House of Debt by Atif Mian and Amir Sufi seems to be receiving a warm reception. Still, I'm not sure the reviewers have made clear what is truly distinctive about this important and original book. What we have here, specifically, is a radically unfamiliar narrative of the Great Meltdown, together with the best account I've seen so far as to why the bank bailouts were a mistake. It's an imperfect or at least incomplete account as I will try to show. But still, it deserves a place in the curriculum for any study of just what went wrong and how.
For starters, then: M/S undertake to show that the Great Meltdown should not be understood as a crisis in financial system. There was a financial crisis, granted--it began in September of 2008 and extended through all those months necessary to sluice out all the taxpayer dollars directed at saving the financial system. Rather, the real Meltdown was was a crisis of debt. It began more than two years earlier. It generated to foreclosures and unemployment; it led to an unprecedented collapse in household wealth, particularly among those least able to bear it.
Ar first blush, one thinks that this analysis shouldn't be all so unusual. It shouldn't be, but it is; just about every other account I've read of those dark days begin with "Lehman Week," when the eponymous investment bank collapsed into bankruptcy and when AIG and the GSEs and Merrill Lynch all passed through near-death moments. Debt appears in all these accounts, of course--something had to trigger all the trouble. It appears but it is a curiously abstract and offstage kind of monster, like the Maguffin in a Hitchcock movie. It is left for M/S to show how turmoil in the real estate market drove people out not just of their homes but also their jobs; Its a story that would have left a blot on the triumphal narrative of recent history even if (somehow) the banking crisis had never ensued
Having situated the debt crisis at center stage, M/S proceed to an even more provocative suggestion: that the bailout was a mistake, bad or misdirected policy unnecessary itself and probably at the expense of other policies that might have served us better. Once again, this may sound familiar but it isn't. Plenty of people have called for the bankers' heads, generally on some variant on the theme of "greedy bastard." Many defenses appear to finesse the "greedy bastard" issue, arguing that anything other than bailout would have destroyed the financial system, ruining both Wall Street and Main Street in the process.
M/S also sidestep the "greedy bastard" part of the case. They do argue that saving the banks was solving the wrong problem: that it misdirected resources and attention away from mortgages and related issues. Deal with mortgage, on this analysis, and we get the economy back up on its wheels again; ignore mortgages and we are stuck in a cycle of anemia.
Ah, but what about the larger consequences of ignoring Wall Street you will say). Didn't you just say that saving Wall Street would have saved Main Street, and that letting Wall Street go would be an unspeakable calamity? And this is where M/S get really interesting. They argue that there are really two banking systems at issue here: one, the mundane, boring payment system that keeps the fluids flowing through the body politic every day. the other is the business of mega-borrowing and mega-lending that gives Wall Street so much of it swashbuckling charm. The government did need to step in and save the "fluid flowing" part of the banking system, the authors concede--and it did so. But here is where it gets really interesting: once they'd saved the fluid-flowing system, they could safely have let the swashbuckling system just dangle from the yardarm. No, strike that: not only could we have let the swashbucklers go: it would have been good to let them go. After all, the whole cause of the problem was that the bankers had made to many bad loans. How would it improve them back into the business where they could make bad loans again?
And that, dear reader, is the case. It's almost elegant, straightforward, and as a contribution to our understanding of the crisis, I'd say it is as helpful as anything since The Banker's New Clothes by Anat Admati and Martin Hellwig, But there is, I concede a gap in the argument. That is: I'm not as clear as I would like to be on the relationship between the two parts of the banking system. Can it really be that one could collapse without destroying the other. Perhaps so; I remember Alan Greenspan just a while back defending himself against the charge that he overhyped the market by saying that he only worked with short-term rates and that long-term rates were an independent story. Maybe it is Greenspan we should call on to show us how random bankruptcy among major banks can be easily tolerated.
Coda: M/S end their book with a spirited plea that we reconceptualize our banking system and vastly increase the role of equity as distinct from debt. It is a beguiling argument and it does flow logically out of what went before. Still, it is ambitious enough that it probably requires a book of its own of which this one is, perhaps, just the teaser.
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