentence. Could you please clarify?
11.26.2008 12:14pm
commontheme (mail):

In earlier posts (e.g. - here and here) I have emphasized the risk that the combination of economic crisis and unified Democratic control of Congress and the White House would lead to a vast expansion of government.

After the Bush admin has spent about a trillion dollars on various bailouts and squandered even more in a useless war in Iraq, I just love to see all of this fretting about expanding the government a couple of months from now.
11.26.2008 12:45pm
frankcross (mail):
The Fannie and Freddie loans were expressly not guaranteed by the government. That's in the statute. If the free market nevertheless thought they were guaranteed, that's a bad judgment made by the free market. On what basis would they believe an implicit guarantee contrary to law? Who made this implicit guarantee? Why would you believe such an implicit guarantee when you know for a fact that the government wouldn't have the resources to follow through? It's just like another company promising to pay, without any legal obligation; only the foolish in the market would accept that as sufficient.

Connecticut Lawyer, we would be in the same situation. Fannie and Freddie started supporting those loans well after the free market had done so, and did it only to make money in the free market that was running strong.
11.26.2008 12:47pm
Frank E:
so Phil Graham's midnight repealing of the Glass-Steagal act had nothing to do with this?? I think it's safe to say that after these last 8 years, republican conservatives who inherited a balanced surplus budget and a strong economy really can't say ANYTHING about growing the government. If they do, it must be purely tongue in cheek.

They have ZERO credibility. The facts are simple. Rules that had been in place were silently killed in the dark of night by the 'Nation of whiners" Phil Graham and co.

Banks then became speculative investors, acting with the knowledge that their questionable activities were FDIC insured. Basically, they had nothing to lose when by law the profits are privatized and the losses are socialized.Their daisy chain of ponzi schemes of "insuring" each other without adequate capitol and their exploitation of unregulated credit default swaps and other "clever" financial instruments allowed a few well positioned people (Hank Paulson's pals) to over leverage and then extract enormous sums of money from the system. These people knew what they were doing was wrong but since the rules had been rewritten for them to do exactly what happened. No harm, no foul legally speaking. Phil made it legal.

Go ahead and blather on about how the enormity of our government, the enormity of our debt is all somehow Obama's fault or Clinton's fault or whomever you wish to point your finger at today. Continue rewriting history to suite your myopic inability to accept your responsibility, your complicity. The evidence proves otherwise.
11.26.2008 1:06pm
George Smith:
LN, yes the mjority of the subprime loans were made by mortgage companies not subject to the CRA, but they could make those loans because Fannie and Freddie were buying them. Why not make them and unload them on what was percieved to be "the government?" Why not buy the MBS from F&F since it was percieved as backed by the government? Any attempt to question or rein in F&F was blocked by Dodd and Frank. So the problem was much bigger than just the CRA requirements on banks; it was actually a de facto CRA imposed on F&F by Congress. Banks and investors bought billions of F&F MBS, and when the borrowers-who-shouldn't-have-been saw their below market ARMs reset to market rates and walked from their no equity loans because they couldn't make the paymenmts (that their loan papers clearly indicated they would have to make in two or three years), the snowball started down hill.
11.26.2008 1:07pm
SenatorX (mail):
The Fannie and Freddie loans were expressly not guaranteed by the government. That's in the statute. If the free market nevertheless thought they were guaranteed, that's a bad judgment made by the free market

And yet almost all market participants did believe there was an implicit guarantee and reality showed us they were right to believe it. Where exactly is the bad judgment again? Does right = bad now?

I want to point out another gimmick used in these debates. Dividing bad mortgages into groups like "subprime" and ignoring Alt-A, or even Jumbo. It's very useful to for clever people to do this and bend things the way they would like. The truth is there were slews of bad mortgages and government was involved in a big way supporting an "ownership society". Bad regulation via lobbying for the regulation with a fig leaf of helping weaker members of society is the main culprit. I blame the politicians. Of course they accept no blame, who could have seen this comming?
11.26.2008 1:28pm
Dilan Esper (mail) (www):
To all of those who are blaming this whole thing on liberalism, in the form of Fannie, Freddie, and the CRA.

