The Big Conservative Blame-Shift

Rick flagged one of the conservative attempts to shift blame [1] for the financial crisis away from their market deregulation and pin it on "government," namely the Community Reinvestment Act.

Last night, President Bush played the blame-shift game again, trying to claim that the government-sponsored enterprises Fannie Mae and Freddie Mac were the primary problem:

Two of the leading purchasers of mortgage-backed securities were Fannie Mae and Freddie Mac. Because these companies were chartered by Congress, many believed they were guaranteed by the federal government. This allowed them to borrow enormous sums of money, fuel the market for questionable investments, and put our financial system at risk.

Bush is absolving himself for his conservative policies in hopes of convincing other congressional conservatives to support the bailout.

While leading conservative bailout critic, Sen. Jim Demint (R-SC), is blaming [2] "easy money policy, the congressional charters of Fannie Mae and Freddie mac, and the Community Reinvestment Act." to argue that "the government caused this crisis," [3] and "The government broke it. I don't trust them to fix it." [4]

Now, I don't believe the blame-shifting is getting much traction outside ConservativeWorld. Most of the nation appears to recognize that reckless deregulation and scant government oversight is the core problem, as evidenced by both presidential candidates arguing over who would be the better regulator.

But in the interest of getting the facts out, here's what actual economists have to say on Fannie and Freddie's role.

Dean Baker from Beat the Press: [5]

Stephen Henn [of NPR's Marketplace] told listeners that free market conservatives "believe" that the financial crisis is attributable to the close government relationship with Fannie Mae and Freddie Mac. Actually, it is extremely unlikely that free market conservatives actually "believe" this assertion because it is so obviously not true.

Fannie and Freddie got into subprime junk and helped fuel the housing bubble, but they were trailing the irrational exuberance of the private sector. They lost market share in the years 2002-2007, as the volume of private issue mortgage backed securities exploded.

In short, while Fannie and Freddie were completely irresponsible in their lending practices, the claim that they were responsible for the financial disaster is absurd on its face -- kind of like the claim that the earth is flat. Free market conservatives know that the claim that Fannie and Freddie were responsible is ridiculous. They just say it because they know that news outlets like Market Place will treat it as a serious proposition and thereby muddy the waters in the mind of the public.

Paul Krugman went into more detail in the New York Times [6] back in July:

Fannie and Freddie had nothing to do with the explosion of high-risk lending a few years ago, an explosion that dwarfed the S.& L. fiasco. In fact, Fannie and Freddie, after growing rapidly in the 1990s, largely faded from the scene during the height of the housing bubble.

Partly that’s because regulators, responding to accounting scandals at the companies, placed temporary restraints on both Fannie and Freddie that curtailed their lending just as housing prices were really taking off. Also, they didn’t do any subprime lending, because they can’t: the definition of a subprime loan is precisely a loan that doesn’t meet the requirement, imposed by law, that Fannie and Freddie buy only mortgages issued to borrowers who made substantial down payments and carefully documented their income.

So whatever bad incentives the implicit federal guarantee creates have been offset by the fact that Fannie and Freddie were and are tightly regulated with regard to the risks they can take. You could say that the Fannie-Freddie experience shows that regulation works.

In that case, however, how did they end up in trouble?

Part of the answer is the sheer scale of the housing bubble, and the size of the price declines taking place now that the bubble has burst. In Los Angeles, Miami and other places, anyone who borrowed to buy a house at the peak of the market probably has negative equity at this point, even if he or she originally put 20 percent down. The result is a rising rate of delinquency even on loans that meet Fannie-Freddie guidelines.

Also, Fannie and Freddie, while tightly regulated in terms of their lending, haven’t been required to put up enough capital — that is, money raised by selling stock rather than borrowing. This means that even a small decline in the value of their assets can leave them underwater, owing more than they own.

And yes, there is a real political scandal here: there have been repeated warnings that Fannie’s and Freddie’s thin capitalization posed risks to taxpayers, but the companies’ management bought off the political process, systematically hiring influential figures from both parties. While they were ugly, however, Fannie’s and Freddie’s political machinations didn’t play a significant role in causing our current problems.

Over at Economist's View [7], there are a series of posts [8] going into further detail making the case that Fannie and Freddie's problems are a symptom, not the cause [9], of the current crisis.

Conservatism is going to have a rough ride until its leaders actually accept some responsibility for their failures and offer new ideas that recognize reality.

Though of course, a badly designed bailout that merely transfers wealth from working families to irresponsible CEOs won't do much to restore faith in what our government can do either.