James Grant, in the Wall Street Journal, points out that the Bernanke Federal Reserve policies of inflating our way out of recession are practically certain to produce worse than a recession.

It was on Oct. 6, 1979, that then-Fed Chairman Paul A. Volcker vowed to print less money to bring down inflation. So doing, he closed one monetary era and opened another. With Tuesday’s promise to print much more money, the Federal Reserve of Ben S. Bernanke has opened its own new era. Whether Mr. Bernanke’s policy of debasement will lead to as happy an outcome as that which crowned the Volcker anti-inflation initiative is, however, doubtful. Whatever the road to riches might be paved with, it isn’t little green pieces of paper stamped “legal tender. …

The seasons of finance are unpredictable. Prescience is rare enough in the private sector. It is almost unheard of in Washington. The credit troubles took the Fed unawares. So, likely, will the outbreak of the next inflation. Already the stars are aligned for a doozy. Not only the Fed, but also the other leading central banks are frantically ramping up money production. Simultaneously, miners and oil producers are ramping down commodity production — as is, for instance, is Rio Tinto, the heavily encumbered mining giant, which the other day disclosed 14,000 layoffs and a $5 billion cutback in capital expenditure. Come the economic recovery, resource producers will certainly increase output. But it is far less certain that, once the cycle turns, the central banks will punctually tighten.

The public has been slow to anger in this costliest and scariest of post World War II financial crises. Wall Street and the debt ratings agencies have come in for well-deserved castigation. But pointing fingers rarely find the Federal Reserve, whose low, low interest rates helped to set house prices levitating in the first place.

After Mr. Bernanke gets a good night’s sleep, he should be called to account for once again cutting interest rates at the expense of the long-suffering (and possibly hungry) savers. He should be asked to explain how the central-banking methods of the paper-dollar era represent any improvement, either in practice or theory, over the rigor, elegance, simplicity and predictability of the gold standard. He should be directed to read aloud the text of critique by Elihu Root and explain where, if at all, the old gentleman went wrong. Finally, he should be directed to put himself into the shoes of a foreign holder of U.S. dollars. “Tell us, Mr. Bernanke,” a congressman might consider asking him, “if you had the choice, would you hold dollars? And may I remind you, Mr. Chairman, that you are under oath?”

Thank goodness, we lost the election! If the government is going to screw up the economy royally by pursuing short-sighted liberal economic policies, let’s have democrats doing that.

Investors Business Daily debunks the spinning regulators trying to deny responsibility.

Four federal agencies enforce the CRA, a banking regulation whose original purpose of encouraging homeownership among the poor was well-intended. Abused by the Clinton administration, however, the act triggered the subprime crisis by relaxing lending standards across both the primary and secondary mortgage markets.

These agencies, which over the years have become entrenched in pushing the act, include the FDIC, Office of Thrift Supervision, the Comptroller of the Currency and the Federal Reserve. Top agency officials each took a turn Monday defending the CRA during a C-SPAN-covered panel discussion on the housing crisis.

OTS director John Reich insisted it “had absolutely nothing to do with the mortgage crisis.” FDIC chief Sheila Bair said it was a “myth,” adding that “it’s really unfortunate that this is out there.” “It’s simply not true,” she asserted. Next up was Comptroller of the Currency John Dugan, who agreed the CRA “certainly was not the cause of the subprime crisis.” …

In a more aggressive pursuit of “social justice,” the Clinton administration revised the CRA in April 1995 to mandate that banks pass lending tests in “underserved” communities and suffer tough new sanctions for failing to make enough loans there.

According to the language of the new Clinton regs, banks that used “innovative or flexible lending practices” to address the credit needs of low-income borrowers passed the test. Banks with poor CRA ratings were hit with stiff fines and blocked from expanding their operations. Soon, “flexible” lending became the norm, and banks used subprime loans, which charge higher interest rates, to cover the added risk.

But it wasn’t enough. So Clinton ordered HUD to pressure Fannie Mae and Freddie Mac to buy the higher-risk loans from private banks and lenders, while adopting the same “flexible” credit standards. By 2000, HUD had mandated that low-income mortgages — including CRA-related loans — make up half of their portfolios.

To further spread the risk, Clinton legalized the securitization of such mortgages. In 1997, Bear Sterns securitized the first CRA loans — $385 million worth, all guaranteed by Freddie Mac. Thus began the massive bundling of subprime mortgages that wound up poisoning the entire industry.

