Economist Alan Blinders identifies six blunders that lead to the present financial crisis:
- Failure to regulate derivatives back in 1998
- Failure to rein in leverage on the part of the SEC in 2004
- The surge in subprime mortgages from 2004 to 2007
- Failure to act in limiting foreclosures in 2007 and early 2008
- Letting Lehman Bros. fail
I think there’s something conspicuously absent from that list: encouraging an asset bubble. That was a policy engaged in by the Federal Reserve and it was a policy that Tim Geithner, soon to be Treasury Secretary, helped to formulate.
Update
Barry Ritholtz sees a connecting thread among the blunders Blinders reckons:
Professor Blinder notes these were a series of largely avoidable errors — but he does not explain what types of errors they were. They were not due to greed, or miscalculation or even systemic regulatory problems. They were inavoidable errors caused by a faulty belief system.
Alan Greenspan has already acknowledged that his part, the Fed’s part, in the crisis was caused by just that.
I find Blinder’s comment to be, on balance, both annoying and dangerous, especially if this is what we learn from this crisis.
Lets take them one at a time.
Failure to regulate derivatives. Perhaps his second best point. These were reletively new on the scene; an unknown entity. But remember, these were MORTGAGE BACKED derivatives, viewed as safe by (most) regulators and politicians alike, and a byproduct of a favored social policy initiative. Good luck in regulating that.
Failure to reign in leverage. His best point. This is irrefutable. Leverage became absurd by any objective measure.
2004 surge in subprime mortgages. Well now, isn’t this like blaming the guy who brings the sixth keg into the party, along with the vodka and the townie girls, and then blaming him for the party getting out of control? The seeds were planted well ahead of time. This is a weak exculpatory effort on the part of Blinder.
Failure to limit foreclosures. As we have learned subsequently, “loan workout” for these bad loans has been ineffective, they “re-default.” Any credit officer could have told you that. This is spoken like a true liberal. Create a mess, unhappy with the result, let’s let the people who took out bad credit off the hook. After all, the bad creditors can’t be to blame.
Letting Lehman fail. I’m not sure I’m enough of an insider, or informed enough, to comment. But was there really an option?
DS asks if Blinder ‘missed a spot’: “encouraging an asset bubble,” I’m sure in reference to the Fed interest rate environment. Absolutely, yes, easy credit is at the root here. But there’s more to easy credit than just the price of metered money. There is the heart and soul of credit extension: underwriting standards. Bad credit is bad credit, at any price.
Hence, no one wants to touch the OTHER encouragement of the asset bubble, the primary encouragement. The acceleration of CRA loans in the mid-90’s – no, the mandating – of bad credit extension. (after about 25 years of a bad CRA economic policy, without a disaster, they pushed the peddle, and see what happened?) Now THAT’s encouragement, and it took hold. I hate to “pull rank,” but I’ve been a loan originator inside the four walls of a bank, and I’ve seen first hand how an EZ credit stance evolves into disaster. It may take time. But it gathers momentum. Always has, always will. Credit 101. That “2004 acceleration?” Only a pin headed academic like Blinder (or a liberal apologist) could not have understood what was to come. (Notice how he neatly side stepped that with his comments about “hindsight” and “prominent voices?.”
Wasn’t it Groucho Mark’s line “who you gonna believe, me, or your lyin’ eyes?”
Well, my lyin’ eyes watched Franklin Raines resolutely testify (2004) that Fannie’s mortgages (and hence the underlying derivatives) were so safe that the reserve requirements should be REDUCED, to 2%!! And I watched Barney Frank et al slobber all over him, absolutely castigating the regulators who were warning of problems.
Maybe my eyes lie, but the public record doesn’t, for anyone who wants to inspect it, its available.
This was fundamentally a political debacle, bad (but as always, well intentioned) social policy that gained momentum and was then fueled by the natural and inevitable animal spirits of political and financial markets, that is, of people pursuing political and financial gain. Unintended consequences, as they say. I wish I could say that was a profound statement. But really, people, c’mon, its the oldest story in the book.
Blinder is simply using his cred to run cheap post mortem air cover. Very annoying.
Am I the only one that finds the name ‘Blinders’ funny in this context?
I had to resist the obvious mightily. I succumbed to the play on words, however.