If Truth-in-Labeling Is Important, the Housing/Financial Crisis Should Be Stamped: “Made in Washington”

Welcome Instapundit readers. Here’s a related link if you want to get even more depressed about politicians digging the debt hole deeper.

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If you want to understand how government intervention screws up markets and damages an economy, there are two new publications worth reading. First, pick up a copy of Reckless Endangerment, a new book by Gretchen Morgenson of the New York Times, and Joshua Rosner, an expert on housing finance.

I’ll confess I haven’t read the book, but it’s on my list based on two columns. Here’s some of what George Will wrote after giving it a read.

The book’s subtitle could be: “Cry ‘Compassion’ and Let Slip the Dogs of Cupidity.” Or: “How James Johnson and Others (Mostly Democrats) Made the Great Recession.” The book is another cautionary tale about government’s terrifying self-confidence. It is, the authors say, “a story of what happens when Washington decides, in its infinite wisdom, that every living, breathing citizen should own a home.” …“Reckless Endangerment” is a study of contemporary Washington, where showing “compassion” with other people’s money pays off in the currency of political power, and currency. Although Johnson left Fannie Mae years before his handiwork helped produce the 2008 bonfire of wealth, he may be more responsible for the debacle and its still-mounting devastations — of families, endowments, etc. — than any other individual. If so, he may be more culpable for the peacetime destruction of more wealth than any individual in history.

And here is some of what David Brooks wrote, in a column that focused on the sleazy insider corruption exposed by the book.

The Fannie Mae scandal has gotten relatively little media attention because many of the participants are still powerful, admired and well connected. But Gretchen Morgenson, a Times colleague, and the financial analyst Joshua Rosner have rectified that, writing “Reckless Endangerment,” a brave book that exposes the affair in clear and gripping form. The story centers around James Johnson, a Democratic sage with a raft of prestigious connections. …Morgenson and Rosner write with barely suppressed rage, as if great crimes are being committed. But there are no crimes. This is how Washington works. Only two of the characters in this tale come off as egregiously immoral. Johnson made $100 million while supposedly helping the poor. Representative Barney Frank, whose partner at the time worked for Fannie, was arrogantly dismissive when anybody raised doubts about the stability of the whole arrangement. …Johnson roped in some of the most respected establishment names: Bill Daley, Tom Donilan, Joseph Stiglitz, Dianne Feinstein, Kit Bond, Franklin Raines, Larry Summers, Robert Zoellick, Ken Starr and so on. Of course, it all came undone. Underneath, Fannie was a cancer that helped spread risky behavior and low standards across the housing industry. We all know what happened next. The scandal has sent the message that the leadership class is fundamentally self-dealing. Leaders on the center-right and center-left are always trying to create public-private partnerships to spark socially productive activity. But the biggest public-private partnership to date led to shameless self-enrichment and disastrous results.

Not surprisingly, politicians have not addressed the problem, even with the benefit of hindsight. The Dodd-Frank bailout bill, which was supposed to address the problems of the housing crisis/financial crisis, left Fannie and Freddie untouched. The two government-created entities are on life support after their bailouts (speaking of which, here’s a funny cartoon), so this would have been the right moment to drive a stake through their hearts. One can only wonder what damage they will do in the future.

But government intervention in housing is not limited to Fannie Mae and Freddie Mac. A new report from Pew looks at the panoply of tax preferences for the industry, and analyzes the impact on overall economic performance. There are parts of the report I don’t like, such as the term “subsidies,” which implies that tax distortions are a form of government spending, but I fully agree that tax preferences harm the economy by causing capital to be misallocated.

Investment in owner-occupied housing faces an effective marginal tax rate of just 3.5 percent. In contrast, investment in the business sector faces an effective tax rate of 25.5 percent. This leads to a tax-induced bias for capital to flow into housing-related uses rather than other types of projects. As a result, businesses are less likely to purchase new equipment and less likely to incorporate new technologies than otherwise might be the case. Less business investment results in lower worker productivity and ultimately lower real wages and living standards. While the housing sector provides employment and has other positive effects on the overall economy and on society, the resources employed in the housing sector displace investment that would otherwise occur in the business sector were it not for the favored tax treatment of housing. The resulting distortion in the allocation of capital likely lowers overall output, because resources are allocated based on tax considerations rather than economic merit. In effect, the United States has chosen as a society to live in larger, debt-financed homes while accepting a lower standard of living in other regards.

The moral of the story is that if more government is the answer, someone has asked a very stupid question.