The cause and effect is clear. As ex-Fed chief Alan Greenspan recently testified: “It’s instructive to go back to the early stages of the subprime market, which has essentially emerged out of the CRA.”

It strains credulity for top regulators to now say the CRA had “absolutely nothing” to do with the subprime crisis. It smacks of political spin and bureaucratic CYA.

Everyone else is getting a bailout from Bushobama, why not Scrooge & Marley? The firm’s dramatic salary raises, benefit expansions, and a sudden wave of charitable contributions beginning just after the holidays last year have placed a serious strain on profitability just at the time mortgage securities came into question and world financial markets collapsed.

DOTPenn.com:

Officials from the Bush administration and members of president-elect Barack Obama’s economic team are finishing up a proposal to bail out the world’s biggest counting house, Scrooge & Marley.

Once a financial powerhouse with a sterling balance sheet, the firm has reportedly fallen into wasteful spending practices, heaping money on extra lumps of coal for the employee’s personal heater and providing a luxurious medical plan for the family of Scrooge & Marley’s number two man, Bob Cratchit.

Scrooge & Marley’s CEO and co-founder, Ebeneezer Scrooge, who oversaw a phenomenal runnup in the company’s worth, has seen his personal wealth and influence diminish following recent dismal business practices.

Derwood Umple, a financial analyst for CNBC’s Dickensian desk, said that while rents have lapsed, Scrooge also reportedly bet heavily in global sub-prime markets.

“He has several properties in the seedier sections of town,” Umple said. “Word on the street says his management practices have been minimal, at best, and he is either unable or unwilling to collect on loans and rents.”

In addition, Umple said federal authorities had been looking at Scrooge & Marley’s charitable contributions.

“It’s obviously a tax-reduction scam,” said Umple. “He was tossing money at every request from chubby charity men while government prisons and work houses have fallen into considerable state of disrepair.”

The top hat-wearing CEO hasn’t missed too much on the party scene, though. He was seen attending a holiday party at his nephew’s home shortly before the bailout announcement and making quite merry, paparazzi suggested.

It’s sad that we had to lose this year, but conservatives and Republicans can console themselves with Barack Obama’s unhappy prospects based upon the irreconcilable dilemma facing his presidency.

If he takes a thoroughly “progressive” course, agreeable to the democrat party’s leftwing base, he will assuredly produce economic calamity domestically and US humiliation in foreign affairs à la Carter, and he will then have a snowball’s chance in Hell of being re-elected.

On the other hand, if he tacks to the center, he will bitterly disappoint that extremist and highly volatile leftist base, which will turn upon him like the Furies, ultimately over time bringing into active and hostile opposition both the media and the community of fashion. In that case, like Lyndon Johnson, he will become a discredited, failed, and reviled president, unable to defeat primary challenges from the left, and not even able to run for a second term.

Will it be Door 1 or Door 2, President Obama?

As the Telegraph reports, his appointments of supporters of the war in Iraq signal a centrist direction, and the natives at Daily Kos are already becoming restless.

Mr Obama has moved quickly in the last 48 hours to get his cabinet team in place, unveiling a raft of heavyweight appointments, in addition to Hillary Clinton as his Secretary of State.

But his preference for General James Jones, a former Nato commander who backed John McCain, as his National Security Adviser and Arizona Governor Janet Napolitano, a supporter of the war, to run the Homeland Security department has dismayed many of his earliest supporters.

The likelihood that Mr Obama will retain George W Bush’s Defence Secretary, Robert Gates, has reinforced the notion that he will not aggressively pursue the radical withdrawal of all combat troops from Iraq over the next 16 months and engagement with rogue states that he has pledged.

Chris Bowers of the influential OpenLeft.com blog complained: “That is, over all, a centre-right foreign policy team. I feel incredibly frustrated. Progressives are being entirely left out of Obama’s major appointments so far.”

Markos Moulitsas, founder of the Daily Kos site, the in-house talking shop for the anti-war Left, warned that Democrats risk sounding “tone deaf” to the views of “the American electorate that voted in overwhelming numbers for change from the discredited Bush policies.”

A spokesman for the President-elect was forced to confirm that Mr Obama holds to his previous views. “His position on Iraq has not changed and will not change.”

But the growing disillusionment underlines the fine line Mr Obama must walk between appearing to reach out to former opponents and keeping his grassroot supporters happy.

Michael Lewis, author of the Wall Street memoir Liar’s Poker, tells the story of some hedge fund guys who saw the handwriting on the subprime mortgage bond wall in time to bet on the side of reality, and how the investment banks even helped them place those bets.

