Is free markets' failure the government's fault?
Philly Fed boss Charles I. Plosser says government incentives, and good intentions, damage capitalism and prolong the recession
Is free markets' failure the government's fault?
Joseph N. DiStefano
Some "market imperfections... are significant enough to warrant some form of government intervention," admitted Charles I. Plosser, the free-market-oriented economist who runs the Federal Reserve Bank of Philadelphia and represents our struggling regional economy to Fed chairman Ben Bernanke, to his fellow Union League of Philadelphia members in this speech today.
For example, the SEC rightly bans insider trading, he noted.
But Plosser warned that "the tension between our desire for economic stability and our desire for prosperity" has lately sparked "a masssive financial reform law that will generate many new regulations," in a nation where "attempts to insure against bad economic outcomes can sometimes be counterproductive," and "good intentions...yield ugly results," such as a "different crisis" and a slower economy.
"The financial crisis was not a failure of our capitalist system," Plosser insisted. "Nor was it largely the result of a lot of greedy evildoers whom we could just put in jail to solve the problem.
"Rather, it largely reflected a collection of incentives, some arising in private markets and some created by the government, that motivated individuals to act in ways that proved damaging to the nation's overall economy."
Plosser held off criticizing Obama's new bank reform law. He even called its consumer-protection and credit-claims provisions "a step in the right direction" by setting ground rules to replace "regulatory discretion."
But mostly he leaned on past examples of "bad incentives" that are still with us:
- "Our tax code encourages reliance on debt financing, over equity financing, by making interest payments tax deductible for the (issuer), while dividend payments are not."
- "American consumers have been living beyond their means with too much debt... Our tax code has encouraged such behavior by allowing interest payments to be deducted (from taxes), while taxing capital gains" and dividends to investors.
- "The tax deduction for mortgage interest skews the decision between being a homeowner and a renter."
- The federal "goal of increasing homeownership rates" created "some of the most serious distortions" by allowing Fannie Mae and Freddie Mac to be "thickly capitalized and highly leveraged" so it "became very profitable for them to grow their portfolios" unil they were "too big to fail" and demanded government bailouts.
- Fannie and Freddie drove "ordinary banks" out of the conventional mortgage market into risky "jumbo and subprime" home loans that "exacerbated the problem."
- Federal deposit insurance "reduces the incentives of depositors to monitor the risk-taking of their bank."
- The federal bankruptcy code gives short-term lenders preference over long-term investors, which gave "incentives for (investment banks) to borrow very short and lend long," which "proved a debilitating strategy" in the late financial crisis.
Plosser called for "better" instead of "more" regulation; he was short on specifics, but longer on principles: "Asking government to insure all manner of firms and individuals agianst bad economic outcomes" will only slow "innovation and econmic growth," he concluded. "We might have less volatility, and, perhaps, less inequality, but we would also have a lower standard of living."
Garbage. Thanks for that.— CiceroSpuriousDeodatus
I echo Cicero's analysis. This is irresponsible journalism and typical of Inky. The Free Market didnt fail. It was the socialistic efforts of gov't that created this hybrid mess that failed. In 1999 after receiving MILLIONS on campaign financing from bankers, Clinton repealed ALL the financil regulations FDR put into place AND then required banks to loan to sub-prime borrowers. What happened next was predicatble.- Actually, this is pretty good reporting. I didn't see any editorializing. Plosser is, of course, correct. The government monkeys about with the free markets until they are almost unrecognizable as such, then turns around and blames the free market when things fall apart. It would be comical if it weren't so tragic.— voolfie
- Voolf, thanks for reading and digesting. - Citizen, congratulations for making Spurious C's sentence fragments look coherent, compared to yours.— distefj
Citizen 92 presents the standard Commonwealth Foundation right wing lie. The Government did not and can not force a bank to lend sub prime loans. The conventional loans written to Fannie and Freddie standards did not include anyone who could not document a job or income. Subprime loans offered sub prime criteria which open up a vast market of people locked out the mortgage markets. Wall St invented subprime lending as a financial innovation, first pioneered as securitized loan pools with high costs and high interest rates to offset the high risk underwriting. The money was from capital markets and was the source of funding for deals for Conti Financial of Hatboro and Upland Mortgage, which John Street lured from Bala Cynwyd to the Wanamaker Building in center city. Other sterling examples of subprime financial innovation was the negative amortization pick a payment type of loan, promoted World Savings BAnk, Washington Mutual and CountryWide Mortgage Co. The government only had FHA and VA loans, which went virtually out of business during this boom, because of the these companies reliance on the Wall St infinity money machine, the mortgage back securities and collateralized debt obligations. They are directly and primarily responsible for what happened. Even with deregulation, the banks did not have to do this, they chose to. The entire argument blaming the government with the accusation that they forced the banks to do anything goes against the argument that blames the government for deregulation, causing the banks to everything conceivable with no checks or balances. They can not have absolute freedom and be forced at the same time.- plosser is correct. fernando isnt totally incorrect but his view is narrow so it fits his ideology. subprime was just one symptom of a failing dynamic. since fdrs time we have beem encouraged to spend frivolously. banks, pension funds, and people were responding to lon periods of below market interest rates distorting risk taking amd balanxe sheets. tjese interest rates were a result of our governments desire to avoid undesirable recessions. quite sinply you cant have a successful economy based on debt and consumption no matter how many bank regulations are in place— dreinterests
- DRE, seems to me we did have a successful economy based on debt and consumption for quite a few years there no? Post WW2 USA was the only economy left standing and boy did we get rich. By 70s President Carter warned it was over, we'd have to work harder, borrow less, get back to making things. So we voted him out and elected Reagan-Bush-Clinton-Bush who borrowed trillions, freed Wall St and touted the Service Economy. Now that's blown up, the "New Normal" investment geniuses are sounding like settle-for-less Carter, and PA is back to digging fuel out of the ground as its main growth industry. Anybody got a Plan B?— distefj
