Economics and history

'T

hose who will not learn from history . . ."

That quote form George Santayana has been ringing in my ears for many moons. It ends with ". . . are doomed to repeat it."

We're seeing the results of those who didn't eat from that tree of knowledge.

We had a terrible depression back in the 1930s. At that time, the incoming administration in Washington put into effect a number of safeguards to prevent such a catastrophe from happening again in the U.S. It instituted the Securities and Exchange Commission to oversee stock and bond trading, unemployment insurance, bank deposit insurance, Social Security, rules to separate investment banks from commercial banks, the Federal Housing Administration to help homebuyers - and many others designed to protect both business and employees, both the young and the old, cities and rural areas.

But about 30 years ago, we began to hear shouts that we were over-regulated, that the government was the enemy of prosperity, that free markets would solve problems by themselves.

We also heard cries that Social Security could be saved by taking it out of the hands of bureaucrats and putting the funds to work in the market, and more.

The proponents of these views tried hard to implement them, and when they came to power in Washington, much of the dismantling of government controls was accomplished. What safeguards they could not eliminate, they ignored. And greed flourished.

Instead of a margin of safety of 20 percent equity, mortgages were being offered with zero equity (100 percent of market value), and more. I saw one settlement last year that had a mortgage for the full purchase price of the home plus the settlement costs. That came to 104 percent of of the home's value.

All of this type of economic excess circumvented the controls in place. Why? Keeping housing on the upswing was great for the economy as a whole, and who cared if the homebuyers had trouble making the payments?

The rising values of homes protected the lenders. It took a while, but soon housing prices leveled off and then started to decline. Homeowners were under water. To make matters worse, contrary to sound advice, many had adjustable-rate mortgages with interest rates rising.

Monthly payments started to get tougher and tougher to meet.

Defaults started. And as the number of defaults and foreclosures increased, the housing market declined further because the supply was getting too large for the demand.

Then came the snowball.

Companies that invested heavily in mortgage-backed securities got hurt. In turn, investors in those companies got jittery, and we had the problems at Bear Stearns, Lehman Brothers, Merrill Lynch, AIG and others. The stock market hit the skids.

A Wall Street Journal headline (Sept. 18) "Worst Crisis Since '30s, With No End" says it like it is. This from a newspaper that was on the side of the deregulators for decades.

Not only are we feeling the sting of declining housing prices, but the price of stocks is going down by large amounts almost every day. Layoffs on Wall Street firms are almost an epidemic.

Employees in related industries are also getting hurt. Auto manufacturers who fought mileage regulations are in big trouble.

The paradox of the situation is that now these proponents of "no government interference" are begging the government for help.

Government backing is now the prayer of the auto manufacturers as well as the financial giants. And politicians who railed against regulation are now saying that they favored regulation all along.

WHAT DOES the small investors do now?

The only "absolute" safety is U.S. securities - bills, notes and bonds.

Try to keep bank accounts within the Federal Deposit Insurance Corp. limits. Keep stock investments largely in consumer goods (food, household items), save wherever you can (public transit, home insulation, etc.), energy, and Warren Buffett's Berkshire Hathaway.

And remember, it may take a while, but this, too, will pass. Those who haven't learned from history will fall from power. *

Harry S. Gross is the Daily News money columnist. Write him c/o the Daily News, Box 7788, Philadelphia, Pa. 19101.