Thomas Woods` Meltdown And The Diversity Depression
[See
also
Time For Another Pujo Committee? by Peter Brimelow]
During the Republican Presidential primary
campaign in 2007 and early 2008, Congressman
Ron Paul
(R-TX) insisted on talking about such
outré topics as
the dangers of the Federal Reserve System and fiat money,
for which he was widely snickered at. Back then, everybody
just knew that the geniuses at the Fed had solved all our fundamental
economic problems. Now the only one that remained was (as
Barack Obama kept pointing out) how to more equitably
divvy up the endless stream of wealth.
Granted, when your kids would ask you
why a dollar bill was worth a dollar, you`d start out
confidently enough, but soon find yourself waving your hands
around and answering their increasingly skeptical questions
with "Because Daddy says so!"
Yet, even though you, yourself, might be a
little hazy on the details, you could be confident that
Alan Greenspan and his protégé
Ben
Bernanke had this money thing all figured out. So, why
listen to Ron Paul talk about something as obviously
obsolete as the
gold
standard?
Early 2008 sure seems like a long time
ago now …
Perhaps not surprisingly then, one of the
surprise bestsellers of 2009 is
Meltdown: A Free-Market Look at Why the Stock Market
Collapsed, the Economy Tanked, and Government Bailouts Will
Make Things Worse by
Thomas E. Woods
Jr., a historian with the
Ludwig von Mises Institute. Despite almost no reviews in
what Treasury Secretary Tim Geithner might
euphemize as the
"legacy
press"— Woods`s book (with its Foreword by Rep.
Paul) has risen as high as #11 on the
New York Times
bestseller list.
Woods points to six main causes for the
current economic travails, which began with the rise in
mortgage defaults in 2007 (largely in the four Sand States).
His assessment overlaps considerably with the under-reported
aspects that I`ve emphasized:
-
"Fannie Mae and Freddie
Mac":
The government-sponsored
thingamabobs
encouraged lending to lower income and minority
homebuyers of increasingly
dubious creditworthiness -
"The
Community Reinvestment Act
and
affirmative action
in lending": the government acted as
if the big danger was too little lending to politically
favored groups instead of too much -
"The government`s artificial
stimulus to speculation"
such as its endorsement of
zero down payment mortgages and enthusiasm for
mortgage-backed securities as a means to increase
homeownership -
"The
pro-ownership
tax code"
such as the
deductibility of mortgage interest -
"The `Too Big to Fail`
mentality":
The market, encouraged by
previous bailouts (such as Mexico in 1994 and
Long Term
Capital Management in 1998), believed in a
"Greenspan
Put." -
“The Federal Reserve and
artificially cheap credit”:
Woods sees the low Fed interest rates that bottomed out
at 1 percent in 2003-2004 as the worst culprit
The great sportswriter
A. J. Liebling boasted:
"I can write
better than
anybody who can write
faster, and
I can write faster
than anybody who can write
better,"
and Woods does a fine job of hitting Liebling`s sweet spot
in lucidly presenting an Austrian School of Economics
analysis of our current troubles.
The
"Austrians" (most of whom are
American
these days) have been waiting a long time for an opportunity
to make their case.
"Austrian
Economics" is one of the field`s various schools,
such as the Chicago School, Keynesianism, and Marxism. Its
founders were U. of Vienna thinkers such as
Ludwig von Mises and
Friedrich Hayek, and its American champions include
Henry Hazlitt and
Murray N. Rothbard.
In recent decades, the Austrians have lost
out on most of the economics professions` glittering prizes
to neoclassical economists. Mainstream academics make the
simplifying assumption that the economy will achieve
"equilibrium," a simplification that allows them to
engage in dazzling displays of mathematical complexification.
These "proofs"
have routinely impressed editors of academic journals and
the
Nobel Prize committee. During the years of apparent
economic stability from 1983-2006, their assumption that
"equilibrium" was
a good assumption for modeling the real world economy came
to seem reasonable.
The Austrians continued to eschew
complicated
mathematics as unrealistic in depicting an-ever changing
economy, a stance which hurts them professionally in
publish-or-perish universities.
Steve Keen,
a non-Austrian economist at the U. of Western Sydney (and a
leading figure in what I might call—to maximize
confusion—the nascent Australian
School),
explained in his 2001 book Debunking Economics: The Naked Emperor of the Social Sciences:
"Far from arguing that capitalism is the best
social system because of the conditions which pertain in
equilibrium, Austrian economists argue that capitalism is
the best social system because of how it responds to
disequilibrium."
"Disequilibrium" is a fair description of the current
state of the economy. Keen goes on:
"The Austrians emphasize the importance of uncertainty in analyzing
capitalism, whereas neoclassical economists, as we have
seen, either ignore uncertainty, or trivialize it by
equating it to probabilistic risk."
As we`ve observed over the last 20 months,
Wall Street "rocket
scientists" marinated in mainstream economic
assumptions badly underestimated the riskiness of
complex mortgage-based assets. The math whizzes at AIG,
Bear Stearns, and the like assumed that the risk of a
borrower defaulting followed a
normal probability distribution (a.k.a., a
"bell curve") and thus randomness could be
diversified away by bundling huge numbers of mortgages
together. Assuaged by that comforting assumption, not enough
Wall Street analysts paid attention to fundamental
changes in the market, such as the diminishing capability of
the rapidly changing population of marginal homebuyers in
California, Arizona, Nevada, and Florida to pay back
their huge loans.
