This Isn’t a Free Market
Many a blogger, pundit and journalist is running around right now and talking about the failure of the market, how more regulation is needed, and how the government has absolutely got to step in. Even noted “libertarian” bloggers are starting to sing this tune. There is only one problem, the current financial market is not a “free market”. It is a regulated market.
Now some might say, “Sure Steve, but it wasn’t entirely regulated, new financial instruments came into existence and they weren’t well regulated.” Fair enough. However let me toss a few flies into that nice soup.
1. These financial instruments are all that new.
These instruments have been around for quite sometime. The idea that there was a real estate bubble was also something that had been talked about for quite some time. Yet none of our regulator agencies did anything. None of the politicians did anything. They were all happy to let things roll along as they were. The economy is growing, people are spending money, things are good.
2. Setting oneself up for failure.
As some may know I own an American Pit Bull Terrier (APBT). This is a type of dog that comes with challenges many other dog owners can’t really comprehend. For example, the APBT is noted for being dog/animal aggressive yet human submissive. As such I can rarely go somewhere and take my dog off leash in case another dog or animal comes into the area and she goes after it. I have to constantly be on the watch for other dog owners who behave irresponsibly since other owners will walk around with their dogs off lease (this is both careless and illegal where I live due to cars and busy streets and a leash law). Basically I have to live by the motto of “Never setting your dog up to fail.” What does this have to do with the current financial market mess? I’ll tell you.
We have a government that regulates the banking industry, the securities industry, etc. We have the Federal Reserve whose job it is to ensure a sound banking industry. We have the Securities and Exchange Commission, the FDIC, the Treasury Department, and probably a few Congressional sub-committees I don’t know about as well. Their job is supposedly to make sure stuff like our current crisis doesn’t materialize. Yet here we are. What happened? We set ourselves up for failure.
First a fasle sense of security. With all these regulatory agencies many people feel they can shirk their responsibility to learn about what they are investing in. Why bother, the government is making sure things are on the up-and-up.
Then there is the periodic bailouts. I remember Chrysler being bailed out. Then there was the savings and loan industry collapse. Then after 9/11 the government bailed out airlines. These periodic bailouts send a signal: screw up big enough and Uncle Sugar is going to ride to the rescue. The subtext is: if you are going to screw up…do it really big.
So here we are…again. A big screw up, or a sequence of really big screw ups, and another crisis and lots of money going into yet another bailout. And everyone will talk like this will be the last one, but it wont. This bailout is going to contain the seeds for the next bailout. Why? Because the consequences of big screw ups are minimized. Minimize the costs of something and you get more of that something.
And there is one last point about this whole mess. Regulation of the economy bears striking resemblance to an arms race. First you have a crisis, so the government intervenes and regulates whatever caused the crisis. Now people out there in the economy look for a new way of making that kind of money, so they come up with something new. Eventually these new methods of making money percipitate a new crisis. The government intervenes and regulates this new thing. And on and on it goes.
So to claim that this is a failure of the market is overly simplistic. The reality is that what we have is a failure of the regulatory agencies and the government to deal with a correction to the market. In short, due to government incompetence and lack of foresight the very agencies that were to deal with these kinds of problems, and indeed, prevent them didn’t. They failed. Nobody who advocates for a “free” market thinks that the market is always going to produce superior results. Back in the early 1900s and late 1800s the view was that recessions were part of the business cycle. A way of clearing out the rot and deadwood, as well as correcting people’s false perceptions. That was deemed unacceptable so regulatory agencies were put in place. Yet here we are again with another crisis and another bailout. I submit that this is a failure of the regulatory apparatus. A failure to adapt. A failure to be forward looking. A failure to do its job.
It’s not a “market failure”: http://tinyurl.com/4cqxcj
As I’ve suggested, we agree that this is decidedly the free marketplace in it’s logical conclusion.
Where we disagree is the specifics of the government’s culpablity.
