Fed versus market regulation.

• Author: Hensarling, Jeb
• Position: Column

Before I get into the body of the remarks, I want to thank the Cato Institute for everything it stands for and everything it has meant to me. As I was walking in the foyer, I noticed a copy of the Cato Journal on a table there. I recall as an undergraduate student at Texas A&M University in the 1970s that I took $25 dollars--and I'm a guy who worked my way through college--of my hard-earned money to invest in the Cato Journal. That was money I could have invested in long necks at the Dixie Chicken, our local watering hole. Also, I would like to thank John Allison. If you have not read his book, The Financial Crisis and the Free Market Cure: Why Pure Capitalism Is the World Economy's Only Hope, I commend it to you. Finally, I would like to tell you that as chairman of the House Financial Services Committee, before I decide to move out on any particular issue, I certainly glean the scholarship of Cato in general and Mark Calabria in particular.

Before I speak about the topic of the market versus the Fed as regulator, I just want to give a little context to my comments, which is to broaden them out to regulators and regulation in general, because I think many of us have concluded that the great tragedy of the financial crisis was not necessarily that our federal regulators failed to prevent the crisis, but in many respects helped precipitate the crisis (see, e.g., Calabria 2013, Wallison 2013).

How Federal Regulators Helped Create the Financial Crisis

Many of you are familiar with the narrative, but in brief, we had a government sanctioned duopoly in Fannie Mae and Freddie Mac. Their leverage ratios were miniscule compared to community banks in the Fifth Congressional District of Texas. We know that the so-called affordable housing goals, which started at 30 percent eventually went to 56 percent. The Community Reinvestment Act essentially mandated that financial institutions loan people money to buy homes that they ultimately could not afford to keep.

Speaking of duopolies, or oligopolies, there are the credit-rating agencies. One of the few good things that the Dodd-Frank Act did, and there are very few of them, was to attempt to bring more competition into the credit-rating agency business.

There are a number of reasons why the 2008 financial crisis happened, but it was not due to lack of regulatory authority. The Securities and Exchange Commission had the ability to prevent much of what we saw. I certainly remember the head of the now-defunct Office of Thrift Supervision saying under oath that his agency had all the regulatory authority it needed to prevent the failure of American International Group.

The Fed's Role in the Crisis

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