“wild greed and market failure”

Many believe that wild greed and market failure led us into this sorry mess. According to that narrative, investors in search of higher yields bought novel securities that bundled loans made to high-risk borrowers. Banks issued these loans because they could sell them to hungry investors. It was a giant Ponzi scheme that only worked as long as housing prices were on the rise. But housing prices were the result of a speculative mania. Once the bubble burst, too many borrowers had negative equity, and the system collapsed.

Part of this story is true. The fall in housing prices did lead to a sudden increase in defaults that reduced the value of mortgage-backed securities. What’s missing is the role politicians and policy makers played in creating artificially high housing prices, and artificially reducing the danger of extremely risky assets.

How Government Stoked the Mania: Housing prices would never have risen so high without multiple Washington mistakes.” By Russell Roberts, The Wall Street Journal, October 3, 2008

The consensus among economists is now clear, the best strategy for dealing with the financial crisis is to recapitalize the banks that need recapitalization.

The Economic Consensus v. Politics,” by Alex Tabarrok, Marginal Revolution, October 3, 2008

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