Sunday, September 28, 2008

The Question We Have To Ask

Of course the reports are that Congress has a "bailout" deal. I'm not sure I'm going to like the deal. I'm also not sure I will even be able to get information about what the specifics of the legislation will look like.

In the meantime, I would like to take a look at something Senator Obama said in the debate last Friday. The exerpt here begins with a question from Mr. Lehrer:
But, I mean, are you -- do you favor this plan, Senator Obama, and you, Senator McCain? Do you -- are you in favor of this plan?

OBAMA: We haven't seen the language yet. And I do think that there's constructive work being done out there. So, for the viewers who are watching, I am optimistic about the capacity of us to come together with a plan.

The question, I think, that we have to ask ourselves is, how did we get into this situation in the first place?

Two years ago, I warned that, because of the subprime lending mess, because of the lax regulation, that we were potentially going to have a problem and tried to stop some of the abuses in mortgages that were taking place at the time.

Last year, I wrote to the secretary of the Treasury to make sure that he understood the magnitude of this problem and to call on him to bring all the stakeholders together to try to deal with it.

So -- so the question, I think, that we've got to ask ourselves is, yes, we've got to solve this problem short term. And we are going to have to intervene; there's no doubt about that.

But we're also going to have to look at, how is it that we shredded so many regulations? We did not set up a 21st-century regulatory framework to deal with these problems. And that in part has to do with an economic philosophy that says that regulation is always bad.
I agree with Senator Obama that before we get to carried away writing legislation we really should ask ourselves how we got into the present situation. However, it seems to me the Senator doesn't really offer a direct answer to his own question. But, maybe it seems that way to me because what he may have offered as his answer seems either lame or incorrect to me.

Perhaps his answer to this important question is this: Well, Jim, the explanation for how we got into this situation is that a couple of years ago I sent out a warning, and then last year I sent out a letter of warning, and my warnings were ignored. That is how we got into this situation.

He may have sent out warnings, but if his answer is really I said trouble was coming but no one listened, then I wonder what he thought his job was in the Senate. As we can see from the past few days, this situation isn't one that seems to have fallen within the power of the President or within existing statutes. If there was a problem, then why didn't the good Senator get to work to craft legislation that would deal with the crisis he was warning about? So, I think if this was his answer, it is kind of lame. Especially since I think it is also the case, from what I've been led to believe from news and commentary, that both Presidents Clinton and Bush made more than one effort each to get Congress to deal with the operations of the Fannie's. It seems each and every one of the efforts by these Presidents was rebuffed by Congress. Nothing changed. Well, maybe something changed, maybe Congress made changes that increased the incentives for the Fannie's to make loans that would ordinarily have been thought to be too risky. Some of the things I read and hear make it plausible to me that Congress did indeed increase the incentives for the bad loans.

In any case, maybe he offers a different answer. He speaks of shredding regulations. I'm not really sure what that is supposed to mean. Probably just political rhetoric that he hopes will merely be taken any way that favors him in the polls. It seems to me it is probably spin trying to confuse or hide the real answer to his good question. The real answer is that Congress made the bad incentives that led to the current situation.

Perhaps you have heard a simple summary of the incentives I refer to here: "privatize the returns, socialize the risks." I think this is a pretty neat and simple way to explain how we got to the present crisis. Congress created these incentives by insuring loans which really means Congress subsidized giving mortgage loans to customers that used to be thought to be too risky. So, I think this simple slogan is a good way to understand the basic economics of how this crisis started.

But, of course, Senator Obama doesn't want us to hear this simple explanation, because consider how the exerpt above ends. It ends by asserting this crisis is due to unregulated capitalism. Such an assertion seems wrong and quite the opposite of the real explanation. But, consider, if you are a member of Congress, you certainly don't want the voters to come to believe the problem was caused by either the action or inaction of Congress. And, if you tend to support policies that regulate markets rather than free markets, then you certainly don't want the voters thinking that it is actually the regulatory structure of our capital markets that explains our present circumstances.

Finally, notice that the policy that has been discussed the most to respond to this crisis involves government buying real estate and then later selling it for a "profit" for the taxpayers. I suppose this may sound good to many voters, but let me use that simple phrase above to explain why I think the essential idea of this "bailout" is a bad idea. The "bailout" take a situation of "privatize returns, socialize risks," into a situation of "socialize returns, socialize risks." Of course, that sounds like socialism doesn't it? Obviously, I think socializing risks led to the crisis, and now socializing returns can't fix the fundamental reason for this crisis. We should be looking for an answer that gets us to "privatize returns, privatize risks." That's capitalism, of course. I'm pretty sure Senator Obama doesn't want to move in that direction.

Maybe the question we have to ask ourselves, or ought to ask ourselves, is why are we apparently going to respond to the current crisis by moving closer to socialism?

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