Who is Responsible for the Housing Bubble?
I’m sure many of your current client conversations touch on the state of the sub-prime housing market. I live in Nevada which was recently ranked the #1 most dangerous state to own real estate in America. So with many pundits saying the high-risk areas will drop 40-50%, it’s something I often ponder.
It is increasingly obvious in retrospect that there shouldn’t have been so many sub-prime buyers getting adjustable rate mortgages when interest rates were at historical lows. I mean, how could that not blow up? And who’s responsible for letting it happen? Congressman Ron Paul is placing the blame on the Federal Reserve.
“…capitalism is not to blame for the housing bubble, the Federal Reserve is. Specifically, Fed intervention in the economy– through the manipulation of interest rates and the creation of money– caused the artificial boom in mortgage lending.
The Fed has roughly tripled the amount of dollars and credit in circulation just since 1990. Housing prices have risen dramatically not because of simple supply and demand, but because the Fed literally created demand by making the cost of borrowing money artificially cheap. When credit is cheap, individuals tend to borrow too much and spend recklessly.”
He continues:
“Fed credit also distorts mortgage lending through Fannie Mae and Freddie Mac, two government schemes created by Congress supposedly to help poor people. Fannie and Freddie enjoy an implicit guarantee of a bailout by the federal government if their loans default, and thus are insulated from market forces. This insulation spurred investors to make funds available to Fannie and Freddie that otherwise would have been invested in other securities or more productive endeavors, thereby fueling the housing boom.
The Federal Reserve provides the mother’s milk for the booms and busts wrongly associated with a mythical “business cycle.” Imagine a Brinks truck driving down a busy street with the doors wide open, and money flying out everywhere, and you’ll have a pretty good analogy for Fed policies over the last two decades. Unless and until we get the Federal Reserve out of the business of creating money at will and setting interest rates, we will remain vulnerable to market bubbles and painful corrections. If housing prices plummet and millions of Americans find themselves owing more than their homes are worth, the blame lies squarely with Alan Greenspan and Ben Bernanke.”
He doesn’t mention derivatives which somewhat shift the risk, but I still think he’s correct. I’ll be moving away from Vegas soon so I hope the Fed keep their “money flying everywhere” policies going long enough for me to unload my condo. The Financial Times says the Fed may be lowering the rate which should delay the disaster–it may work out after all.
Mike Benson said,
March 26, 2007 at 2:07 pm
Fortunately, I live in the 22nd most dangerous place. That puts me roughly in the middle of the pack. However, I am also in the foreclosure capital. Strange things happen in a foreclosure environment, very high rents and falling house prices.
Bill Ramsay said,
March 28, 2007 at 12:40 pm
Wow, that is one of the most ignorant comments on the Fed that I believe I’ve ever seen from someone who should not be ignorant, though I suppose thinking politicians shouldn’t be ignorant is a bit of a stretch. Actually I’ve read about some politicians spouting off in the 1930’s about the cleansing nature of a too tight money supply to purge immoral behavior, so I guess ignorance has a long and storied history.
The investment bankers are primarily responsible for the subprime crap as they created the CDO’s and CMO’s that basically disguised the risk of the loans to investors and made them look attractive to unsophisticated borrowers (and the other shoe that is falling are the sophisticated borrowers who overspeculated on high end properties- anybody want a McMansion or a luxury condo for cheap? Beachfront?).
Greenspan could have been a bit more proactive when the tech bubble was inflating, perhaps a boost to margin requirements may have pricked it before it got so big. That then may have made it unneccessary to lower rates so far as the threat of a deflationary spiral may not have materialized in 2001-2002.
I shudder to think about what the congressman would suggest as a substitute for the Fed setting monetary policy. He might want to do something silly like base money supply on the amount of a yellow metal that can be dug out of the ground and stored in a vault.
I suppose Paul is right about capitalism being the primary culprit. The lending industry will always go through phases of excess, and now the banking system has very little control over many areas since much lending activity occurs through securitization.
I hope we don’t end up with even more papers to sign at a mortgage closing, its already so excessive that an unsophisticated borrower has no chance of understanding.
Matt Abar said,
March 30, 2007 at 9:44 pm
I go back and forth on Ron Paul. I think he’s right about the fed being the underling cause, although you’re right that the investment bankers should share the blame. However, his ultra-Libertarian stance that the fed should be eliminated goes too far for me.
As far as going back to a gold standard, it’s moot. We don’t have enough gold (or anything else for that matter) to back up all the US currency out there so it’s pointless to talk about it.
In general, I’m glad Ron is around. Right or wrong, he is an independent thinker and it’s nice that we still have one or two of them in Congress. He also doesn’t suffer lobbyists which is more than you can say for most other Congressmen.