There’s a simple measure of sanity in housing prices: the ratio of median home price to income. Historically, it runs around 3 to 1; by late 2004, it had risen nationally to 4 to 1. “All these people were saying it was nearly as high in some other countries,” Zelman (housing-market analyst at Credit Suisse), says. “But the problem wasn’t just that it was 4 to 1. In Los Angeles, it was 10 to 1, and in Miami, 8.5 to 1. And then you coupled that with the buyers. They weren’t real buyers. They were speculators.”…

By the spring of 2005, FrontPoint was fairly convinced that something was very screwed up not merely in a handful of companies but in the financial underpinnings of the entire U.S. mortgage market. In 2000, there had been $130 billion in subprime mortgage lending, with $55 billion of that repackaged as mortgage bonds. But in 2005, there was $625 billion in subprime mortgage loans, $507 billion of which found its way into mortgage bonds. Eisman couldn’t understand who was making all these loans or why. He had a from-the-ground-up understanding of both the U.S. housing market and Wall Street. But he’d spent his life in the stock market, and it was clear that the stock market was, in this story, largely irrelevant. “What most people don’t realize is that the fixed-income world dwarfs the equity world,” he says. “The equity world is like a fucking zit compared with the bond market.” He shorted companies that originated subprime loans, like New Century and Indy Mac, and companies that built the houses bought with the loans, such as Toll Brothers. Smart as these trades proved to be, they weren’t entirely satisfying. These companies paid high dividends, and their shares were often expensive to borrow; selling them short was a costly proposition.

Enter Greg Lippman, a mortgage-bond trader at Deutsche Bank. He arrived at FrontPoint bearing a 66-page presentation that described a better way for the fund to put its view of both Wall Street and the U.S. housing market into action. The smart trade, Lippman argued, was to sell short not New Century’s stock but its bonds that were backed by the subprime loans it had made. Eisman hadn’t known this was even possible—because until recently, it hadn’t been. But Lippman, along with traders at other Wall Street investment banks, had created a way to short the subprime bond market with precision. …

The big Wall Street firms had just made it possible to short even the tiniest and most obscure subprime-mortgage-backed bond by creating, in effect, a market of side bets. Instead of shorting the actual BBB bond, you could now enter into an agreement for a credit-default swap with Deutsche Bank or Goldman Sachs. It cost money to make this side bet, but nothing like what it cost to short the stocks, and the upside was far greater.

The arrangement bore the same relation to actual finance as fantasy football bears to the N.F.L. Eisman was perplexed in particular about why Wall Street firms would be coming to him and asking him to sell short. “What Lippman did, to his credit, was he came around several times to me and said, ‘Short this market,’ ” Eisman says. “In my entire life, I never saw a sell-side guy come in and say, ‘Short my market.’” …

Here he’d been making these side bets with Goldman Sachs and Deutsche Bank on the fate of the BBB tranche without fully understanding why those firms were so eager to make the bets. Now he saw. There weren’t enough Americans with shitty credit taking out loans to satisfy investors’ appetite for the end product. The firms used Eisman’s bet to synthesize more of them. Here, then, was the difference between fantasy finance and fantasy football: When a fantasy player drafts Peyton Manning, he doesn’t create a second Peyton Manning to inflate the league’s stats. But when Eisman bought a credit-default swap, he enabled Deutsche Bank to create another bond identical in every respect but one to the original. The only difference was that there was no actual homebuyer or borrower. The only assets backing the bonds were the side bets Eisman and others made with firms like Goldman Sachs. Eisman, in effect, was paying to Goldman the interest on a subprime mortgage. In fact, there was no mortgage at all. “They weren’t satisfied getting lots of unqualified borrowers to borrow money to buy a house they couldn’t afford,” Eisman says. “They were creating them out of whole cloth. One hundred times over! That’s why the losses are so much greater than the loans. But that’s when I realized they needed us to keep the machine running. I was like, This is allowed?”

Essentially, it was in nobody’s interest, except for FrontPoint Partners, of course, to look at the subprime lending business realistically. So no one did.

Read the whole thing.

———————————-

Hat tip to Karen l. Myers.

Heck, Declan McCullagh suggests, why not bail out everybody?

