|
French
businessman and economist Jean-Baptiste Say is credited
with identifying the fundamental economic principle that aggregate demand for
goods in an economy will equal the aggregate supply of goods when markets are
permitted to operate. Or in Say’s words, “products are paid for
with products.”
English
classical economist David Ricardo,
among others, more fully developed this principle into what has become known
as “Say’s Law.” Say’s
Law, according to Ricardo, leads us to understand that market equilibrium for
goods is constant. This simply means that markets, when left alone by
government planners or other fraudulent actors, inexorably tend toward an
“equilibrium price” which eventually balances supply and demand
for any particular good. Thus markets will clear
themselves of any surpluses or shortages in the form of excess supply and
demand.
This
important corollary of Say’s Law-- that markets clear-- is critical to
understanding the moribund US housing market. In housing, perhaps more than
any other good, we see the terrible consequences of government and central
bank interference with market forces.
First,
the Federal Reserve Bank relentlessly increased
the money supply over the last few decades. Much of this newly
created money and credit flowed from Fed member banks into the residential
and commercial real estate markets, causing prices to rise dramatically prior
to the housing bust of 2007.
At
the same time, the Fed systematically suppressed interest
rates for decades. This led to tremendous malinvestment both by homebuilders and individuals, and
encouraged a seedy subprime mortgage industry to make nonviable loans that
would not make economic sense under market interest rates.
Congressional
meddling in the mortgage market also added tremendously to the problem. Inane
legislation like The Community Reinvestment Act literally forced banks to
make thousands of loans to bad credit risks. Similarly, Fannie Mae and Freddie
Mac put taxpayers on the hook for millions of mortgages that never would meet
market underwriting criteria. And of course the real estate and homebuilder
lobbies made sure mortgage interest debt (unlike most personal debt) remains
tax-deductible.
The
ultimate result of these interventions by our caring friends in Congress and
the Fed has been the biggest housing bubble and crash in US history, leaving
millions of Americans underwater on their mortgages if they have not already
lost their houses altogether. Congress and the Fed are directly responsible
for millions of shattered lives, and almost unknowable economic damage in the
form of trillions of dollars in mortgage backed securities.
The
only solution to this mess is to allow the US housing market to clear. All of
the bad mortgage debt must be liquidated, whether via foreclosure or
bankruptcy. Banks holding substantial mortgages or mortgage backed assets
must face the music and adjust their balance sheets to reflect today’s
reality. Undoubtedly this will force many banks into immediate insolvency,
but such banks must be allowed to fail without receiving another nickel of
taxpayer money. Banks took the risks and made money during the bubble years;
those who exercised bad judgment must now accept the consequences of their
actions.
Never
in American history have we needed to adopt a policy of laissez faire more
desperately; never has government seemed more determined to artificially prop
up an industry. But only by allowing the housing market to clear can we hope
to rebuild our shattered economy from a stable foundation. Clearly there will
be pain in the short term, but we owe it to younger Americans and future
generations to allow the reemergence of a rational housing market.
|
