Economist and professor Veronique de Rugy has published an important article entitled "We didn't deregulate."
There is a persistent trope that portrays the financial panic of 2007-2008 as the inevitable result of capitalism grown out of control, and argues that it was allowed to grow out of control in this particular instance because of "deregulation" -- the relaxation (in this case) of government regulations over the financial industry.
Professor de Rugy demonstrates that this trope is false. In fact, regulation increased after the banking crises of the late 1980s, and total real expenditures on finance and banking regulation increased steadily right up through the end of the most recent Bush presidency.
While proponents of what Professor de Rugy calls "the deregulation myth" often cite 1999's Gramm-Leach-Bliley (the act which removed the Glass-Steagall restrictions separating firms that conducted investment banking, commercial banking, and insurance underwriting) as the crucial deregulation that led to the financial crisis of 2007-2008, she points out that this act did nothing to loosen regulation of securities activity by depository institutions, and that the failures of Bear and Lehman were due to investment banking activity that they could have pursued whether Glass-Steagall had been repealed or not.
This is an incredibly important point to understand, because -- as we have argued before -- the urge to blame unbridled free enterprise for the failure, rather than government regulation, depends on this view. Milton and Rose Friedman, writing in 1979, noted that many of the twentieth century's greatest tragedies arose from a similar erroneous interpretation of the cause of the Great Depression, as we pointed out in "A failure of government, not of private enterprise," a post we published in October of 2008 and titled using a direct quotation from the Friedmans' 1979 essay.
The idea that a system allowing free enterprise is fragile and prone to breakdowns or explosions if not carefully regulated and guided by a wise government and regulatory agencies is actually the exact opposite of the truth. Well-intentioned government interference with free enterprise sows the seeds of disaster, as Professor de Rugy points out using the examples of the FDIC and the government-sponsored entities of Fannie Mae and Freddie Mac.
We have made this argument before in numerous previous posts, including:
- "Government solutions disintegrate" 09/29/2008.
- "What Rube Goldberg could teach us about economics" 12/08/2009.
- "Banker calls for a 'new capitalism'" 02/22/2010.