We’ll rein in the horses, err... as soon as we find them!

IIPM : EXECUTIVE EDUCATION

When announcing Japan’s surrender in 1945, Emperor Hirohito famously explained his decision thus: “The war situation has developed not necessarily to Japan’s advantage.” There was a definite Hirohito feel to the explanation Ben Bernanke, the Fed chairman, gave this week for the Fed’s decision to modestly strengthen regulation of the mortgage industry: “Market discipline has in some cases broken down, and the incentives to follow prudent lending procedures have, at times, eroded.” Rather, the explosion of “innovative” home lending in the middle years of this decade was an unmitigated disaster. But maybe Bernanke was afraid to be blunt. After all, straight talk would amount to a direct rebuke of his predecessor, Alan Greenspan, who ignored pleas to lock the barn door while the horse was still inside.

Apologists for the mortgage industry claim, as Greenspan does in his new book, that “the benefits of broadened home ownership” justified the risks of unregulated lending. But home ownership didn’t broaden. The great bulk of dubious subprime lending took place from 2004 to 2006 – yet home ownership rates are already back down to mid-2003 levels.

During the bubble years, the mortgage industry lured millions of people into borrowing more than they could afford, and simultaneously duped investors into investing vast sums in risky assets wrongly labelled ‘AAA.’ Regulators were blinded by ideology. “Fed shrugged as subprime crisis spread,” the headline of a New York Times report, may have been a discreet dig at Greenspan’s history as a disciple of Ayn Rand, the high priestess of unfettered capitalism. In a 1963 essay for Rand’s newsletter, Greenspan dismissed as a “collectivist” myth, the idea that businessmen left to their own devices, “would attempt to sell unsafe food & drugs, fraudulent securities & shoddy buildings.” Rather, “it’s in the self-interest of every businessman to have a reputation for honest dealings & a quality product.” No wonder he ignored warnings of deceptive lending practices.

But Greenspan wasn’t the only one. Consider the press conference on June 3, 2003 to announce a new initiative to reduce the regulatory burden on banks. Representatives of four of five government agencies responsible for financial supervision used tree shears to attack a stack of paper representing bank regulations. The fifth, James Gilleran, Office of Thrift Supervision, wielded a chainsaw. Also attending were representatives of financial industry trade associations. As far as I can tell from press reports, consumer interests weren’t represented. Two months after that event, the Office of the Comptroller of the Currency, one of the tree-shears-wielding agencies, moved to exempt national banks from state regulations that protect consumers against predatory lending.

The Democrats must aggressively make it an issue for the 2008 election. There’s hardly a more graphic demonstration of what’s wrong with their opponents’ economic beliefs.

Paul Krugman

For more articles, Click on IIPM Article.

Source : IIPM Editorial, 2008

An Initiative of IIPM, Malay Chaudhuri and Arindam chaudhuri (Renowned Management Guru and Economist).

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