By Steve Viuker
Alan Blinder, author of “After the Music Stopped: — ,” serves at Princeton University as the Gordon S. Rentschler Memorial Professor of Economics and Public Affairs in the Economics Department, and vice chairman of The Observatory Group. He founded Princeton’s Griswold Center for Economic Policy Studies in 1990. In a speech given at Princeton University on March 7, he cited a combination of unrestrained free markets and lax regulatory enforcement as leading to the financial crisis. Regulators “had plenty of authority; they didn’t use it,” which he termed “malign neglect.”
“Once the crisis became acute, policy makers took bold, comprehensive and effective actions. They were highly interventionist and they worked,” he said, but the bad economy and policy activism led to a backlash against the Federal Reserve, the Bush and Obama Administration, and Congress – namely, the entire public sector.
Blinder cited 315 million people who lost an estimated $18 trillion in wealth from housing and stocks, more than a year’s GDP. But while taxpayers thought they were sharing an enormous bill for the bank bailouts, the government made a profit in the end, he said.
“When are you are getting public money, the public has the right to expect something in return. [Former Secretary of the Treasury Henry] Paulson asked nothing,” Blinder said. The deal also lacked an upside for taxpayers, and had minimal restrictions on dividends and executive compensation. While Timothy Geithner tightened executive compensation when he became Treasury secretary, no one went to jail.
The Fed, as a lender of last resort, lent the banks “massive amounts,” in an unprecedented magnitude, going from a pre-crisis total of $200 million to more than a trillion dollars. And the Fed decided which financial institutions should live or die; something central banks usually don’t get involved with.”
Blinder also said President Barack Obama took on too many things at once – health care reform, education and two wars, in addition to the financial crisis, and therefore lacked a clear focus on the economy.
“There will be other instances where the government will have to do extraordinary things; many of which are counter-intuitive,” said Blinder, but he noted that America leads the world in financial reform.” While Dodd-Frank will likely not prevent financial bubbles in the future, it will make their consequences less severe when they do happen – for example, an orderly liquidation authority to apply to large financial institutions.
Another issue was the lack of a single systemic financial regulator in the United States. Banks, investment banks and mortgage banks all had their own regulators. “When bad mortgages were being written by non-banks, banking regulators should have seen the picture, but they didn’t,” he said. The work load that Dodd-Frank assigned to these agencies was impossible to complete within the designated time frames, and Congress was unwilling to appropriate more funding for staff. The lobbying by the financial industry was and continues to be extensive, powerful and highly effective,” he said.
In summation, Blinder said the Fed now owns mortgage backed securities, not something it necessarily wants in its portfolio. However, the Fed portfolio is less risky now than in the early days of the crisis. The Fed is faced with changing the composition of its portfolio and shrinking its balance sheet. If it moves too slowly, it will cause excessive liquidity and lending, leading to inflation. Err in the other direction, and deflation results, as it did in 1937, he said.
The 1999 repeal of the Glass–Steagall Act was not a culprit in the crisis either, Blinder said, “The trouble came from banks doing banking badly and from investment banks doing investment banking badly.”■