The Honorable Henry Paulson
U.S. Department of the Treasury
1500 Pennsylvania Avenue NW
Washington, DC 20220

Dear Secretary Paulson:

I understand that House Speaker Nancy Pelosi and Senate Majority Leader Harry Reid are urging you to hand $25 billion or more to Detroit’s nearly bankrupt automakers. While President-elect Obama indicated on 60 Minutes that he likes the idea, the Bush administration has been skeptical.

That is unfortunate. Bailing out companies that lose money on every vehicle they manufacture and cannot adapt to changing market conditions is not merely necessary in today’s economic climate — it’s the American way.

It would be shortsighted to stop at GM, Ford, and Chrysler. My modest proposal is that plenty of other nondeserving companies could use a helping hand.

Mervyn’s department store can’t compete with its rivals on price, selection, and locations. But its stores are a fixture of local neighborhoods across California and the West, and the federal government surely has an obligation to prop up this failed company — even if it means everyone else pays more in taxes. This is the price we pay for keeping part of the American dream alive. …

Read the whole thing.

Malcolm Gladwell, in the New Yorker, contemplates the history of the famous firm laid out in Charles Ellis’s The Partnership: The Making of Goldman Sachs, and connects the current Wall Street debacle to the wrong kind of leadership.

The rags-to-riches story—that staple of American biography—has over the years been given two very different interpretations. The nineteenth-century version stressed the value of compensating for disadvantage. If you wanted to end up on top, the thinking went, it was better to start at the bottom, because it was there that you learned the discipline and motivation essential for success. “New York merchants preferred to hire country boys, on the theory that they worked harder, and were more resolute, obedient, and cheerful than native New Yorkers,” Irvin G. Wyllie wrote in his 1954 study “The Self-Made Man in America.” Andrew Carnegie, whose personal history was the defining self-made-man narrative of the nineteenth century, insisted that there was an advantage to being “cradled, nursed and reared in the stimulating school of poverty.” According to Carnegie, “It is not from the sons of the millionaire or the noble that the world receives its teachers, its martyrs, its inventors, its statesmen, its poets, or even its men of affairs. It is from the cottage of the poor that all these spring.”

Today, that interpretation has been reversed. Success is seen as a matter of capitalizing on socioeconomic advantage, not compensating for disadvantage. The mechanisms of social mobility—scholarships, affirmative action, housing vouchers, Head Start—all involve attempts to convert the poor from chronic outsiders to insiders, to rescue them from what is assumed to be a hopeless state. Nowadays, we don’t learn from poverty, we escape from poverty, and a book like Ellis’s history of Goldman Sachs is an almost perfect case study of how we have come to believe social mobility operates. Six hundred pages of Ellis’s book are devoted to the modern-day Goldman, the firm that symbolized the golden era of Wall Street. From the boom years of the nineteen-eighties through the great banking bubble of the past decade, Goldman brought impeccably credentialled members of the cognitive and socioeconomic élite to Wall Street, where they conjured up fantastically complex deals and made enormous fortunes. The opening seventy-two pages of the book, however, the chapters covering the Sidney Weinberg years, seem as though they belong to a different era. The man who created what we know as Goldman Sachs was a poor, uneducated member of a despised minority—and his story is so remarkable that perhaps only Andrew Carnegie could make sense of it.

Read the whole thing.

Linn and Ari Armstrong, at the Grand Junction Free Press, issue a rejoinder to Alan Greenspan, John McCain, and Barack Obama on behalf of Ayn Rand and the Free Market.

Ayn Rand recognized a common pattern in the growth of political power: The enemies of liberty blame the free market for economic problems caused by government interference, then use those problems as a pretext for yet more political controls. Much of Rand’s prescient novel “Atlas Shrugged” revolves around that cycle.

Now Rand’s critics sound exactly like the villains of Atlas. They wouldn’t attack her if they didn’t recognize her as a barrier to their grand central plans.

Recently Alan Greenspan fueled the Rand hunt. In an Oct. 23 statement to a Congressional committee, Greenspan said he had “found a flaw” in his ideology of “free, competitive markets.”

There’s just one problem with Greenspan’s statement: He practiced no such ideology. For two decades, Greenspan served as chairman of the Federal Reserve, a central planning agency tasked with manipulating the money supply. Greenspan’s flaw is that he long ago abandoned the ideology of liberty.

Two decades before becoming a central planner, Greenspan, while still in association with Rand, warned of the dangers of the Federal Reserve. In a 1966 article, Greenspan noted that, in the late 20s, the “Federal Reserves pumped excessive reserves into American banks.” This “spilled over into the stock market — triggering a fantastic speculative boom.” Sound familiar? Greenspan became the monster he once warned against.

