Topic: Government and Politics

Deal or No Deal?

Arnold Kling makes an important observation that “Democrats want to [pass the Paulson-Bernanke bailout proposal] without deliberation, because putting the financial sector under government control is what they want.”

Despite the sturm und drang of the Left blogosphere (not to mention protesters) over the proposal, it is not their Blue Team heroes who are standing against the proposed bailout. Instead, a bloc of limited-government Republicans is providing the only significant congressional impediment to the proposal. Meanwhile, Capitol Hill Democrats are ready to embrace Paulson-Bernanke and the Left punditocracy is miffed that John McCain helped to disrupt the endgame.

Why would a cadre of Republicans side against a plan drawn up by a Republican Treasury secretary and Fed chair, while Democrats favor it? One reason, as Arnold diagnoses, is that the bailout would give Congress justification to intervene (further) in financial markets. That should worry us because earlier congressional mischief deserves much blame for the current financial mess — and portends future mischief and crises.

The meltdown of recently developed products in the financial markets — like the sale of tranches of collateralized debt obligations and derivatives connected with those products, primarily credit-default swaps — are at the heart of the financial crisis. It is important to remember who fueled the market for those products: congressional puppets Freddie Mac and Fannie Mae.

For decades, the federal government (and other levels of government) have pursued the (questionable) goal of ever-higher homeownership rates. However, politicians (correctly, I suspect) believed that the public would oppose a broad, explicit taxpayer subsidy program for homebuyers.  So federal lawmakers encouraged the development of elaborate financial products to provide loans for higher-risk mortgage borrowers — the financial products that have now gone toxic following the collapse of the real estate bubble.

Fannie and Freddie did not issue these higher-risk subprime and “Alt-A” mortgages as part of their traditional operation of purchasing and packaging low-risk “conforming” loans in the secondary market. However, as Charles Calomiris and Peter Wallison explain in their excellent Tuesday WSJ op-ed, Freddie and Fannie became the dominant players in the subprime and Alt-A market, sinking (along with their GSE brethren) more than $1 trillion into the riskier mortgages and growing them from 8 percent of all U.S. mortgage originations in 2003 to more than 20 percent by 2006.

Freddie and Fannie arguably have more government oversight than any other corporations in the United States, with their own federal regulator, regular congressional oversight, and board members appointed by the White House. Yet, all that oversight did not keep the firms from fueling the high-risk mortgage industry; as Chris Edwards notes, their regulator gave them a clean bill of financial health less than a year ago.

Why the forbearance? Because Fannie and Freddie’s government overseers wanted the firms to achieve political goals, despite the risk that posed. Calomiris and Wallison have the money quote from Rep. Barney Frank (D-Mass.), now chair of the House committee that oversees Freddie and Fannie:

“Fannie Mae and Freddie Mac have played a very useful role in helping to make housing more affordable … a mission that this Congress has given them in return for some of the arrangements which are of some benefit to them to focus on affordable housing.”

One can appreciate Frank’s sentiment. He highly values homeownership for low-income Americans, and he believed that allowing Freddie and Fannie to play (heavily) in the subprime and Alt-A markets would bring the American dream to poor people without (directly) burdening American taxpayers. However, these machinations proved too clever by half.

If the Paulson-Bernanke plan gives Congress enduring justification to become more involved in financial markets, can you imagine how much more clever lawmakers will get?

Postscript: Hat tip to Susan Semeleer for sending along this Barney Frank quote from the 2003 effort to increase regulatory oversight of Fannie and Freddie:

”These two entities — Fannie Mae and Freddie Mac — are not facing any kind of financial crisis,” said Representative Barney Frank of Massachusetts, the ranking Democrat on the Financial Services Committee. ”The more people exaggerate these problems, the more pressure there is on these companies, the less we will see in terms of affordable housing.” 

