Morons and Banking Regulation

In 2008, the US banking system collapsed, dragging down much of Europe’s with it. The problem was allowed to occur because deregulation in the 80s and 90s had taken away many of the rules that would prevent high-risk lending for short-term profit.

This much is well known… except by morons. Barely had the public been forced to rescue the banks and save the economy from meltdown, before free-market fundamentalists were rewriting history. The problem (they said) wasn’t too little regulation, but too much.

A recent tweet from Sam Bowman of the Adam Smith Institute (a poorly-named organisation, given that Adam Smith himself believed markets needed regulating) showed that refusal to face facts is still alive and well:

Or to paraphrase – banks DON’T need to be regulated, silly!

This is a moron meme that I often see on Twitter, so here are some quick and easy answers to the above question (thanks to contributors on Twitter).

  1. If you think the US banks were over-regulated, you must have missed out on all the deregulation since Reagan was elected in 1980. I’d recommend reading The Big Short, a detailed account of how stupidity was allowed to rampage unchecked through the US financial system.
  2. In Sweden, a poorly-regulated banking system faced collapse in 1992. The Swedes fixed their regulation and so didn’t face the same problems as the US, UK and other less-regulated places.
  3. A similar collapse happened in Spain in the 1970s; in response, Spanish banking regulations were tightened up immensely. When the UK’s poorly-regulated banks began collapsing in 2008, Spain’s banks were far less exposed. Who came to buy distressed British banks? A Spanish bank called Santander. Santander now owns a number of previously British-owned banks. Regulation clearly beats non-regulation.
  4. And yet again… Canada came through the crisis relatively unscathed, because its regulation was biased against low-deposit house purchases.

The Adam Smith Institute claims to promote market ideas; but the market has spoken very clearly. Banks in those countries with strong regulation are clearly stronger than in those without, especially the US. The US and UK economies and banking sectors have shrunk more than those in other Western countries, losing global share. Well regulated banks have gobbled up poorly regulated ones. The market has spoken, and the market says: regulation beats deregulation.

Here’s a simple question for those claiming the 2008 collapse was the result of regulation: specifically which regulation(s) led to sub-prime lending, forced the securitisation of bad loans into investment instruments, or pushed the ratings agencies to decide that these poor investments were AAA-rated? Morons can never answer this – it’s easy to claim regulation is bad, but apparently impossible to provide details of which regulations caused the problem (largely because they don’t exist).

Market fundamentalists make the false assumption that a laissez faire approach to bank regulation would allow the “good” banks to thrive as the “bad” ones go under; but it’s not that simple. Capitalism encourages risk-taking. The fact that one bank takes a bad risk and fails doesn’t stop other banks from risk-taking – their spin of the roulette wheel will come sooner or later. Only regulation can stop stupid risks from building up in the system – there is no free market mechanism to prevent them.

Perhaps I’m being unfair in assuming Sam Bowman has no clue on this subject – after all, he is (I assume) paid to dish out his market-fundamentalist dogma. The morons who repeat it unpaid have less excuse.

4 thoughts on “Morons and Banking Regulation”

  1. This post is proof that even a blind squirrel (here played by MW) finds an ACORN every now and then.

    "And yet again… Canada came through the crisis relatively unscathed, because its regulation was biased against low-deposit house purchases."

    Despite hitting this fundamental truth, MW wants to have us assume that all this low/no down payment loan crap started somehow magically in 1981 when banks were "deregulated." The reality is these loans had their genesis in the 1977 Community Reinvestment Act and the subsequent rise of the government-sponsored entities (and de facto government-guaranteed agencies) Fannie Mae and Freddie Mac.

    I seem to recall 1977 being the apogee of post-Nixon Democrat control in Washington, when Dems were pushing home ownership hard, and groups like ACORN later used the CRA (a poorly worded piece of legislation) to pressure banks into making loans based less and less on ability of the borrower to pay, and more and more on an emphasis on diversity and spreading home ownership to those who previously couldn't afford a traditional large down payment. Once Fannie and Freddie were pressured into modifying their standards (during the late 80's and into the '90's), the rush was on. Bundling these loans became a way to ostensibly reduce that risk you abhor so much, until it all came crashing down in 2008. Sure some regulations there might have helped cushiom the fall, but the real lesson is when you have two entities that everyone knows will not be allowed to fail, well, that provides for a lot of risk taking.

    Sensible regulations (such as in Canada), might have prevented this, but the reality is in the US, we actually had Presidents (umm, Bil Clinton and GHWB), for whom the economy relied on the continued existence of affordable housing. Couple that with pressure groups pushing for more home ownership, and well-connected folks in charge at those GSE's, and a refusal by Congress to reform, or even audit them, and you have some pretty volatile conditions.