I normally don't cite Tom Friedman, but check out the various aspects of the crisis he describes in today's column. Tell me how any of that stuff has anything to do with the government policies you are condemning.

Look, Fannie and Freddie had their role here. (The CRA, on the other hand, had no role at all-- it's been around for 30 years and didn't cause any of these problems for 28 of them, and the main reason it has emerged as a talking point seems to be to allow the less racially progressive elements of the conservative movement to blame the scandal on blacks.) But a lot of conservatives and libertarians are trying to create a parallel universe here where corporations deciding to disregard internal controls and guidance in order to make as much short-term profit of the housing boom as possible has nothing to do with what happened, when in fact, that is the major determinant of the scandal.

In any event, Obama and the Democrats are in charge, and the good news is that they aren't going to listen to this narrative.
11.26.2008 1:49pm
LN (mail):
George Smith:

1. First off, you seem to be saying that the CRA is irrelevant; it's really Fannie and Freddie that were the issue. Glad that's settled.

2. Were the banks that purchased securities from Freddie and Fannie forced to do so? Did anyone put a gun to their heads? Did the government guarantee the securities and then fail to back their promise? No, no, and no. The companies investing in MBSs simply made a very bad miscalculation. What's the difference between "I thought Freddie and Fannie would never default" and "I thought internet stocks were guaranteed to increase in value" or "I thought housing values had nowhere to go but up"? The government role is largely a red herring. Under wiser government direction, Fannie and Freddie might have not fanned the flames of the crisis. That doesn't mean that market actors were forced to act contrary to their own interests.
11.26.2008 1:52pm
LN (mail):

And yet almost all market participants did believe there was an implicit guarantee and reality showed us they were right to believe it.


So there was a guarantee and the market participants were right to believe in it? Then I guess none of the market participants lost any money. Good for them.
11.26.2008 1:56pm
David Warner:
commontheme,

"After the Bush admin has spent about a trillion dollars on various bailouts and squandered even more in a useless war in Iraq, I just love to see all of this fretting about expanding the government a couple of months from now."

Good God, can we do no better than this?

Just because an administration with an R in front of its name acted in an entirely un-libertarian manner, with disastrous results, it does not therefore follow that an administration with a D in front of its name acting in an even more severely un-libertarian manner would be an improvement.

What exactly is supposed to be "common" about this theme?
11.26.2008 2:00pm
Allan Walstad (mail):

Just like it is with my kids -- it's always my fault, the only thing that changes is the explanation of why, exactly, it's my fault.

Thanks to David Welker for dredging up this little chestnut from last night. Yes, I've often noticed a tendency among collectivists to ascribe Mommy &Daddy-like wisdom to government, childlike foolishness to the rest of us benighted subjects. If the antics of politicians, in their private and public lives, were any guide, surely they'd conclude just the opposite.

While we're going back to last night, there's this one:

Whatever you say about Obama's economic policies (or Bush's, for that matter), they aren't buying up assets and businesses or advocating spending and stimulus as a form of central planning. Rather, they are trying to inject capital into the economy.

Maybe Dylan Esper can explain exactly how the government's dumping greenbacks on sick firms counts as "injecting capital." Capital is productive resources. Productive resources are the basis for economic output. Government has created no productive resources through these bailouts.

Then there's this:

The concern is not government per se, it is the power of the government at the mercy of particular private interests arrayed against the public interest.

The "public interest" is the array of interests of all the people in society. The problem is that the more power government wields, the more incentive people have to pursue their interests through political action rather than by being economically productive. Pols and bureaucrats are people, and they respond to incentives like everybody else. Even if they were saints, as Hayek pointed out, they could not possess and effectively utilize the knowledge that the market does. Actors in the market respond to incentives, and yes their actions are warped by warped incentives arising from government meddling i the market. Perhaps the most astounding thing about many of the posts here is the effort to blame out current economic woes on insufficient government intervention in the market, in an age when governments are heavily involved in all markets, especially financial ones, and US government at all levels directly expropriates and allocates some 40% of all economic output.

