Getting the History of the Economic Crisis "Right"

Excerpts from Vanity Fair article written by Joseph E. Stiglitz
It’s crucial to get the history right, writes the Nobel-laureate economist Stiglitz, identifying key “mistakes” under Reagan, Clinton, and Bush II.
Behind the debates over future policy there must be a debate over history, a debate over the causes of the current economic situation. Do not make any mistake the battle for the past will determine the battle for the present. So it’s crucial to get the history straight.

What were the critical decisions that led to the crisis? Mistakes were made at every fork in the road. We had what engineers call a system failure, when not a single decision but a cascade of decisions that produced a tragic result. But these are not mistakes born of ignorance or misunderstanding. These are mistakes born of a philosophy based on greed embraced by the republicans and supported by some look-warm democrats that found in Mr. Alan Greenspan his fraudulent high priest.
For more information, see

• Greenspan's Fraud: How Two Decades of His Policies Have Undermined the Global Economy
  by Ravi Batra




• Milton Friedman's philosophy of greed.
  





• Ayn Rand the "philosopher" behind this.
  

Let’s look at some key moments of this unfolding economic disaster bor of the foolish philosophy of Mrs. Rand and Mr. Friedman and embraced by the right-wing "elite".

Firing and Hiring the Chairman

In 1987 the Reagan administration decided to remove Paul Volcker as chairman of the Federal Reserve Board and appointed Alan Greenspan in his place. Volcker had done what central bankers are supposed to do. On his watch, inflation had been brought down from more than 11 percent to less than 4 percent. He also understood that financial markets need to be regulated. Reagan (read republicans) wanted someone who did not believe any such thing, and he found him in Greenspan a follower of the philosopher and free-market zealot Ayn Rand.
Greenspan played double role of controller and regulator inherent with its Federal Reserve Board appointment.

1. The Fed controls the money spigot, and in the early years of this decade, he turned it on full force.


2. But the Fed is also a regulator. If you appoint an anti-regulator as your enforcer, you know what kind of enforcement you’ll get.

As a result Greenspan’s flood of liquidity combined with his regulatory failure proved disastrous. This led to predatory lending and banks mega-bets the main causes of the market meltdown.

Greenspan presided over not one but two financial bubbles. After the high-tech bubble popped, in 2000–2001, he helped inflate the housing bubble.
His first responsibility as head of the central bank was to maintain the stability of the financial system. When banks lend on the basis of artificially high asset prices, the result can be a meltdown as we are seeing now. Greenspan should have known that and do use many of the tools at his disposal to cope with the situation. For instance:

1. To deal with the high-tech bubble, he could have increased margin requirements (the amount of cash people need to put down to buy stock).


2. To deflate the housing bubble, he could have curbed predatory lending to low-income households and prohibited other insidious practices (the no-documentation—or “liar”—loans, the interest-only loans, and so on). This would have gone a long way toward protecting us. If he didn’t have the tools, he could have gone to Congress and asked for them.

The Derivative's Casino where Wall Street always Wins

The current problems with the financial system are not only the result of bad lending. The banks have made mega-bets with one another through complicated instruments such as derivatives, credit-default swaps, etc... In a nutshell with these instruments one party pays another if certain events happen for instance if Bear Stearns goes bankrupt, or if the dollar soars. These instruments were originally created to help manage risk but they can also be used to gamble when no regulation exists. With this complicated intertwining of bets of great magnitude, no one could be sure of the financial position of anyone else or even of one’s own position. Not surprisingly, the credit markets froze.

Warren Buffett said that derivatives are financial weapons of mass destruction. And yet, for all the risk, the deregulators in charge of the financial system at the Fed, at the Securities and Exchange Commission, and elsewhere decided to do nothing.
See the following explanation about derivatives.