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SOWELL: Bailout Politics

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  • Beowulf
    Bailout Politics By Thomas Sowell September 30, 2008 Nothing could more painfully demonstrate what is wrong with Congress than the current financial crisis.
    Message 1 of 1 , Oct 1, 2008
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      Bailout Politics
      By Thomas Sowell
      September 30, 2008

      Nothing could more painfully demonstrate what is wrong with Congress
      than the current financial crisis.

      Among the Congressional "leaders" invited to the White House to devise
      a bailout "solution" are the very people who have for years created
      the risks that have now come home to roost.

      Five years ago, Barney Frank vouched for the "soundness" of Fannie Mae
      and Freddie Mac, and said "I do not see" any "possibility of serious
      financial losses to the treasury."

      Moreover, he said that the federal government has "probably done too
      little rather than too much to push them to meet the goals of
      affordable housing."

      Earlier this year, Senator Christopher Dodd praised Fannie Mae and
      Freddie Mac for "riding to the rescue" when other financial
      institutions were cutting back on mortgage loans. He too said that
      they "need to do more" to help subprime borrowers get better loans.

      In other words, Congressman Frank and Senator Dodd wanted the
      government to push financial institutions to lend to people they would
      not lend to otherwise, because of the risk of default.

      The idea that politicians can assess risks better than people who have
      spent their whole careers assessing risks should have been so
      obviously absurd that no one would take it seriously.

      But the magic words "affordable housing" and the ugly word "redlining"
      led to politicians directing where loans and investments should go,
      with such things as the Community Reinvestment Act and various other
      coercions and threats.

      The roots of this problem go back many years, but since the crisis to
      which all this led happened on George W. Bush's watch, that is enough
      for those who think in terms of talking points, without wanting to be
      confused by the facts.

      In reality, President Bush tried unsuccessfully, years ago, to get
      Congress to create some regulatory agency to oversee Fannie Mae and
      Freddie Mac.

      N. Gregory Mankiw, his Chairman of the Council of Economic Advisers,
      warned in February 2004 that expecting a government bailout if things
      go wrong "creates an incentive for a company to take on risk and enjoy
      the associated increase in return."

      Since risky investments usually pay more than safer investments, the
      incentive is for a government-supported enterprise to take bigger
      risks, since they get more profit if the risks pay off and the
      taxpayers get stuck with the losses if not.

      The government does not guarantee Fannie Mae or Freddie Mac, but the
      widespread assumption has been that the government would step in with
      a bailout to prevent chaos in financial markets.

      Alan Greenspan, then head of the Federal Reserve System, made the same
      point in testifying before Congress in February 2004. He said: "The
      Federal Reserve is concerned" that Fannie Mae and Freddie Mac were
      using this implicit reliance on a government bailout in a crisis to
      take more risks, in order to "multiply the profitability of subsidized
      debt."

      Chairman Greenspan added his voice to those urging Congress to create
      a "regulator with authority on a par with that of banking regulators"
      to reduce the riskiness of Fannie Mae and Freddie Mac, a riskiness
      ultimately borne by the taxpayers.

      Fannie Mae and Freddie Mac do not deserve to be bailed out, but
      neither do workers, families and businesses deserve to be put through
      the economic wringer by a collapse of credit markets, such as occurred
      during the Great Depression of the 1930s.

      Neither do the voters deserve to be deceived on the eve of an election
      by the notion that this is a failure of free markets that should be
      replaced by political micro-managing.

      If Fannie Mae and Freddie Mac were free market institutions they could
      not have gotten away with their risky financial practices because no
      one would have bought their securities without the implicit assumption
      that the politicians would bail them out.

      It would be better if no such government-supported enterprises had
      been created in the first place and mortgages were in fact left to the
      free market. This bailout creates the expectation of future bailouts.

      Phasing out Fannie Mae and Freddie Mac would make much more sense than
      letting politicians play politics with them again, with the risk and
      expense being again loaded onto the taxpayers.

      ---

      Thomas Sowell is a senior fellow at the Hoover Institution, Stanford
      University, Stanford, CA 94305. His Web site is www.tsowell.com.



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