Economic bubbles: the Fed's financial control creates housing and other bubbles that burst with disastrous effect. The solution is to end central control and embrace free-market principles

New American, The, June 23, 2008 by Ron Paul

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Many Americans today are understandably concerned about the state of the economy. The current recession is likely to be one of the worst in recent memory, and comes at a particularly difficult time for many Americans, just as many of the Baby Boom generation are planning to retire. American workers have come to expect stocks, mutual funds, bonds, and other investment opportunities to increase year after year, yet the stock market's marginal performance over the past few years and the recent instability in the banking sector have made many wonder whether their retirement and savings accounts are safe.

Unfortunately, politicians still fail to understand both the origins of economic instability and the proper solution. Rather than getting government off people's backs, their reflexive reaction is to get government more involved, creating new programs and bureaucracies, implementing new regulations, and spending billions more of the taxpayers' hard-earned money. Only a sea change in congressional thinking will bring most members around to understanding that the proper way to deal with an economic crisis is to lower taxes, loosen regulation, and keep the government's hands off the economy.

While I am pessimistic about the short term, I am optimistic about the long term. There had been hope in some quarters that a Democratic takeover of Congress would bring renewed skepticism toward, and oversight of, the Federal Reserve System, one of the most pernicious tools used to interfere in the workings of the free market, especially in the financial sector. Unfortunately that has not been the case, as many Democrats have joined Republicans in praising the Fed for its recent interventions into the market.

Moreover, Democrats and Republicans have worked in concert to ensure that the unwinding of the housing bubble will be as protracted and painful as possible. For years, the Congress has been instrumental in creating and sustaining the housing bubble. From support of Fannie Mae and Freddie Mac, two unconstitutional, U.S. government-sponsored enterprises that provide funding for mortgage lenders, to the promulgation of the Community Reinvestment Act's burdensome lending requirements for banks, Congress has firmly enmeshed itself in the housing and mortgage sector. Now that everything is going south, Congress is abdicating all responsibility and placing the blame purely on the private sector.

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The failure of federal oversight, intervention, and regulation were the primary motivating factors behind the buildup and breakup of the housing bubble, but few politicians today understand or are willing to admit this. From both sides of the aisle we hear calls for increased regulation of the mortgage market, proposals ranging from mandatory background checks, licensing, and fingerprinting of mortgage brokers, to increased federal intervention into, and definition of, acceptable mortgage lending standards.

Where federal meddling in other business sectors is concerned, we still have not learned the lessons of the Enron fiasco and of the disastrous Sarbanes-Oxley measures which were passed in response to it. Just about everyone now recognizes just how destructive Sarbanes-Oxley--a cumbersome piece of legislation imposing a range of new auditing and disclosure standards on public companies, ostensibly to prevent more Enrons--was. But while we are lamenting the excesses of Sarbanes-Oxley and introducing legislation to repeal the most onerous sections of it, we are simultaneously introducing and passing legislation which could have a similarly destructive impact on the mortgage and housing industry.

I am a firm supporter of regulation--by the market. The market does a perfectly fine job of self-regulation if it is allowed to work free from government intervention. What we have nowadays, thanks to pervasive government controls on business and financial activities, is a system so Byzantine and opaque that no one has any idea what is going on. As Ludwig von Mises, the founder of the Austrian school of economics in the United States, famously demonstrated in Human Action and other works, one intervention into the market begets another, which begets another, and so on until we have full-blown socialism.

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One of the more worrisome proposals to come along recently has been the Treasury proposal to overhaul the nation's system of financial regulation. While the Treasury's plan purports to eliminate certain federal regulatory agencies through mergers and the elimination of duplicative functions, the reality is that it would create the equivalent of the Department of Homeland Security (DHS) of financial regulation. The DHS was touted as bringing greater efficiency to the federal government through its merger of agencies scattered throughout various departments, but it has grown into a gargantuan and all-encompassing bureaucracy. The Treasury's financial regulation plan would do the same thing, not only with regard to securities and commodities market regulation, but also regarding what the plan envisions for the Federal Reserve.