Wait! Government did cause the housing bubble.
Congress's Community Reinvestment Act, aimed at helping the poor afford housing, did lead banks to make much riskier mortgage loans, a new study finds.
Congress's Community Reinvestment Act, aimed at helping the poor afford housing, did lead banks to make much riskier mortgage loans, a new study finds.
Austrian business cycle theory explains the general pattern of the boom-bust cycle 鈥� credit expansion, lowered interest rates, malinvestment, crash, liquidation 鈥� but the particulars differ in each historical case. (Austrians sometimes聽distinguish聽鈥渢ypical鈥� from 鈥渦nique鈥� features of each cycle.) To explain particular episodes, we appeal to specific technological, regulatory, political, legal, or other conditions. For example, in the 1990s, much of the malinvestment was channeled into the IT sector, where uncertainty driven by rapid technological change made entrepreneurs particularly susceptible to forecasting聽errors. In the 2000s, of course, malinvestment appeared largely in real estate, the result of government programs designed to relax underwriting standards and otherwise increase investment in particularly risky real-estate assets. In other words, ABCT tells us to look for malinvestment during the boom, but not where that malinvestment will show up.
Regarding the latter example, however, there has been a persistent dispute among mainstream economists about the role of government housing policy, particularly the聽Community Reinvestment Act聽which was used, in the 1990s, to make banks increase their lending to particular low-income neighborhoods.聽Paul Krugman聽asserts,聽for example, that the 鈥淐ommunity Reinvestment Act of 1977 was irrelevant to the subprime boom.鈥� Actually, no. A聽new NBER paper聽(gated) on the CRA is causing quite a stir. Authored by four economists from NYU, MIT, Northwestern, and Chicago, the paper is the first to use instrumental-variables regression to distinguish changes in bank lending caused by the CRA from changes that would likely have happened anyway. (The authors use the timing of loan decisions relative to the dates of CRA audits to identify the effect of the CRA on lending.) The results suggest that CRA enforcement did, contra Krugman, lead banks to make substantially riskier loans than otherwise.聽Raghu Rajan聽puts it in a very Austrian-sounding way:
I鈥檇 reverse the order of emphasis 鈥� credit expansion first, housing policy second 鈥� but Rajan is right that government intervention gets the blame all around.