My Congressman on the Big Think

Barney Frank starts off by trying to blame the Bush administrations for the financial crisis:

And the Clinton Administration was better than the Bush Administration.  When the Bush Administration came in, they appointed people who didn’t believe in regulation. So it was not that the banks captured them, it’s that they volunteered to become parts of that operation.

I agree, but it is not at all black and white, as this New York Times story from 2003 shows:

WASHINGTON, Sept. 10— The Bush administration today recommended the most significant regulatory overhaul in the housing finance industry since the savings and loan crisis a decade ago.

Under the plan, disclosed at a Congressional hearing today, a new agency would be created within the Treasury Department to assume supervision of Fannie Mae and Freddie Mac, the government-sponsored companies that are the two largest players in the mortgage lending industry.

The new agency would have the authority, which now rests with Congress, to set one of the two capital-reserve requirements for the companies. It would exercise authority over any new lines of business. And it would determine whether the two are adequately managing the risks of their ballooning portfolios.

The plan is an acknowledgment by the administration that oversight of Fannie Mae and Freddie Mac — which together have issued more than $1.5 trillion in outstanding debt — is broken. A report by outside investigators in July concluded that Freddie Mac manipulated its accounting to mislead investors, and critics have said Fannie Mae does not adequately hedge against rising interest rates.

”There is a general recognition that the supervisory system for housing-related government-sponsored enterprises neither has the tools, nor the stature, to deal effectively with the current size, complexity and importance of these enterprises,” Treasury Secretary John W. Snow told the House Financial Services Committee in an appearance with Housing Secretary Mel Martinez, who also backed the plan.

.   .   .

Significant details must still be worked out before Congress can approve a bill. Among the groups denouncing the proposal today were the National Association of Home Builders and Congressional Democrats who fear that tighter regulation of the companies could sharply reduce their commitment to financing low-income and affordable housing.

”These two entities — Fannie Mae and Freddie Mac — are not facing any kind of financial crisis,” said Representative Barney Frank of Massachusetts, the ranking Democrat on the Financial Services Committee. ”The more people exaggerate these problems, the more pressure there is on these companies, the less we will see in terms of affordable housing.”

Barney Frank defended his actions by arguing that he favored low income rental support, but opposed sub-prime lending.  Even so, I can’t help thinking that tighter oversight of the capital reserve ratios would have been helpful.  Frank also argues that the Obama administration is doing a much better job regulating:

One of the things that happened under the Bush Administration was the FHA, was allowed to deteriorate.  We’re building that back up again with safeguards. 

Maybe so, but given that these new ”safeguards” allow people with credit scores of 590 to get FHA mortgages with 3.5% down-payments, I am not reassured.  I am also not convinced by the following, although Cochrane and Taylor will agree:

Bernanke and Paulson, came to us in September of 2008 and said, “If you don’t act, there’ll be a total meltdown.  There’ll be the worst depression ever.”  By the way, even if you didn’t think that was going to be the case, and I think it probably was, when the Secretary of the Treasury and the Federal Reserve say, “If you don’t do this, there’ll be a meltdown,” there’s going to be a meltdown.  It’s a little bit self-fulfilling.

If there is one thing we have learned from this crisis, it is that we need to separate politics and banking.  There was far too much political pressure (from both Democrats and Republicans) for banks to make loans to people who simply could not afford to pay them back.  That wasn’t the only problem, but it was certainly part of the problem.  Thus I was not reassured by this statement from Congressman Frank:

They tell us, “Oh, but if you make us pay this tax, we won’t have any money to lend.”  First of all, they’re doing a lousy job of lending now and we’ll be having a hearing a couple weeks after this interview to force them to do more if we can.

Have we learned nothing from the crisis? 

There are good things in the interview, such as a promise by Frank to end the too big to fail policy.  But how can that sort of promise have credibility as long as Congress keeps following the Augustinian maxim: 

O Lord, help me to be pure, but not yet.

There is only one comment that really annoyed me:

Unfortunately, the economy was deteriorating, I think as a consequence of their refusal to regulate the financial industry, and President Obama inherited one of the worst recessions in history, the worst since the Great Depression, and it is much harder to do things in a very depressed economy with revenues tied up and people hurting than it was in a good economy.  So by the policies that led to this terrible recession that Obama inherited, things became more difficult.