Today’s crisis centers around risky home loans. But were these loans made on a free market? No. Instead, they were encouraged, and in some cases mandated, by the federal government.

Both major candidates for president followed that stock line. While John McCain also blamed unspecified “corruption in Washington,” he emphasized the “greed and mismanagement of Wall Street.”

Barack Obama blamed greed and deregulation, despite the fact that nobody can point to the repeal of a regulation that could have caused the crisis. By contrast, the mechanisms by which government controls caused the crisis are clear.

Arthur Laffer, in the Wall Street Journal, observes that free markets go up and free markets go down, but if you want enduring economic pain, there’s nothing like a panicky government trying to save the market from itself.

When markets are free, asset values are supposed to go up and down, and competition opens up opportunities for profits and losses. Profits and stock appreciation are not rights, but rewards for insight mixed with a willingness to take risk. People who buy homes and the banks who give them mortgages are no different, in principle, than investors in the stock market, commodity speculators or shop owners. Good decisions should be rewarded and bad decisions should be punished. The market does just that with its profits and losses.

No one likes to see people lose their homes when housing prices fall and they can’t afford to pay their mortgages; nor does any one of us enjoy watching banks go belly-up for making subprime loans without enough equity. But the taxpayers had nothing to do with either side of the mortgage transaction. If the house’s value had appreciated, believe you me the overleveraged homeowner and the overly aggressive bank would never have shared their gain with taxpayers. Housing price declines and their consequences are signals to the market to stop building so many houses, pure and simple.

But here’s the rub. Now enter the government and the prospects of a kinder and gentler economy. To alleviate the obvious hardships to both homeowners and banks, the government commits to buy mortgages and inject capital into banks, which on the face of it seems like a very nice thing to do. But unfortunately in this world there is no tooth fairy. And the government doesn’t create anything; it just redistributes. Whenever the government bails someone out of trouble, they always put someone into trouble, plus of course a toll for the troll. Every $100 billion in bailout requires at least $130 billion in taxes, where the $30 billion extra is the cost of getting government involved.

If you don’t believe me, just watch how Congress and Barney Frank run the banks. If you thought they did a bad job running the post office, Amtrak, Fannie Mae, Freddie Mac and the military, just wait till you see what they’ll do with Wall Street. …

Some 14 months ago, the projected deficit for the 2008 fiscal year was about 0.6% of GDP. With the $170 billion stimulus package last March, the add-ons to housing and agriculture bills, and the slowdown in tax receipts, the deficit for 2008 actually came in at 3.2% of GDP, with the 2009 deficit projected at 3.8% of GDP. And this is just the beginning.

But the government isn’t finished. House Speaker Nancy Pelosi and Senate Majority Leader Harry Reid — and yes, even Fed Chairman Ben Bernanke — are preparing for a new $300 billion stimulus package in the next Congress. Each of these actions separately increases the tax burden on the economy and does nothing to encourage economic growth. Giving more money to people when they fail and taking more money away from people when they work doesn’t increase work. And the stock market knows it.

The Brokers With Hands on Their Faces Blog offers an amusing and eloquent chronicle of human reactions to the abundant bad news in these difficult economic times. Some of these people look to me like they’re suffering enough to deserve those large-figure bonuses they won’t be getting this year.

Sci Fi author Orson Scott Card pleads with the MSM to tell the truth.

So I ask you now: Do you have any standards at all? Do you even know what honesty means?

Is getting people to vote for Barack Obama so important that you will throw away everything that journalism is supposed to stand for?

You might want to remember the way the National Organization of Women threw away their integrity by supporting Bill Clinton despite his well-known pattern of sexual exploitation of powerless women. Who listens to NOW anymore? We know they stand for nothing; they have no principles.

That’s where you are right now.

It’s not too late. You know that if the situation were reversed, and the truth would damage McCain and help Obama, you would be moving heaven and earth to get the true story out there.

If you want to redeem your honor, you will swallow hard and make a list of all the stories you would print if it were McCain who had been getting money from Fannie Mae, McCain whose campaign had consulted with its discredited former CEO, McCain who had voted against tightening its lending practices.

Then you will print them, even though every one of those true stories will point the finger of blame at the reckless Democratic Party, which put our nation’s prosperity at risk so they could feel good about helping the poor, and lay a fair share of the blame at Obama’s door.

You will also tell the truth about John McCain: that he tried, as a Senator, to do what it took to prevent this crisis. You will tell the truth about President Bush: that his administration tried more than once to get Congress to regulate lending in a responsible way.

