Washington at the heart of crisis

18/06/2009 - 00:00


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Politicians should look a bit closer to home when apportioning blame for the GFC.

THE United States' most outstanding economist and social and political commentator, Thomas Sowell, of the Stanford University-based Hoover Institution, has released a new book focusing upon the origins of the global financial crisis (GFC).

Unlike others who have looked for culprits in every nook and cranny, except where they actually are, Dr Sowell sheets responsibility home to where blame really belongs - the American Congress and several occupants of the White House.

In other words, the GFC was initiated by self-serving American politicians who are so shifty that they've now collectively deflected the blame on to others rather than copping it sweet themselves.

No, the GFC wasn't caused by the gnomes on Wall Street, or nearby investment bankers or anyone else like that - it was almost entirely due to politicians who set out to feel good and to be re-elected, at any price.

Although State Scene hasn't yet received Dr Sowell's tell-it-all-as-it-was study, The Housing Boom and Bust, I have a recent column he wrote outlining its thrust plus a review by Walter E. Williams, George Mason University economics professor.

Here's a sneak preview.

Professor Williams says: "The book is an eye-opener for anyone interested in the truth about the collapse of the housing market, which played a major role in our financial-market crisis.

"The root of the problem lies in Washington.

"The Community Reinvestment Act of 1977, later given teeth during the Clinton and George W Bush administrations, forced financial institutions to make risky mortgage loans they otherwise would not have made."

Dr Sowell's column begins thus: "In the spirit of bipartisanship, my newest book - The Housing Boom and Bust - shows how both Democrats and Republicans ruined the housing markets and the financial markets."

Like so many previous financial disasters (and there are so many of them) the GFC "grew out of policies based on good intentions and mushy thinking".

Home ownership, Dr Sowell said, certainly has benefits.

But what's forgotten is that, like everything else, it also carries costs and rarely appreciated risks.

Home ownership by the 1990s had moved from being a "political holy grail of government housing policies" to a "political crusade", especially for lower income earners and selected minorities.

Promoting that crusade meant politicians felt good and reassured that they'd be re-elected.

The next, hardly noticed move came when the banking sector came under pressure from those politicians to ensure the home ownership crusade brought tangible outcomes.

"Because banks are regulated by various agencies of the federal government, it was easy to pressure them to lend to people that they would not otherwise lend to - namely, people with lower incomes, poorer credit ratings and little or no money for a conventional down payment of 20 percent of the price of a house." Dr Sowell says.

Professor Williams even goes so far as to suggest Bill Clinton's attorney-general, Janet Reno, threatened legal action against lenders whose racial statistics raised her suspicions.

"Bank loan qualification standards, in general, came under criticism as being too stringent on down payments, credit histories and income," he writes.

"Fannie Mae and Freddie Mac, two government-sponsored enterprises, by lowering their standards for the kinds of mortgage paper they would purchase from banks and other mortgage lenders, gave financial institutions further incentive to make risky loans.

"In 2002, the Bush administration urged Congress to enact the American Dream Down Payment Assistance Act, which subsidised down payments of homebuyers whose income was below a certain level."

Moreover, President Bush, forever claiming to be a compassionate conservative, urged Congress to enact laws requiring the Federal Housing Administration to adopt zero-down-payment loans at low interest rates to low-income Americans.

"While Democrats spearheaded this crusade, Republicans joined in as well," Dr Sowell says.

"The George W Bush administration, for example, urged Congress to pass the American Dream Downpayment Initiative, which subsidised the down payments of prospective home buyers whose incomes were below a certain level."

Now, for some statistics.

Between 2005 and 2007, Fannie Mae and Freddie Mac accumulated a whopping $1 trillion worth of sub-prime loans and guaranteed another $2 trillion worth of mortgages.

Together that was larger than the gross domestic product of all but four nations.

A GFC was thus set to happen.

One must wonder, then, why Australia's Treasury, Productivity Commission and Reserve Bank failed to realise this? Why was Canberra caught off-guard?

Each of these taxpayer-funded agencies is staffed by regiments of well-paid bureaucrats.

Are we, the taxpayers, getting our money's worth from them?

And none of them can excuse themselves by saying no-one knew.

Professor Williams says: "In congressional hearings, Treasury Secretary John W Snow said, regarding the risks assumed by Fannie Mae and Freddie Mac, 'The concern is, if something unravels, it could cause systemic risk to the whole financial system'.

"Peter J Wallison, American Enterprise Institute scholar, warned that if Congress did not rein in Fannie Mae and Freddie Mac, 'there will be a massive default with huge losses to the taxpayers and systemic effects on the economy'."

It seems Australia's well-paid bureaucrats preferred to take notice of America's politicians, if, indeed, they bothered taking notice of anyone.

Democratic House of Representatives congressman, Barney Frank, of Massachusetts, and now House Committee on Financial Services chairman, claimed critics "exaggerate a threat of safety" and "conjure up the possibility of serious financial losses to the Treasury, which I do not see."

Democrat Senator Christopher Dodd of Connecticut and chairman of the Senate Banking Committee, called Fannie Mae and Freddie Mac "one of the great success stories of all time" and urged "caution" in restricting their activities, out of fear of "doing great damage to what has been one of the great engines of economic success in the last 30 or 40 years."

On another occasion Senator Dodd had resorted to the old "if it ain't broke ..." adage, refusing to heed warnings that Fannie Mae and Freddie Mac could not only soon break, but when that happened there would be a chain reaction across the entire financial sector.

But that's not all, because since last year's crash politicians have gone out looking for culprits and launched scathing attacks upon bankers and others in the financial sector, blaming them for the crisis that politicians had in fact initiated.

Talk about having two bob each way and coming out trumps both times, when they're the ones who qualify for the tar and feathers.

Once the GFC struck, US politicians promptly convened televised congressional hearings and began verbally accosting witnesses, demanding others explain why they did what they did.

Very few before Dr Sowell's latest book - his 43rd - had the courage and intellectual wherewithal to finger the real culprits by saying America's banking sector was so poorly regulated.

Put otherwise, politicians had and still have far too much power over what's done with money that hard working Americans saved by depositing in banks.

Clearly, if politicians butted right out of overseeing how people's savings were lent-out, another GFC would be less likely.


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