The Good Old Days

The following was sent to the Raleigh News & Observer:

Paul Krugman is pining for the old days when the banking industry was boring. His analysis is flawed, however, because the New Deal Era regulations were changed, not because of some conspiracy, but because they were dysfunctional in the face of 1970s inflation.

One aspect of the regulations limited what banks could pay out as interest on deposits. In an era when prices are rising 10% a year, a bank paying out 3% can't compete with other investments. It was the Carter Administration (yes, the Carter Administration) that first acted to undo the vaunted New Deal regulations allowing more competition among financial institutions.

The current regulatory environment may not be optimal, but going back to a highly regulated system isn't the panacea that we are being sold.

Whatever

• I'm confused. How do I determine whether or not this type of relationship is good or bad?
• At least something good is coming from this economic downturn
• So, Barney isn't satisfied with enabling one boom, he'd like to start another
• Shovel ready
• For performance problems

Failed Ideology

Sent to the Raleigh News & Observer

In advocating Obama's stimulus package, Paul Krugman takes another swing at Milton Friedman by comparing Friedman's monetary theory to the fiscal policy theory of John Maynard Keynes (i.e., large-scale deficit spending by government). Krugman says that “[t]he failure of monetary policy in the current crisis shows that Keynes had it right the first time.” This does not logically follow, however, because the failure of one theory cannot prove the validity of another. Maybe both theories are wrong.

The evidence showing that the large-scale government spending of the 1930s did not get us out of the Depression should show that Keynes' theory was flawed. Claiming, as Krugman has done in the past, that it was the massive spending during World War II that ended the Depression is a flawed notion as well because a command-and-control economy of rationing, price controls, and military production is not economic prosperity. In fact, it wasn't until the dramatic drop in spending after war that the economy got back to normal.

Krugman has claimed that it was a failed ideology that got us into the current situation. I’m afraid that Krugman’s ideology may make matters even worse.

No Herbert Hoovers

Paul Krugman, in his quest to justify increased government spending, claims that “the nation will be reeling from the actions of 50 Herbert Hoovers — state governors who are slashing spending in a time of recession, often at the expense both of their most vulnerable constituents and of the nation’s economic future.” This statement, however, is deceptive because every year of the Hoover administration saw an increase in federal spending.

One program, in particular, that the Hoover administration created was the Reconstruction Finance Corporation. The RFC gave billions of dollars in aid to state and local governments, banks, railroads, farms, and other businesses. It also provided funds for public works projects.

Now, it is true that Hoover attempted to balance the budget, but he did so by raising taxes. Claiming that he “slashed spending” is deceptive, and coming from Paul Krugman, it is most likely purposefully deceptive.

HT: Steve Horwitz

Whatever

• Unnecessary Greatest Hist albums
• With apologies to Led Zeppelin, "though the names may change sometimes, money always reaches the power"
• Oh geez...
  
• Rock or Vote
• Why we should let housing prices keep falling
• "Socialism is good for thee but not for me"
  

Whatever

• So, why should I believe him now?
• Radley Balko has some good incites into the recent McCain/Obama debate
• The Dark Knight/Toy Story 2 Mashup
• Earth from above
• Markets in everything
• Old school Star Wars
• Credit crunch? What credit crunch? Maybe it is only the big, "well-connected" banks that need help. The sky is not falling.
  

Meltdown - Causes (cont.)

• Jeff Jacoby exposes Barney Frank's role in the bubble
• Here is an article from the New York Times in 1999 showing Fannie Mae "easing the credit requirements on loans that it will purchase from banks and other lenders"
• Of course, politicians bragged about the increase in home ownership when it benefited them. And why did Fannie Mae ease credit requirements? "The top priority may be to ask more of Fannie Mae and Freddie Mac. The two companies are now required to devote 42% of their portfolios to loans for low- and moderate-income borrowers; HUD, which has the authority to set the targets, is poised to propose an increase this summer."
• Many of those sub-prime mortgages went to minorities just like politicians wanted, but in 2001, politicians wanted it both ways - pressure the banks to make loans and sue the banks for pushing those loans
  
• In 1997, Wachovia (then First Union) bragged about their involvement with the Community Reinvestment Act
• More blame for Fannie and Freddie
  

However, political pressure can only go so far. If the means are not available, there is only so much credit that can be loaned out. That is where the Federal Reserve comes in via its loose monetary policy. Financial institutions were able to come up with creative ways to provide loans to high risk borrowers because credit was easily available (especially after the the 2000-2001 recession and 9/11).

Many people want to blame an era of laissez-faire capitalism for this mess because corporations were involved. It is not, however, "laissez-faire" when governments use corporations to enact egalitarian goals. That is probably best described as Corporate Socialism.

Meltdown - Regulations (cont.)

