Monday, February 9, 2009

How Government Created the Financial Crisis

WSJ 2-9-09 by John Taylor
Many are calling for a 9/11-type commission to investigate the financial crisis. Any such investigation should not rule out government itself as a major culprit. My research shows that government actions and interventions -- not any inherent failure or instability of the private economy -- caused, prolonged and dramatically worsened the crisis. Click here for the article.
Highly respected economist John Taylor's article recounts why we're in a financial crisis and the history of how we got here. He also explains the reactive policy blunders of the waning Bush administration and the Fed.

Will Team Obama correct the policy blunders? It's not looking promising. President Obama is pushing a massive deficit spending bill in the name of economic stimulus. History and economic logic both tell us that Obama's bill will definitely stimulate the wallets of the ones that brung him, but only by diverting dollars from private to public spending.

Geithner's new Treasury plan to "rescue" financial markets is nothing but a continuation of the blunders Paulson started, plus a $50 billion pool of money aimed at keeping people who aren't making their mortgage payments in their homes. For all his touted financial brilliance, Mr. Geithner is merely singing the second verse from the same hymnal Bush, Paulson, and Bernanke opened.

By the way, if you understand how a mortgage works, you will understand how important it is to keep borrowers paying their monthly payments, even if they have missed several payments already. You see, most of a monthly payment during the first half of a mortgage is payment of interest, not return of what was borrowed. Once the house is foreclosed, the lender's future stream of interest payments is gone.

The future stream of interest payments, assuming the borrower can be kept paying, dwarfs the payments already lost. Guess who will be the biggest beneficiaries of the $50 billion bailout of home owners. That's right; the lenders who hold the mortgages.

It's true that the homeowners will get to stay in the house for a while longer, but only because they will continue paying interest without building equity. Typically, the homeowner will stay in the house seven or fewer years. But in today's housing market with declining housing prices, homeowners won't be building equity. They'll just be paying interest.

Does that sound like renting? It should; it's just more expensive than renting, since rents didn't rise as fast as housing prices during the Fed-fueled housing bubble. By the way, homeowners have to pay property taxes for the privilege of paying all that interest instead of rent.

I'll keep looking for the "change" so many folks voted for. So far "change" amounts to even more federal borrowing and spending, coupled with more bailouts for the wealthy---all done in the name of saving main street. Sound strangely familiar?

Don't get me wrong. I'm not complaining. At least our new President makes us proud when he speaks. And besides, Presidents don't set and conduct fiscal policy; Congress does. Presidents also don't set and conduct monetary policy; the Fed does. You can watch President Obama all you like; I'll be keeping my eyes on Congress and the Fed.

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