Obama did not inherit the worst recession since the 1930s.  Here are some unemployment rates:  Nov. 1949 – 7.9%, May 1975 – 9.0%, July 1980 – 7.8%, Dec. 1982 – 10.8%, Jan. 2009 – 7.7%.

Yes, Obama inherited a bad economy.  It’s a shame he didn’t ask Cristina Romer how FDR was able to turn things around immediately.  How FDR took office in March 1933, a period of rapidly rising unemployment, and within a little over a month had industrial production rising at the fastest rate in history, despite a banking crisis far worse than the one Obama inherited.

By the way, in December 1983 the unemployment rate was 8.3%.  Yes, that means that a mere 12 months after unemployment peaked at 10.8% in December 1982, it had already fallen by 2.5%.  This time around unemployment peaked at 10.1% in October 2009.  I hope it falls by 2.5% by October 2010, but most forecasts I’ve seen suggest it will still be around 10% at that time.   

Obama should consider himself lucky that the economy was mismanaged so badly under Bush.  This gives him some breathing room, as many people have bought into the false assumption that there is nothing that can be done about the recession in the short run.

By the way, NGDP rose 6.36% in the 4th quarter.  This is the best we have seen in quite a while.  Nevertheless, I keep emphasizing that the focus needs to be on the expected growth rate of NGDP.  We don’t have a futures market, but my reading of various indicators is that NGDP is likely to grow at about 5% going forward, perhaps even less.  And that is not enough to recover quickly, although unemployment may fall gradually as wages adjust.   

I would also note that nominal final sales only grew by about 3%, and this is the indicator that Bill Woolsey looks at.  I think this also explains why most forecasters expect NGDP growth to slow—as the fourth quarter saw a sharp slowdown in the rate of inventory liquidation.  But the final sales aren’t there yet to support robust NGDP growth going forward.

I hope this doesn’t sound too negative.  The 6.36% figure is much better than what we have recently seen.  Further good news comes from the 5.7% rise in RGDP, confirming my supposition that the SRAS is very flat right now, and that any boost to NGDP will mostly show up in the form of higher real output, not higher inflation, until unemployment falls somewhat.  Just to be clear, I oppose real targets like unemployment; consider this a prediction of the likely real implications of the nominal target I do favor.


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22 Responses to “My Congressman on the Big Think”

  1. Gravatar of DWAnderson DWAnderson
    29. January 2010 at 14:43

    “If there is one thing we have learned from this crisis, it is that we need to separate politics and banking.”

    This struck me as an excellent sentence and the basis for a good threshold question to ask in evaluating various legislative proposals that respond the crisis: does this proposal increase the involvement of politics with banking.

    Clearly TARP would have failed this test.

  2. Gravatar of Doc Merlin Doc Merlin
    29. January 2010 at 17:38

    I would extend that, DWA, we need to separate economics and politics. The problem of course is that attempts to do that usually result in just creating a regulator that is unaccountable… such as the Fed.

  3. Gravatar of Thomas Thomas
    29. January 2010 at 21:46

    How relevant are these supposed lessons about the crisis, if the primary culprit of the crisis was the Fed’s failures to adjust policy?

    And what is it that Obama can do (and that Bush should have done) about the recession in the short run that does not involve or relate to the Fed?

  4. Gravatar of John Papola John Papola
    30. January 2010 at 05:07

    Hey Scott,

    Here’s a question: is stagflation a real thing or a historical fluke? Are there multiple instances of inflation and economic slack/stagnation besides the 1970s?

    If so, what happens regarding NGDP policy if you have negative real GDP but accelerating inflation is producing the intended NGDP?

    Assuming I’m asking this question correctly, what is your take on the NGDP-targeting based policy response to “stagflation”.

  5. Gravatar of Mark A. Sadowski Mark A. Sadowski
    30. January 2010 at 07:24

    Scott,
    You wrote:
    “Even so, I can’t help thinking that tighter oversight of the capital reserve ratios would have been helpful.”

    First, I agree with Thomas that this is a peripheral issue if one truly believes that the primary cause of the current great recession was poor monetary policy (as I do).

