American Civility

    John McCain‘s remarks today ¹ about the mortgage crisis was a encouraging elucidation of the systemic problems that brought us to this juncture and of first principles going forward. This was not a typical campaign menu of “solutions” peppered with government programs and more regulation; rather it was an exegesis of how the free market and capitalism work and what government should, and equally important, should not do. With it, he established his credentials as the conservative candidate in the presidential race and by so doing offers the electorate a philosophical choice in November, unless the Democrats nominate a free market capitalist of their own.
    What we hear as a 15 second sound bite on television from his remarks, “… it is not the duty of government to bail out and reward those who act irresponsibly, whether they are big banks or small borrowers” will no doubt be viewed as a heartless statement, like Marie-Antoinette flippantly offering cake when told the starving populous lacked bread. CNN, for example, does not discern in the address any solution whatsoever ², perhaps because McCain is reaffirming fundamental American principles of limited government, free markets, and democratic capitalism, which usually do not slake the public’s thirst for government doing something. It is ironic that most Americans hold Washington in low regard in terms of its ability to solve problems, while the popular media insist on coaxing out of the candidates government answers to practically every problem.
    A full reading of the text of McCain’s speech reveals a story different than the impression with which one is left from the media: the proper combination of rational economic principles with compassion for those suffering from the excesses of others and, perhaps in some cases, their own greed. After stipulating the critical philosophical foundation that government should not reward irresponsible economic decisions, McCain deftly outlines a framework for containing the present mortgage crisis and preventing its recurrence. His analysis of how we got here is uncannily accurate with a few omissions [denoted in brackets]:

a) Market conditions created a bubble. [One market condition was an aggressive reduction in interest rates by the Alan Greenspan’s Federal Reserve Board, but McCain and his advisors are reticent to critique a fellow Republican or to outline a better Fed policy. Greenspan himself calls this crisis, "... the most wrenching since the end of the second world war." ³] Lower interest rates usually drive asset prices up by fueling demand.
b) Lenders chased after the energized mortgage markets in this bubble with less than prudent lending practices and borrowers, who might not otherwise qualify for loans, were lured into indebtedness beyond their means.
c) Financial institutions created the illusion of lower risk for lenders by creating a secondary market for loans that would not have existed in more judicious conditions. They did this by their repackaging loans into complex financial instruments (called CDO, collateralized debt obligations) and marketing them to investors seeking a piece of the bubble ⁴. [Could the SEC have been more diligent in analyzing such financial legerdemain?]
d) [Unscrupulous mortgage brokers teamed with appraisers to inflate the value of housing in order to generate business from higher property prices.] This part was missing from McCain’s speech, yet it played a catalytic role in making the bubble bigger, particularly with the less educated, less wealthy (subprime) borrowers who are not trained to evaluate the financial risk of such gaming with their own property ⁵.

    McCain’s conclusion: “Capital markets work best when there is both accountability and transparency. In the case of our current crisis, both were lacking.” This is a deadly accurate statement that sets the stage for the proper role of government. McCain resisted the temptation to pander to those yearning for action. Contrast this to Mrs. Clinton's approach who called for ... what else? ... government (read "taxpayer") money to solve the problem ⁶. Instead, McCain built this philosophical framework as a trailer to his guiding principles as President:

1. “No assistance should be given to speculators.” This may sound trite, but in fact is a profound assertion of the principle of limited government intervention. The alternative would be for government to distort the risk-reward calculus of the markets by bailing the gluttonous out of their self-infliction, which in turn would wreak havoc on the market’s capacity to discipline poor judgment.
2. “When we commit tax payer dollars as assistance, it should be accompanied by reforms … Central to those reforms should be transparency and accountability.” We hear these words again. In other words, government assistance comes not as a free lunch; we err on the side of strengthening capitalism with measured reforms.
3. Homeowners are owed an understable contract, but should be held responsible if they abuse the system, for example by providing false information. Lenders should be equally responsible for the "quality and performance" of the loans. While McCain did not mention the abuse enumerated in (4) above, he provides the answer here.
4. “[O]ppose reducing the down payment requirements for FHA mortgages…” and do not permit the government to insure loans where the borrower “does not have skin in the game”; i.e., government should not become the unwitting enabler of speculation even by individual homeowners.
5. Remove the “regulatory, accounting and tax impediments to raising capital…” for financial institutions. This proposal essentially recognizes that government should get out of the way so it will not have to get in the way in an emergency, as it did in the recent Bear Stearns rescue.
6. And the best for last: "[Lenders] have been asking the government to help them out. I'm now calling upon them to help their customers and their nation out."  The era of responsibility is alive and well in McCain's America.

    McCain ended his remarks by asking us to anticipate further elaboration of his positions on fundamental economic principles that, while not directly related to the present crisis, will nonetheless contribute to the overall health of the economy and provide vital conditions for growth and prosperity. In addition to a simpler tax code, investment incentives, and control of “health care costs that threaten … our businesses and families …”, one hopes that he addresses both monetary policy and the role of the Fed, and a justice system that is badly in need of overhaul.
    What does this latter point have to do with the economy? Capitalism thrives in a system of contractual law that assures everyone plays by the rules and no one is permitted to exploit them for unfair gain. And it looks like John McCain, Capitalist, understands this and the workings of a free market.

1- John McCain Addresses the Orange County Hispanic Small Business Roundtable; 25 March 2008
2 - Campbell Brown and Dana Bash on Cable News Network, 25 March 2008
3 - "We will never have a perfect model of risk", Alan Greenspan , Financial Times, 16 March 2008
4 - "Financial engine failure", The Economist, 7 February 2008
5 - "Deal Nears to Curb Home-Appraisal Abuse", The Wall Street Journal, 26 February 2008
6- "Clinton Urges Action on Homes", Financial Times, 25 March 2008