The policy of administration

For regular readers of this blog, you know that I take a great interest in politics – particularly in Canada and the US.  I also really enjoy English humour especially in the form of the Yes, Minister / Yes, Prime Minister and Fawlty Towers.

I think that those of you with similar interests will enjoy this vignette.  I’m afraid it might be closer to the truth than any of us would like!

The size of government

One of my greatest concerns about the current economic malaise has been that various levels of government will use our fear and uncertainty to ‘temporarily’ increase their spending.  Canada has been described as a beacon of fiscal management when compared with other developed nations.  I hope that we are able to maintain this moniker.

I append below a piece which appears in the Financial Post and challenges the assertion that more government spending is effective tonic for difficult economic times.

http://network.nationalpost.com/np/blogs/fpcomment/archive/2009/04/28/canada-s-advantage.aspx

$18 billion in loans to “prove financial viability”

In today’s Wall Street Journal the Bush government announced $18 billion in loans and non-voting warrants for the Detroit-three.  See article at:

http://online.wsj.com/article/SB122969367595121563.html.

Bush is no longer a Commander in Chief, but is now “CEO in chief” (credit to a recent FORTUNE magazine article).  I’m one who just does not believe government should in business.  I don’t think they should run airlines, investment firms, train companies, shipping companies, own substantial real estate or compete with private industry.  

Government has its place, it’s just not in business.

I’m also not a believer that one should reward failure.  People respond to incentives (incentives and scarcity are two tenets of economics).  If we create incentives for failure it will beget more failure.  Incentives will work to curb behaviours for everyone from fat cat auto executives all the way down to babies and puppy dogs.

I recognize, as Bush states in his announcement, that we are in exceptional times.  I also understand that letting these three employers disappear would create havoc.  But why not let them go into bankruptcy?  Why not force them through the process of purging of union contracts that see workers earning well over $100,000 just for being there and not even working?  Why not force them to rethink their entire method of business in order to compete more favourably with tightly run and nimble competitors (Toyota, Volkswagen and Tata, for example).  

There would be fallout, no doubt.  Creditors would get cents on the dollar.  Workers would be let go (but that $18 billion could go a long way toward retraining them or employing them in the government’s blessed infrastructure projects).  Executives would get golden parachutes.  But the short term pain would set the stage for a proud and profitable recovery.

The current crisis and government regulation

My good friend Aaron Cruikshank posted to his blog today a note on the role of the free markets and government regulation in the current economic fiasco.  My post is in response to his (which can be seen at http://friuch.com/wordpress/when-the-going-gets-tough-leaders-point-fingers).

The seeds were sowed for this fiasco in 1938, reinforced in 1968, 1977, 1999 and again after 2000 by Greenspan’s low interest rate policy.  Yes, business people got drunk on the sub-prime and ABCP markets and I never excuse egregious business practices.  But the fact of the matter is that this crisis was created by government, reinforced by government and encouraged by government.  Those calling for more regulation are asking for more trouble…eventually.

1938

Fannie Mae was created in 1938 to “support the national commitment to housing” and, more importantly, to backstop “the inability or unwillingness of private lenders to ensure a reliable supply of mortgage credit throughout the country.”  Read: sub-prime loans.

1968 to 1970

In 1968 the US government converted Fannie Mae into a private shareholder owned company and in 1970 created what is now know Freddie Mac.  Freddie Mac’s purpose is to compete with Fannie Mae (yes, a government owned institution competing with a shareholder owned company) and specifically to purchase mortgages, package them up into securities and sell them.  The thinking was that if lenders knew they could sell mortgages onto Freddie Mac that this market would remain liquid. 

1977

Jimmy Carter created the Community Reinvestment Act (CRA) which was established to “encourage” private banks to end their “discriminatory” lending practices.  The CRA was created to ensure all Americans, regardless of their ability to repay loan obligations, were able to pursue the American dream of home ownership.  The CRA audited books of chartered banks and would consider a bank’s loans to sub-prime borrowers when authorizing additional branches or mergers and acquisitions.  

So you’re a bank that’s forced to lend to people who can’t afford mortgages.  But there are these convenient behemoths that will purchase these toxic obligations from you, thereby eliminating your exposure.  And if you don’t make these loans then you can’t add branches or merge with or acquire other banks.  Management has a responsibility to shareholders to grow their wealth, so what would they be forced to do in order to grow?  Adhere to the CRA.

1999

In his infinite wisdom, Bill Clinton exacerbated an already distorted lending environment by putting pressure on Fannie Mae to expand its loans to sup-prime borrowers.  I can’t find a reference, but my understanding is that his administration actually set minimum sub-prime quotas for Fannie and Freddie.  adding fuel to the fire!

Final thoughts

No doubt there was malfeasance in the private sector and I want to reiterate that I don’t obfuscate this commercial greed with pious business practices.  But I’ve read too much from too many periodicals and newspapers blaming the free markets.  Make no mistake about it, this recession was brought on by Democrat and Republican administrations dating as far as back FDR’s New Deal.  

It’s dumbfounding to me the fervent support governments are getting for the tremendous “investments” they are making in their economies.  My greatest fear is that, because Joe Q. Public is so afraid, governments around the world have been given a once in a lifetime opportunity to grow, grow, grow and to reach much deeper into our pockets.  

Governments drink their own kool-aid and really believe in their destinies as the solution to all society’s ills.  Giving them a blank cheque to bail us out of this mess will only perpetuate what was has been created by FDR and encouraged by Carter, Clinton, Bush and Greenspan.  

Isn’t it time to let the market purge the irresponsible players (it will be painful, I know) and let a sensible market take over?