Subprime mortgages with exotic features accounted for less than 5 percent of new mortgages in the United States from 2000 to 2006. It is therefore highly unlikely that they were solely responsible for setting off the housing boom that ultimately went bust. The explanation offered for the crisis in the eurozone overlooks the fact that Spain and Ireland -- two of the weak links in Europe today -- were actually paragons of virtue in terms of the Stability Pact. Both countries boasted budget surpluses in the years leading up to the crisis, and both had debt-to-GDP ratios of roughly 30 percent, or only about half the level that was permitted under the Stability Pact.
The immediate cause of the housing bubbles in the United States and the eurozone periphery was not regulatory oversight failure, but the precipitous drop in interest rates in the early 2000s. And the country that bears partial responsibility for depressing interest rates is a traditional punching bag in the American political arena, one that has somehow avoided most of the blame in this round: China. The ascendance of the world's most populous country in the global economy not only changed the terms of trade, but it also had a considerable impact on the world's capital markets.
Read Full Article »