Commendatori's Blog

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Foreclosure Crisis: The Real Culprit is the Federal Reserve

Posted by commendatori on August 2, 2008

The Federal Reserve holds the primary blame for the housing bubble – and the resulting explosion in foreclosures around the country.

Intervention in the economy by the Fed, through the manipulation of interest rates and the expansion of the money supply, caused an artificial boom in mortgage lending.

Since the early 1990’s, the Federal Reserve has increased the amount of US dollars and credit in circulation by nearly 300%. Because of this, borrowing money became cheap – and easy – which caused a massive increase in demand for homes, and thus – a dramatic rise in home prices. But, this kind of boom never lasts. Eventually the markets go through a “correction” which is nothing more than a collapse. The longer and greater the boom period, the harder and deeper the crash. Unfortunately, it doesn’t look like there’s going to be a quick turnaround.

In order to truly get out of this mess and prevent it from happening again in the future, we need to understand the cause of the problem. Spending time and energy on anything but the root of the problem will only ensure that we see this cycle repeated.

Thus, calls for legislation against lenders, while often driven by good intentions, are really missing the mark. Some lenders clearly made unethical or even fraudulent loans, and they must be held accountable, but attacking the entire industry is hardly the right answer.

It must be recognized that everyone really does play a part in this – the mortgage companies made bad loans to reckless applications, and people may not have been so eager to borrow (many times beyond their means), if the interest rates weren’t so low. And, the only reason they were low is because the Federal Reserve forced them to be that way.

The subprime lending madness we’ve seen is nothing more than a symptom of the housing bubble (caused by the policies of the Fed), and not the cause of it.

When the Federal Reserve makes credit artificially cheap, it drives lenders to loan more recklessly – often times to people who normally wouldn’t qualify. On top of this, people tend to borrow more with low interest rates, and they don’t expect rates to go back up anytime soon.

Why is the Fed to blame for the housing bubble? In short, because it is a bubble. That means the boom was false, and the wealth that people thought was being created through inflated home prices was really just an illusion. Who or what has the power to create illusory wealth? The Federal Reserve – through the artificial lowering of interest rates – which results in loads of credit and an increase of the money supply. (and rising prices, too)

The only way to ensure a stable economy for our future is to stop the Federal Reserve from artificially inflating the money supply and creating periods of false growth that can never be sustained. It’s time to end this “boom and bust” cycle that has plagued us for far too long.

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