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In a editorial in the Financial Times, Barack Obama makes the case for more government regulation in response to the subprime mortgage bust currently being experienced. A couple of his main points, I believe, were very off the mark. One,

Over the past several years, while predatory lenders were driving low-income families into financial ruin …

First of all, “predatory” is clearly just a smear word and has no true meaning as it pertains to the economics of the situation. Second, there is no logical reason why lenders would desire to drive subprime borrowers into “financial ruin.” That would essentially require lenders to conspire against their own investments. It is pretty simple, if the borrower fails then the lender fails because the lender will no longer be paid out on their investment and moreover it discourages third party investment in that lender’s business itself. This is plainly evidenced by the exact troubles we face now: lenders made bad loans, borrowers defaulted, and both lost lots of money. As Senator Obama clearly does not recognize, in the free market the interests of creditor and debtor are mutual.

Two,

We need to help struggling borrowers to weather this storm. One way to protect innocent homeowners - at least until this crisis passes - is to establish a fund to help people refinance or sell to avoid foreclosure. We can partially pay for this fund by imposing penalties on lenders that acted irresponsibly or committed fraud.

This is exactly the thing not to do. It completely manipulates the incentives for optimal standards in home ownership. For one it relieves home owners of accountability by absorbing the costs of any foolish financial decision they make. It gives borrowers greater incentive to be careless and accept loans that they at their present level of time preferences simply cannot handle.

On the other hand Obama also proposes to punish businesses in a manner that discourages them from investing in home ownership such that it burdens lenders with overflow costs from failed investments that they have already once paid for. If Obama wants to reduce the rate of homeownership in America, especially for those who struggle the most to afford it, he has certainly got the right idea. By forcing creditors to absorb an inordinate amount of the consequences of defaulted loans they will respond by reducing their willingness to issue mortgages proportionally.

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The Obama Bears His Statist Teeth by New School Politics, unless otherwise expressly stated, is licensed under a Creative Commons Attribution-Noncommercial-No Derivative Works 3.0 United States License.