Austrian Economics is subtle and
sophisticated, especially in its depiction of
"malinvestment"
and the subsequent economic downturns, which is vastly
more sophisticated than the muddled thinking on the subject
of, say, Keynesian Nobel Laureate
Paul Krugman.
Yet Woods tends to paint an overly rosy
picture of the infallibility of the
free market when he blames the boom-bust cycle entirely
on the Federal Reserve. This needlessly detracts from his
credibility.
To point out the central bank`s
culpability in business cycles, Woods asks rhetorically:
"But when a great many businesses, all at once, suffer losses or have to
close, that should surprise us. … So why should businessmen,
even those well established and who have passed the market
test year after year, suddenly all make the same kind of
error?"
Why? Because, among other reasons,
businessmen are human beings, subject, like all of us, to
extraordinary popular delusions and the madness of crowds.
This doesn`t mean that the Federal
Reserve is necessarily better at preventing booms and busts
than the more free market alternatives advocated by the
Austrians. It just means that the Austrians shouldn`t
overpromise on what free markets can deliver.
Having spent 18 years in the corporate
world, I`ve seen (and helped make) plenty of mistakes.
Consider, for example, a small boom-bust
circuit that I was involved in: the now almost-forgotten
Initial Public Offering Bubble that reached a climax in
March 1983. The start-up marketing research company where I
went to work in 1982 decided to go public early the next
spring at $16 per share. If we met our performance
projections, that seemed like a reasonable price. I put in
$2,000 to buys shares at the offering price.
A few days before our initial public
offering (IPO), however, our investment bankers got wind of
a growing mania for any and all IPOs that had anything even
vaguely to do with technology. Therefore, the bosses raised
our offering price to $23.
When the bell rang on the first day, to
our astonishment, the trading price instantly shot up and
stayed at $43 per share.
I had made $1,740 on my $2,000
investment in one day. Woo-hoo!
Soon, though, that IPO Bubble was
kaput. Over the
next couple of years, during which the firm largely lived up
to our revenue and profit forecasts, our stock drifted back
down to that $16-23 range that management had always figured
was appropriate.
And yet, as bad as that loss on our stock
was for investors who bought in at the peak of the March
1983 IPO bubble, we did much better by them than most of the
other IPOs in that bubbly month. Within a few years, many of
our vintage of IPOs had gone broke and been delisted by
NASDAQ. The Stingy Investor
blog recalls:
"In the 1977-1983 bubble, fully 61% of all IPOs
were issued near the climax in 1983. Two years later a
Forbes study found
that between 1975 and 1985, IPOs on average gained a paltry
3% annually vs. 14.8% for the S&P 500."
Now, you
could blame the
silliness of the 1983 IPO Bubble on the Fed. After all,
there was a lot of money suddenly sloshing around in the
stock market because in August 1982, when the Dow Jones
Average had dropped as low as
776,
Paul Volcker`s Fed had decided that it had finally
broken the back of the inflation and could afford to ease up
on interest rates.
And, yet, Volcker was right to loosen
credit. The nasty recession of 1981-82 had done its job, and
the country was ready for prosperity (even if its IPOs
couldn`t live up to euphoric expectations).
There are two relevant questions about
that boom and bust:
-
Q. Why was there
a lot of money available for investing in March 1983?
A.
The Austrians, with their focus on the Fed, can answer that.
-
Q. Why did too
much money go to IPOs that month?
A.
Well, markets can make mistakes.
We can ask similar questions for the
vastly more catastrophic Housing Bubble:
-
Q. Why was there
so much liquidity?
A.
Woods` answer—Greenspan`s policy of kicking the can down the
road instead of wringing the excesses out of the system
after the
Tech Bubble burst in 2000—makes sense. (You could also
point to other problems, such as our huge trade deficits
with China, which they reinvested heavily in American
paper.)
-
Q. Why did so
much of that money flow into ridiculous mortgages? Surely,
it could have gone into something a little less stupid?
A.
Here, both government
and private actors are to blame. In his chapter "How Government Created the
Housing Bubble," Woods summarizes well how political
correctness biased the government toward insisting on
more lending to minorities.
Yet it`s worth remembering
that
political correctness infected the corporate world as well.
The particular problem wasn`t greed, which ye shall always
have with you, but
a lack of
counterbalancing fear.
Hispanic immigration and
high
birthrates were driving up the population in states like
California. Wall Street
assumed this would automatically boost home prices …
after all, everybody`s the same on the inside, right? Few
bothered to ask unpopular questions about how these
new homebuyers in the Sand States could
make
enough to pay the mortgages back, or could find Greater
Fools to
buy into their bad school districts.
And thus the financial world felt
confident enough to build insanely huge inverted pyramids of
leverage on the backs of
manual laborers and
speculators.
Bottom line: Woods`
Meltdown is an
important contribution to understanding the mortgage mess
and the
Diversity Depression. But we`ve only begun to unravel
it.
[Steve Sailer (email
him) is
movie critic for
The American Conservative.
His website
www.iSteve.blogspot.com
features his daily blog. His new book,
AMERICA`S HALF-BLOOD PRINCE: BARACK OBAMA`S
"STORY OF RACE AND INHERITANCE", is
available
here.]


