TW: The notion that governments are hamstrung in policy by politics is hardly new. The Fed is "independent" from direct congressional or executive supervision for that reason. The challenge as the piece frames is that the same mistakes appear to be repeating. Governments perceive looming challenges but are unable or unwilling to act due to electoral considerations. It is easy in retrospect for one to suggest the Fed should have raised rates earlier to prick the emerging housing bubble. But imagine the shit storm which would have emerged especially if such moves had been made in the periods prior to the '04 or '06 elections. Even more poignant imagine either party suggesting real fiscal constraint during the same periods (tax increases, entitlement cuts!!!).
Democracies struggle mightily with non-popular measures especially as related to economic matters. Somehow we need to devise alternative mechanisms oriented to provide counter-cyclical policy measures amidst the "booms". Of course that would also require some measure of agreement amongst the economists as to exactly these non-democratic actions would be (but I digress)...
From Economist:
"...America’s Treasury and the Federal Reserve began examining options to use public money to buy up illiquid mortgage assets and to inject capital into financial institutions shortly after rescuing Bear Stearns, a failing investment bank, in March 2008. But it was another six months before they acted on those plans. “There was no way we could go to Congress without the American people understanding we faced a crisis,” says Henry Paulson, the treasury secretary at the time.
Sure enough, not until the failure of Lehman Brothers sparked a global panic in September did Mr Paulson and Ben Bernanke, the Fed chairman, ask Congress to authorise an outlay of $700 billion to support the system. Some say Mr Paulson should have tried harder to acquire the funds before the Lehman crisis. Perhaps, but it is doubtful he would have succeeded. “Even at the height of the crisis, [that] proved almost too hard to do,” he notes.
...market participants and academic economists often proposed solutions that glossed over real-world political and legal obstacles. Some academics argued bank creditors should be forced to swap their debt for equity, for example. But Mr Swagel notes that is not legally possible without a change in the bankruptcy code, a tortuous political process. Similarly, to reduce housing foreclosures the Treasury and Congress focused on reducing interest rates for struggling homeowners, even though this would be less effective than subsidising write-downs of mortgage principal. But politicians and voters would have seen that as an unacceptable bail-out of some undeserving homeowners.
Economists have long studied how institutional constraints interfere with efficient economic choices, such as when special interests erect barriers to entry in product markets. Such constraints have received relatively little attention in the burgeoning literature on financial crises. Yet a closer examination shows that many of the same political obstacles crop up from one crisis to the next. This time it’s not different
...A blank cheque would greatly suit Barack Obama, who gave warning on April 14th that American banks may “require substantial additional resources”. Mr Obama has pencilled in another $750 billion of potential stabilisation funds in his 2010 budget but unlocking extra money will be extremely tricky. Despite commanding majorities in Congress and high personal-approval ratings, he must overcome solid opposition from voters jaded by revelations of bankers’ excess.
That may well mean violating certain economic principles. Economists generally prefer transparent to hidden subsidies. But Mr Swagel says that the Treasury came to realise that underpricing insurance for bank assets roused less political opposition than overpaying for assets precisely because the insurance is less transparent. The Treasury is also relying on the Fed to finance illiquid assets by printing money because that requires no congressional approval (even if it compromises the Fed’s independence).
The other temptation is to couple assistance for bankers with a hefty dose of punishment to sate the public’s hunger for justice...The risk, of course, is that pandering to voters’ anger only inflames them further, and makes it even harder to put money into the banking system as need arises."
http://www.economist.com/finance/displaystory.cfm?story_id=13492409
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