    Second, F&F are favorite villains of the subprime mortgage crisis in the fevered commentary of certain noneconomists. In my opinion Jim Hamilton, Mark Thoma, Janet Yellen, Menzie Chinn etc. have very effectively dismissed their role as a red herring. Menzie Chinn’s post on the subject is here:

    http://www.econbrowser.com/archives/2008/10/cra_fannie_and.html

    3) Given that the role of F&F is a distraction in the causes of the subprime mortgage crisis what would tighter regulation of F&F really have accomplished? In my opinion the whole point of shifting the authority for regulating F&F from congress to the Bush Treasury would have been to reduce their MBS market share in favor of unregulated private players. This might have reduced the losses of F&F (which at perhaps $240 billion were relatively small given their huge market share) but probably would have led to increased losses on the part of F&F’s private competitors. In retrospect, given that F&F are now under federal government conservatorship this might have been better for the taxpayer but on the other hand given TARP’s losses somehow I doubt it. I suspect things actually would have been worse (an unintended consequence).

    The bottom line is whether the Bush Treasury or congressmen like Frank were in charge of the henhouses would have made little difference in the overall subprime mortgage crisis (and even less in terms of the health of the economy). But I agree with your central premise that we need to separate politics and banking (good luck).

  6. Gravatar of StatsGuy StatsGuy
    30. January 2010 at 08:08

    ssumner:

    “By the way, NGDP rose 6.36% in the 4th quarter. This is the best we have seen in quite a while.”

    As Krugman and everyone else would say, this was mostly driven by the inventory cycle (which is half over), and stimulus (more than half over). Future expectations, particularly over a multi-year period, are much lower, and that doesn’t even consider making up lost ground (e.g. level target).

  7. Gravatar of StatsGuy StatsGuy
    30. January 2010 at 08:22

    On separating economics and politics – this goes both ways. It’s as hard to get economics out of politics (e.g. campaign finance, heavy lobbying) as politics out of economics.

    Doc Merlin:

    “attempts to do that usually result in just creating a regulator that is unaccountable… such as the Fed.”

    Yep. The more insulated an agency, the more isolated. The insulation/isolation tradeoff is well known in public administration theory. There are really three pure options:

    a) direct political control
    b) control by independent authority (insulated agency)
    c) control by rule (the NGDP targeting regime is an example of this, using markets as a mechanism)

    The current monetary system is a hybrid of all 3. Fed has power, but officers appointed (politically) for 14 year terms, plus significant bank control, and some financial regulatory legislation.

    Control by rule seems tempting, but for the rule to have power there must by some systemic lock-in. Using such a mechanism places a lot of confidence in ourselves – that, for example, we know what is good for future generations. By contrast, an authority is more adaptable. Better, perhaps, would be to create a rule and order the Fed to abide by it except in extreme circumstances.

    Of course, if we had create that rule in (say) 1998, it probably would have been something like the crude Taylor Rule. Which is precisely what we’ve been following.

  8. Gravatar of Mark A. Sadowski Mark A. Sadowski
    30. January 2010 at 09:41

    @John Papola,
    Here’s my take on stagflation. If you’ve heard some of this before then forgive me for my redundancy. Sumner no doubt disagrees with me (especially the focus on unemployment) but we shall see.

    Prior to the early 1970s most policymakers thought that 4% or 4.5% unemployment was a reasonable goal. The idea of a target for the unemployment rate largely grew out of hearings during the passage of The Full Employment Act of 1946. A popular book at the time, “Sixty Million Jobs” (1945) by Henry Wallace probably was responsible more than anything else for those specific figures. Well in any case, when Nixon entered office in January of 1969, the unemployment rate was 3.4%. An unemployment rate of 6% probably would have somewhat hindered his reelection chances in November of 1972.

    We now know in retrospect that during the early 1970s NAIRU, the non accelerating inflation rate unemployment rate (more on this later), was 6.0%-6.2%. Thus even at the worst point of the 1970 recession, unemployment was never actually above NAIRU. Despite the fact that the economy was already at or above above potential output, and inflation was already moderately high (3%-6%), a loose monetary policy was run from early 1971 through late 1972. This was partly due to Nixon’s desire to get reelected in 1972 (the Federal Reserve was much less independent in those days). As a result unemployment fell from a peak of 6.1% in August 1971 to a low of 4.6% in October 1973. In addition since unemployment fell below NAIRU during this period, year on year CPI surged from a low of 2.9% in August 1972 to a high of 12.2% in November of 1974. This liberal dose of discretionary monetary stimulus succeeded in lowering the unemployment rate well below NAIRU long enough to get Nixon reelected. However the price that was paid was an accelerating inflation rate.