Then there is the periodic bailouts. I remember Chrysler being bailed out. Then there was the savings and loan industry collapse. Then after 9/11 the government bailed out airlines. These periodic bailouts send a signal: screw up big enough and Uncle Sugar is going to ride to the rescue. The subtext is: if you are going to screw up…do it really big.
This is why my gut really wants to just tell these businesses deal with the consequences, but I am not sure if this is big picture a good idea probably because everyone seems to be saying bailout is the only solution. Is it because we are used to bailouts to the point that nothing can fail or because a bailout is really the solution?
Also, I have seen some argue that part of the problem wasn’t the “free” market but that some of the regulations were part of the problem. I have seen reference to Sarbanes-Oxley as one of them, but I confess I am not really sure exactly how this led to failures-my knowledge of the markets and the regulation of them is minimal, although I have been trying to educate myself probably like a lot of others right now. Either way that bill had bipartisan support-especially at the senate level, so if that is part of the problem, both parties jumped on that bandwagon quite happily.
I do think we have ignored a lot of warning signs for a while now, sort of like ignoring the weeds in the garden-at some point you end up with a weed garden instead of a flower garden.
It is a government/regulatory failure in the end IMO. That is what they are supposedly there for: to prevent exactly this scenario. They didn’t and to some extent percipitated the crisis. To ask for even more government intrusion into the market place is folly IMO.
Sure, it might help in the short run, but in the long run we are just asking for another crisis, another bailout, and possibly even a larger one. And frankly we just can’t afford it. Government is too big and bloated already.
Oops.
Should read
Sorry for the error.
Yes, not bailing things out would be bad. But then again so is the bailout itself. And yet it isn’t going to prevent the next crisis and we are creating even more of a culture were rewards are private, losses are to be shared with the public/taxpayer.
And we can’t afford this bailout.
This is one of the classic instances of the left trying to control the narrative by judging its opponents on a utopian scale while letting their own unsuccessful, though undoubtedly pure-hearted efforts, be judged on a noticably less robust metric. Free markets do not guarantee that there will not be failures, including sometimes spectacular failures. This is not a bug but a feature. The thing to worry about is when the government tries to counteract this feature thereby making the eventual pain much, much worse, whether for the purest or the most basely demagogic of reasons.
As it is doing now.
Isn’t that a bit like saying murder is a police failure? Maybe we should just admit that government/regulation is supposed to make thing kind of thing difficult, not impossible.
Isn’t that a bit like saying murder is a police failure? Maybe we should just admit that government/regulation is supposed to make thing kind of thing difficult, not impossible.
I don’t think this is a good comparison.
The police are created completely as a resonse unit to crime, the government regulations are designed and intended to prevent crime.
You might say that chronic speeding is a failure of the police, since there are laws in place that are intended to regulate speeding, but still not sure the police/crime analogy is a good one.
Okay, fair enough it was a poor analogy. But the basic premise just seemed to be: “If you’re tasked with stopping people from doing bad things, and they do bad things, that is your fault not theirs”.
I’m not saying that the government regulators were not at fault for not stopping this, I’m just saying they’re not at fault for causing it. Taking cops off of speed traps isn’t going to stop people from speeding, even if having them there wasn’t stopping them either.
I’m not saying that the government regulators were not at fault for not stopping this, I’m just saying they’re not at fault for causing it.
I wouldn’t necessarily say government regulators were at fault, but I do wonder if some of the regulations themselves weren’t at fault. This is where I admit my knowledge base on this issue is weak, but I can’t help but wonder if part of the problem wasn’t that some things were over regulated while other things weren’t, and I do think there has been a certain amount of denial from the companies and from congress over the last several years that there was a problem.
When the message from congress is that there isn’t a problem, then what are the regulators going to do?
I don’t expect the police to stop murders, ideally. If they do, great, but in reality they are a reactionary force. They respond after the crime has been committed. I’m fine with that since it increases the costs of doing the crime–i.e. you will be caught and your liberties taken from you…or at least some money for smaller crimes like speeding.