Some posters find irony in Somin's concern about an expansion of government under Obama, given what we've experienced under Bush. Ilya can speak for himself, but THIS libertarian is disgusted with Bush's wars, deficits, expansion of government meddling in the medical market, etc. That said, yes it is possible for Obama to make things much, much worse. Yes, politicians will take advantage of crises to expand government power (politicians' power), and yes I share Ilya Somin's concerns about the possibility of a radical statist turn under Obama, coming on top of Bush.
11.26.2008 2:06pm
David Warner:
For those playing the faction game, note that the CRA was created by noted liberal anti-hero William Proxmire (R) and was of a piece with a spate of illiberal Nixon-era legislation. The microlending approach such as that advocated and pursued by the Obamamom has proved to be a more effective long-term solution to the problem the CRA sought to address. Too big to fail is too big period.

Even if one conceded that the CRA was the best thing since sliced bread and that furthermore banks should be required to provide free dental care to pet ferrets, none of this has any relevance to the original post by Prof. Somin. Do any here advocate the crony capitalism evidently visualized by our President-elect?

If so, let us hear from you.
11.26.2008 2:09pm
David Welker (www):

Thanks to David Welker for dredging up this little chestnut from last night. Yes, I've often noticed a tendency among collectivists to ascribe Mommy &Daddy-like wisdom to government, childlike foolishness to the rest of us benighted subjects. If the antics of politicians, in their private and public lives, were any guide, surely they'd conclude just the opposite.


If you were more perceptive, you would realize that the "Mommy &Daddy" point you are making has absolutely nothing to do with the point I am making.

But, as usual, you prefer to attack straw men. How shocking. I guess for you, if you cannot actually address the argument, it is easier to just make irrelevant points.
11.26.2008 2:12pm
David Welker (www):

Perhaps the most astounding thing about many of the posts here is the effort to blame out current economic woes on insufficient government intervention in the market


Oh what fun. Another straw man.

So the specifics of the government action do not matter. It is only the level of involvement matters. And apparently liberals for some reason just want more.

In reality, it tends to be libertarians, not liberals, who like to who argue in these terms. You resort to more abstract points about the "size" of government, rather than the specifics of what is or is not to be done.

I am afraid why that level of abstraction is surely relevant, it is hardly the whole story.

Here is an argument you might have a hard time comprehending. The government should not be doing some things it is doing, but it should be doing some things it is not doing. Scary argument I know, because it doesn't exactly fit into the simplistic framework you have constructed.

How are you going to respond to this? Wait, I can already predict: Probably with more wacko assertions having to do with "Mommy &Daddy" rather than anything relevant.
11.26.2008 2:20pm
MarkField (mail):

Maybe Dylan Esper can explain exactly how the government's dumping greenbacks on sick firms counts as "injecting capital."


It's capital because the government is getting warrants in return.
11.26.2008 2:32pm
commontheme (mail):

Just because an administration with an R in front of its name acted in an entirely un-libertarian manner, with disastrous results, it does not therefore follow that an administration with a D in front of its name acting in an even more severely un-libertarian manner would be an improvement.

I am merely suggesting that Mr. Volokh's concerns may spring more from partisan carping rather than any real concern about drunken federal spending and government power grabs.
11.26.2008 2:35pm
commontheme (mail):
oops, should have been "Mr. Somin's concerns"
11.26.2008 2:36pm
CJColucci:
This just in: the Obama administration is being staffed by Democrats and liberals. The difference between them and libertarians is that the one thing they DON'T care about is the size of government per se. Many of them have a tendency to believe that the best solution to problem A is government program X, the best solution to problem B is government program Y, and the best solution to problem C is government program Z. In any or all of those beliefs they may be wrong, but they advocate government program X not because they want to expand government for the sake of expanding government, but because they want to solve problem A. To say that they are taking advantage of the economic crisis in order to expand government is a category error.
11.26.2008 3:00pm
David Welker (www):