    During the 1960s most Keynesian economists believed in the concept of a fixed relationship between unemployment and inflation, or a Phillips Curve. But this relationship seemed to break down starting in the late 1960s. (The term “stagflation” was coined by British politician Iain Macleod in 1965.) This gave rise to the “accelerationist hypothesis” by Monetarists Milton Friedman and Edmund Phelps, which essentially stated that any attempt to hold the unemployment rate below the “natural rate” would lead to accelerating inflation. They advocated a nonactivist approach to monetary policy believing that the unemployment rate would tend towards the natural rate without any intervention.

    Then in 1975 Franco Modigliani and Lucas Papademos coined the term noninflationary rate of unemployment (NIRU) which was later revised to nonaccelerating inflation rate of unemployment (NAIRU). While Friedman and Phelps believed that the existence of a natural rate implied that there was no useful trade-off between inflation and unemployment, Modigliani and Papademos interpreted the NAIRU as a constraint on the ability of policymakers to exploit a trade-off that remained both available and helpful in the short run. But despite the fundamental differences that still existed between the Monetarists and the Keynesians, NAIRU was seen by many contemporary economists as helping build a consensus about the nature of the inflation-unemployment relationship.

    At first there was an attempt to estimate a fixed NAIRU for the United States that was valid for all time periods (usually estimated to be between 5.5% and 6.0%). By the late 1990s, as unemployment dropped well below that rate and yet inflation continued to be moderate, this idea was questioned. Now it is fairly well accepted that NAIRU varies over time. The CBO maintains a NAIRU data series that ranges from a high of 6.2% in the mid 1970s to a low of 4.8% since 2001.

    So in response to your specific questions:
    You wrote:
    “Here’s a question: is stagflation a real thing or a historical fluke?”

    In my opinion it could easily happen again if we try to hold the unemployment rate below the natural rate. However given the FOMC’s current stance I see almost as much chance of that happening as China ever running a trade deficit.

    “Are there multiple instances of inflation and economic slack/stagnation besides the 1970s?”

    Implicit in your question is the idea that on average there was excessive slack/stagnation in the 1970s. If you accept the current estimates of NAIRU and the output gap this was not the case. Inflation accelerated in the 1970s mainly because policymakers, in retrospect, unknowingly attempted to keep unemployment below the natural rate and output above potential (especially in 1965-1974).

    Combing the US economic historical record one can find several instances where high inflation coincided with declining GDP per capita. The GDP deflator increased by 6.3%, 8.5%, 22.5%, 24.5% and 13.9% in 1803, 1854, 1864, 1917 and 1920 respectively. GDP per capita fell by 1.4%, 0.2%, 1.1%, 3.9% and 2.2% in 1803, 1854, 1864, 1917 and 1920 respectively. We only have reasonable estimates of the unemployment rate going back to 1890 (courtesy of Christina Romer) and they show that unemployment increased from 3.0% in 1919 to 5.2% in 1920 (but that it fell from 5.6% in 1916 to 5.2% in 1917).

    It’s interesting to note that most of these stagflation episodes are associated with a war (Civil, WW I and Vietnam) and that consequently they often seem primarily due to inflation expectations having been accelerated following an episode of output being above potential.

    P.S. Supply side shocks no doubt can also play a role. The spike in oil prices following 1973 certainly made things worse for example. And I think an argument can be made that an excessive and counterproductive government involvement in the economy during WW I may have acted as a negative supply side shock. But I think many people underestimate the resiliency of the economy in the face of such shocks.

  9. Gravatar of Marcus Nunes Marcus Nunes
    30. January 2010 at 09:48

    This (From J Taylor) is tangential to this post but helps destroy some myths that have been floating recently:
    Opinions versus Facts About the Chicago School
    New Yorker writer John Cassidy argues in a recent article that free market-oriented Chicago school thinking was largely responsible for the financial crisis, and that, for this reason, interventionist-oriented Keynesian thinking has rightly replaced Chicago, which had previously “greatly influenced policy making in the United States.”

    Cassidy makes his case mainly through a star witness, Judge Richard Posner, who Cassidy says “has shocked the Chicago School by joining the Keynesian revival.” Cassidy also reports the views of other University of Chicago economists about the Chicago School and its influence, but he dismisses many of them out of hand, especially John Cochrane and Gene Fama, who he calls “true believers” or “in the denial camp.” To his credit, Cassidy posted his interviews with these other economists on his blog. Nevertheless, relying on the interpretations of opinions of Posner or anyone else is an inherently subjective way to characterize a school of thought or to measure the extent of its influence on policy making.

