Wednesday, October 15, 2008

Who deregulated what and when, and does it matter? 

Peter Wallison has published a must-read piece on the recent history of financial regulation in today's Wall Street Journal. It blows a hole in the claim that the repeal of Glass-Steagall caused the present debacle. There is also the useful observation that Barack Obama's claim that he "wrote a letter to the Treasury Secretary" in 2005 warning of the subprime loan problem "is revealing: if true, it indicates Sen. Obama knew there was a problem with subprime lending -- but was unwilling to confront his own party by pressing for legislation to control it." Well, few politicians with ambition are willing to confront their own party, especially if it is to end a party.

The truth is, the hunt for culpability in this mess has no value outside of the political realm. Neither deregulation nor excessive regulation is really the "cause" of the debt bubble and its bursting. Oh, sure, you can point to one or another bit of regulation or omission to regulate and draw a retrospective and superficially persuasive cause and effect, but that exercise misses this trumping condition of history: Roughly every couple of generations, there have been financial bubbles and panics in all substantial economies, in all centuries since financial markets moved much beyond the trading of goods for specie, and under all regulatory regimes from the virtually libertarian to the essentially socialist. Each bubble and panic happens for a different reason, and in each case it was only genuinely understandable in retrospect. Yes, there will always be those -- such as Barack Obama and John McCain -- who claim to have seen the risk in advance, but unless they made a vast fortune shorting the deflating assets their "foresight" amounts to the random flapping of gums. I'm sure I said "gee, home prices sure look insane these days" at some point, too.

I hold this truth to be self-evident: No government of men can design a regulatory system that will prevent the next bubble and ensuing panic. Only the collective memory of the last bubble prevents the next one, and when that fades with the turning of the generational wheel the lesson must be learned all over again. The reason is obvious: Bull markets -- whether in stocks, tulip bulbs, railroads, or real estate -- are fun, and nobody, and especially no politician, wants to stop the party before its natural end.

This panic will affect many people, especially the young traders, portfolio managers, and bankers who are losing their jobs or seeing their well-heeled friends fall back into the middle class. Those who stay in the business will remember it for the rest of their lives. Today's twenty and thirty year-olds will indemnify the American and European economies against excessive debt and asset inflation for the better part of their careers. Schedule the next big melt-down in 40-60 years, when these people are long-retired and the generation born around 2025 deludes itself into thinking that it is "different this time."

None of this is to say that regulation is futile, by the way. It is just that its purpose ought not be the prevention of bubbles and panics. Let us by all means regulate to foster transparency, sustain confidence in normal times, prevent inflation, crack down on corruption, and promote thrift and industry. But do not imagine that our politicians or regulators will understand or respond to the next crisis before it is well upon us.


By Blogger smitty1e, at Wed Oct 15, 09:01:00 AM:

The chirping of the crickets on Amendment X
The powers not delegated to the United States by the Constitution, nor prohibited by it to the States, are reserved to the States respectively, or to the people.
is stark.
I wish that state governments were permitted to matter under the imperial Fed.
Neither candidate seems terribly mavericky or changey on the point.  

By Blogger Mrs. Davis, at Wed Oct 15, 09:40:00 AM:

I agree that bubbles regularly occur and will until greed and fear disappear from the human psyche. But what is at issue now is who pays and how. This has important ramifications for what lessons and how well the young learn those lessons that they carry with them through the rest of their lives. It is not at all clear to me that we are better off socializing these losses.  

By Anonymous Anonymous, at Wed Oct 15, 12:26:00 PM:

To socialize the banking losses, or not to socialize the banking losses.

That is the question.

We take a big short term risk in NOT resolving (socializing, if you will) the losses and the concommittant problems of inter-bank lending when too many banks have "bad paper" as collateral.

But as Mrs. Davis points out, there is a much longer term "moral" hazard to doing that very thing. We can paper over the paper with more paper, but someday.....

And that is what the politicians live for. Putting off the eventual "someday" with dubious half-measures and improvisations, to keep their phoney-baloney jobs a little bit longer, as it were.


By Anonymous Anonymous, at Wed Oct 15, 01:31:00 PM:

I'm pretty sure that when something bad happens, it IS important to know how and why it happened.

Knowing how and why something happened is inseparable from knowing who caused, or allowed, such a thing to happen.

I find your dismissal of the current economic crisis as simply a perfectly normal market fluctuation -- without any influence by government regulation (or even deregulation) preposterous and asinine.

Michelle Malkin should know better than to link to an idea this dismissive and stupid.  

By Blogger commoncents, at Wed Oct 15, 01:54:00 PM:

Great post and great site you have!

Would you like a Link Exchange with our new blog COMMON CENTS where we blog about the issues of the day?


By Blogger Escort81, at Wed Oct 15, 02:04:00 PM:

I agree that bubbles will continue to happen, and are a result of some weird feature (or bug) of human group dynamics. The point, however, of a decent regulatory scheme is not to prevent the bubble from occurring at all, but to limit the size of it, and therefore the blast shockwave when it bursts. Changes to margin requirements for buying stock in the 1930s (rules that are in place to this day) might be a simple example of a rule that limits damage.

Socialing the losses, at least in the short run, is the least worst option. To stand pat and do nothing risks even greater calamity.

Anon 1:30 PM, that's a bit harsh, the post isn't meant to be "dismissive" (see other TH posts on the subject), just a reminder that there are things that politicians and regulators simply cannot do.  

By Anonymous Anonymous, at Wed Oct 15, 03:23:00 PM:

I've been hoarding tulip bulbs in anticipation of a big rebound in that market. Since these things are cyclical, it's only a matter of time.  

By Anonymous Anonymous, at Fri Oct 17, 09:40:00 AM:

A wise expression of history, the long view, and human nature. Another exceedingly well-written post that shows the value of a good education, for which I am sure you can thank your parents, schools, and your own diligence.  

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