Here is a clear explanation of how the free market failed and led to the current financial crisis.
It didn’t.
It couldn’t have because there was no free market anywhere near the US financial industry, Fannie and Freddie, Lehman or Bear Sterns. AIG is a little closer but Insurance is still highly regulated.
Meanwhile, Barney Frank, the media (most of whom are unqualified to talk about economics), George Bush, Paulson, McCain, Obama – and virtually everybody else blames a non-existent free market.
The US finance sector is among the most highly regulated parts of the global economy. Fannie Mae and Freddie Mac were quasi-government agencies. Lehman and Bear Sterns belong to that exclusive club of publicly traded companies who are subject to the rules of the stock exchanges. The stock exchanges are also tools by which the government uses the illusion of freedom to limit competition. It wasn’t that long ago that only about 500 anointed people owned all the seats on the New York Stock Exchange. Top puppet masters move in and out through the revolving door between top financial firms and the government, Rubin and Paulson among others. They use their control over most of the country’s financial capital to reward friends and penalize enemies.
This is yet another clear case of big government failure. In a free market it never would have happened.
When the government can print money with nothing to back it up the risk of inflation increases and interest rates rise. When the government then artificially depresses interest rates people borrow too much money and invest it in the wrong places. When the government passes laws encouraging people with poor credit to buy houses, mortgages don’t get paid and house prices rise. When the banks can lend out perhaps ten time as much money as they actually have they risk not being able to pay it back. When you are forced to put your 401k in “mainstream” investments you are stuck with “mainstream” standards of financial reporting. This crisis was totally predictable and most libertarian economists have been predicting it for decades.
There has probably been plenty of fraud and that’s a proper target of government intervention. But most of the fraud has occurred in Washington DC not on Wall Street.
There were plenty of free market players involved. But Fannie and Freddie provided a greater fool to buy virtually any junk even free market mortgage originators could produce completely distorting the risk-return tradeoff. That’s exactly why we need free markets – because that’s the only way business decision makers can get relatively reliable signals about demand, risks and returns.
This is a classic case of huge numbers of bad risk-return decisions and that’s because the government interfered for decades in the brilliant prosperity engine called the free market.
The answer is less government control of financial markets – not more. No Fannie Mae or Freddie Mac to make it easy to sell junk mortgages. No Fed to print paper money. No government interference in who should buy houses. No fractional reserve banking system. No legal tender laws.
So make no mistake. Your government is covering up their own failure and trying to blame it on a free market that doesn’t exist and that would have prevented all this if it had. Now we are all prepared to hand the foxes in Washington even more keys to our chicken coops.
If we continue to elect these people we deserve exactly what we get.