free dental care to pet ferrets


I for one am definitely in favor of free dental care for pet ferrets. But here is the problem I have. Why do you exclude ferrets that are not pets? I say equal rights for all ferrets!
11.26.2008 3:04pm
Elliot123 (mail):
"Look, Fannie and Freddie had their role here. (The CRA, on the other hand, had no role at all-- it's been around for 30 years and didn't cause any of these problems for 28 of them, and the main reason it has emerged as a talking point seems to be to allow the less racially progressive elements of the conservative movement to blame the scandal on blacks.)"

I think the CRA was passed in 1977, but in 1995 the Clinton administration made a decision to demand banks show actual loans to lesser qualified persons rather than demonstrate outreach programs. If they didn't, the feds had a large array of measures they could take against a non-complying bank.

But, they gave the banks an out. They pressured Fannie Mae to buy the loans the banks didn't want to make. How does one pressure Fannie Mae? By threatening to make it explicit that the government doesn't back them. Since the market had always considered FM to be implicitly backed by the feds, and since FM had encouraged that idea, making it clear FM was not backed would increase the rate FM had to pay on its bonds, and decrease its profitability.

I think the refernces to blacks goes back to the pressures to pass the CRA in 1977. Since the Fifties, banks had been accused of "red lining," and not providing credit to the black community. For example, in the Fifties and Sixties as blacks moved across Chicago's West Side one block at a time, banks were accused of moving that red line one block at a time. CRA was a response to those charges.
11.26.2008 3:38pm
David Warner:
commontheme,

"I am merely suggesting that Mr. Volokh's concerns may spring more from partisan carping rather than any real concern about drunken federal spending and government power grabs."

And I'm merely suggesting that such suggestions arise most naturally from those more accustomed to partisan carping than to seeking common themes upon which to construct pragmatic solutions.

Looks like Obama gets this. I'm looking forward to his followers following.
11.26.2008 4:57pm
Dilan Esper (mail) (www):
Elliot:

Even if we trace this back to 1995, that's still 13 years ago. Pretty long lead time considering that the junk mortgages that are defaulting are almost all less than 5 years old (because the teaser rates expire after only a few years and that's when the foreclosures happen). And the decision not to regulate the CDS's came after 1995.

Further, my understanding is while Fannie and Freddie securitized some bad mortgages, they didn't get involved in the real junky subprimes. That was done by the private sector.

The reality of this scandal is something close to the following: there was a big housing boom, and you can only make so much money selling to people with good credit. So the market turned to people with bad credit and created devices to ensure that (1) they could get loans, (2) the loans could be securitized, and (3) the securities would get a good rating. Loans were structured so that the borrowers would be able to pay them in the first few years until the teaser rate expired, and at that point the increase of the value of the house would create some equity that could be used to refinance.

The lenders did not worry about the possibility of a downturn in housing prices and default because they were able to sell the loans before the teaser rate expired. It would be someone else's problem.

Now, to the extent that Fannie and Freddie facilitated securitization, they were an indirect contributing factor. But it's pretty obvious to anyone who isn't simply trying to blame liberals and defend laissez faire at all costs that the main factor at play was that the rising housing market created a climate where lenders and securitizers were able to do some very creative things to convert those rising home prices into immediate profits, and nobody was stopping them.
11.26.2008 4:57pm
SenatorX (mail):
Thank you Elliot123 that is what I have read as well (though you added some new interesting information). What is interesting (though not necessarily directly correlated) is that the stock market and housing boom both started in 1995/96 as well. 1996 seems to be the year housing appreciation started to accelerate higher than it's typical tracking of CPI. I think the retail sweeps program was probably involved in this as well (MM accounts been swept nightly effectively reducing reserve requirements to near zero). Or maybe other things I don't even know about. Regardless this is the area of time where the credit boom started and people didn't wake up that year and decide to be spontaneously greedy. Something happened.
11.26.2008 5:04pm
Dilan Esper (mail) (www):
SenatorX:

"Something happened" is not really very persuasive reasoning. As I noted, in an increasing housing market (and housing has been increasing in value for at least 35 years and perhaps over 60), over time, it becomes more and more difficult to make money just on the safe, creditworthy borrowers. So, the financial services industry developed ways to make money by lending to unsafe, uncreditworthy borrowers. (By the way, it isn't just in the mortgage market-- the credit card industry followed the exact same arc, first starting with the most creditworthy customers and then extending down into the subprime market.)

