Bailouts, the Anarchist Perspective.

First and foremost, I should mention that right before sitting down to write this, I was pleasantly surprised with an Alternet article in my inbox titled: How kids Learn to Love Capitalism, and it essentially equated teaching capitalism to kids through vicious schoolyard games, like "kill the kid with the ball". It gave me a great big chuckle, you'll read it and understand why immediately. Second, this is my post in the dual blog post with my guest author Erik. To see what inspired the idea for this, go to Blogcatalog to see for yourself. The question at hand isn't whether or not either blogger here agrees with the bailout of companies like AIG, the "Big Three" or the credit and mortgage industry, but rather, why we don't because we have two very different reasons, and two very different opinions on the entire situation. I'll make this as simple as I can, keeping in mind this is a complicated subject. Now, on to my 800 word limited post. (The intro doesn't count! *cough*)

The problem at large is with the new economic catch phrase of the day, "too big to fail". This is the key aspect that sparked this very blog experiment. I do believe that these companies became too big to fail, but I believe they are too big to fail because the government failed to properly regulate them.

I can hear the screams now - we can't regulate progress! Success cannot be curtailed! I hear you, however if these companies were actually successful, they wouldn't be asking for a bailout, they wouldn't be failing, and they certainly wouldn't have gotten too big for their britches.

Some people blame government regulation for the economic meltdown. For example, Robert Blumen form the Mises Institute, years ago, accused Fannie and Freddie of distorting the market in a way that would cause an implosion, of sorts, or at the very least, a problem. Many people blame the Community Reinvestment Act for the huge subprime upset that has been blamed for the real estate crisis. But is this blame correct? Has the government intervention on these matters actually caused an economic implosion? What about companies like AIG? What government regulations caused their demise? Or the Big Three? The credit industry? Other than the welfare the companies willingly accepted, I don't see what government program spurred their decline. Furthermore, Fannie and Freddie went to private shareholder ownership back in '68.

Here's my theory:

Fannie and Freddie were implemented in 1938 as a quasi-private company, designed specifically to grease the wheels of capitalism. They buy bad debt, but they also lend and sell to others. They take money, and they move it around to make it all work. Some speculate that the having a semi-government run company buying up debts both good and bad is meddlesome, and interferes with the ebb and flow of free market capitalism. However, the majority of private lenders are under no obligation to sell their debts to Fannie or Freddie. In fact, the agencies were pressured by the primary lenders to ease their credit requirements for qualified lending, and, in 2004, anti-predatory lending regulations were dropped, allowing primary lenders to engage in high-risk lending practices. More to the point, Fannie and Freddie's requirements were simply too conservative, and so lenders looked elsewhere for their securities, and upped the high risk behaviors.

Some blame the CRA for this spike in high rick lending, but in fact only a sparse amount of lenders were bound to the CRA, the rest who engaged in high risk lending practices were private businesses with no obligation to do so.

Why?

In a word, Greed.

I'm going to use an anecdotal story to convey my point on this. Lending money is a risky business. The CRA low to moderate income debacle immediately creates blame for the government. However, low income doesn't necessarily equal "high risk". What low income means to banks, is "small loan, therefore, little financial reward". A lender can successfully lend money to a low to moderate income family for a home, provided that the applicant has a decent credit history, and, the homes are in affordable price ranges.

Ahh, there's the rub. Affordable homes. The real estate market, where I live, got greedy and opportunistic. The availability of wealthy people flowing into the town due to a (short lived) economic boom meant housing prices skyrocketed. The agents have to make money, right? The homeowners wanted to sell their homes for three times what they paid for it, right? The lenders wanted to make some serious money with large loans, right? That's exactly what they did, in the meantime they shot themselves and the rest of the community in the foot by putting homes in an economic bracket that was simply out of reach for the low to moderate income home buyers. Now they had to issue larger loans to people who couldn't really afford them.

Who's fault was that?

All of a sudden, there was a strain on the market, and credit started to freeze up. The securities from Fannie and Freddie were too strict, and so they deregulated them, opening credit up. In the meantime, however, the government issued a warning to Fannie and Freddie, that they had to maintain at least 30% capital to have enough of a cushion. Instead, Fannie and Freddie cooked their books, and continued buying loans beyond what their capital cushion allowed, causing their own financial meltdown.

To me, it's a bit like a child ignoring parental warnings, and asking for more and more liberties, then getting hurt. At what point was it the fault of the government for the predicament the lenders found themselves in? The regulations were in place long before this happened - and they worked just fine, to tell the truth. The so called market distortion by Fannie Mae et al seemed to sit rather well with the private industries who chose to do business with them. The CRA was being met just fine until the real estate and lenders decided they wanted to make more money.

If it was really the fault of government regulation, then why did the market do fine when they were regulated, and fall apart when deregulation occurred?

Granted there is the argument of bailouts rewarding bad companies. Rewarding companies who can't operate on their own is a bad idea, and why I disagree with the bailouts. This argument, however, can easily be put to task as the chicken or the egg. Which came first?

Well, de and unregulated markets did, actually. Pre-Depression the markets were hardly regulated at all, and they still collapsed forcing the government to step in.

I would love nothing more than for these companies to die a painful death on their own, with no welfare to save them. However, I would want that death to serve as a reminder of what needs to be done in the future to prevent Depressions from happening. The economic fallout for those of us who played no part in this mess is simply unacceptable, and I feel that regulation needs to be more strident.

For as much as I loathe the illegitimate authority of the government, I abhor the ludicrous disasters of unregulated capitalism even more. And so, while I just argued in favor of a government, it should be known it was actually an argument against unregulated capitalism.

Resources:
Lending to the poor didn't cause crisis (Reuters)
Sandra F. Braunstein
Director, Division of Consumer and Community Affairs
Subprime mortgages
Before the Subcommittee on Financial Institutions and Consumer Credit, Committee on Financial Services, U.S. House of Representatives
Finance and Economics Discussion Series
Divisions of Research & Statistics and Monetary Affairs
Federal Reserve Board, Washington, D.C.
New York Times
Key facts about Fannies Mae, USA Today
Mortgage Giant Overstated the Size of Its Capital Base
Hey Big Brother, Can You Spare a Dime?
F.B.I. Looks Into 4 Firms At Center Of the Storm
Freddie Mac Ordered to Raise Capital Reserves
Fannie Mae Shares Plummet on Reports of New Violations
Fannie Mae, Wiki
Fannie Mae debt
Securities Exchange Act of 1934 - Section 13
No Action, Interpretive and/or Exemptive Letter: Fannie Mae
Finding Dulcea, business
2005 housing regulatory bill that was stalled on the floor, and never passed
Mortgage Crisis might have been worse without CRA
Subprime lending, Wiki
Subprime lending, investopedia