Stanford University’s John B. Taylor reviewed Gretchen Morgenson and Joshua Rosner’s newest book, Reckless Endangerment: How Outsized Ambition, Greed, and Corruption Led to Economic Armageddon.
He finds that the Ms. Morgenson and Mr. Rosner placed the blame mostly on a complex crony based system between the financial industry and US Federal Reserve.
Mr. Taylor writes, (hat tip David Boaz) [bold emphasis mine]
The book focuses on two agencies of government, Fannie Mae and the Federal Reserve. The mutual support system is better explained and documented in the case of Fannie, the government-sponsored enterprise that supported the home mortgage market by buying mortgages and packaging them into marketable securities which it then guaranteed and sold to investors. The federal government supported Fannie Mae — and the other large government-sponsored enterprise, Freddie Mac — by implicitly backing up those guarantees and by providing favorable regulatory treatment and protection from competition. These benefits enabled Fannie to rake in excess profits — $2 billion in excess, according to a 1995 study by the Congressional Budget Office.
Fannie Mae was established as a government agency but became a private, shareholder owned company with a charter from Congress requiring the company to support the housing finance system. During the culmination of the crisis in 2008 Fannie Mae along with another Government Sponsored Enterprise (GSE) Freddie Mac was nationalized.
The point is that politically motivated enterprises operate distinctly from the incentives of free market forces. Such entities are wards of the state.
Yet none of this is new to followers of the Austrian school.
Murray N. Rothbard narrated on a parallel unholy relationship between the US Federal Reserve and the commercial banks [bold emphasis mine]
It should now be crystal clear what the attitude of commercial banks is and almost always will be toward the Central Bank in their country. The Central Bank is their support, their staff and shield against the winds of competition and of people trying to obtain money which they believe to be their own property waiting in the banks' vaults. The Central Bank crucially bolsters the confidence of the gulled public in the banks and deters runs upon them. The Central Bank is the banks' lender of last resort, and the cartelizer that enables all the banks to expand together so that one set of banks doesn't lose reserves to another and is forced to contract sharply or go under. The Central Bank is almost critically necessary to the prosperity of the commercial banks, to their professional career as manufacturers of new money through issuing illusory warehouse receipts to standard cash.
So whether it is the politically backed GSEs or the commercial banks, the US Federal Reserve implicitly treats them as natural political constituents.
Mr. Taylor adds,
The book then gives examples where Fannie’s executives — Jim Johnson, CEO from 1991 to 1998, is singled out more than anyone else — used the excess profits to support government officials in a variety of ways with plenty left over for large bonuses: They got jobs for friends and relatives of elected officials, including Rep. Barney Frank, who is tagged as “a perpetual protector of Fannie,” and they set up partnership offices around the country which provided more jobs. They financed publications in which writers argued that Fannie’s role in promoting homeownership justified federal support. They commissioned work by famous economists, such as Nobel Prize-winner Joseph Stiglitz, which argued that Fannie was not a serious risk to the taxpayer, countering “critics who argued that both Fannie and Freddie posed significant risks to the taxpayer.” They made campaign contributions and charitable donations to co-opt groups like the community action organization ACORN, which “had been agitating for tighter regulations on Fannie Mae.” They persuaded executive branch officials — such as then Deputy Treasury Secretary Larry Summers — to ask their staffs to rewrite reports critical of Fannie. In the meantime, Countrywide, the mortgage firm led by Angelo Mozilo, partnered with Fannie in originating many of the mortgages Fannie packaged (26 percent in 2004) and gave “sweetheart” loans to politicians with power to affect Fannie, such as Sen. Chris Dodd of Connecticut. The authors write that “Countrywide and Fannie Mae were inextricably bound.”
The above only shows that political distribution, whether it is in the Philippines or in the US, are apportioned not by merits but by political affiliations. And on the same plane, the gaming of the system by vested interest groups.
Again from Mr. Taylor,
The Fed takes a beating throughout the book. Early on the authors take on the Boston Fed, and in particular its research director Alicia Munnell, for using a study documenting racial discrimination in mortgage lending to justify the relaxation of credit standards, even though the study’s findings were found to be flawed by other researchers. And they criticize the very low interest rate set by the Fed when Alan Greenspan was chairman and Ben Bernanke was a Fed governor, saying it “contributed mightily to the mortgage lending craze,” adding that “with the Fed on a rate-cutting rampage, demand for adjustable-rate mortgages with relatively low initial interest costs had become incendiary.”
Well aside from low interest rates and the administrative policies to boost homeownership, there had been many other factors that has likewise contributed to the bubble, such as tax policies which encouraged exposure on debt rather than equity, agency problems and moral hazard (implicit backing from the Fed or the Greenspan Put), regulatory arbitrage which resulted to the creation of the (off balance sheet) shadow banking system, regulatory capture which played a substantial part of the crony relationships, the conflict of interest on credit rating agencies which had skewed incentives in favor debt issuers (investment banks) and many more.
Inflationism compounded by various forms of interventions represents as the anatomy of a bubble.
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