Back in October of 2009, when Congress first announced the formation of a commission to investigate the cause of the 2008 financial crisis, I knew immediately that their ultimate conclusions would support the agendas of their respective political parties. (Watch the video blog I recorded that day) Particularly, I knew that the commission's Democrat majority would use the crisis to justify more government involvement in the financial markets. These concerns have now been fully validated.
Given that I was one of the few people who had accurately predicted the magnitude of the housing bubble, and had laid out in my 2007 book Crash Proof the specific consequences for the banking system and the economy when it burst, I immediately contacted the commission offering my services as a witness. In particular, I assumed that the Republicans on the panel would appreciate hearing from someone who thought that the crisis resulted from too much rather too little government regulation. (see my 2008 Washington Post op-ed)
To burnish my credentials, I sent the commission a list of articles I wrote between 2004 and 2008. Much of that pre-crash critique is summarized in a speech I gave in 2006 to The Western Regional Mortgage Bankers Association.
However, despite these supporting materials, my repeated outreach to the commission bore no fruit. At that point, I realized that they had no interest in giving any visibility to the narrative that I favored, namely that the ultra-low interest rates engineered by the Greenspan-Bernanke Federal Reserve were the primary factor behind the financial crash of 2008.
Ignoring how low rates created the crisis is like blaming the crash of the Hindenburg on bad weather, poor piloting, lazy ground crews, and overly emotional broadcast journalists, while ignoring the 200,000 cubic meters of flammable hydrogen gas that the airship held in its structure.
The Democrats clearly wanted to place the blame squarely on "greedy" bankers and "derelict" regulators who had fallen under the spell of the "laissez-faire" impulse favored by Republicans. These conclusions would sanction Democrat plans to garner even greater government power.
Yet, even the Republican minority opinion widely missed the mark. In their dissenting opinion, three Republican commissioners blame the crisis on global factors beyond the ability of US policymakers to control. While it is true that other nations suffered housing bubbles, they did so because their own central banks also kept interest rates too low.
The best result was a third minority report, authored by Peter J. Wallason. He correctly blamed government-insured mortgages and government-mandated loans to non-creditworthy minority borrowers for the housing bubble, yet omitted the key role played by the Federal Reserve in making those loans "affordable."
The government has been subsidizing housing since the Roosevelt administration, and we never had a bubble of this proportion. It was not until these guarantees were combined with a 1% federal funds rate that they became supercharged. It was the unfortunate combination of government guarantees and cheap money that produced such a toxic brew.
During the bubble, a large percentage of loans, particularly those in high-priced markets like California, had adjustable rates. These rates were popular as a direct result of the ultra-low fed funds rate, which made them significantly cheaper than traditional thirty-year fixed-rate mortgages. Some of the most popular subprime loans were of the "2/28" variety, where borrowers enjoyed artificially low "teaser" rates for the first two years only. For conforming loans, Fannie and Freddie actually guaranteed mortgages based solely on borrowers' ability to afford the teaser rate, even if they could not afford the resets. Therefore, without low rates from the Fed, most of these ARMs never would have been originated.
Most importantly, it was low rates that made overpriced homes seem affordable. Buyers paid attention to monthly payments, not home price. These mortgages were tailor-made for real estate speculators and home flippers, whose only intention was to make quick profits on the resale. Higher rates would have put a lid on home price appreciation, as potential borrowers would not have been able to swing the higher payments.
Meanwhile, the low rates themselves created investor demand for mortgage debt. With Treasuries and CDs offering pitiful returns, investors were encouraged to look elsewhere for (seemingly) low-risk investments with higher yields. This created unprecedented demand for Fannie- and Freddie-insured debt as well as new varieties of mortgage-backed securities.
Since Wall Street needed additional mortgages to package, lending standards steadily eroded to meet the demand. Much of the demand came from foreign sources looking to recycle large trade surpluses, which would have been much smaller had the Fed not kept rates so low.
The reality is that no one wants to blame the crisis on loose monetary policy because monetary policy is even looser now then it was then. If the commission had correctly blamed the housing bubble on easy money, then it would have called into question current Fed policy. Given the fragility of our economy and its continued dependence on low rates, no one has the guts to open that can of worms. If so much economic damage was done by a 1% fed funds rate, imagine how much damage is being done by 0% rates, supercharged by quantitative easing.
Neither Democrats nor Republicans want the Fed to turn off the monetary spigots for fear of the short-term shock. That is why even the most vigilant government regulators would not have prevented the financial crisis. Any official who tried to rain on the real estate parade would have been out of a job.
Of course, the fact that three separate reports drew three separate conclusions - strictly along party lines - shows that politics was the driving motivation behind the entire farce. Even with the benefit of hindsight and $9 million taxpayer dollars, this commission still came up empty.
The conclusion that should have been drawn is that we do not need more regulation. Government interference has done enough damage already. We simply need to return to a sound monetary policy and get the government out of the mortgage and housing markets. Unfortunately, that's not going to happen.
Peter Schiff`s comments on the economy, stock markets, politics and gold. Schiff is the renowned writer of the bestseller Crash Proof: How to Profit from the Coming Economic Collapse.