The regulatory process on the other hand is supposed to be proactive, to prevent crises, collapses, to reign in the excesses of the market. But as we can see it doesn’t work, at least as it is supposed too.
Well…yeah. Your job is to stop them, they did it anyways so why aren’t you (or whomever we appointed) not to blame? The unstated premise seems to be that the people doing bad things can’t help themselves so why should we blame them? It is like blaming a lion for being a killer when it kills and eats a zebra. I suppose we can, but what else did you expect…the lion to become a vegetarian?
Actually, changing various laws could have paved the way. Maybe they didn’t actually “pull the trigger” but if they left the loaded gun lying around….
But why waste the resources? And how bad are the consequences of not manning speed traps? For example, is going 90 on a flat straight away really all that bad? Or do people tend to drive at speeds that they can handle given the road conditions, vehicle they are driving, etc.?
True enough. But what’s overlooked in all this is that the regulated move regularly (that’s right) into the ranks of the regulators and vice versa. It’s not Marxist, I think, to point out that all these folks are from the same socioeconomic class. They speak a common language, share a common outlook. They’re scared witless by the same things. They share the same impulse to preserve and protect. Roy had a nice take on a part of this yesterday:
So, Charles is wide of the mark when he says:
Regulatory agencies, especially in the financial sector, are not, contra Charles, the working out of some vast left-wing conspiracy to stifle the industrious. Just the opposite: regulatory agencies (financial) exist to preserve the entities they regulate. Where I may differ with Steve is that I don’t think they completely failed in their mission. Another way of saying this is that, in the extreme, regulatory agencies represent the institutionalization of moral hazard. On which point I think Steve and I do agree:
I may be wide of the mark, but I don’t think you have shown that here. My comment was in response to typical comments heard on the left that this is somehow a failure of free markets. It is no such thing. I certainly did not imply that there is any left wing conspiracy to stifle the industrious. Where do you come up with this stuff?
If any laws are responsible for allowing this, or even enticing it, it is the laws that relaxed regulation, not the ones that increased it. So if you’re going to blame the government, you have to blame them for not doing enough to stop people, not for doing too much and getting in the way.
People tend to drive as fast as everyone else around them, with some people driving slightly faster. So if 60 MPH is a safe speed, there will be someone doing 65, and because of that someone else will think that 70 is okay, and then yet another person will see them going 70 and assume that 75 is just a little bit faster, so it’s still safe, and so on until most people are going 95 on a wet road in the dead of night. People didn’t start out offering 0% down loans with no employment checks.
The speed traps may be completely ineffective at stopping people from going 65, and they may not do much to stop people from going 70, but it will make most people think twice about going 75 or 80, and will prevent almost everyone from going 90.
The same place Jeffery comes up with his stuff.
Now to be fair, I do think the market “failed” here. It failed in that people didn’t not correctly anticipate the risks involved, at least in part. Part of it, I would contend, is that people also figured the government would cover part of that risk as well.
Well, Charles, I was responding to this:
I took “unsuccessful, though undoubtedly pure-hearted efforts” to refer to the left’s enthusiasm for government, i.e., regulation. My point was that the regulation regime, in this instance, is really an insurance policy for very large financial institutions in the event the financial feces hits the fan, not the working out of the left’s desire for regulation. Moreover, it’s a regime whose insurance aspect is well-understood by the major players. If I misunderstood you, my apologies. And if I did misunderstand you, could you please clarify “unsuccessful, though undoubtedly pure-hearted efforts”. Thanks.
I appreciate your graciousness Sam. What I meant by “unsuccessful, though undoubtedly pure-hearted efforts” isn’t necessarily regulations per se, but the kind of “government is the answer social engineering” that led to the creation of Fannie Mae and Freddie Mac to begin with, and with their failure the calls for even more government intervention in the markets as the solution to that failure.
