Financial Fiasco Paper Financial Fiasco: How America’s Infatuation with Home Ownership and Easy Money Created the Economic Crisis is a book written by Swedish writer Johan Norberg, which traces the causes of the late-2000s financial crisis, showing the mistakes made in by the Federal Government in Washington D.C., politically connected finance institutions on Wall Street, and in communities across America that led to the economic meltdown. While many analysts have placed the blame solely on Wall Street, Norberg exposes the crucial role government regulation played in creating the opportunities and incentives that led to the financial collapse. (Cox, 2009).

In six concise chapters, the book tells the complex story of the crisis, showing how monetary policy, housing policy, and financial innovations combined to create financial catastrophe. The final two chapters describe the government’s mismanagement of the crisis and how we are now dangerously repeating many of the very same mistakes that caused it. An understanding of the roots of the financial crisis is crucial for every American who has felt its effects - and would like to prevent the same disaster from happening again. Financial Fiasco provides that understanding, with great insight, clarity, and wit.

By reading this book a person is able to discover:

- How Congress attempted to expand home ownership by passing mandates that distorted the housing market, including tax credits and heavily subsidized mortgages offered via Fannie Mae and Freddie Mac.

- How, at the same time, the Federal Reserve made money cheaper to obtain by setting interest rates at the lowest level in half a century. "If you pump new money into the economy, it will always end up somewhere or other. This time it went into real estate". (Green, 2010).

- How the Fed's artificially low interest rates created cheap money and easy credit that sent the wrong signals to investors, who made lots of unsustainable investments.

- How Wall Street dove into the hunt for more risk with particular enthusiasm, creating exotic financial instruments to satisfy the voracious global appetite, including mortgage - backed securities and collateralized-debt obligations.

- How securities largely based on mortgages of inferior quality obtained excellent grades from the credit-rating agencies - convincing most people that the financial market had finally discovered the secret of alchemy - how to turn lead into gold.

- Why if we really want to make future financial storms less severe, we should start by abolishing bailout plans and deposit insurance, so that banks would be forced to think about what risks they can really bear.

Let’s now take a look at each chapter separately and analyze it more in detail.

Chapter 1 The first chapter describes monetary policy of the U.S. during the early years of the 21st century. Johan Norberg contends that by keeping the interest rates very low the Federal-Reserve led by Alan Greenspan encouraged risky lending practices. This risky lending coupled with the surpluses from the emerging markets flowing into U.S. financial markets provided easy money to everyone. The major beneficiaries of this easy money were the real estate and the U.S. financial markets - for instance between 2000 and 2005 the value of the U.S. single-family homes increased by $8 trillion dollars. The low interest rates also discouraged savings and encouraged consumption expenditures financed by low-cost debt. According to Norberg, such monetary policy is unsustainable and results in depression.

Chapter 2 The following chapter is an account of the U.S. housing policy of expanding home ownership practiced during the last few decades. These policies in essence resulted in lax credit standards and unscrupulous lending. Norberg blames many actors in this game of "building castles in the air (Norberg, 2009)": HUD, Fannie Mae and Freddie Mac, the 1995 tightening of the Community Retirement Act, architects of federal government housing policy, corporations compensation schemes, lenders, and the ordinary people. The policies and actions of these actors accentuated the lax lending of the easy money to even the subprime and other borrowers who did not have the real financial ability to own a house. This ultimately led to wide spread foreclosures across the United States.

Chapter 3 In Chapter 3 the author postulates that innovative financial engineering/alchemy was also a major factor responsible for the Great Recession. The innovative financial instruments include the securitization of mortgage loans into Collateralized Debt Obligations (CDO). The CDO comprised various trenches based on their levels of risk; even the lowest trenches received mostly high ratings from the rating agencies which had now immense authority from the federal government. A related financial innovation was the very lucrative 'off-balance sheet financing' achieved through employing special-purpose entities like Structured Investment Vehicles. The actors in this alchemy were the usual suspects, including Wall Street investment firms like Lehman Brothers and Merrill Lynch, Citigroup, Moody's and other rating agencies, federal regulators, Fannie Mae and Freddie Mac, and AIG. The chapter concludes with a critique of both the rating practices of Moody's and other rating agencies, and also of federal regulations regarding the rating agencies that in effect created a highly profitable "oligopoly".

Chapter 4 This chapter provides an interesting account of the Great Recession resulting from the factors analyzed in the first three chapters and also the government bailouts of some financial institutions that were heavily involved in Credit Default Swaps, which were originated by JP Morgan Inc. to serve as an insurance policy against risk. According to Norberg, the bubble burst on September 15, 2008 with the bankruptcy of the prestigious investment bank Lehman Brothers Holdings that gave rise to the "hurricane season". This bankruptcy exacerbated the systemic risk to the US and global economy and was the harbinger of some events to follow, among others: Reserve Primary Fund's drop in Net Asset Value to $0.97 per share, fall of the U.S. housing market, a run on the shadow banking sector, write-down of asset values in conformity with the mark-to-market accounting required by the US Generally Accepted Accounting Principles, AIG bailout of September 16, 2008, the repercussions of these events for Iceland and other countries.

Chapter 5 In Chapter 5, Norberg conducts a comparative analysis of the Great Depression, and the Great Recession when the federal government's crisis management was "going madly in all directions" (Norberg, 2009). In his view, the latter was not as catastrophic as the former. The chapter also describes the proposal by Ben Bernanke and Henry Paulson to borrow $700 billion for the "Troubled Assets Relief Program" as well as the eventual use of these funds for purposes other than buying any trouble-assets. The final chapter presents the conclusion of this analytical work. Norberg maintains that the Great Recession was caused not by the lack of regulations but inappropriate over-regulations. He reiterates unequivocally his assertions in the previous chapters favoring laissez- faire, liberalizations, and globalization. He also cites the perils of the "helicopter economy"- for example short-termism of politicians.

Chapter 6 Norberg concludes his book with a chapter "Tomorrow Capitalism?" devoted to pointing out some sensible approaches to undoing the current mess and avoiding future ones. Unfortunately, from where we sit today it all seems rather like wishful thinking. Not only are we still in the depths of the crisis, with a zero percent Fed funds rate, an engorged Fed balance that will almost certainly lead to a monetary disaster down the road, double-digit unemployment, and staggeringly large government deficits (state and Federal) that threaten to turn America into a banana republic. We are also governed by a legislature and administration that are profoundly ignorant of and antagonistic toward freedom and enterprise.

But the battle of ideas must be joined, and this early contribution to the policy mistakes and consequences of our current crisis is a helpful start.

Financial Fiasco serves as a profound warning against pursuing the wrong solutions. "After government authorities had helped create the worst financial crisis in generations, the climate of ideas has now shifted dramatically in the direction of bigger and more active government,” (Stanton, 2010) Norberg writes. The book is the perfect antidote to those ideas, a cautionary tale on how to stop confusing the disease with the cure.

Bibliography Cox, R. Analysis of J. Norberg’s Financial Fiasco. SF Journal of Politics, Vol. 18, 2009.

Green, Patricia. Financial Fiasco by Johan Norberg. Stanford University Press, 2010.

Norberg, Johan. Financial Fiasco: How America’s Infatuation with Home Ownership and Easy Money Created the Economic Crisis. Cato Institute, 2009.

Stanton, Jeff. Financial Fiasco. New York Publishing, 2010.