And it's also worth noting that you may have cause and effect mixed up here. If the mortgage industry develops products for subprime borrowers, one of the things that will do is bump up housing prices, because people who were not previously participating in the market are now buying houses. It was a big Ponzi scheme, a positive feedback loop that kept on working until it stopped.
11.26.2008 6:14pm
richard cabeza:
Connecticut Lawyer: The swaps are just derivative financial instruments. Traders know how to value those, under normal circumstances (foreseeable and likely risk).

What risk analysts don't often take into effect -- either because the effect is hard to determine or (more likely in this case) catastrophic enough that the distorting actor is supposed to be able to make up for it, which a government can only do so much of -- is laws which distorts prices in much the same way that a black hole distorts space.
11.26.2008 7:00pm
SenatorX (mail):
Dilan I have seen no indication that you can be convinced of anything at all.

The reality of this scandal is something close to the following: there was a big housing boom...

You can stop right there in error. You think change happens in a vacuum? No, there are triggers, in this case governmental triggers. Did you see the chart? You really think a threshold in a ponzi feedback loop was reached that caused a spontaneous boom? I disagree.
11.26.2008 8:05pm
Derek:
The market may be the easiest path to allocating resources, but that path is mined.

In a just world, the freemarketeers would be the first casualties on that path

as for the current conversation, the housing boom started in 2003 and is pretty much directly related to the low fed rate at the time. not to mention, investment banks are not subject to any of these regulations people are bringing up. The CRA only applies to depository banks. not Lehman Brothers, not Bear Sterns, not 80 percent of the failed subprime industry.
11.27.2008 1:40am
Dilan Esper (mail) (www):
Dilan I have seen no indication that you can be convinced of anything at all.

I can be convinced by good arguments. So far, what I've seen is a combination of (1) a desire to blame liberals and Democrats and (2) blind, robotic, free market ideology.

Look, as I said, the most damning piece of evidence to your thesis is the fact that the credit card companies, with no CRA and no GSE's, pursued the exact same subprime market during the exact same time period. This was a business decision, because you could make a ton of money in the short term by lending at higher interest rates to bigger credit risks.

Also, it could have been regulated out of existence, another point that tends to cast a big doubt on the claims of the free marketeers here.

Look, you guys dost protest too much. Obviously, you guys are quite aware that the market had a major hiccup here. And you guys realize the implications to your ideology if you lose the argument (they way you did on the Great Depression). So you guys are throwing out arguments in a state of panic. They aren't persuasive.
11.27.2008 5:03am
richard cabeza:
blind, robotic, free market ideology


It's not like people should make decisions for themselves.

Obviously, you guys are quite aware that the market had a major hiccup here. And you guys realize the implications to your ideology if you lose the argument (they way you did on the Great Depression)


Yeah, because there was no central planning involved there.
11.27.2008 7:34am
SenatorX (mail):
as for the current conversation, the housing boom started in 2003 and is pretty much directly related to the low fed rate at the time

It started in 1995. It just accelerated in 2003 into the final blow off.

Dilan there is a 3rd possibility. We are correct and you are wrong. Admit it, you haven't read anything at all about libertarian philosophy. Nothing at all. I can tell because you continually miss the mark in your accusations. You have a figment of your imagination on what it is and you attack that. Libertarianism is a philosophy on the relationship of individual and state with the purpose of determining a relationship that maximizes individual choice(freedom). That free people making choices for themselves is desirable. Markets are the economic component that is best suited to this, as opposed to central control. The blind ideology is just you, projecting. There is a difference between libertarianism and anarchy you know? When you understand that difference you will have lost one of your strawman.
11.27.2008 10:44am
David Warner:
Dilan,

"And you guys realize the implications to your ideology if you lose the argument (they way you did on the Great Depression)"

Why do those implications not concern you? Do you consider the 1932-1939 period a Golden Age for our country?

