In January 2011, a bipartisan, 10-member, government-created body called the Financial Crisis Inquiry Commission (FCIC) issued a comprehensive report assigning blame for the 2008 financial meltdown. The main culprits: “widespread failures in financial regulation and supervision,” “dramatic failures of corporate governance and risk management at many systemically important financial institutions,” “a combination of excessive borrowing, risky investments, and lack of transparency,” a government that “was ill prepared for the crisis,” and “a systemic breakdown in accountability and ethics.”
The four Republicans on the FCIC issued two dissents from the commission’s findings, the splashiest of which was a 93-page solo response from American Enterprise Institute (AEI) scholar Peter Wallison. The crisis, Wallison said, was caused mainly by the systemic failures of government housing policy.
Some of the public response to Wallison’s dissent was withering. Stanford University political scientist Francis Fukuyama, in a January interview with the online-only publication The Browser, charged that it “takes what is a very complex crisis that has multiple roots and lays it all at the door of Fannie and Freddie and government intervention. It seems to me transparently designed to exonerate free markets.…But this crisis has proved that financial markets are not self-regulating. To draw from this complex analysis that particular conclusion I just find astonishing.”
Fukuyama was not alone. New York Times columnist Joe Nocera had previously called Wallison’s work “loony” and accused him of helping to concoct “what has since become a Republican meme.” Even the free market George Mason University economist Russ Roberts took Wallison to task for downplaying the role of investment banks.
Wallison, who co-directs AEI’s financial policy studies program, is unrepentant. “Instead of pursuing a thorough study,” he says, “the commission’s majority used its extensive statutory investigative authority to seek only the facts that supported its initial assumptions.”
Wallison, who served as White House counsel and Treasury Department general counsel during the Reagan administration, sat down with Reason Foundation Director of Economic Research Anthony Randazzo on the one-year anniversary of the FCIC report in January discuss about the causes of the 2008 financial crisis, what to do about Fannie Mae and Freddie Mac, and the implications of the Dodd-Frank Act, among other topics. To watch a video version of this interview, go to reason.tv.
reason: The Financial Crisis Inquiry Commission, which you were on, found that the crisis was caused by a mixture of deregulation, Wall Street greed, predatory lending, and many other things. Why do you disagree?
Peter Wallison: There’s absolutely no evidence for anything that the majority of the commission put in their report. The financial crisis was the result of government housing policy.
reason: So are Freddie and Fannie the chief culprits?
Wallison: Fannie Mae and Freddie Mac were the implementers of a substantial portion of the government’s housing policy. Basically, the government’s housing policy was intended to provide financing to people who were unable for one reason or another—mostly lack of resources—to get mortgage credit. And Fannie and Freddie were agents that the government worked through. However, they also used something called the Community Reinvestment Act. HUD [the Department of Housing and Urban Development], which was basically in charge of all of these programs, also had its own program which involved the mortgage bankers’ association, and there were other HUD programs that encouraged the granting of mortgages to people who didn’t have the financial resources to support them.
In the end, by 2008 there were 28 million subprime or very weak mortgages. Those are known as Alt-A mortgages. That’s half, incidentally, of all mortgages in the financial system. Of that 28 million, 20.4 million were on the books of government agencies like Fannie Mae and Freddie Mac and the FHA [Federal Housing Administration] and other government agencies and banks that were holding them as a requirement of the Community Reinvestment Act, which applied to banks. So that’s why I say that the government’s housing policy was responsible for creating these mortgages. They never would have been created without the government demanding that they be created and providing the funds to buy them.
reason: Stanford political economist Francis Fukuyama recently said that your dissent to the commission’s report was “transparently designed to exonerate free markets.” Did the crisis have nothing to do with free markets?
Wallison: You know, I’m sorry that Francis Fukuyama has lost his skill at analysis. I actually was pretty impressed with what he’s written in the past, but here he really doesn’t understand at all what I was saying in my dissent and probably hasn’t taken the trouble to read it.
My point was [that] without the government’s housing policy, there would never have been a financial crisis. That’s not exactly the same thing as saying that government housing policy caused the financial crisis. It’s stating it another way—that is, but for the government’s housing policy, there wouldn’t have been a financial crisis. Without the creation of all of the subprime and other weak mortgages, we wouldn’t have had a mortgage meltdown that ultimately was the cause of the weakness in the financial system. Because many, many banks and other financial institutions were holding these very weak mortgages, and when they began to fail that’s when we had what is called the mortgage meltdown, and that led directly to the financial crisis. So I am not exonerating the private sector. The private sector was a factor.
reason: Many economists have claimed that it was the interconnectedness of Wall Street that forced the government to come in and bail it out.