"Charles P. Kindleberger, an economic historian who advanced the study of international finance and helped to devise the Marshall Plan for Europe's reconstruction after World War II … was also known for investigating the role of mob psychology in financial manias and panics, dating back to the tulip crisis in Holland early in the 17th century." Image: Semper Augustus, "the most expensive tulip sold during the tulipomania" (Anonymous Dutch Artist, opaque watercolor on paper, Norton Simon Art Foundation)
"The banking system is reforming itself right before our eyes, without the advice of Congress or new regulation," write the WSJ editors. "Nor is this largely the fault of the Bush Administration, as Barack Obama claims, or of some lack of regulation, as John McCain asserts." What a relief to have someone who knows about these things explain what we knew in our bones, BDS notwithstanding:
The immediate priority is to calm markets and prevent a crash, and to do so it helps to recall how we got here. We are not living through some "crisis of capitalism," unless policy blunders make it so … These politically convenient riffs do nothing to reassure the public.
The current panic is the ugly aftermath of the credit mania that took flight in the middle years of this decade. As students of economic historian Charles Kindleberger know ("Panics, Manias, and Crashes"), financial manias throughout history have shared one trait: the excessive expansion of credit. This bubble was no different.
The Federal Reserve kept interest rates too low for too long, creating a subsidy for debt and a global commodity price spike. The excess liquidity and capital flows this spurred became the fuel for the wizards on Wall Street and in mortgage-finance who created new financial instruments that in turn fueled the housing bubble. As long as it lasted, nearly everyone inhaled the euphoria of rising asset prices and soaring profits. Normal risk assessment gave way to the excesses that always attend manias.
The petals of Semper Augustus were "broken" or variegated, later discovered to have been caused by a virus spread by aphids. "In 1637 the year of 'tulipomania,' it is recorded that a bulb sold for 10,000 florins, the price of a desirable house and gardens in central Amsterdam."
"Lehman's bankruptcy filing is another sign of progress," says the Journal:
The Treasury and Fed have signaled they can say no. While Lehman's failure has spooked markets, the lesson that a storied investment house can fail without a federal rescue is its own crash course in risk management.
"Amid this turmoil and uncertainty, the challenge for policy makers is twofold":
Protect the overall financial system from the fallout of individual bank failures, and protect the larger economy from recession caused by financial distress. They each require different policy levers …
Meanwhile, a new RTC [Resolution Trust Corp, endorsed yesterday by Former Fed Chairman Paul Volcker] would provide a buyer for securities for which there is no market, set a floor under the market, hold the securities until markets stabilize, and liquidate them in an orderly fashion, perhaps at a profit. Failed institutions and managers would not be bailed out. There's always a risk that the politicians will meddle, which is one reason for the Bush Administration to do this now so it can insist on enough political insulation.
"As for the larger economy, the last 13 months are a guide to what not to do":
The Fed recklessly cut interest rates, while Congress and the White House dropped "rebate" checks from helicopters. The rate cuts ignited another oil and commodity spike that walloped middle-class consumers, while the rebates did nothing to change incentives or lift investment.
But try telling that to a mewling electorate looking for "quick fixes and someone to blame," as we blogged a month back:
As we wrote during the heat of the primary season last winter, referencing yet another Sowell column, "Unfortunately for the future of the Republic should McCain or either of the front-running Democrats — who all of them seem to believe a President can and should 'manage' the economy rather than step back and let the invisible hand create wealth — should one of them become Leader of the Free World, we'll have an Economics 101 gap in the Oval Office, and THAT worries us and Thomas Sowell, whose Basic Economics: A Citizens Guide to the Economy ought to be at the top of the Arizona senator's [not to mention Obama's] must-read list" …
Rewarding bad behavior only encourages more bad behavior.
Just in time, master satirist Scott Ott of ScrappleFace delivers the "news" we were longing to hear:
Yesterday Sen. John McCain called for a high-level commission to investigate the current economic crisis and to propose solutions. Today, the commission released its final report calling for the federal government to immediately withdraw from Wall Street, the home mortgage market and “other sectors where government intervention has undercut the principles of free-market capitalism.”
The panel, comprised of a truck driver, a Wal-Mart People Greeter, a self-described public school “cafeteria lady” and “that old guy who’s always sitting by himself at Cracker Barrel,” noted that “as long as people don’t have to bear the consequences of their behavior, or they think that the government will bail them out if they fail, they’ll take irrational risks.”
Weren't we just saying?
Update: "I deal with many business people in my work, and it is my conclusion that the biggest obstacle to business creation, and thus capital creation and job creation and wealth creation, is the government," writes The Barrister at Maggie's:
Note that the biggest screw-ups of the year, Fannie Mae and Freddie Mac, were government agencies. So much for government's role in the financial industry: it inevitably becomes politicized, mediocratized, and corrupted — as with any government involvement in any industry. Few people in government could figure out how to run a candy shop, much less a complex enterprise.
It's the creative destruction, stupid.