Ideas are the servant, not the master.
11.27.2008 12:27pm
A. Zarkov (mail):
Indeed we are going through a massive market failure; the kind that makes people want to abandon capitalism for something that will provide them with more security. If we had a panel of real economic geniuses available, I might trust them to manage the economy, at least for awhile. But Obama crowd? Specifically Lawrence Summers, Timothy Geithner, Christina Romer, and Robert Rubin. Do we really want a bunch of Wall Street gamblers, and academics running the US economy supervised by an ex-Chicago pol who never so much as run a candy store in his entire life?

I can go through each of his advisers one-by-one and tell the readers here why there are unsuitable even for their appointed positions, let alone running the economy. But that would take much too long. But to really do so you must go back to fundamentals and understand why current economic and finance theory is flawed. For the intellectually curious read An Engine not a Camera. Read the 1920 papers by Frank Knight. Read Hyman Minsky. Understand why the physics approach to economics is wrong, and try to understand the ergodic hypothesis. If you don't have the time or inclination for all this, at least read this interview with Bill Janeway. This interview does not require much in the way of specialized knowledge*, and provides the best short treatment on this subject I've seen. The book A World of Chance, might be good, but I haven't read it yet.

Unfortunately Obama lacks the intellectual depth to realize the errors he's making in picking this crew and setting them loose on the American economy. I'm sure they're all highly intelligent people, but that's not enough. Ironically it really is time for a change (in economic theory) and Obama doesn't realize that either.

*There are a few technical errors, but they are inconsequental, and if I go into them, some readers might get the idea that the interview is hyper technical. Don't worry, it's not.
11.27.2008 2:58pm
Dilan Esper (mail) (www):
Dilan there is a 3rd possibility. We are correct and you are wrong. Admit it, you haven't read anything at all about libertarian philosophy. Nothing at all. I can tell because you continually miss the mark in your accusations. You have a figment of your imagination on what it is and you attack that. Libertarianism is a philosophy on the relationship of individual and state with the purpose of determining a relationship that maximizes individual choice(freedom). That free people making choices for themselves is desirable. Markets are the economic component that is best suited to this, as opposed to central control.

Senator, (1) I've read my share of libertarianism (I've even cited some of it in my scholarship), (2) if you simply repeat general ideological precepts without regard to real world evidence, you aren't going to persuade anyone but the people who want to believe in free markets uber alles.
11.28.2008 3:17am
Dilan Esper (mail) (www):
Unfortunately Obama lacks the intellectual depth to realize the errors he's making in picking this crew and setting them loose on the American economy.

I love how cranks on the Internet think that people who go to Columbia and Harvard Law, teach constitutional law at a top tier law school, and run brilliant, 2 year campaigns for the presidency lack intellectual depth.
11.28.2008 3:21am
A. Zarkov (mail):
"I love how cranks on the Internet think that people who go to Columbia and Harvard Law, teach constitutional ..."

It's easy to become blinded by credentials. If you read more carefully you will see that I said he lacks intellectual depth in the sense that he doesn't know enough to pick the right economic advisers-- with the exception of Paul Volker. But unfortunately he doesn't listen to him. Volker recommended against a stimulus package, but he ignored him in favor of Christina Romer. I think Volker really functions as window dressing, but time will tell. Obama could lack intellectual depth in other areas as well.

Obama did teach at CLS, but it's obvious he was chosen on a political/racial basis. He has a zero publication record. How many teach at CLS with no credentials? None. As for his campaign, David Axelrod ran that. You want to qualify Obama because he attended Columbia and HLS more than 20 years ago-- that's a pretty thin basis to be president.

