Lest We Forget, Capitalism Works
Calvin Coolidge once said, "If you see 10 troubles coming down the road, you can be sure that nine will run into the ditch before they reach you." The 30th president's words are particularly prescient in light of the regulatory fever sweeping Washington.
In the past week we’ve been treated to a Wall Street Journal headline titled “Ten Days That Changed Capitalism,” which seemingly heralded the end of the market-driven consensus that has mostly prevailed over the last twenty-five years, and just yesterday Treasury Secretary Henry Paulson rolled out a new financial regulation blueprint meant to “to improve the workings of our financial markets.”
To support the new regulatory mindset is to assume that economically-free countries, as opposed to those centrally planned, are frequently burdened with sclerotic growth and commercial failure. One would also have to take a giant intellectual leap backwards in the direction suggesting that government bodies free of the discipline wrought by the marketplace are somehow better suited to solve the problems before us. In truth, it is private interests, those that operate fully accountable to consumers and investors, who regularly adapt to all manner of changes in what is a highly fluid economy.
Apparently forgotten by our Washington minders is that the U.S. and the world shifted to more of a laissez-faire style precisely because heavy regulation proved so wanting when it came to fostering a high level of economic vitality. Indeed, it was the process whereby the U.S. and other countries shed the discredited views dictating economies needed to be managed from the “Commanding Heights” that led to the economic renaissance of the ‘80s and ‘90s.
When we learn that our leaders want to backtrack from what proved so successful, we have to ask if the people to whom we’ve entrusted power are really so obtuse as to believe we were better off in the era before free markets ascended as the Rule. To the extent that our leaders are intoxicated by the “fatal conceit” suggesting the infinite decisions that are the marketplace need regulation, we should eagerly remind them of their faulty thinking.
Perhaps it’s shooting fish in a barrel, but when we consider the economic calamities of the 20th and 21st centuries, all occurred due to too much governmental involvement in the economy, as opposed to too little. The legislative error that was Smoot-Hawley triggered the 1929 stock-market crash, and in its aftermath, all manner of legislative mistakes that turned what would have been a minor downturn into the Great Depression.
The unfortunate malaise of the 1970s was once again not a function of markets not working, but instead the result of President Nixon severing the dollar’s link to gold. The inflation that ensued drove already high levels of taxation even higher, and made investment and countless forms of economic activity less profitable. When we consider the gas lines experienced during the ‘70s, rather than a signal of market failure, they were the result of pricing regulations that reduced incentives for retailers to bring petroleum to the market.
Despite the triumph of free markets in the 1980s and beyond, government still inserted itself at times, and among other things, we have the S&L disaster to show for it. Rather than something that resulted from market failure, the federal government’s efforts to prop up an S&L industry that served no market purpose led to the privatization of profits and socialization of losses that cost American taxpayers billions.
More modernly, the imposition of Sarbanes-Oxley as a reaction to the unfortunate implosions of Enron and Worldcom turned what was mostly a non-event for stocks into a market rout as CEOs were forced to become accountants rather than innovators. And if we ignore the likelihood that FEMA’s very existence is a violation of the Constitution, the former’s ineptitude in the wake of Hurricane Katrina was useful as a “teaching moment” about the effectiveness of government in contrast with the brilliant efficiency exhibited by Wal-Mart in response to the same hurricane.
During his press conference at which he announced the new regulatory structure, Paulson said, “We know that a housing correction has precipitated this turmoil, and housing remains by far the biggest downside risk to our economy.” If we ignore his questionable economic analysis about the role of housing in any economy, we can say that the federal government created the problems we’re experiencing today through the weak dollar it has issued in this decade alongside massive subsidization of the housing market; subsidization that gave Washington the power to lean on lenders in ways that lending standards were made less stringent.
And when we address what is called the “subprime debacle,” can’t we at some point ask if anyone expected anything less than what we’re now experiencing? Subprime loans are thus described precisely because they’re risky. Rather than expressing shock at the rising rate of foreclosures in the housing market, we should say that markets are working very efficiently in that subprime borrowers are to some degree expected to walk mortgages. The irony here is that absent problems in this space, mortgage lenders would likely have been brought before Congress to explain the “exploitation” of borrowers who’d proven able to make payments at usurious rates.
On the financial front, Paulson seeks to expand the turf of the Federal Reserve as “Market Stability Regulator” given its traditional “role of promoting overall economic stability.” The mind races when confronted with the absurd notion that the Fed has had much to do with “overall economic stability,” but needless to say it seems folly to assume that a body wholly incapable of issuing a stable unit of account (and seemingly not desiring to do so either) should somehow be given even more regulatory oversight.
The reality is that markets being markets, they’re supposed to be unstable at times as new industries and innovations push out the old. But if we ignore the latter, we should say that just as the Fed and the rest of federal government have traditionally been late to commercial mistakes invariably discovered by private interests, the notion that a reconfiguration of the doings of career civil servants will somehow make them more effective market watchdogs is too silly for words.
The other shame here is that we’ll never know what might have happened had the Federal Reserve ignored the problems at Bear Stearns. We’re told that the health of the world financial system made the Fed’s actions necessary, but that being the case, it seems fair to assume that absent the presence of our central bank, private interests would have worked out a solution given how much money was at stake. That the financial establishment invited the Fed to participate in the Bear Stearns debacle speaks to a Faustian bargain of impressive proportions when we contemplate the future regulations that will be demanded in return.
Despite the regulatory apparatus that he proposes, Paulson expects “that we will continue to go through periods of market stress every five to ten years,” as though good or calm times for the markets must necessarily lead to occasional meltdowns. Paulson misses the point. Stock markets buffet and economies stop growing not due to economic freedom, but due to governmental activity in the areas of money, regulation, trade, and tax that make productive effort less profitable. That Washington has regressed in this decade in three of the four areas mentioned largely explains why an investment in the S&P 500 Index nine years would presently yield no gains.
What the economy needs right now is for the government to sit back and let the problems before us slide into the proverbial ditch. Only then will the costs of unused capital of the human and technological variety reach market-clearing levels so that the economy can start growing again. Capitalism works, and it was our initial embrace of it that made the last twenty-five years so abundant. Now is not the time to abandon it.