The Oregonian asked for my thoughts on the financial crisis (I was flattered) and then asked for no more than 400 words. So if I've omitted something you're interested in, blame the newspaper.
by Bill Conerly, Guest opinion Friday September 19, 2008, 6:48 PM
"Whether a financial crisis turns into a severe recession or depression depends on how the crisis affects everyday businesses."
Financial crises have occurred for centuries, ranging from the tulip craze to the South Sea Bubble to, more recently, the Asian Financial Crisis. Many great banks have failed over the centuries, and although their loss seems staggering at the time, the consequences are very fleeting.
Today's crisis is large to Wall Street, and to the secretary of the treasury, who comes from Wall Street. Main Street, however, is not doing as badly.
Easy money always triggers the beginning of a financial cycle. The Federal Reserve deserves some blame in this instance for making the party too wild. Fraud is common in the mania phase of a financial cycle, but not the primary problem.
Whether a financial crisis turns into a severe recession or depression depends on how the crisis affects everyday businesses across the country. In the classic financial panic, speculators are unable to pay their debts. Then the lenders to the speculators are unable to repay their debts. Like a virus, the problem spreads from the sick to the healthy.
Today the Federal Reserve stands ready as the lender of last resort to help banks that are fundamentally sound but temporarily unable to continue with business as usual. The Fed has extended that umbrella to shelter some non-bank financial institutions. The result is that families and businesses with good credit histories and adequate income are still able to borrow. If they were suddenly cut off from the credit to which they were accustomed, spending would drop sharply, followed by declining production and employment. That is unlikely to happen in this crisis, but keep your fingers crossed.
What should everyday people do about this crisis? Sit tight. This is no time to be dumping stocks or bonds or closing bank accounts.
What should the government's role be? The Federal Reserve's easy money helped get the crisis going. Piling on were politicians trying to increase homeownership, even among buyers by those without the resources or habits to support a mortgage. Adding to the problem were community activists insisting that banks weaken credit standards for poor people. Removing these stimulus factors will pretty much solve the problem for the next couple of decades.
At some time in the future, however, another financial crisis will form. Investors will become speculators, optimism will run rampant, lending standards will crater, and we'll start another cycle. Then the economy will recover and life will go on as normal.