If you want to make a serious comment instead of simply engaging in name calling ("crank"), then tell us why you think (say) Geithner is a good choice for Treasury in light of the way he handled AIG, Lehman, and Bear Stearns while at the New York Fed. Perhaps you think he did a good job there, if so tell us why. I'll tell you why he didn't.
11.28.2008 7:28am
einhverfr (mail) (www):
First, crises are always dangerous regardless of who is in power. The USAPATRIOT act, for example, didn't come out of a government run by the Democratic party, nor did Democratic control of Congress change the dialog much regarding the Iraq War. In times of crisis, people want to unite behind the leader and the leader wants to use the crisis to attain his agenda. So while I share the concerns about Obama's likely response, I don't think we would be in a fundamentally better position if McCain was elected (even with a split government).

Secondly, market-based systems tend to be nice and efficient in most ways, but tend to be lousy at doing other things, particularly where large infrastructure projects are required. Central planning isn't always bad-- compare Malaysia and Indonesia for example. The former is more dictatorial, provides more central planning, and yet manages to have a stronger economy *and* better human rights record than the latter.

So I think that funding industries is fine provided that one is primarily funding:

1) Infrastructure development (roads, power lines, data networks, and the like)
2) Research and development

I don't think that ongoing operations should be subsidizes unless the infrastructure is owned by the government and then it should be limited to infrastructure maintenance (interstate highways for example). I would like to see all farm subsidies end, however, because I think they damage international trade and cause poverty and hunger in the third world.

I also think one can pick winners and losers through appropriate policies such as selective taxation (for example, tax credits for hybrid vehicles).

And of course, common goods need appropriate regulation, and this holds true as much for the free market (antitrust law, banking law, insurance law, etc) as it does for our roadways.
11.28.2008 11:15am
einhverfr (mail) (www):

On the other hand, if you assume that there was a housing bubble and everyone thought that housing prices couldn't possibly go down, then suddenly things start to make a little more sense. I'm sure it's possible that community activists may have had some small role in the development of the housing bubble, and I'm not saying that the government's hands are clean here, but free-market capitalists were blinded by the bubble as much as anyone else. And they messed up.


Actually, I think it was the government policies which caused the problem but not by funding industries. My understanding was that the crisis began purely as a shortage of underwriting capacity when some foreign banks, on seeing the dollar continue to weaken, pulled out of the market. As a result, housing sales slowed, all slack was taken out of the system, and the effect has been rippling through the economy.

Nobody wants to say so, but the problem is the weak dollar combined with growth in China and India and with trends in global financial trading. This also means the Iraq war has been a strong contributing factor.

Commodity prices are all high-- the ratio of the price of a barrel of oil to an ounce of gold has not changed much in the last 8 years though. Furthermore the dollar has been doing particularly bad. Who would have thought there would have been a brief time when the Canadian dollar would be worth more than the US dollar? Now, if you are a bank in, say, China or Japan, would you want to be investing in dollars or Euros?
11.28.2008 11:25am
David Warner:
einhverfr,

"I also think one can pick winners and losers through appropriate policies such as selective taxation (for example, tax credits for hybrid vehicles).

And of course, common goods need appropriate regulation, and this holds true as much for the free market (antitrust law, banking law, insurance law, etc) as it does for our roadways."

There is great utility for libertarians especially, but also in general, in noting a clear demarcation between these two categories. "Less government" misses the distinction.

The first (selective taxation, subsidies, etc...), the topic of the original post, is much more problematic than you portray here for a host of reasons explicated ably in any basic libertarian text. Funding of basic research, especially if dispersed via "justice is blind" means such as prizes, is free from many of these problems and is thus an easier sell. Funding of the applications of that research should be out of the hands of the Lenny state.

The second (appropriate regulation), the much more legitimate umpire role of government, is one libertarians would do well to re-examine with an eye toward articulating a more affirmative vision within the libertarian framework. To the extent that vision exists, "less government" does it little service.
11.28.2008 11:53am
SenatorX (mail):
einhverfr, good post at 11:15 but I agree with David's demarcation.