On a minor point with Steve, perhaps I am putting to fine a point on it, but I meant to imply that preventing failure is not a goal of free markets, and it is wrong to say that it is. Which, coincidentally, is why I worry about the government trying to take on the role as preventer of failures. It isn’t possible except by removing all risk and the only way to do that is stop people from ever doing anything. I really don’t think we want to go there.
But that is just it, it is always this way. Ooops, they found another loop hole, work-around, new way of doing something dodgy. And bureaucracies by their very nature are slow, ponderous, and ossified.
So here are the questions: would things have gotten as bad as they have with less regulations? Or would they have been worse? And how about the government actually doing something like analzying new financial instruments and publishing such analyses?
At least with the last one government agencies involved would have to pay attention to new developments instead of simply moving mounds of paper.
I’m not a big fan of treating humans like dumb cattle. I’ve seen people driving faster than me, than most people and shockingly not everyone speeds up. Further, not everyone jumped into the market getting questionable loans and treating their houses like ATM machines.
And I your graciousness, too, Charles.
To expand upon the last post, if Fannie Mae and Freddie Mac work they are held up as examplars of why we need more government intervention in capital markets. And if Fannie Mae and Freddie Mac fail spectacularly it is an exemplar for why we need more government intervention in capital markets. Do you see a trend here?
More on Steve’s point, people will always make bad decisions. Even with perfect information they will make bad decisions. At some point, you just have to let them make bad decisions and live with the consequences. It is either that or take their freedom away altogether. I think Anthony Burgess wrote a novel about this.
I hope this helps.
That of course requires that we first answer the question: how much regulation was involved?
I’m with you here, I’d rather the government provide transparency than regulations. Half the problem we have now seems to be that nobody knew the risks they were getting into, not that they simply ignored them.
Neither am I, but invariably people keep acting like dumb cattle. I’m not saying we should treat them like that, just that we should expect that they will, and setup our laws accordingly. Ideally we wouldn’t need speed limits because nobody would drive faster than they safely could, but people tend to do stupid things with reliable regularity, and any system we want to work in the real world has to account for that.
If any laws are responsible for allowing this, or even enticing it, it is the laws that relaxed regulation, not the ones that increased it.
See I am not convinced this is the case though-I think sometimes too much regulation leads to creative, but legal ways to work around the regulation that wouldn’t have been tried in the first place had the regulation not existed.
I am not convinced at all that this crisis is caused by too little regulation vs too much, and unless there is an honest investigation into what really caused the problems and what should have been done when the signs were indicating there was a problem.
I don’t think the solution is to dish out billions of dollars and then make up regulations that feel good to “prevent” this in the future. I also, really think the US government-both the executive and congress need to stop looking at taxpayer bailouts for business. If they take the risks they should live with the consequences of those risks, even if it means a lot of hurt in the mean time. I think Steve is right-a huge part of the problem is that too many companies don’t care about the risk, because somewhere in the minds of those making the decisions is the idea that the taxpayer will take care of it, if the risk proves too great.
It does help. My point is that these large institutions are willing to give up liberty in return for rescue if things go south. And the amounts of money involved are so large and the economic impact so great that they trump any desire that you and I may have to let those institutions live with the consequences of their bad decisions. This is the is that I think Roy was referring to that I quoted in my initial post: that horrible place where there is not much room for libertarianism.
A question for those who continue to insist that it was government regulation rather than deregulation that led to this crisis, which specific regulations do you think led to this crisis?
True, at some point you’ve got to remove the incentive to find ways around the intent of the law. I’m not against deregulation, I just don’t want it brandied about like a solution to the problem of people working around regulation.
I’m with you here too, but regulation is all the government really has the authority to do, so if somebody blames this on government, they are implicitly blaming it on regulation.
Again, I’m with you. I’d rather see them loan money using the debt as collateral, so that they only unload it on bankruptcy, in which case the government gets close to their money back.
Not regulation but legislation. Specifically the legislation that created Fannie Mae and Freddie Mac.
