Ignore the Neo-Keynesians, 'Easy Money' and 'Sloppy Loans' Didn't Cause 2008

Ignore the Neo-Keynesians, 'Easy Money' and 'Sloppy Loans' Didn't Cause 2008
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Economic discourse would be a great deal more informative if it were broadly understood that no one borrows money. What they borrow is what money can be exchanged for. Always.

That’s why readers should always be skeptical when pundits and economists talk of “easy money” or “too much liquidity” care of some government entity like the Fed. Implicit there is that governments, by virtue of printing money or increasing so-called “money supply,” can increase the supply of goods available for borrowing, and by extension, borrowing itself. Such a view isn’t serious. Only the private sector can increase borrowing or liquidity simply because all goods and services are produced in the private sector.  

All of this rates mention yet again given some comments Michael Bloomberg made about faulty lending that allegedly led to 2008. Bloomberg was criticized for weighing in, at which point conservatives and libertarians trotted out their own familiar arguments about what happened almost twelve years ago.

One conservative economist blamed Fannie Mae and Freddie Mac for making it possible for lenders to make “sloppy loans” since they “knew those mortgages could be bundled into securities and sold” to the two quasi-governmental entities. This stance is a popular one among conservatives, but it ignores a rush into housing that was global in nature, and that took place in countries where there was no Fannie or Freddie. After that, it's worth pointing out that housing soared in England even though the mortgage interest deduction was jettisoned there back in the 1980s. Housing boomed in Canada even though it’s long been very difficult for borrowers to access home loans there.

Furthermore, the argument ignores the simple truth that a substantial majority of those allegedly “sloppy loans” performed. As Blackstone co-founder Stephen Schwarzman pointed out in his excellent new book, What It Takes, mortgage loan performance was over 90%. That it was is and was a statement of the obvious. Banks, precisely because they’re not equity lenders, must issue loans that will be paid back.

They were in trouble not because the loans were generally sloppy, but because even a small percentage of bad loans can render a bank insolvent. Furthermore, it rates stress that even without Fannie and Freddie, demand for bundled mortgages was already extraordinarily high; as in even if Fannie and Freddie hadn’t been size buyers of these securities, demand for them well outstripped supply as is. They were seen as safe. Banks and investment banks had lots of exposure to them precisely because they were seen as safe. John Paulson’s billions are today evidence of just how safe they were seen to be. It only took a brief change in the perception about loans that largely performed for Paulson to make his fortune. A focus on Fannie and Freddie kind of misses the point.

Why did some eventually go south? Who knows, but it’s worth pointing out that investment is what powers economic growth, investment is a consequence of savings, and in any economic scenario businesses reliant on investment are always competing for resources with consumers. It seems one big driver of eventual loan non-performance is that with consumption of housing soaring, capital availability wrought by savings wasn’t as a great; thus sapping the economic vitality and progress that made loan repayment more doable.

Which brings us to the other popular view among conservatives and libertarians: the Fed did it. They point to a low, 1% Fed funds rate in the early 2000s as the driver of the rush to housing. It all seems so simple except that housing in the U.S. boomed in the 1970s when the Fed was aggressively hiking rates. The Fed/rate argument also ignores that the housing boom in the 2000s was once again global in nature, and happened in countries where short rates targeted by central banks were quite a bit higher.

But considering conservative/libertarian blame of the Fed for 2008 more broadly, it can’t be stressed enough that their “easy money” and “too much liquidity” critiques of the central bank reveal a Keynesian quality to their commentary. Call it neo-Keynesian? Think about it.

Members of the right properly mock Keynesians for laughably arguing that government spending boosts economic growth. No, it doesn’t. Governments only have money to spend insofar as the private sector creates the wealth that enables their spending. Keynesians typically get it backwards. The growth already occurred; thus the ability of governments to obnoxiously waste precious resources.

Yet all too many conservatives and libertarians once again contend that “easy money” and “too much liquidity” helped fuel a frothy housing market. Their argument is at best Keynesianism turned inside out. Keynesians say governments can create a wealth multiplier by spending, while conservatives and libertarians claim central banks, seemingly for being central banks, can decree easy access to resources through “easy money.” Just decree low rates of interest and resources aplenty will magically appear? No, that’s not how economies work. If they did, the former Soviet Union would still exist thanks to an always “easy” central bank.

As for “too much liquidity,” implicit there is that the Fed enabled a rock-bottom lending environment. Ok, but how? Let’s never forget that no one borrows money. They once again borrow what money can be exchanged for. In blaming the Fed for 2008 conservatives and libertarians seem to be saying that the Fed engineered easy resource access by making lending artificially cheap. If true, apartment abundance in Manhattan is as simple as Mayor De Blasio forcing stringently cheap rent controls on the Borough. In reality, access to loans is only possible insofar as private actors are producing goods and services that individuals would borrow money to access. Governments don’t produce anything, so to pretend that they can make money “easy” or lending “liquid” is to pretend that for being governments, they can magically summon the goods and services that would cause people to borrow money in the first place.

Applying all this to 2008, the explanations from the right about what happened remain insufficient. That the boom was global rejects the popular explanations about Fannie, Freddie and the Fed, as does logic. As for the left blaming "de-regulation" and "predatory lenders," oh please. 

So perhaps readers might consider the dollar. It was declining in the ‘70s, and it was declining in the 2000s. Housing and other tangible commodities like gold and oil tend to do best when the dollar is doing the worst. It’s low rent to focus on the dollar, but it’s the common denominator of the ‘70s and ‘00s that no one dare mention. And when the dollar is in decline, it tends to be a global event as currency authorities around the world aim to maintain some kind of consistency with the greenback. 

Crucial is that the dollar is a political concept, as opposed to something managed by the Fed. It’s worth keeping in mind as left and right continue to stake out their familiar positions about what happened not too long ago. Their arguments don’t stand up to common sense.

John Tamny is editor of RealClearMarkets and a senior economic adviser to Toreador Research and Trading (www.trtadvisors.com). His new book is titled They're Both Wrong: A Policy Guide for America's Frustrated Independent Thinkers. Other books by Tamny include The End of Work, about the exciting growth of jobs more and more of us love, Who Needs the Fed? and Popular Economics. He can be reached at jtamny@realclearmarkets.com.  


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