The only thing I would like to add is that currently it is favorable to promote big government infrastructure stimulus as a way out of our crisis. So far it looks to me like we are going to go the exact route of Japan in the 90's. Zombie banks and massive infrastructure spending. I wonder if our results will be any different.
11.28.2008 1:27pm
einhverfr (mail) (www):
David Warner--

To me the questions are how rather than whether. Yes, we should do what we can to shape our economy so that it provides a better quality of living for all of us. However, certain tools are appropriate while others are not. I don't trust anyone in office to do it right ;-)

Let me give you an example of a well-run government project however. My county owns a very high capacity data network which is used in conjunction with publically owned hydroelectric dams to generate electricity. The data network is used at a tiny portion of its capacity, so they run the lines to peoples' houses to offer high-speed internet access.

However, the county is forbidden by law from offering high-speed internet access. So what they do instead is they run the lines to peoples house, and maintain the lines, then they rent them to the resident's choice of service providers. The infrastructure is public, but the services them selves are offered in the private sector. This is the direction I would like to see the government take (aimed at the erosion of natural monopolies and maintenance of the free market).
11.28.2008 7:16pm
Dilan Esper (mail) (www):
If you want to make a serious comment instead of simply engaging in name calling ("crank"), then tell us why you think (say) Geithner is a good choice for Treasury in light of the way he handled AIG, Lehman, and Bear Stearns while at the New York Fed. Perhaps you think he did a good job there, if so tell us why. I'll tell you why he didn't.

Zarkov, I don't purport to know if Geithner is a good appointment or not.

I do know, however, that by any standard, President-elect Obama has far more intellectual depth than anonymous glibertarian commenters on the Internet. His credentials reflect this (because you have to be brilliant to achieve what he has achieved) but it isn't just his credentials-- you can get it listening to him, or listening to the many people who have known him (including many smart conservatives and libertarians, I might add).

And your unsupportable statement that Obama was unqualified and got where he got through affirmative action is, frankly, racist.
11.28.2008 8:49pm
A. Zarkov (mail):
Dilan Esper:

"I don't purport to know if Geithner is a good appointment or not."

Thus all you have to offer is insults. Do you think this contributes to the discussion?
11.29.2008 1:21am
David Warner:
Zark,

"Thus all you have to offer is insults. Do you think this contributes to the discussion?"

No, you've already got that part covered. I think Dilan has been inordinately brave in offering a well-reasoned and uncommonly fair minority report on this post. If anything, he's less obstinate than many of his interlocutors these days. Faint praise intentional, damnation not so much.

Did enjoy the article you linked, however, even if Janeway was a bit on the smug side. The market modelers he decries remind me of the AGW modelers, except with an inverse risk bias. Both might do well to heed Vico's observation that man can understand mathematics so well because he created/creates it. Not so nature. Hence the unexpected difficulty in matching one to the other.
11.29.2008 11:19am
A. Zarkov (mail):
David Warner:

"The market modelers he decries remind me of the AGW modelers, except with an inverse risk bias."

The problem with economic modeling actually goes deeper that the problems with AGW. As Janeway points out, it's in the physics approach to economics that we get the fatal flaw. Mainstream economists are not comfortable with the behavioral approach as taken by (say) Shiller at Yale. They want the subject to look more like a hard science than a branch of sociology because the former has more cachet in academia. They even created their own prize and bribed the Swedish Academy to make it look like a real Nobel Prize which it certainly isn't. Then they prance around calling themselves "Nobel laureates" and give advice to politicians.

Janeway does make some unclear statements about ergodic random processes and stationary random processes. Ergodic is the most restrictive and if something is ergodic it's necessarily stationary. Its' role in the positive economics we got from Samuelson and Friedman is crucial and I was glad to see Janeway point that out. That's why I recommend reading Frank Knight, particularly his book Risk, Uncertainty and Profit, which is available on the web for free.

As for Esper, he doesn't seem to want to take the time to inform himself enough make productive comments. But that's his loss, not mine.
11.29.2008 2:07pm