    Are there more objective, perhaps quantitative, ways? Consider, for example, measuring influence by the representation of members of a school in top economic positions in government where there is an opportunity to influence policy. And consider as a measure of an economist’s school, the university where he or she received the PhD. The data in the chart follows this approach. It shows the university PhD percentages of appointees to the President’s Council of Economics Advisers (CEA).

    The blue line shows the percentage of presidential appointees to the CEA who have a PhD from Chicago. The red line shows the same for MIT or Harvard (Cambridge), one possible definition of an alternative to the Chicago school. The years from the creation of the CEA in 1946 until 1980 are shown along with each presidential term thereafter. Observe that the peak of the Chicago school influence was in the Reagan administration; it then dropped off markedly. In contrast Cambridge reached a low point of zero appointees to the CEA during the Reagan administration and then rose slightly to 20 percent in Bush 41, to 82 percent in Clinton, and to 100 percent in both Bush 43 and in Obama.

    Blaming the financial crisis on the free-market influence of the Chicago school is certainly not consistent with these data. There were no Chicago PhDs on the President’s CEA leading up to or during the financial crisis. In contrast there was a great influx and then dominance of PhDs from Cambridge. And also notice that there were plenty of Chicago PhDs on the CEA at the time of the start of the Great Moderation—20 plus years of excellent economic performance. These data are more consistent with the view that the waning of the free-market Chicago school and the rise of interventionist alternatives was largely responsible for the crisis. But the main point is that there is no evidence here for blaming the influence of Chicago.

    Of course, such measures are imperfect. Neither Milton Friedman nor Paul Samuelson served on the CEA, but their students did. And while PhDs from any insitution certainly do not fit in any one mold, the people who learned about rules versus discretion with Friedman likely had a different policy approach than people who learned about rules versus discretion with Samuelson. The data are robust when you look beyond the CEA to other top posts normally held by PhD economists. All assistant secretaries of Treasury for Economic Policy appointed during the Bush 43 and Obama Administrations had PhDs from Harvard. During the same period, all chief economists appointed to the IMF had PhDs from MIT, and, except for Don Kohn, who was promoted from within and Susan Bies who was appointed as a banker, all PhD economists appointed to the Federal Reserve Board were from Cambridge MA.
    Posted by John B. Taylor at 9:23 AM

  10. Gravatar of Mark A. Sadowski Mark A. Sadowski
    30. January 2010 at 10:03

    It occurs to me I left out the end of WW II in the historical record. The GDP deflator surged by 11.9% and 10.8% in 1946 and 1947 respectively. GDP per capita fell by 11.9% and 2.5% in 1946 and 1947 respectively. Unemployment rose from 1.2% in 1945 to 3.9% in 1946 and held steady at that rate in 1947. However, given the very low level of unemployment and the fact that the decline in GDP per capita largely reflected a decline from producing what most people would consider to be well above potential to merely being at potential, I’m not sure this incident would qualify as stagflation in most people’s minds.

  11. Gravatar of Dejarde Dejarde
    30. January 2010 at 10:04

    @Mark Sadowski –

    I think before you let F&F off the hook as just a “favorite villain” because of Chinn’s subprime statistics – you have to look carefully at how “subprime” is defined.

    F&F also drove the so-called “Alt-A” (liar loans) market which they do not themselves define as “subprime”. See the EconTalk Podcast with Charles Calomiris and this NY Times summary:

    http://www.nytimes.com/2008/12/10/business/10fannie.html

    I agree that they are only a piece of the crisis, but they are a big piece and shouldn’t be dismissed as some kind of straw man.

  12. Gravatar of Mark A. Sadowski Mark A. Sadowski
    30. January 2010 at 12:17

    @Dejarde,
    F&F are a big part of the mortgage market in general so how could they not have a large involvement in the subprime and Alt-A market. But I think its a huge stretch to say they “drove” the market. If one examines the market share statistics I think it’s clear that they followed, not led, the decline in lending standards. A lot of time, energy and mental gymnastics has been wasted on pinning the blame on F&F to no avail.

  13. Gravatar of ssumner ssumner
    30. January 2010 at 14:54

    Thanks DW Anderson.