    Heck, we had Congressmen with a vested interest in this charade continuing, most of them on the Left saying saying "there's nothing wrong here" as late as 2007(there's a pretty famous scene of Barney Frank defending Fannie/Freddie's practices to Bush administration officials wanting to get to the bottom of the Fannie/Freddie issue). These guys used regulation, and poorly written regulation to extend home ownership as far as they could, thus facilitating the collapse. It wasn't without some pressure from ACORN and other groups, either. So, it wasn'tthe lack of regulations that caused this fiasco, and it's not going to be layers more that fix it.

    I realize that those so much smarter than us morons think they're just the geniuses to write those new rules, but, the beauty of capitalism is that morons can practice it, and it works.

    So, there, this moron is not calling for NO regulation, I am calling for an accounting for Fannie/Freddie and their enablers in Congress and a return to sensible lending standards, which, coincidentally, weren't ever forced by regulation, but out of prudence.

    You see, the problem with an over-reliance on regulation, is that it's ultimately used to pick winners and losers, and leads to a crony-capitalism that borders, yes, on Mussolini-style Fascism.

    I'm not saying Obama is Mussolini, but his version of governing is perilously close.

  2. It's not an impressive way to start a discussion by saying "You are clearly a complete and utter moron." If that's your opinion, why continue? Oh, to demonstrate your intellectual superiority.

    Regardless, I may be wrong, that doesn't make me a moron.

    Refuted and debunked are two different things. You may cite articles that refute something, but just because you believe that refutation, doesn't make it correct (or debunked), nor does it make the argument correct.

    I've read all three articles, and actually, while the author's clearly want to put the lie to the argument that Fannie/Freddie did it, and that the CRA had nothing to so with the growth of subprime loans (and the subsequent ballooning of MBS's), they can't seem to actually pull it off. Lots of smoke, no fire.

    The truth is that the events were much more complex than just that, and I am willing to stipulate that Fannie/Freddie/CRA alone did not cause this crisis, but, just as your proscription for greater government control and regulation of private institutions may have averted the crisis, so, too, may have more government control over the GSE's, which is what my post argued should have happened, as there were plenty of warning signs that something was amiss at Fannie/Freddie. Unfortunately, Fannie/Freddie were too well connected to Congress to ever see that happen.

    As to the CRA, while I find the Economists View blog interesting, it's a Left-wing blog, and thus, everything is couched in their ideology. Feel free to use it as a source, but I think the objective MW reader should have full disclosure. In fact, I appreciate EV's links to articles they cite, as then we can see how EV takes quotes and arguments out of context.

    The crux of these articles seems to be: "The CRA didn't apply to everyone, ergo, it couldn't have been the cause, and, furthermore, it was 30 years ago that it passed." As though NOTHING happened in between. Uh huh.

    The problem with that is that the lending standards that were lowered due to CRA, weren't just lowered by banks subject to the CRA. When it appeared, through securitization, that banks could make these loans profitable (or at least less risky), they all jumped in. Many also jumped in because they saw the political winds blowing, and decided to jump ahead of legislation. Whatever. The CRA most assuredly had an impact, in the creation of subprime loans, and in the later reduction in standards on loans of higher value.

    I will say after some more research, I did leave out one culprit in this disaster, and that's the Federal Reserve, who kept interest rates low to keep the housing market going. Too bad for all of us that they couldn't keep that up forever.

  3. The moron comment was intended to be in keeping with the nature of this blog.

    How you can call EV a blog 'steeped in ideology' and then link to the Mises institute is beyond me. Ultimately everyone has some bias, but Austrians honestly have to be the worst of the lot, probably most of all Mises himself (calling Milton Friedman a socialist is hilarious).

    The particular article you linked to, as usual, seems to contain a number of unqualified assertions and a more general flat out denial of the possibility of market failure. Talk about bias.

    You are right to say the CRA had some impact, but this completely misses the point. If it hadn't been housing, it would just have been something else. The S & L crisis, stock markets, the Mexican currency crisis – unregulated banks will *always* find something to exploit and eventually make a mess of.

    Furthermore, people who focus on Fannie/Freddie & the CRA seem to forget that countries other than the U.S. exist, and that similar things happened elsewhere despite no equivalent policies (and with tighter monetary policy, I might add).

    The common theme between countries that suffered the most – UK, US, Iceland, Ireland – was financial deregulation, and nothing more. Conversely, the Western countries that were least affected – Canada, Scandinavia, Germany – all had far better regulated financial sectors.

    There will always be some government policies to find and pick on in the event of a crisis, but if you just take a look at the common theme between all financial crises, over time and between places, it is always a manic, unregulated financial sector.

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