Barry Ritholtz has an impassioned plea; give us capitalism or give us socialism, but not the half arsed mess of both that the US Federal Reserve is serving up in the name of politics, bad policy, poor governance and crony capitalism. The result will be to prolong the current mess of bad lending, keep the recession going and increase inflation. None of which are palatable in the long run.

Ritholtz points back to the governance of Greenspan at the US Fed who actively promoted bubbles and then bailed out losers of the bubbles by making credit cheaper so that there were no losers and speculation could continue. Capitalism works best when those that over speculate are punished for it by bankrupcy.

Without the correct signals and punishments for failure then risk simply does not exist. We saw this in the subprime markets where risk was assumed to be absent. As a consequence bad loans were made that can never be recovered. The bad governance aspect is that now the US Fed is asking for 300 billion of tax payer money to bail out private institutions - include Fannie Mae - to cover their risks made on the private markets. This is not how capitalism works. Ritholtz writes:

There is a choice to be made: Either we regulate the Banks, or leave it to the vagaries of the free markets to punish those who trade with, or place their assets in the wrong institutions. But for God's sake, do not give us the worst of both worlds -- do not allow banks the freedom to make horrific but preventable mistakes (i.e., only lending money to those who can pay it back), but then expect the taxpayers to foot the trillion dollar bill.

That's not capitalism, its not socialism, its not regulation, and its sure as hell isn't what free markets are. Our language is insufficient to describe this hodge-podge system, other than to call it a random patchwork of quasi-capitalism, quadrennial-socialism, and politics as usual. Ideological idiocy is the only phrase I can muster that has any resonance with the daily insanity.

Ritholtz makes the statement that our institutions have failed us and that this is misgovernance on a grand scale leading back twenty years. Economic policy has not been grounded in the principles of capitalism; but instead 'feelgood' politics and outright criminal behaviour. American capitalism is losing its foothold as the world's leaders in economic activity. This is being shown in the US dollar dropping in value. It is bad policy and criminal behaviour that has led to this. It is recoverable - and the US will recover - it is not dead in the water yet. But it will take a strong hand of governance and the democratic will to govern with economically sound policies.

Joshua Gans has argued for an Aussie Mac. Australia has not needed one this far, and as a country Australia has more regulation into capital markets than the US does. Australia has not been impacted greatly by the subprime mess - only Macquarie Bank and a couple of others IIRC were up to their necks in it - and while global capital will become more expensive with the turmoil from US markets, it is no excuse to subsidise home lending with taxpayer guarantees. Otherwise politics will trump economics and Aussie Mac will be used for all manner of bailouts and social engineering.

So incompetent it is scary, the US fed has allowed banks to fund their liabilities in subsidiaries with depositors funds. From naked capitalism:

"Note that many banking experts, post the S&L; crisis and now, recommend the reverse, "narrow banking", which requires banks to invest depositors' funds only in the very safest assets. This is the exact opposite of the sort of regulatory measures needed to improve the health of the banking system. Expediency trumps soundness.

What a horribly useless Administration and Federal Reserve. If this mess wasn't picked up during Greenspan's early tenure and the Clinton Administration, then it should have when the Bush Administration came into office. The political and fiscal incompetence is seeping into criminal - especially when it is other people's money such as taxpayers and depositors.

I am really having trouble understanding this. At the height of the subprime lending I did not use that form of mortgage. I payed the 20% down and then took a fixed rate mortgage. I am fiscally wary most of the time and the subprime mortgages seemed to good to be true. Turns out that was true, not for lenders, but for investors in those securities.

I can understand the wish to create a financial product that will enable those that cannot get into a fixed rate loan to have access to a higher risk mortgage; but that does not allow for the fraud that went on around it. Nor does it get policy makers off the hook for allowing dodgy financial practices to occur at these shadow lending institutions and banks such as Bears-Stearn and Lehman.

Most of the policy makers and overseers move back and forth between Wall Street and Federal Government. It should not have been a surprise for these bankers to see. We could argue conspiracy, self-interest, etc but the Federal Reserve is a permanent institution that should have institutional memory and public interest.

The avoidance of this issue must have been a deliberate policy choice. Given the use of public money to bail out the collapsing US financial sector it was a bad policy.

The Republican Party's noise machine is getting down to a theme that it was the Democrats fault, and when it wasn't the Democrats it was poor people who took loans that they couldn't afford. Both fail. The Republicans have held the executive the last seven years and controlled Congress for eleven years prior to 2006; so if this mess was to be presciently cleaned up then they had the power.

Same with the poor minorities reading of the issue. ARMs became so pervasive that they were the common mortgage type for the white collar professionals too. I know of people in my industry [software] that have two ARM mortgages on the one house, and others who have ARM mortgages and cannot refinance because they are in negative equity.

There are many culprits for this; but the main one is the Greenspan policy of making money exceptionally cheap through money printing and ignoring inflation. It is no coincidence in m opinion that this all burst at the end of Greenspan's tenure. This means there is both Republican and Democrat culpability in keeping the good times rolling with cheap money. Greenspan's tenure goes across Administrations of both parties.

The issue is that Greenspan's central policy is unchanged under Benanke:

Credit creation is the Fed's signature crisis management policy: Let a bubble inflate, then watch it burst; clean up with lots of dollar bills.

We are seeing the culmination of a failed monetary policy that has been supported by both the American political parties. No President or Congressional leader has had the courage to oppose that policy.