    Thomas, There are two separate issues. The first is the mortgage and banking crisis, which was not caused by the Fed (although it made it worse than it needed to be. That was the crisis I was focusing on in most of the post. At the end I discussed monetary policy, which I believe is the only way to boost AD. Bush and Obama should have pressured the Fed to do more. But I don’t really blame them personally, as I doubt either of them understand monetary policy. Rather I blame the people who are advising them.

    John, A lot of people get confused on this issue, somehow assuming that the Fed can address stagflation. Stagflation is caused by a fall in AS. The main problem in the 1970s wasn’t stagflation, it was excessive NGDP growth, over 10% per year. Real GDP did fine, grew at roughly 3% which is about normal. Lots of people are confused on that point. The Fed can and eventually did solve the problem of excessive NGDP growth.

    Once you have proper NGDP growth, say 3%, or 5%, or whatever the target, then monetary policy should not respond to any supply shocks. If AS falls and you get 1% fall in RGDP and 6% inflation, there is nothing monetary policy can do about that situation. Fortunately RGDP trends upward in the long run, so for every year of inflation higher than you’d like, there will be a year of inflation lower than you’d like. In any case, inflation doesn’t cause the problems many people assume it does. Most of the problems widely attributed to inflation are actually caused by excessive NGDP growth. The fed should stabilize NGDP, and if the real economy is weak, use other tools like supply-side tax reforms to boost growth.

    Mark, You said;

    “First, I agree with Thomas that this is a peripheral issue if one truly believes that the primary cause of the current great recession was poor monetary policy (as I do).

    Second, F&F are favorite villains of the subprime mortgage crisis in the fevered commentary of certain noneconomists. In my opinion Jim Hamilton, Mark Thoma, Janet Yellen, Menzie Chinn etc. have very effectively dismissed their role as a red herring. Menzie Chinn’s post on the subject is here:”

    Peripheral to what? I never claimed F&F caused the recession, I am blaming them for costing the taxpayers lots of money. Indeed the bailout of F&F will end up costing taxpayers far more than the bailout of commercial banks. I doubt Chinn anticipated that outcome when he wrote that post back in 2008. A recent interview by Calomiros on Econtalk is far more convincing than any of the bloggers you cite, and makes it very clear that much of what was reported on F&F back in 2008 was hogwash. They were far more deeply involved in the subprime fiasco then they admitted at the time. BTW, the problems were hardly confined to the subprime loans.

    Of course the solution to F&F’s problems is not better regulation, but abolishing them. Even Frank now thinks they should be abolished.

    I have been warning people for 15 years the F&F were potential time bombs waiting to explode. Now that they have, and will cost taxpayers several hundred billion dollars, I have little sympathy for people who continue to insist they weren’t “the problem.”

    Statsguy, You said:

    “As Krugman and everyone else would say, this was mostly driven by the inventory cycle (which is half over), and stimulus (more than half over). Future expectations, particularly over a multi-year period, are much lower, and that doesn’t even consider making up lost ground (e.g. level target).”

    I also mentioned inventories. In an accounting sense government spending was a net drag in the 4th quarter. I’m sure people can create models where the government stimulus increased NGDP growth in the 4th q., but I don’t buy them.

    But I mostly agree with Krugman, this news isn’t as good as it seems. What matters isn’t current NGDP, but expected NGDP growth, and that is still inadequate.

    Mark, I don’t buy the NAIRU model because I don’t think we know what the NAIRU is. But I am not going to challenge your narrative, you might well be correct in most of your assertions.

    Anyone who says they know the NAIRU was 6% – 6.2% in 1970 is crazy. We have no idea what it was. It might have been 6%, but that precision is unrealistic. It could have been 5.5%.

    Marcus, I think Cassidy’s argument is silly, but not because I don’t think the Chicago School is partly to blame. Rather, I would blame them for advocating overly tight monetary policy in 2008-09. And I’d blame most liberal economists for basically ignoring monetary policy in 2008-09. So they are all guilty.

    Of course Cassidy was talking about “deregulation,” but in fact the banking industry is highly regulated. The problem is the regulators did a lousy job. It wasn’t like the Chicago school was gung ho for F&F, CRA, mortgage interest deduction, FDIC, TBTF, etc. Some (but not all) probably did favor loose regulations on subprime loans, but then so did many liberal economists. They is plenty of blame to go around.

    Dejarde, I agree.

    Mark, You said;

    “A lot of time, energy and mental gymnastics has been wasted on pinning the blame on F&F to no avail.”

