From Henry Hazlitt, Economic in One Lesson:
"The case against government-guaranteed loans and mortgages to private businesses and persons is almost as strong as, though less obvious than, the case against direct government loans and mortgages. The advocates of government-guarantee mortgages also forget that what is being lent is ultimately real capital, which is limited in supply, and that they are helping identified B at the expense of some unidentified A. Government-guarantee home mortgages, especially when a neglible down payment or no down payment or no down payment, whatever is required, inevitably means more bad loans than otherwise. They force the general taxpayer to subsidize the bad risks and to defray the losses. They encourage people to "buy" houses that they cannot really afford. They tend eventually to bring about an oversupply of houses as compared with other things. They temporarily overstimulate building, raise the cost of building for everybody (including the buyers of the homes with the guaranteed mortgages), and may mislead the building industry into an eventually costly overexpansion. In brief, in the long run they do not increase overall national production but encourage malinvestment."
Sounds like a nice and consise summary of the subprime meltdown/housing market crisis right, right? You would think that until you learn that this was written IN 1946..
The role of government subsidies in the recent housing crisis is fully detailed in Thomas Sowell's Housing Boom and Bust. However, suffice it to say that the government, through the Federal Reserve, artificially reduced interest rates to all time lows instead of letting those interest rates be determined by market forces which lean toward the most efficient distribution of capital (capital, in this case, being the money that is invested by banks in the form of mortgage loans); expanded the role of Fannie Mae and Freddie Mac in purchasing risky loans which encouraged banks to make more of them; gave incentives to banks to give home loans to low-income applicants who, otherwise, would not have been able to afford those loans (the results of which are apparent in the obscene amount of foreclosures) and, in fact, threatened them with litigation should they fail to gave a certain proportion of loans to minorities; and, indirectly, created a market for investment products that betted against mortgagors' abilities to make their payments on those risky loans.
Both political parties bear some of the blame. The mistakes of the Clinton administration are well-documented, but President George W. Bush also pushed the idea of home ownership for all and Sen. Mitch McConnell suggested "providing government-backed, 4% fixed mortgage to any creditworthy borrower." Sen. Barbara Boxer advocated on behalf of, Sen. Harry Reid endorces, and Congressmen John Conyers and Dick Durbin introduced legislation, to allow bankruptcy judges to modify loans on principal residences. As Sowell notes and as Hazlitt points out repeatedly in his discussion of the fallacy of failing to look at long-term consequences, "how empowering judges to void legally-binding contracts would affect the future willingness of lenders to lend to millions of other people was a subject not addressed." Warnings were given by a number of credible sources. The Economist warned in 2003 that US house prices would fall 10% within the next four years and, in 2005, warned again that US house prices had reached "dangerous levels" and that the whole world economy was at risk. In 2003, then U.S. Secretary of the Treasury John W. Snow asked Congress to "enact legislation to create a new Federal agency to regulate and supervise" Fannie and Freddie. Snow was prophetic: in 2005, he testified before the same Congressional committee that securities issued by Fannie and Freddie were "out there in the marketplace, held by all sorts of financial institutions - insurance companies, pension plans, community banks, thrifts [and] commercial banks" and that "if something unravels, it could cause systemic risk to the whole financial system." In 2003, Robert J. Samuelson, a Newsweek columnist wrote that about 3000 banks held Fannie and Freddie "debt equal to all their capital." There were many more warnings, all of which went unheeded as homeowners basked in the warm glow of first-time home ownership or having bought their dream home. Congress didn't get it until the crash had occurred. Then, suddenly, every one of them that was involved in the problem, became a bunch of know-nothings or sought ways to blame their political opponents.
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