Dis­torted mar­kets

‘Prob­lem with the US econ­omy was gov­ern­ment’s fail­ure to con­trol sys­temic risks it it­self helped cre­ate’

Finweek English Edition - - Portfolio Punts -

SOME THOUGHT­FUL, moderate Amer­i­can lib­er­als are be­com­ing in­creas­ingly wor­ried about po­ten­tial de­vel­op­ments in a post-pres­i­den­tial elec­tion United States. That’s strik­ingly re­flected in a lead­ing ed­i­to­rial com­ment in The Wash­ing­ton Post of 20 Oc­to­ber. Sig­nif­i­cantly, that was the same day The Post for­mally, though to­tally pre­dictably, en­dorsed Se­na­tor Barack Obama’s bid for the White House.

Its lead com­ment – “Is cap­i­tal­ism dead?” – made more mea­sured sense than any­thing else I’ve read in the mass in­quest on the cur­rent global eco­nomic/fi­nan­cial cri­sis. It noted: “As fi­nan­cial panic spread, re­al­ity seemed to an­nounce the doom of US-style free mar­kets and Pres­i­dent Bush’s ide­ol­ogy. But this is wrong, in two ways. The dereg­u­la­tion of US fi­nan­cial mar­kets did not re­flect only the nar­row ide­ol­ogy of a par­tic­u­lar party or par­tic­u­lar ad­min­is­tra­tion.”

The news­pa­per added, vi­tally: “The prob­lem with the US econ­omy, more than lack of reg­u­la­tion, had been gov­ern­ment’s fail­ure to con­trol sys­temic risks that gov­ern­ment it­self helped to cre­ate. We are not wit­ness­ing a cri­sis of free mar­kets but a cri­sis of dis­torted mar­kets.”

The Post re­minds most dereg­u­la­tion came, with huge bi­par­ti­san sup­port, in the two pres­i­den­tial terms of Bill Clin­ton in the Nineties. It ob­served: “We’ll never know how this newly lib­er­ated fi­nan­cial sec­tor might have per­formed on a play­ing field de­signed by Adam Smith. That’s be­cause gov­ern­ment in­ter­ven­tion of all kinds, from the de­fence bud­get to farm sup­ports, shaped the busi­ness en­vi­ron­ment.”

Then comes the key point made by The Post: “No sub­sidy would prove more fate­ful than the mas­sive Fed­eral com­mit­ment to res­i­den­tial real es­tate – from the mort­gage in­ter­est rate de­duc­tion to Fan­nie Mae and Fred­die Mac (pub­lic/pri­vate sec­tor bodies cre­ated un­der the Democrats in the Six­ties to pro­mote wide­spread pri­vate home own­er­ship) to the Fed­eral Re­serve’s low in­ter- est rates un­der Alan Greenspan.” It added: “Gov­ern­ment sup­port for hous­ing was well in­ten­tioned. But when gov­ern­ment favours a par­tic­u­lar eco­nomic ac­tiv­ity, how­ever validly, it must seek coun­ter­vail­ing con­trols to en­sure the sus­tain­able use of pub­lic re­sources.

“That is why banks must meet cap­i­tal re­quire­ments in re­turn for Fed­eral de­posit in­sur­ance. But Congress did not ap­ply that sound prin­ci­ple to Fan­nie Mae and Fred­die Mac. They were al­lowed to en­gage in prof­itable but in­creas­ingly risky ac­tiv­i­ties with an im­plicit gov­ern­ment guar­an­tee.” The Post stressed: “The re­sult was that tax­pay­ers had to as­sume more than US$5 tril­lion of their obli­ga­tions.”

Lead­ing US eco­nomics com­men­ta­tor Robert Samuelson puts more flesh on those bones. He ob­served: “Congress al­lowed Fan­nie and Fred­die to op­er­ate with mea­gre cap­i­tal. Congress also in­creased the share of their mortgages that had to go to low- and moderate-in­come buy­ers from 40% in 1996 to 52% in 2005.” Samuelson con­cluded: “That pro­moted sub-prime mort­gage lend­ing.”

In the im­me­di­ate clam­our, in­ter­na­tion­ally and within the US, for a much greater, per­ma­nent role for Gov­ern­ment in the fi­nan­cial sec­tor, there’s a dan­ger that all those soundly based reser­va­tions will be tossed aside. That’s why even some strong Obama sup­port­ers have long-term con­cerns about an over-mighty Demo­cratic Party, much as they would still nat­u­rally pre­fer it to Repub­li­can gov­er­nance.

But all the ev­i­dence at this stage points not only to comfortable elec­tion suc­cess for Obama but to a mas­sive tri­umph over­all for the Democrats, vi­tally in­clud­ing out­right con­trol of both the House of Rep­re­sen­ta­tives and the Se­nate.

How­ever, it’s pre­cisely that prospect that trou­bles some Democrats, es­pe­cially those who know their Amer­i­can his­tory. It’s the group that’s aware of the mostly un­known or for­got­ten “1937 re­ces­sion”. The mix of causes of that se­vere eco­nomic down­turn – which sent un­em­ploy­ment soar­ing and cut real gross do­mes­tic prod­uct nearly back to the level when Franklin Roo­sevelt won the pres­i­dency in 1932 dur­ing the “Great De­pres­sion” – is de­bat­able.

But one fac­tor that played a core role, cer­tainly ac­cepted by Roo­sevelt, was that venge­ful anti-busi­ness, anti-cap­i­tal­ist sen­ti­ments loudly voiced by many Democrats in Congress be­tween 1933 and 1936 greatly de­terred new pri­vate fixed in­vest­ment and much en­ter­prise gen­er­ally.

The cur­rent band of happy-but-un­easy Democrats just hope there will be no re-run of that. Elec­tions in the US, as in vir­tu­ally all ma­ture democ­ra­cies, are gen­er­ally (but not al­ways) over­whelm­ingly de­ter­mined by cen­trist “swing” vot­ers. They turn away from par­ties that are thought to have gone too far down a par­tic­u­lar ide­o­log­i­cal route.

Clin­ton lost con­trol of Congress in the mid-Nineties by press­ing the party ide­ol­ogy pedal too hard. But then he learned and eased back.

The hope of moderate Democrats is that Obama, as pres­i­dent, will pur­sue the more con­cil­ia­tory and po­lit­i­cally wideem­brac­ing tack that he’s adopted since over­com­ing Hil­lary Clin­ton. That would also be best for the world gen­er­ally.

Then – maybe – the US, Europe and Asia (and ideally Africa, too) can sing from hymn sheets with some cen­tral sim­i­lar­i­ties. ¤

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