Oh come on, Charles, you’re not taking the Bithead line that this was all the fault of Fannie Mae and Freddie Mac, are you?
Not all, but it was a significant contributor.
Indeed, and Micheal, let’s get this one cleared up. I never said intentionally that F&F was all of it. I’d say the other part of that is the CRA. In combo, deadly in the extreme.
Now this is interesting. Seems McCain’s campaign manager was working with Fannie & Freddie to promote… minority home ownership. Gosh, is it possible someone else had a hand in this besides those awful, horrible Democrats?
Sorry, Wingnuts: McCain’s Campaign Manager Pushed For Boost In Minority Homeownership
By Greg Sargent and Eric Kleefeld – September 22, 2008, 5:08PM
An emerging meme on the right, one that’s being championed by the likes of Neil Cavuto and others, is that the mortgage crisis happened not because of deregulation, but because brokers were pressured into making loans to “minorities and risky folks,” as Cavuto tastefully put it.
But guess who actively sought to boost minority homeownership? John McCain’s campaign manager, Rick Davis.
As The New York Times reported today, Davis was president for several years of the Homeownership Alliance, an industry advocacy organization formed mainly by Fannie Mae and Freddie Mac. The Alliance’s core mission is to boost the number of mortgages granted.
“We have an opportunity in the next decade to increase minority homeownership and significantly reduce the minority homeownership gap,” Davis is quoted saying here. “The future of the housing market rests heavily on the economic success of minorities. Homeownership is likely to grow faster among minority Americans in the next decade if all the stakeholders in the housing industry work together to make it happen. The Homeownership Alliance is working toward this goal.”
Veryyyyyyyyyyyyy interesting indeed…
(from Talking Points Memo)
anjin-san spreading the same feces across multiple comment threads now. Somehow I don’t think Rick Davis’ lobbying matches James Johnson running Fannie Mae. Jumpin’ bejeebus but anjin-san is as predictable as his comments are worthless.
James Johnson – Not Obama’s Campaign Manager. Duh
Tell ya what charles. Why don’t you and GW get together and then you can talk about poop, feces, and whatever else persons such as yourself talk about.
Damn. Pathetic has a new name…
If CRA was the problem, it must be with the 1995 or 2005 changes. The change with the most negative impact on our current situation was allowing “the securitization of CRA loans containing subprime mortgages.” This reduced the regulations and increased the risk and ultimately led to the scale of the problems we now face. Combine that with 30:1 leveraging of investments and apparently you get a $700 billion bailout. Government may have helped point them the wrong way, but Bear Stearns et al chose to run headlong off the cliff. If you are going to argue that this is the fault of government then what standard do you hold for personal or corporate responsibility?
You do know that there’s a difference between pushing for minority home ownership and re-wrting lending laws to force banks to loan to people with bad credit, right?
Or are you really saying that minorities are deadbeats, invariably?
Tell us, Bithead, what exactly is the difference between writing that legislation, and lobbying for the writing of that legislation?
If you by a new truck beause you like it’s looks, but it doesn’t fit your needs do you blame the salesman?
Similarly, Those writing the legislation bear direct reposnibility, not the salesman.
But this misses the point of the thing, which is that the goals got fouled up in the tacitics. Increasing home ownership by minorities is a markedly different thing than the goal set by re-writing lending rules based on skin color. this is a discussion we’ve had before, where the goal of equality of opportunity gets twisted into equality of outcome… a bit of confusion liberals are particularly prone to.
Your analogy back-fires, Bithead. If Davis was the salesman, then was as instrumental in you buying the car as you were. If the salesman claimed that the truck was fuel-efficient while hauling 10 tons, but it explodes the first time you try it, the salesman is as much at fault as you are.
Moreover, it would be odd for you to hire that salesman to run your campaign, while at the same time blaming salespeople for selling people exploding trucks.
Now, if you want to argue that the legislation Davis pushed was different than the legislation that was written, I would welcome the details on the difference.