This was a Congress-caused crisis, beginning during the Clinton administration, with Democrats leading the way into the crisis and blocking every effort to get out of it in a timely fashion. …

If you do not tell the truth about the Democrats — including Barack Obama — and do so with the same energy you would use if the miscreants were Republicans — then you are not journalists by any standard.

You’re just the public relations machine of the Democratic Party, and it’s time you were all fired and real journalists brought in, so that we can actually have a news paper in our city.

Not gonna happen.

Read the whole thing.

The Wall Street Journal responds to the latest attempt by the left to pin the credit crisis on a lack of regulation.

In an attempt to fill out Mr. Obama’s talking points, the press corps has now fingered a 2004 change in SEC net capital rules. In fact, then-SEC Chairman William Donaldson’s reform was anything but deregulation. A regulatory failure, yes, and a cautionary tale for those who think new regulation will solve everything.

The 2004 change won unanimous approval from SEC commissioners and Democrat Annette Nazareth, who ran the market regulation division at the time. Rather than deregulation, it was a breathtaking regulatory leap for an agency that had traditionally focused on protecting individual investors. Under the new program, the SEC would not simply monitor broker-dealers to ensure that client accounts were safe. The commission staff would collect new data from the parent companies of brokerages and require new monthly and quarterly reports. Firms were supposed to provide detailed explanations of internal risk models.

Before approving the rule at an April 2004 meeting, several commissioners wondered if the SEC staff was up to the task. Apparently not. It’s clear from a recording of that meeting that the commission expected investment banks to employ more debt. This was no unintended consequence but the inevitable result of adopting the so-called Basel II banking standards. The SEC was supposed to apply these standards created for commercial banks to investment banks, but with additional measures to ensure liquidity.

Was Basel II a libertarian plot cooked up at the Cato Institute? Not quite. It was the product of years of effort by the world’s major central banks, intended to avoid crises such as the U.S. savings and loan disaster. Basel embraced the theory that a common set of global banking standards and more intensive study of the risks of particular assets would yield both more efficient use of capital and a more stable financial system.

We now know it did not create stable investment banks, but the SEC could be forgiven for thinking that if it was good enough for the world’s central bankers, it was good enough for the commission. As Ms. Nazareth said of the SEC’s new approach, “It’s largely modeled after Federal Reserve-type supervision and I can’t imagine anyone would question that kind of approach.” Few did. Swiss banking regulators are only now raising mandatory capital ratios above those permitted under Basel II.

—————————————–

Columbia Business School Professor Charles W. Calomiris joins in the demolition of the same contention.

As for the evils of deregulation, exactly which measures are they referring to? Financial deregulation for the past three decades consisted of the removal of deposit interest-rate ceilings, the relaxation of branching powers, and allowing commercial banks to enter underwriting and insurance and other financial activities. Wasn’t the ability for commercial and investment banks to merge (the result of the 1999 Gramm-Leach-Bliley Act, which repealed part of the 1933 Glass-Steagall Act) a major stabilizer to the financial system this past year? Indeed, it allowed Bear Stearns and Merrill Lynch to be acquired by J.P. Morgan Chase and Bank of America, and allowed Goldman Sachs and Morgan Stanley to convert to bank holding companies to help shore up their positions during the mid-September bear runs on their stocks.

Even more to the point, subprime lending, securitization and dealing in swaps were all activities that banks and other financial institutions have had the ability to engage in all along. There is no connection between any of these and deregulation. On the contrary, it was the ever-growing Basel Committee rules for measuring bank risk and allocating capital to absorb that risk (just try reading the Basel standards if you don’t believe me) that failed miserably. The Basel rules outsourced the measurement of risk to ratings agencies or to the modelers within the banks themselves. Incentives were not properly aligned, as those that measured risk profited from underestimating it and earned large fees for doing so.

That ineffectual, Rube Goldberg apparatus was, of course, the direct result of the politicization of prudential regulation by the Basel Committee, which was itself the direct consequence of pursuing “international coordination” among countries, which produced rules that work politically but not economically. International cooperation, in case you haven’t heard, is exactly what the French and the Germans now say was missing in the past few years.

So why blame deregulation and small government? The social psychologist Gustav Jahoda says that unreasonable beliefs often arise in circumstances where people lack control and need to believe in something to get them through a highly stressful situation. And a fellow named Machiavelli might help us to understand a different reason for simplistic explanations.