Hold a Hearing

With so much riding on the pending bailout, I would ask Congress to hold a hearing this weekend, with two people testifying: Ben Bernanke and Roger Cole. Cole is head of the Federal Reserve’s Division of Bank Supervision and Regulation, fondly known as “soup and reg.”

Here is how mortgage securities markets could affect good borrowers:

  1. The securities lose market value.
  2. The banks mark the value of their securities to market. This eats into their capital.
  3. The banks have to cut back lending to good borrowers in order to comply with capital requirements.

To help good borrowers, you have to intercept one of these three steps. The Paulson plan and all its variants are an attempt to intercept step 1. Getting rid of mark-to-market accounting is an attempt to intercept step 2. Easing up on capital requirements is an attempt to intercept step 3.

The Paulson plan is awful. For one thing, I don’t see how the Paulson plan can really kick in for several months, because it will take that long to figure out implementation. With capital forbearance, you could have new rules up and running within a week.

Getting rid of mark-to-market is not what I would want if I were a bank regulator. That’s why I would want Cole at the hearing. Ask him: if you had to choose between relaxing capital requirements and getting rid of mark-to-market, which would you choose? If he disagrees with me, then go with what he says. Incidentally, there is an op-ed in today’s Wall Street Journal that says we should keep mark-to-market accounting.

The question for Bernanke is this: if the Paulson plan is defeated, can he do enough with capital requirements and other tools to keep money flowing to good borrowers, particularly small business? If the answer is “yes,” then I think there is a credible alternative to the Paulson plan. Wall Street may not like it, but the public will be protected from a Great Depression scenario. If Bernanke says he doesn’t have the tools to free up bank lending, and if he thinks that things are going to really freeze up for good borrowers, then I guess we have to default to the Paulson plan.

[Cross-posted from EconLog]

How Smart Should a President Be?

William F. Buckley famously said he’d “rather be ruled by the first 500 people in the Boston phonebook than the faculty at Harvard University.” There’s surely something to that, though the worst president in American history was a Princeton man.

Here’s an interesting graph comparing presidential success with presidential IQ. (Explanation here.) (Hat tip: Marian Tupy.)

It’s a fun conversation piece, but it doesn’t tell you much. First of all, all the conventional rankings dramatically downgrade “do-nothing” presidents, so the version of presidential greatness used is always going to overvalue drama, explosions, and ambitious plans to remake the country and the world. Note that here, once again, Warren G. Harding is the Rodney Dangerfield of presidents, ranked dead last despite his admirable record on separation of powers, size of government, and civil liberties.

Moreover, the IQ data are highly dubious, especially the further back you go in history, where it appears to be based on presidential biographies and personal papers, rather than standardized tests from college or military service. When I first looked at the graph, I wondered how they’d concluded that JFK was brighter than John Adams and James Madison, who didn’t need ghostwriters to make them seem smart. It turns out, according to JFK biographer Thomas Reeves, that “Kennedy was actually given an IQ test before entering Choate. His score was 119,” much lower than what he’s assessed at here.

In any event, given the difficulties of assessing IQ from a distance of generations, and the contentious nature of presidential greatness, it’s hard to draw any firm conclusions about the relationship between intelligence and presidential “success.”

However, too many conservatives, it seems to me, are too quick to conclude that brains don’t matter much when we’re choosing a constitutional chief executive. The reasoning seems to be: Jimmy Carter was smart, and he was a bad president; Reagan went to Eureka College and the intelligentsia sneered at him, yet he was a good president. Therefore, we should count ourselves lucky if and when we get George W. Bush and Sarah Palin. This sells Reagan short (and Carter too?): Reagan wasn’t an intellectual, but he was very interested in ideas and anyone who’s seen Reagan’s handwritten 1970s radio speeches, for example, knows that his intellect was nothing to sneer at.  His success certainly doesn’t mean that unremarkable intelligence and lack of intellectual curiousity are virtues when it comes to the office of the presidency.

The Revival of Small-Government Conservatism?

