Acton Institute Powerblog

Did President Obama save the world from a Great Depression? Probably not.

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There’s not a lot of agreement when it comes to the Great Recession and the 2008 financial crisis; either about what caused it or what ended it. In a recent speech, President Barack Obama blamed the “reckless behavior of a lot of financial institutions around the globe” and “the folks on Wall Street” for causing this economic slump. Who or what finally ended this recession? According to President Obama: President Obama. While reflecting on what his presidency will be remembered for, he said, “I don’t think I’ll have a good sense of my legacy until 10 years from now when I can look back with some perspective and get a sense of what worked and what didn’t. There are things I’m proud of … Saving the world economy from a Great Depression, that was pretty good.” Acton’s director of research, Samuel Gregg, was “startled” by the president’s claim.

In a new piece for The Stream, Gregg argues that far from saving the planet, the president and government “probably mucked things up.” While he agrees that banks’ recklessness were partially to blame for the financial crisis, government agencies and their poor policies had a bigger effect:

Back in December 2007, the Nobel economist Vernon Smith warned that the activities of Freddie Mac and Fannie Mae were buttressed by the assumption that, as government-sponsored enterprises with lower capital-requirements than private institutions, they could always look to the Federal government for assistance if unusually high numbers of their clients defaulted. Both Fannie Mae and Freddie Mac, Smith underscored, had always been understood as “implicitly taxpayer-backed agencies.” Hence they continued what are now recognized as their politically driven and fiscally irresponsible lending policies until both were consigned to Federal conservatorship in September 2008.

There are many other examples of similar behavior by government officials and organizations. These include those politicians who legislated to cajole banks into making subprime mortgage loans in the first place, central bankers who kept interest-rates too low for too long, and regulators who failed to recognize the growth of dangerously high leverage-levels in the system. I doubt, however, whether President Obama would recognize any of these as major contributing factors to the 2008 financial meltdown.

As for the president’s claim that he “saved the world?” Gregg fears that some of the action the government took in response to the recession may have exacerbated the situation.

[The Dodd–Frank Wall Street Reform and Consumer Protection Act] was one of the most significant changes to America’s financial regulatory framework. It’s surely what President Obama had in mind when he spoke of reforms that would reduce the possibility of 2008-like systematic failures in the future.

After the financial crisis, it was politically inevitable that significant regulatory change would occur. But Dodd-Frank has arguably worsened the “too-big-to-fail” problem. It created, for instance, the Financial Stability Oversight Council (FSOC) Led by the Treasury Secretary, the FSOC, as stated on its website, “brings together the expertise of the federal financial regulators, an independent insurance expert appointed by the President, and state regulators.”

Among its many powers, the FSOC may “designate financial market utilities that perform payment, clearing, or settlement activities as systemic, requiring them to meet prescribed risk management standards and heightened oversight by the Federal Reserve, the Securities and Exchange Commission, or the Commodities Futures Trading Commission.” It may do so if the FSOC decides that significant financial problems in such a business may facilitate systemic financial instability.

The insurance giant, AIG, which played a major role in spurring on the 2008 financial crisis, exemplifies such an institution. Indeed, AIG was one of the first such businesses to be identified by the FSOC as falling into this category.

But here’s the problem: by making such a designation, the FSOC effectively identifies particular financial businesses as too-big-to-fail, thereby exacerbating the problem of moral hazard. Ironically, this is directly at odds with one of Dodd-Frank’s stated purposes outlined in the Act’s very first paragraph: “to end ‘too big to fail’.”

President Obama certainly did not cause the Great Recession, but his claim that he ended it and saved us all from even worse economic disaster is a tad absurd. Read Gregg’s analysis in its entirety at the Stream.

Sarah Stanley

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