It's Not Our Fault
It seems that the primary qualification needed by any chairman of the Federal Reserve is the ability to never admit error, no matter how damning the evidence. During his tenure on the job, Alan Greenspan set the standard for implausible deniability. But in a speech last weekend in Atlanta, current chairman Ben Bernanke did the Maestro one better. In a tortured academic dissertation, Bernanke explicitly denied any Fed culpability for inflating the housing bubble and for the financial crisis that began when it burst. Despite his best efforts, no one seemed particularly convinced. By taking such an absurd stand, he has destroyed any credibility he may have had left.
In his presentation to the National Economic Club, Bernanke claimed that ultra-low interest rates in the early in the Bush years were appropriate given the conditions at the time, and that they therefore did not a contribute to the housing bubble. Instead, he laid blame squarely at the feat of an "under-regulated" financial sector which had designed and sold unconventional and exotic mortgage products, such as adjustable-rate and interest-only mortgages. According to Ben, it was these irresponsible lenders (who he now hopes to regulate), not low interest rates, that caused the housing bubble.
There are two huge flaws in this line of reasoning. First, if these mortgages were such a problem, why didn't the Fed do something to rein in their use? When given an opportunity to speak about the widespread use of ARMs in congressional testimony, former chairman Greenspan had nothing but praise for these products. He claimed these offerings allowed savvy homebuyers to save money and better manage their personal balance sheets. At the time that Greenspan made these statements, Bernanke was serving as a Fed governor. From neither that position nor his later role as chairman of President Bush's Council of Economic Advisors did Bernanke ever utter a scornful phrase about the mortgages he now condemns in hindsight.
The biggest issuers and insurers of ARMs were Fannie Mae and Freddie Mac. Both of these Government Sponsored Entities (GSE's) had policies that allowed for borrowers to qualify based solely on their ability to meet the initial loan payments, not the higher payments that would eventually kick in. Why didn't the Fed advise Congress to force the GSE's to adopt more prudent standards? Either they did not recognize these mortgages as problematic, in which case they are incompetent, or they did and remained silent, which is worse. In either case, if they lacked the foresight or political will to prevent this crisis, how can we expect them to protect us from the next?
Furthermore, is it really possible that Bernanke is so clueless that he does not see the relationship between the proliferation of ARMs and interest-only mortgages and the low short-term interest rates that made them so popular? Without the ultra-low interest rates provided by the Fed, the vast majority of these problem mortgages never would have been originated. ARMs and interest-only mortgages existed well before the housing bubble began; however, it wasn't until the Fed cut rates to historically low levels in 2002, and held them there through 2005, that they became so popular.
The only reason so many people were able to overpay for houses was because of the temporarily low "introductory" rates. Had the Fed not set interest rates so low, these options would not have been available, and house prices would have been held in check. In short, by keeping interest rates too low, the Fed inflated the housing bubble by enabling banks to issue mortgages that made overpriced houses seem affordable.
Bernanke also blames lenders for making the false assumption that real estate prices would always rise. However, he neglects to point out that he made the very same mistake. While it is true that many lenders did make this foolish assumption, they did so under the influence of all the cheap money supplied by the Fed. Had they not made so many trips to the Fed's punch bowl, they would have exercised much better judgment. However, the Fed itself can make no such excuse.
As proof that the Fed caused the housing bubble, I offer a commentary that I wrote in May of 2004 and which was published as an opinion piece in the Orange County Register.
You can read the entire commentary here.
However, let me reproduce some key quotes:
That so many are currently opting for ARMs reflects a level of real estate speculation unparalleled in American history. Homebuyers have been lured into this foolish choice by... a Fed chairman desperate to keep the real estate bubble inflating. Unfortunately, the longer the Fed remains "patient" with regard to raising short-term interest rates to appropriate levels, the more homeowners that will be lured into the ARM time bomb.
The real losers in this whole fiasco are likely to be those who did not even participate in the mania. As over-leveraged borrowers walk away from properties in which they have no equity, the Fed will most likely attempt to bail out both debtors and bank depositors (and the government sponsored enterprises that insured the loans) with the most inflationary monetary policy ever undertaken in the history of central banking. The savings of an entire generation will be wiped out, as it will have been squandered to perpetuate the biggest real estate and consumer debt bubbles of all time.
Now if I could have seen that coming as early as May 2004, why couldn't the Fed? Even with the full benefit of hindsight, Bernanke still cannot recognize the Fed's mistakes. Of course, as there is a campaign underway to expand the Fed's regulatory authority, anyone expecting an honest assessment from its chairman and chief lobbyist simply does not understand politics.
While denying the obvious, Bernanke is now pursuing an even more reckless monetary policy than the one that created the housing bubble. The consequences this time will be even more devastating, and you can take that to the bank.
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