For nearly eight years, Republicans either looked the other way (or greedily joined in) as the Bush administration increased the size, cost, and intrusiveness of government. The largest increase in domestic discretionary spending since the Great Society, a massive new entitlement program, greater federal control over education — big-government conservatism was on the march with barely a squeak of protest.

But in proposing a $700 billion bailout of Wall Street, the Bush administration may finally have found the proverbial straw that breaks the camel’s back. It is years overdue, but congressional Republicans are finally learning to say “no.”  And its not just the usual advocates of limited government like Rep. Mike Pence (R-IN) who are outraged by the biggest government intervention in our economy since FDR. House Minority Leader John Boehner (R-OH), who acquiesced to — even twisted arms to push through — every big-government proposal that the Bush administration wanted, has suddenly found a spine. Even such go-along, get-along Republicans as Sens. Richard Shelby (R-AL) and Jim Bunning (R-TN) have not been able to swallow this one.  To hear Sen. Bunning describe the administration’s proposal as “socialism” is, well, amazing. 

Meanwhile, grass-roots activists and talk radio are in open rebellion. People are actually suggesting that government isn’t the solution, government is the problem. How long has it been since we’ve heard that around this town?

The Bush administration will probably succeed in pushing through their proposal. But if the bailout succeeds in finally reigniting the fires of small-government conservatism, it may be worth the price.

Mark Sanford on Bailouts

South Carolina governor Mark Sanford, who spoke last Saturday night to our Cato Club 200 retreat, has a great column in the Washington Post today on the federal government’s accelerating tendency to respond to every crisis with an expansion of its powers. He writes:

An ever-expanding scope of federal commitment and power is not what made this country great. Expanded power in one place comes at a cost in other places. American cornerstones such as individual initiative and an entrepreneurial spirit — born in free and open societies with private property rights and the rule of law — have never fit particularly well within the context of an ever-growing federal government.

For 200 years, the “business model” in our country has rested on a simple fact: that while one may reap rewards from taking risks, one should also be prepared to face the consequences of those risks. Some of the proposed actions with regard to the credit market turn that business model on its head — absolving those who took too much risk, or bought too much house, from the weight of their own choices. If Congress passes the proposed bailout, we will be destined to have far greater problems in time, leaving those who are prudent in their finances to foot the bill for those who are not.

He goes on to appeal to the wisdom of Milton Friedman, Ronald Reagan, and Edward Gibbon in cautioning Congress not to put us on the path to “decline and fall.”

Bonus: Mark Sanford on Real ID here (podcast audio), here (speech video) and here (speech PDF).

Another $700 Billion

For the second time in six years, the Bush administration has asked Congress for nearly unlimited authority without an independent professional review of the evidence that led the administration to request such authority.

In making the case for the Iraq war resolution, according to Senator John D. Rockefeller, “the administration repeatedly presented intelligence as fact when it was unsubstantiated, contradicted or even nonexistent. As a result, the American people were led to believe that the threat from Iraq was much greater than actually existed.”

As it turned out, of course, no “weapons of mass destruction” were ever discovered.

The skeletal proposal for the Troubled Asset Relief Program states that “Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency. The Secretary is authorized to take such actions as the Secretary deems necessary to carry out the authorities in this act without regard to any other provision of law regarding public contracts” – again without an independent professional review of the evidence that led the administration to request such extraordinary authority.

In both cases, the administration requested urgent congressional approval of these measures when members of Congress were anxious to go home to run for reelection. And a final irony: the total direct cost of the Iraq war to date has been about $700 billion, the same amount that the administration has requested to buy bad mortgages.

“Wakeriding” the GSE Collapse

On the WashingtonWatch.com blog, I’ve reviewed some of the bills introduced and moved in Congress the last few days to respond - or at least react - to the collapse of Fannie Mae and Freddie Mac.

These bills deserve skepticism - the market for political posturing and other silliness is obviously high right now - but they might not all be bad … .