I’ve been reading The Big Short by Michael Lewis over my winter break because I saw the movie (which was awesome, you should totally see it). But the book goes into way greater detail about the causes of the Great Recession. One of the things it points to is the lack of regulation of the United States bond market.
I’m going to spin off this for a second.
In the 1980s, investment banks started investing in subprime mortgage bonds. (For reference, Glass-Steagal, a New Deal law that prevented commercial banks from dealing with investment banking, and commercial banks were not participating in the subprime mortgage market.) Banks started making big money on the bond market, as opposed the stock market. Michael Lewis thought this was unsustainable at the time because the investment banks were making money off of “America’s growing debts” (xiv). He was shocked by how long it took for this market to collapse. The collapse of the bond market is what caused the Great Recession in 2007 because so many banks had invested in subprime mortgage bonds that were full of bad mortgages. Mr. Lewis states subprime mortgage bonds were made up of a lot of bad mortgages, that were marked as bad mortgages and shouldn’t have been placed in the bonds in the first place. The market collapsed when people defaulted on their loans in late 2007, and the banks lost a ton of money because they had invested so much in what was supposed to be the most stable market, the housing market.
Now we’re back to regulating the bond market.
The best way to prevent a similar kind of financial crash is regulating the bond market, but no candidate has said anything about that. Recently, I’ve been thinking about how all the campaign rhetoric I’ve been hearing about Wall Street seems to be way off base. Democratic candidates are focusing on regulating the stock market, criminalizing greed, and downsizing banks. While these policies make good sound bites, I’m far from convinced that they would make good policies.
After some research, I’ve realized that my original perspective on Wall Street was far from accurate. Most of what I’ve heard since the crash is how Wall Street is evil and out of control and needs to be stopped. While there are still many problems with Wall Street, it seems to me like Democrats running for office are approaching its deficits the wrong way.
The real problem is not Wall Street in general, it’s the bond market.
Average Americans do not participate in the risky side of the bond market, which is corporate bonds (they do, however, purchase US treasury bonds, which are some of the most stable bonds in the world). The corporate bond market is completely run by the wealthiest people in the country. As a result, Michael Lewis writes, there was no populist pressure to regulate it, which lead to deregulation, and the terrible trading practices that created the recession. My theory was that the best way to solve this problem was to politicize the bond market — encourage everyday Americans to care about what is being done with their debt. While people like you and me can not directly participate in the corporate bond market, we can make it clear to the people who represent us that we do not support its trading practices. We can make it clear to our candidates that regulating risky trading on the bond market is a priority to us.
I spoke briefly with an investment banker this afternoon about what kinds of regulations would actually help prevent another crash because of bad subprime mortgage bonds. His response surprised me. He told me that the banks are so heavily regulated now that a little over a year ago, no one would give out mortgages. He said that important legislation was passed and stress tests were implemented, greatly reducing Wall Street’s leverage. As a Democrat, I thought that nothing had been done to curtail risky trading practices and that the Wall Street billionaires were running amuck with the money of average Americans. But after a little digging, I found that the only thing that really makes sense right now is enforcing a piece of legislation passed after the market crash, referred to as Dodd-Frank.
So, as it turns out, Wall Street is pretty regulated, and candidates calling for regulating the stock market and popularizing the Federal Reserve (more on the Fed later) seem to be completely missing the point.