Topic: Economics
In Defense of Capitalism Capitalism is not to blame for the current financial crisisby Kenn Jacobine
(libertarian)
Sunday, September 21, 2008
The economy of the United States is not a pure capitalist system. We operate economically under what economists like to call a "mixed system". This is a system that combines elements of a market economy with elements of a planned economy. It is because of this mixed economic approach that Treasury Secretary Paulson and Federal Reserve Chairman Ben Bernanke determined that it was within their authority to nationalize Freddie, Fannie, and AIG in the name of stabilizing the financial markets. In a purely capitalist system, these bailouts would have been impossible. Quite frankly, the crisis that caused those bailouts to happen in the first place would not have happened if we were a pure capitalist country.
That is not to say that capitalism is perfect. But, in the current environment we must brace ourselves against the endless onslaught against the system which has made our country number one economically for some time now. You see the politicians are really just poor sports that have never grown up and never like to admit fault for anything. McCain, Obama, members of Congress, and the Administration will babble on about how the greed and unbridled actions of others are the culprits for the subprime crisis. They will talk tough about how they are going to go after the bad guys and bring them to justice. They will propose new regulations to prevent this from ever happening again. In short, they will attempt to socialize us to believe that only a capitalist system with the ruling elite (themselves) in charge is good for the country. They are all liars and are hereby permanently banned from the shrine of Free Market Economics.
Throwing out accusations and speaking in vague generalities is easy. That is what the politicians do all the time. So instead, let's look at some examples of where capitalism has been blamed for a crisis that the politicians actually started. We have all heard about the greed and lack of regulations that caused the savings and loan crisis of the 1980s. But, it is never mentioned by the politicians how the crisis came to be in the first place. For that we go back to the year of my birth, 1964. Lyndon Johnson, the patron saint of the welfare/ warfare state, had just begun to rebuild that institution on our shores. With the passage of his so called "Great Society" and increased funding for a military conflict in Southeast Asia, the United States government, through the Federal Reserve Bank, printed money over and above the limit mandated by the gold reserves held by the government at the time. By the late 1960s, foreign holders of U.S. dollars realizing that their asset would soon be worth much less, demanded, as they were entitled to, an exchange of their devalued dollars for American gold. The hemorrhaging of U.S. gold reserves that ensued was so great that Richard Nixon closed the gold window in 1971 to prevent a default. He effectively opened the door to future wild spending by Uncle Sam.
These actions by our leaders: increased spending and lifting the last vestige of the gold standard would set the stage for the savings and loan crisis. Little did policy makers know at the time, that printing money to monetize debt was addictive and would eventually lead to inflation. This was probably because most of them had never heard of the Austrian School of Economics and because some years later Richard Nixon declared that "we are all Keynesians now". Nonetheless, savings and loan banks through the 1970s played by the rules paying interest on savings accounts and providing mortgages to borrowers. The problem came in the late 1970s when faced with high inflation from the spending binge the Fed had to increase interest rates to 21 percent in an attempt to control rising prices. This hurt the savings and loan banks in two ways. First, a government regulation that placed a ceiling on the interest rates savings and loans could offer to their depositors caused a transfer of funds from low rate savings and loan savings accounts to new higher rate money market accounts in other banks. Second, savings and loan banks had much of their money tied up in low, fixed rate, long term mortgages. As the Fed increased interest rates it made these mortgage backed assets virtually worth nothing. Thus, government spending which forced the Fed to raise interest rates ultimately caused the savings and loan crisis. By 1980, before deregulation, many savings and loans were already insolvent. Politicians are disingenuous when they say the savings and loan crisis was caused by the greed of the bankers; it was caused by the misguided policies of the politicians of the time.
Now, flip the calendar forward a decade to the 1990s. Through the decade, the "Maestro" Fed chairman Alan Greenspan, had kept interest rates artificially low while continuing to pump more dollars into the economy to keep the good times rolling. By the end of the decade, we had the dot.com bubble. Of course, we were told by Washington that this was the fault of greedy techies who were corrupt and had unbridled behavior. At the end of the day, I didn't expect Washington to come clean and admit culpability, but I did expect them to learn from their mistake so it wouldn't happen again.
Then, it did happen again. The "Maestro" lowered interest rates to one percent to stimulate the economy after 911. In the meantime, Congress revised the Community Reinvestment Act, which cajoled community banks to make loans to bad risk borrowers. With an implicit guarantee from Uncle Sam, Fannie and Freddie took on more and more mortgage loans. With more money in the pipeline, laws forcing banks to make at least some bad loans, and moral hazard, the federal government had tied and given the noose to the financial community to hang itself.
