The cause of the 2008 Financial Crisis

Was free market capitalism the root cause of the present crisis?

Since the the present crisis started in the United States, many blame excess of capitalism and deregulation, two flagships of the american way of life since Ronald Reagan. From their point of view the blame goes to greedy banks and headge funds that spreaded the toxic mortgages (subprime) to uninformed people around the globe. They think that regulation could have prevented these subprime mortgages to be made and that free markets have gone too far. Their solution is more government intervention in the system.

Nothing of that is true. Nothing of that is the solution.

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The present financial mess has three authors.

1- BAD MONETARY POLICY BY THE FED-RESERVE (Gvmt Central Bank)

2- COMMUNITY REINVESTMENT ACT (Government Regulation)

3- FANNIEMAE-FREDDIEMAC (Governement Sponsored Enterprises)

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The story is this:

1- It all started with the expansionary monetary policy by the FED since 2002. This created three things: dollar depreciation against major currencies, rising housing prices, rising oil prices. Contineous rising of housing prices, aka housing bubble, made people run for new houses before their rised in price again. This created an overinvestment in the housing sector. And when inflation signals started to pick up in 2006 the FED started to rise interest rates. That tightening in the monetary policy made the missallocation of resources in housing clear. The bubble they created started to burst.

2- The Community Reinvestment act in fact put a gun to private banks and told them not to discriminate low-income high-risk people asking for a loan. That made credit requirements too low and banks concieded loss making loans. When the bubble burst they suffered from them. That lead some banks such as Lehman Brothers into bankruptcy. Clogging the credit between banks, aka overnight interbank lending.

3- Government sponsored enterprises FannieMae and FreddieMac that had more than half of the mortgage market made high risk mortgages to people that couldn't afford them. They made them because they had an intrinsic guarrantee of the federal government. When the bubble burst those subprime mortgages entered in default, leading the two agencies to complete failure and where bailed out.

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Summing up:

1-Monetary policy interfered with the normal free market trends.

2-Regulation obliged private banks to missalocate their capital and fail.

3-GSE failed because of their losses-socializing guarrantee from government.

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The real facts are complex and difficult to explain to an economics illiterate.

CAPITALISM IS NOT TO BLAME. GOVERNMENT IS THE PROBLEM.

It is easy and simple to blame capitalism. It politicaly impossible for politicians to blame themselves. Remember, the blame is always on the other, right?