    Again, the only thing I have ever blamed them for is requiring massive taxpayers bailouts. I warned it could happen, and now it’s happened. That’s all that matters to me. The recession was caused by tight money, as I think we both agree. There are two problems, the recession, and the bailouts. I am only blaming them for the bailouts.

  14. Gravatar of Dejarde Dejarde
    30. January 2010 at 15:13

    Maybe I’m interpreting your link incorrectly:

    “Between 2004 and 2006, when subprime lending was exploding, Fannie and Freddie went from holding a high of 48 percent of the subprime loans that were sold into the secondary market to holding about 24 percent, according to data from Inside Mortgage Finance, a specialty publication…”

    It appears to say FNMA and FHLMC led the pack initially (thus driving the market) and only lost share when the other investors sniffed the profits. In other words, led not followed the decline in lending standards.

    I’m no gymnast so maybe I’m missing something.

  15. Gravatar of David Beckworth David Beckworth
    31. January 2010 at 05:29

    John Papola:

    As a follow up to Scott’s reply that it was excessive NGDP growth that was the problem in the 1970s, take a look at this historical picture of nominal spending here. It illustrates well Scott’s claim.

  16. Gravatar of Mark A. Sadowski Mark A. Sadowski
    31. January 2010 at 12:24

    @Scott,
    You wrote:
    “Indeed the bailout of F&F will end up costing taxpayers far more than the bailout of commercial banks. I doubt Chinn anticipated that outcome when he wrote that post back in 2008.”

    At its peak more than $550 billion of the TARP line of credit was extended, nearly five times the amount extended so far to F&F, despite the fact that F&F hold over half of the $9.2 trillion in MBSs. And then there’s the matter of the the Fed’s purchase of $1.25 trillion of more than likely worthless MBSs. As for Menzie’s current opinion you’ll have to ask him. My hunch tells me it hasn’t changed much if at all. (I suspect the same holds for JDH and Mark Thoma.)

    You wrote:
    “A recent interview by Calomiros on Econtalk is far more convincing than any of the bloggers you cite, and makes it very clear that much of what was reported on F&F back in 2008 was hogwash.”

    I’ve listened to the interview and all he does is refer to Edward Pinto’s claims which are worse than pure hogwash. Charles Calomiris may be a bright man but he’s letting his navel get in the way of what his eyes and frontal lobes should be telling him.

    You wrote:
    “BTW, the problems were hardly confined to the subprime loans.”

    Yes, but that still doesn’t support Pinto’s claims or by extension Calomiris’s claims.

    You wrote:
    “Of course the solution to F&F’s problems is not better regulation, but abolishing them. Even Frank now thinks they should be abolished.”

    No doubt, and I too am in favor of that. Asking the question “what caused the mortgage crisis,” thinking about it rationally, and then arguing that F&F were not the primary driving forces behind it is not the same as defending the existence of F&F. And Frank may want them abolished but what he probably has in mind to replace them would probably not please you (or me).

    You wrote:
    “Now that they have, and will cost taxpayers several hundred billion dollars, I have little sympathy for people who continue to insist they weren’t “the problem.”’

    I doubt your estimate unless its the result of F&F being enlisted in subsidizing our government’s current attempted real estate market recovery plan.

    Until Republicans started trying to claim that F&F caused the financial meltdown as a means of tying Obama to the crisis, a strategy that backfired badly when all of the embarrassing connections to F&F within the McCain campaign were revealed, nobody (especially within the economics community) was saying F&F caused the crisis. Republicans simply worked backwards, they found connections between Democrats and F&F (never thinking to ask about their own connections), then tried to blame the crisis on F&F so as to make people think it was the Democrat’s fault. And it’s still going on despite the fact that the data doesn’t support this story. Edward Pinto got caught up in this mess and now is stuck with a full time career defending his worthless claims.

    You are probably right that eliminating the GSEs would be good economics, but please don’t get caught up in what is useless political theatrics.

    @Dejarde,
    The delinquency rate on mortgages issued after 2003 is much higher than those issued in 2003 or earlier. A greatly disproportionate share of these delinquincies were in subprime mortgages. Subprime and originations in the U.S. rose from about 9% of all mortgages in 2003 to 20% of all mortages in 2006. Edward Pinto’s entire thesis concerning F&F’s role in the foreclosure crisis is that they were increasing the demand for subprime MBSs, and hence the demand for issuing such mortgages. Although F&F’s purchases of such securities did modestly increase during 2004-2006 it was overwhelmingly dwarfed by the four fold increase in the purchase of such securities by other institutions between 2003 and 2006. His thesis holds about as much water as a thimble.