Again, like in the 80s and the 90s, the cause of the crisis according to the ruling elite is with those greedy bankers. Again they are being disingenuous. In the 1980s, Congress instituted the Resolution Trust Corporation to liquidate the bad assets of the insolvent savings and loans. In the end it cost the taxpayers $150 billion. Today, Congress is considering a similar approach to liquidate the bad assets of the insolvent financial institutions. This time the costs will be in the trillions.
The capitalist system is not perfect, but it is eons better than the bastardized economic system Washington has given us. History has proven that the price of money is better determined by the market than a central bank. History has also proven that a commodity backed currency not the political whims of politicians and financial bureaucrats is the best way to rein in the size of government, protect purchasing power and asset value, and in the end avoid catastrophes like the one we are about to encounter.
Kenn Jacobine teaches History and English for the American International School of Lusaka, Zambia. Send him email at lovesliberty@gmail.com.
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There is a growing list of right-wingers who have decided to blame the current subprime mortgage crisis on the Democrats who passed the Community Reinvestment Act of 1975. Predictably enough, it doesn't take much effort or research to figure out that this claim has very, very little resemblance to the truth.
The basis behind the claim that the CRA caused the subprime crisis is relatively simple. The Community Reinvestment Act requires banks to make loans in the low- and moderate-income areas that they serve. Everyone knows that low- and moderate-income families are going to be bad risks, so this means that the banks are being forced to make subprime loans. Therefore, the CRA is the cause of the current problem.
The thing is, very little of this is true.
Let's start with the Community Reinvestment Act and the reasons that it was passed. For decades prior to the law's passage, banks engaged in a process known as redlining, where they declined to write loans in certain geographic areas - typically low-income areas with large minority populations. They did not decline to write bad loans in these areas; they refused to write any loans at all. For example, in 1975 the largest bank in the Bronx wrote a grand total of 32 loans in the entire borough. No loans means no new businesses, no new housing, no opportunity.
The CRA simply requires that any federally-insured bank that accepts deposits from people living in a certain area also write loans in that area. That's all. It does not require a fixed number or percentage of loans to be made, and it does not require that the banks relax their lending criteria in CRA areas. In fact, the law specifies that federal agencies evaluating the covered banks:
"assess the institution's record of meeting the credit needs of its entire community, including low- and moderate-income neighborhoods, CONSISTENT WITH THE SAFE AND SOUND OPERATION OF SUCH INSTITUTION" [emphasis added]
Simply put, the claim that the CRA forces banks to make subprime loans is absolute nonsense. The law contains a clause that protects banks from having to take on unsafe levels of risk. It was also passed in 1977, more than a quarter-century before the current crisis began to unfold. But what about the rest of the claim. Isn't there some truth to the claim that anyone lending money in a poor area is going to have to be willing to lend to subprime borrowers?
Apparently not. According to the President of the Federal Reserve Bank of San Francisco, over 80% of CRA loans made in 2006 by banks covered by the act are prime loans. Simply put, being poor does not mean that you are irresponsible, or that you have bad credit. It just means that you don't have a high income or a lot of money. There is no shortage of responsible poor people out there, who have good enough credit and enough savings to qualify for a traditional, prime home loan.
It's not the banks covered by CRA that are making most of the bad loans. They account for about a quarter of all subprime loans. Bank subsidiaries that are not necessarily subject to CRA account for about another quarter. The rest - representing slightly more than half of all subprime loans - were made by the mortgage companies.
To sum up, the Community Reinvestment Act was signed more than 25 years before the current subprime crisis erupted. Banks, which are the only financial institutions covered by the CRA, have made a little less than a quarter of the riskier loans. These riskier loans only account for 20% of the total number of CRA-eligible loans that they have been made. The majority of the subprime loans were made by mortgage companies that do not have to comply with the CRA, and 40% of the mortgage loans initiated in the mortgage company sector in 2006 were subprime. The claim that the CRA caused the subprime crisis is nothing short of asinine.
This latest "spin" is nothing less than an attempt to, once again, blame minorities for something the GOPers did. And since Barack "Hussein" Obama is a minority, you at Rove & Co. hope it will be that much more readily believed. Good luck in Novemeber…you're going to need it.
This is a reply to Rory Talbot and his point about the CRA.
You write as if there are people claiming that it was the only cause of the present mess. All people have correctly said is that it is a factor. One of many. This article, "The CRA Scam and its Defenders" (http://mises.org/story/2963) explains the situation well.
Capitalism is as a virulent philosophy as communism. There they called the privileged oligarchy that ran the country nomenklatura here they are called cronies.
The free market has nothing to do with capitalism, communism or any other idiotology. This is why it is called the free market.
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