Thoughts On the Financial Crisis

Barry Ritholtz outlines the sequencing of the financial crisis. He nails it, but good. It sure looks like the geniuses in government haven’t learned much!

I have some additional thoughts and a minor quibble.

Note that the genesis of the crisis was the Fed’s handling of the interest rate. Austrian school economists make a convincing argument that a central bank can’t set interest rates properly: they will almost always be wrong. We haven’t always had a central bank and it’s not obvious that we’re any better off for having one.  I’m not sure it’s even possible to undo the Fed, but the issue deserves more scrutiny than I think it’s getting.

Missing from Barry’s sequence is the role of government sponsored entities (Fannie and Freddie) as well as fiscal policy decisions (bi-partisan, as the worst ones always are). I think he’s correct in implying that they are not central to the narrative, but it sure looks like government actions acted like an accelerator. The problems would probably have occurred anyway, but without government’s mischief, it would have taken longer. The extra time might have made a difference and allowed the meltdown to be avoided or at least handled more methodically.

My quibble? I don’t think it’s a given that the rating agencies behaved fraudulently. It is clear that the underlying problem was an assumption that housing prices would never decline – and they had data series to prove it! Unfortunately, all of the data was post WW2, earlier information being incomplete and unreliable. This assumption defies common sense and reflects the apparent triumph of data over logic – always a tragic mistake. So I’m willing to give them the benefit of the doubt but unwilling to entirely trust them.

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