Okay, so we shouldn’t bail them out then? That sure seems to be the logical conclusion from this.
They ran headlong off a cliff. That’s stupid…why its suicide. Why should the guys who didn’t run headlong off the cliff have to risk their necks trying to help the idiots?
By the way Grewgills, you have completely ignored the moral hazard problem. You really think it is okay to make good risks and the resulting profits private and the bad risk and resulting losses public? Good way to ruin the economy.
Utter nonsense. People are trying to sell me stuff every time I turn on the radio or TV. Does that mean that I’m covered, and don’t ahve to take any responsibility for taking them up on their offer?
Not required to defeat the argument.
And given their transgression was they trusted government, who gets the blame here?
As for those who didn’t run off the cliff, to whom, exactly do you refer?
At this point I am still not certain. I would prefer that we not bail them out, but every economist I have read that has spoken on this seems to think that not doing it would be worse. I am still unconvinced, but think that if there is going to be a bailout it should be well thought out rather than a blind give away like Paulson’s plan.
Perhaps because they are connected and if the big ones go over the rest will be pulled over with them. Again, I am not convinced but this seems to be the prevailing wisdom.
Because it was peripheral to the point I was making.
No. My initial argument did not address this directly but the tone I thought made this obvious. We appear to be mostly of the same mind on this. Are you just arguing with me out of habit?
Where we do appear to disagree you have not commented. I see removal of specific regulations and allowing ridiculous levels of leveraging as the primary reason for the size of the mess (by orders of magnitude). Do you disagree? I know you think that the expectation of the bailout was a primary cause, but minus the deregulation and over leveraging would it be such a big problem?
That line of thought runs directly counter to your it’s all/mostly the guv’mints fault argument for the bailout.
Depends on which argument you are talking about. If it is the relative ties and culpability of the candidates to this failure it does. One of the prime salesmen of the legislation you blame for this problem is running McCain’s campaign. If you disagree so whole heartedly with the legislation why do you support the salesman of that legislation advising your candidate? Do you think he is giving McCain better economic advice than he gave congress? If so, why?
No. Just because I give you the rope does not make it my fault if you hang yourself with it particularly if you continuously lobby me for more rope.
The problem is that those idiots are tied to one end of a rope, and we’re tied to the other. We either pull them back up (bailout), go down with them (collapse), or find a way to sever the rope (???).
If the product you buy doesn’t live up to what they were advertising, then yes you are absolved of responsibility (or at least the responsibility is shared with the salesman). That is why the second part absolutely is required, because either Davis was selling them what they bought, or he was selling them something different. If the former he is as responsible as the lawmakers, if the latter is he absolved.
You’re missing something kinda crucial. The salesman doesn’t have the power of government behind him, enforcing that everyone buys, which was the situation in the case of the CRA.
Actually it is why you’ll have more and more of these crises if you bail these guys out.
Yes not bailing them out will hurt. Alot. But so will bailing them out. It will hurt too. $1 trillion dollars worth of hurt. Take out all the money you have in the bank, take one out of every $14 and tear it up. That is the pain we are talking about with this bail out. If that sounds like a bad idea…well then there you go.
I think it is more a problem of transparency than anything. Hidden information or information that isn’t widely available. It is well known in economics circles that these things can lead to all sorts of problems.
As for the current mess it has lots of contributing factors, one of which was a potential bailout. Another are bad incentives in terms of bonuses and pay for Wall Street. Another was changing the rules of the game without, or as you might call it deregualtion. Changing the rules is always risky. Then there was the government sponsored entities Fannie Mae and Freddie Mac who were very nearly at the center of alot of this sub-prime mess.
Neither does the government, in this case. The government didn’t force any bank to make any loan, the bank had discretion.
The market is political as well as economic, and we’ve been in a “boom and bailout” cycle for at least a generation. Where the market may have gone wrong was in the assumption that you can always transfer your losses (if they are big enough) to the government. And it may turn out they were right…