  17. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    31. January 2010 at 19:53

    I’d love to hear Barney Frank square his statement:

    ‘”These two entities — Fannie Mae and Freddie Mac — are not facing any kind of financial crisis,” said Representative Barney Frank of Massachusetts, the ranking Democrat on the Financial Services Committee. ”The more people exaggerate these problems, the more pressure there is on these companies, the less we will see in terms of affordable housing.”’

    With his new claim that he was always opposed to subprime lending, he really wanted more subsidized rental housing. Were the FMs in the bussiness of buying up mortgages on apartment buildings?

  18. Gravatar of scott sumner scott sumner
    1. February 2010 at 05:54

    Dejarde, Which link were you referring to?

    Thanks David.

    Mark, You said;

    (Sumner)“Indeed the bailout of F&F will end up costing taxpayers far more than the bailout of commercial banks. I doubt Chinn anticipated that outcome when he wrote that post back in 2008.”

    (You replied) At its peak more than $550 billion of the TARP line of credit was extended, nearly five times the amount extended so far to F&F, despite the fact that F&F hold over half of the $9.2 trillion in MBSs. And then there’s the matter of the the Fed’s purchase of $1.25 trillion of more than likely worthless MBSs.”

    That’s a non sequitor. I said “in the end.” Yes the TARP was initially bigger, but it is almost all being repaid quite quickly. The gross amounts are meaningless, as much of the TARP money wasn’t bailouts at all, but money the banks were forced to borrow by the Federal government, even if they were doing fine. It’s no surprise they are repaying the money rapidly.

    I hope the Fed paid market prices for those MBSs. So far they are making a profit, I have no idea what their eventual profit or loss will be.

    Where you and I fundamentally disagree is that you keep referring to the mortgage crisis as if it is a problem separate from the bailout. The bailout is the problem. It is 100% of the problem. It is also the cause of the problem. No one would have deposited money in those risky banks if they didn’t expect the banks were too big to fail. So as the numbers continue to roll in showing F&F losses soaring ever higher, and the banks repaying their loans quickly, I am more and more included to discount those on the left who back in 2007 blandly assured us that there was no problem with F&F because they didn’t buy sub-primes. The bailout is the bottom line, indeed all that matters in my view (from a public policy perspective.) I repeat my claim, in the end the F&Fs will very likely end up costing us more than the banks.

    Patrick, I don’t know, but I think they do. BTW, even Frank now admits he was wrong in saying F&F weren’t in trouble.

    He also says he was just a lowly Congressman in the minority back in 2003, with little influence. Funny that the NYT would single him out as an influential voice.

  19. Gravatar of Joe Joe
    1. February 2010 at 07:40

    This is the most scary part….

    “we’ll be having a hearing a couple weeks after this interview to FORCE them to do more if we can.”

    So congress can now force banks to lend? I understand that taxpayer funds went to bail out some banks but this should not give congress seemingly unlimited power over them. Also, myself being a constitutional purist, where does it say congress has authority to hold “hearings”?

    Barney Frank typifies what is wrong with congress

  20. Gravatar of Barney Frank in 2003 | The Barstool Economists Barney Frank in 2003 | The Barstool Economists
    1. February 2010 at 13:57

    [...] out a Barney Frank quote from September of 2003. I came across it on Scott Sumner’s blog: http://www.themoneyillusion.com/?p=4041. ”These two entities — Fannie Mae and Freddie Mac — are not facing any kind of financial [...]

  21. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    1. February 2010 at 14:19

    Scott, looking at both FM websites I see a little lip service to ‘affordable rental housing’, but it’s clearly an afterthought. Fannie, in its official history gives numbers on its billions of dollars committed to home ownership, but nary a peep about how big their rental housing program.

  22. Gravatar of ssumner ssumner
    3. February 2010 at 11:44

    Joe, Yeah, That jumped out at me as well.

    Patrick, Interesting. I don’t doubt Frank has supported rental housing in the past, but he’s also been known to try to cover his tracks. So I suspect you are right.

    The bottom line is that the pro-regulation people like Frank are arguing that regulators can prevent these fiascos because they can anticipate crises better than the markets. But Frank himself admits he didn’t see the F& F crisis coming, and Frank probably has a much higher IQ than most regulators.

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