Over the past few weeks I've heard and read the familiar refrain that our current financial meltdown is due to the wave of deregulation that began under the Reagan Administration. We are led to believe that Reagan swept in a laissez-faire philosophy that has created an unsustainable economy.

So I decided to look up some of the key pieces of legislation that were responsible for this wave of deregulation. What I found was interesting considering how the Left and the Right want to portray the history of the past 30 years.

• Airline Deregulation Act of 1978
• The Motor Carrier Act of 1980 to deregulate the trucking industry. When Carter signed the bill he said, "I have today signed into law S. 2245, the Motor Carrier Act of 1980. This is historic legislation. It will remove 45 years of excessive and inflationary Government restrictions and redtape. It will have a powerful anti-inflationary effect, reducing consumer costs by as much as $8 billion each year. And by ending wasteful practices, it will conserve annually hundreds of millions of gallons of precious fuel. All the citizens of our Nation will benefit from this legislation."
• The Staggers Rail Act of 1980 to deregulate the rail industry
• Depository Institutions Deregulation and Monetary Control Act of 1980 - this was the first law to undo various aspects of Glass-Steagall Act of 1933 (the favorite of many progressives)
• Garn-St. Germain Depository Institutions Act of 1982 - this one was a Reagan initiative but it had broad Congressional support (including Democrat Charles Schumer). It was the next step in undoing Glass-Steagall.
  

Now, I don't want to get into the economic effects of these laws, either good or bad. Each particular case most likely involves subtleties that make them less than perfect free-market solutions. The point here is to show that blaming deregulation on a free-market ideology forced on the country by Reagan is just silly. Or you could just call Jimmy Carter a laissez-faire ideologue.

Don't get me wrong, I am not saying that all this is Jimmy Carter's fault. Nor am I saying anything about the Reagan Administration. All I want to show here is that the history of the past 30 years is not as simplistic as many "progressives" want us to believe.

Meltdown - Causes

Over the past several days I've read many theories on the causes of the current financial meltdown. Ranging from greed to too little regulation to too much regulation, everyone seems to have THE reason why we are in this mess.

This brings up something that I've learned over the years from the Austrian School of Economics and Ludwig von Mises in particular - and that is that history is complex. You can explain almost any theory by picking data points from history. To truly understand history, however, you must have a correct theory*. Now, I happen to agree with the Austrian view of economics, but that's not the point. The point is that anyone claiming to explain economic problems must have a logically consistent theory. Pointing to some past event and saying "Aha!" is not a valid argument. Why that past event had the consequences it did can only be explained by good theory.

I could be wrong, but I personally believe that the Austrian Theory of the Business Cycle best explains the situation we are in now. Most other arguments I am hearing tend to lack some underlying mechanism that fuels the boom which leads to the bust. The Austrian Theory gives us that fuel in the guise of monetary expansion. Unless something is done about that underlying mechanism, we will continue to suffer from economic crises.

Anyway, here are some good articles about the current mess that aren't necessarily Austrian:

• Russ Roberts takes a look at tax policy changes in the 1990s. Be sure to check out other recent articles by Russ at CafeHayek - he is sorting out his thoughts on this matter.
• What role did Fannie and Freddie play? And did Bush try to regulate the FMs only to be thwarted by Congressional Democrats?
  
• Arnold Kling sees causes in both private markets and government regulators. BTW, EconLog is another good blog to keep an eye on.
• Sheldon Richman looks at greed and "lack of regulation" arguments
• Carpe Diem looks at the difference between Canadian and U.S. regulations during a previous economic meltdown
  

* See Ludwig von Mises' Theory and History

Meltdown - Regulations

Many writers have blamed the current financial crisis on too little regulation of the market. In particular, they have blamed the 1999 repeal of the Glass-Steagall Act that was enacted in 1933 in the midst of another financial meltdown. That Act created, among other things, a wall between investment and commercial banking. It is claimed that the Act's repeal allowed for the creation of “mega-banks” which, we are led to believe, precipitated the current crisis.

However, what we have seen thus far is the failure of two government-sponsored mortgage institutions (Fannie Mae and Freddie Mac), an insurance company (AIG), and two investment houses (Bear Stearns and Lehman Bros.) - none of which would have fallen under the Glass-Steagall regulations. In fact, those companies that have both investment and commercial banking operations are so far weathering the current storm.

Megan McArdle has some thoughts on Glass-Steagall as well.

Tyler Cowen also examines the idea that there was too little regulation. In fact, he says, the regulation was just ineffective.

[F]inancial regulation has produced a lot of laws and a lot of spending but poor priorities and little success in using the most important laws to head off a disaster. The pattern is reminiscent of how legislators often seem more interested in building new highways — which are highly visible projects — than in maintaining old ones.

He also sends a warning about rushing into creating new regulations:

[I]f you hear a call for more regulation, without a clear explanation of why regulation failed in the past, beware. The odds are that we’ll get additional regulation but with even less accountability and even less focus on solving our very real economic problems.