Diary

Obama's State of the Union: A Study in Bubbles

In anticipation of this year’s State of the Union Address, president Obama began issuing a series of “spoilers” to give a glimpse of what he intends to communicate to the country. The themes, broadly categorized, are the resurgence of the American manufacturing sector, the housing market, and access to higher education.

At first glance, these may appear to be wildly divergent subjects, but there is actually a common thread running through them. In all three cases, Obama is claiming credit for “rescuing” damaged industries through the interventionist policies of his administration. In essence, this is to be a boasting speech about how great Obama has been for the country, but as is so often the case with this president, it turns out all to be illusory, as well as very temporary.

Let’s take the housing market first. At this point, it’s common knowledge that the financial collapse in 2008 was the result of a collapse in housing markets. Many people blame greedy bankers for bundling and trading subprime mortgage loans which were eventually revealed to be worthless. While there is some truth to this, the broader problem was that the incentives set up by government ensured that bad loans were made, that never would have otherwise been issued. Given the government incentives in place, bankers and investors had little choice other than to do what they did, and the collapse was always going to happen one way or another.

The reason is that government had misguidedly taken upon itself the task of ensuring that the “American Dream” of homeownership should be achievable by everyone, even those without any money. The predictable result of forcing bankers to give loans to people without the ability to repay them was massive foreclosures, which we all saw and suffered through. This was a necessary restructuring, and given no government action, the market would have recovered in a healthy way. Unfortunately, the government never does nothing in times of crisis.

In addition to the $780 billion stimulus package and three rounds of quantitative easing from the Federal Reserve, Obama took specific steps to shield the housing market from the consequences of bad incentives, including a foreclosure prevention program, mortgage refinancing programs, and a $7.6 billion fund for certain states to use for housing initiatives of their choice.

Lo and behold, housing prices spiked back up, an achievement for which the president is now apparently quite proud. Of course, it’s easy to lift prices by simply throwing money at an industry. It says very little, however, about the underlying health of that industry. In fact, what we are seeing in housing markets, rising prices fueled by loose money and borrower-friendly housing policy, is eerily similar to the conditions that caused the 2008 crash in the first place. As Mark Twain once said, “History doesn’t repeat itself, but it sometimes rhymes.”

Moving on to the auto industry. To begin with, it should be noted that the “crisis” of American manufacturing has been very overblown. True, the manufacturing industry has declined greatly over the years, and this has been a blow to people working in those industries, but it is not a threat to the U.S. as a whole and would, in the long run, improve the standards of living for all of us.

Economists have understood the concept of comparative advantage for centuries, which states that everyone benefits when people (or nations) specialize in what they do best and trade for everything else. Compared to countries like Japan and South Korea, the U.S. simply isn’t that good at making quality cars cheaply. Americans can gain the benefits of foreign cars, and with the cost savings, can save or spend that money on other things they value. This not only maximizes consumer welfare, but ensures that society’s resources are allocated efficiently.

Americans have romanticized the auto industry, however, and the policies of the Obama administration reflect this. As General Motors and Chrysler teetered on the brink of collapse, the president treated them to a $10 billion bailout with taxpayer money, as well as offering Ford a low-rate loan to the tune of $6 billion.

It is trivial to “rescue” any industry if you have the ability to pump unlimited amounts of taxpayer money into it. The question is: what would that money have otherwise been used for? Doubtless something consumers care more about than American cars. A cash influx cannot solve the underlying structural problems with the auto industry, and removes the incentive for these companies to innovative and become more globally competitive. Propping them up merely delays the inevitable, picks winners and losers in the marketplace, and sets us up for a greater collapse in the future.

Finally, we have the now widely-recognized student loan bubble, about which the president in inexplicably boasting. American students now carry over $1 trillion in student debt, with more than 40 percent of 25-year-olds having loans they need to repay, averaging $33,000 a person.

Rather than learn from the housing bubble that massive, unsustainable amounts of debt will eventually result in catastrophe for the economy, the Obama administration has been, through word and deed, encouraging still more borrowing by setting interest rates below the market level and encouraging legislation that would let students refinance their loans. Obama’s rhetoric on the issue has been equally unhelpful, stressing that “college has never been more important,” which is misleading in an economy increasingly in need of trade skills and entrepreneurial activity not typically learned behind ivory tower walls. With loans being handed out like candy and the president telling kids that they better get to a university, or else, it’s no wonder that college has never been more expensive.

The three major victories that Obama will claim credit for in his State of the Union speech are not victories at all. They are all bubbles created by easy government money and the encouragement of irresponsible debt, the exact same conditions that led to the housing crash in 2008. Obama has always been highly concerned with his “legacy” and how he will be viewed by the history books. Unless we see a dramatic and unlikely change in course, however, he will most likely be remembered for sowing the seeds of economic collapse.