Who to Blame for the Financial Crisis

Class warfare, American style, is being waged between Main Street and Wall Street. With President Obama and Democrats in Congress turning up the populist heat against Wall Street, the financial community is losing. Its back is up against the wall. But the administration is also getting its share of the public's rage, as we saw in the devastating defeat of the Democratic candidate in the Massachusetts Senate race.

Who's really to blame?

It's easy to see why Main Street Ameri­ca is seething at Wall Street for its role in our present afflictions. We endure an unconscionable national unemployment rate that shows little sign of easing. There's justifiable anxiety among the employed or partly employed that they will be the next to lose their jobs. Millions fear that the devaluation of their home equi­ty, 401(k)'s, and other financial assets means that we are not just being shaken by a little bump but have fallen into an abyss, a free fall that will play havoc with plans for retirement and the ability to provide for the education of the next generation.

All this heightens Main Street's sense of victimization. Americans see a financial world that was saved by taxpayers footing the bill for an unprecedented rescue, after which bankers walked away not only without a scratch but with executives' pockets abulge with bonuses out of all proportion to the way most Americans live and work.

There's plenty of fuel here for the most raw form of populism—and the president and the Democratic-controlled Congress are ready to exploit it. President Obama's response within two days of the Massachusetts election was to announce he would limit dramatically the activities of banks and increase their costs and taxes—all in the context that they are the principal perpetrators of the Great Recession.

But that's both opportunistic and simplistic. Victory always has a thousand fathers; defeat is always an orphan. A realistic examination of the history suggests that a fairer verdict is that our catastrophe has any number of fathers: homeowners as well as mortgage lenders; borrowers and consumers as well as bankers; political leaders of both parties as well as corporations' chief executives; not just a lamentably dozy Securities and Exchange Commission but reckless government-supported mortgage agencies (Freddie Mac and Fannie Mae); the august Federal Reserve Bank; and the commercial rating agencies. The American public, by default, was complicit. For at least a generation, U.S. consumers overspent and undersaved, while simultaneously accumulating large personal debts. They purchased homes they couldn't pay for with mortgages they couldn't afford.

And then there are the administrations of George W. Bush and Barack Obama. The Bush years saw unsustainable ­budget deficits and massive trade deficits, all requiring huge funding. Bush lowered taxes and waged wars without cutting spending or raising revenues. The Obama administration understandably loses no chance to remind us of these eight reckless years. But while it was swift in its first year to do more to extinguish the flames in the basement, the current administration failed in rebuilding the economy to concentrate on jobs, jobs and to focus on energizing the economy. It allowed Congress to give a job-stimulus program a bad name by distorting where the money would go (and go far too slowly).

Politicians in both parties share blame for long pressuring the banks and mortgage companies to facilitate homeownership for minorities and people who would have difficulty paying. By 2007, the regulations of the Department of Housing and Urban Development stipulated that 55 percent of the loans that Fannie Mae and Freddie Mac made had to go to borrowers at or below the median income level. And nearly half of these loans had to be to low-income borrowers. The Democratic chairman of the House Financial Services Committee, Rep. Barney Frank, seems to have forgotten his assertion that he was willing to "roll the dice" on subsidized housing, denying there was any cause for concern. For the better part of a dec­ade, Fannie and Freddie were bringing on risky mortgages that loaded the dice heavily against the taxpayer. They had a huge advantage in capital costs because of an implicit government guarantee. This enabled them to ramp up mortgage lending programs to less creditworthy borrowers at high margins and with exorbitant fees. The low-cost capital the banks were able to accumulate through low-cost federal funds and foreign oil revenues found its way into the U.S. residential real estate market, fostering the housing bubble.