In response to this column in the Chronicle, in which Paul Krugman once again projects his own denial on those who believe in freer, less regulated markets (blaming them, rather than the government, for the subprime meltdown and subsequent financial crisis), I wrote the following letter:

Re:  GOP in denial over cause of crisis

As usual, Paul Krugman is blaming "deregulation" of markets for the financial meltdown, labeling those who disagree with his pro-government philosophy as "naive" and guilty of "denial".  Unfortunately, while convenient in promoting increased government intrusion in the financial marketplace, Dr. Krugman's assertions ignores the impact of government incentives on private financial institutions and overstate the beneficial impact of a tighter regulatory framework.

Financial institutions didn't over-invest in subprime and commercial mortgages because of a lack of someone (e.g., government regulators) telling them not to do so; rather, they responded to specific government acts — some designed to promote such lending, others that did so as a result of unintended consequences.

It was the policy of quasi-government agencies to provide incentives for lenders to increase the number of subprime mortgages — the implicit guarantee of a government bailout provided a huge incentive for greater risk-taking than would have otherwise occurred, a fact trumpeted by former Fannie Mae CEO Franklin Raines (who himself received one of those "golden parachute" plans so scorned when given to Wall Street execs).  Low interest rates courtesy of the Federal Reserve and tax policy that provided huge incentives for real estate investment versus other capital investment stoked the real estate bubble.

When government provides incentives for a person or corporation to take a particular action, no one should be surprised when that action is taken — especially if the risk is essentially underwritten by the government.

We don't need Dr. Krugman's prescription of more government regulation to prevent similar future financial catastrophes; rather, we need to remove the government incentives that distorted the market to begin with.  A freer, more open, competitive market, where investors suffer the consequences of their actions and where no institution is deemed "too big to fail" is a far better check against financial meltdown than more power in the hands of government bureaucrats.

Sincerely,
Dave Smith
Houston, TX