Freddie and Fannie didn’t fall off a cliff, they were pushed

Free marketeers such as myself are not the most popular people right now. Most of the chattering classes and causual observers of the financial crisis are jumping up and down saying “I told you capitalism and markets don’t work!” As in most crises like this, the people who yell the loudest know the least. The most ignorant remarks are coming from our esteemed Speaker of the House who is so ignorant in economics she actually blames “eight years of failed Bush economic policies” for the mealtdown. Nothing could be farther from the truth, but facts have never gotten in the way of Pelosi’s policies.

This crisis has many culprits. In some respects greed, lack oversight, poor decision making, and irresponsible lending practices have played a role. But to truly understand the current crisis we are in, you have to understand how, once again, a well meaning government mandated interference with the lending market lies at the genisis of our mess.

One of the myths circulating out there is that greedy corporations created the sub-prime lending market. In truth, the government created the impetus for the sub-prime market. In 1992 Congress wanted more low income people to own homes. To facilitate, they mandated HUD to liberlize the lending practices of Fannie Mae and Freddie Mac. Then HUD Secretary Andrew Cuomo announced policies to raise the affordable housing goals for Fannie Mae and Freddie Mac by 19% over two years. Under those regulations, at least 42% of the residential units financed by each corporation's mortgage purchases each year had to be housing for low- and moderate-income families.

The problem with these well intentioned policies is that they made Freddie and Fannie dance to two masters—profit maximizing market forces and vote maximizing political markets. Except that businesses can’t dance to those masters at the same time. Each master has a different goal. Market run banks are very cautious about who they lend to so they don’t give risky loans and go out of business. Government run banks want to be popular, offer loans to anyone who asks and waive down payment requirements so that officials get reelected.

Indulge an analogy. Imagine if our government bought a controling interest in Fred Myer. Desiring to be loved by the masses, the government then mandates that Fred Myer not charge more than $2 for anything in the store. The citizen rejoyce. Food costs fall. The standard of living improves. Politicians point to new statistics showing how they are eliminating poverty. The world is good…in the short run. But eventually, the invisible hand comes back to slap us in the face. Fred Myer can’t stay in business very long selling everything for $2. They try to hide losses with accounting gimicks. They trie to finance their losses in the bond market. But eventually push comes to shove and Fred Myer goes out of business.

This is essentially what happened in the mortgage industry. The two Democrat leaders who are now at the front of “saving” us from capitalism were at the root of its “failure.” A few years ago, Rep. Barney Frank (D) said "[Freddie and Fannie have] probably done too little rather than too much to push them [HUD] to meet the goals of affordable housing." The equally concerned Rep. Chris Dodd (D) commended Freddie and Fannie as "riding to the rescue" when other financial institutions were cutting back on mortgage loans and they "need to do more" to help sub-prime borrowers get better loans. With Congressional leaders demanding that our two largest mortgage companies give loans to people who can’t afford them, have no down payment money, and are high risk, the mortgage industry had little choice but to create the new sub-prime mortgage. Now those policies are coming home to roost. Loans to high risk candidates have higher default rates. Capitalists already know this. Politicians don’t care. That’s why we should have our banks run by the former.

But hey, if you like the way the financial markets look today, you are going to love the medical industry when President Obama hands it over to the government too!