Blaming the Fed for the Sub-Prime Mortgage Crisis

“Hindsight is always 20-20, but it’s clear the Fed should have acted earlier. Financial innovation is great, but you have to have some basic rules. One of the most basic rules is that a borrower should have the ability to repay.”

--Sheila C. Bair, Chairman of the Federal Deposit Insurance Corporation

Back in August, I wrote a piece titled The Ongoing Impact of the Housing Sector. In that, I discussed all the many people responsible for the sub-prime housing crisis (which has subsequently led to the present credit crunch).

I singled out the Fed for two reasons: 1) taking rates down to ridiculous levels and leaving them there for too long, and 2) their failure to adequately perform their banking regulatory responsibilities when it came to the origination of mortgages.

Tuesday's page one NYT article covers the latter in grisly detail: Fed and Regulators Shrugged as Subprime Crisis Spread. They single out Greenspan for his part in allowing unregulated problems to fester.

You can read the full article there, but here I wanted to emphasize the graphic:

click for larger version

courtesy of NYT

Download ginormous version: 2007subprime.jpg

As we have seen in oh so many different contexts, the blind adherence to dogma and ideology, from religious zealots to acolytes of Ayn Rand, seems to only lead to a broad range of problems, ranging from errors in judgment to unnecessary pain. Ultimately, most political and economic extremists collapse under the weight of their own slavish devotion to a universal idea that is inapplicable to a specific situation. Some people call this consistency, but the word "stupidity" means the same thing, and can be typed with less letters.

I'll take a pragmatic technocratic over the syncophants, idiots and idealogues any day of the week . . .

Sources:
Fed and Regulators Shrugged as Subprime Crisis Spread
EDMUND L. ANDREWS
NYT,December 18, 2007
http://www.nytimes.com/2007/12/18/business/18subprime.html

The Ongoing Impact of the Housing Sector
Barry Ritholtz
Investors Insight, August 24, 2007
http://www.investorsinsight.com/otb_va.aspx?EditionID=576

Comments

[flow5]

Same old same old
It's mathematically impossible to miss an economic forecast. But since everyone is both ignorant & arrogant we can expect more of the same only worse.

[HARM]

A Federal Reserve Chairman is someone who will tell you tomorrow why the forecast he made yesterday was completely wrong.

[roanokela]

Now Greenspan is trying to rewrite history. Time for him to shut up!!

[Jay Jay]

I thought the central bank was supposed to prevent these kinds of things, not cause them. Can we say we've learned our lesson and give them the old heave ho.

[Johnny Bitchdog]

Sir, you seem to have a confused mind.

Would you mind identifying the extremist principles that Greenspan was following ? Ayn Rand is simply a bit vague.

However, if you are saying Greenspan believed too much in free markets (?), I must disagree. Recently, his comments about making government cash grants to the fools that took on too much debt for overpriced houses, suggest he has simply lost his way.

I do agree that he kept interest rates too low for too long, but surely you are not saying that his extremism was based on some foolish devotion to keeping interest rates low ? Or are you ?

In the end, Greenspan's failures were probably simply based on hubris and old age:

1. Like many who built their repuations during a time of rapid technology innovation and global growth, he thought his policies were brilliant - just like the year 2000 daytrader that thought his "policies" were responsible for his superior returns. That covers the hubris part.

2. As he became old, he lacked motivation to pay attention to what was going on. He had already made it, and was out to lunch, so to speak. This is probably why he failed to understand the degree of fraud and laziness perpetrated by lenders and borrowers alike.

As far as singling out the fed goes, I will agree that much of the blame belongs there. Perhaps even most of the blame, but bankers, consumers, politicians, and real estate industry do not come out well at all in this story.

And I don't think Greenspan was any of the things you mention derogatively in your final statement. He was just a reasonably competent and accomplished bureaucrat that ultimately got caught up in his own hubris (the idea that he could fix all problems by tinkering with the variables he controlled) and made some very serious mistakes as he was moving into his sunset years.

Don't make it out to be more than it is.......just an old fogey with too much belief in himself and not enough attention to reality.

Regards, John.