The Perils of the US Government Banking Foray

by Jordan Yerman | October 18, 2008 at 07:40 am

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The US Government's headlong rush into the banking business has sparked whispers of creeping socialism (though definitely not of the populist kind), but also has raised fears of the government's ability to handle such a task, or even give up its newly-minted powers.

Of course, government foray into the world of finance is nothing new; just look at Fannie and Freddie.

This fundamental shift at least raises long-term questions about government’s appropriate role in financing and the economy. Will the government inevitably be tempted to guide lending decisions, steering loans to some and not to others? History shows that government intervention in banking systems can carry its own dangers, with money funneled to political favorites instead of an economy’s innovators.

The federal government’s initiatives are all carefully cast as emergency measures that will be phased out in months or years. “It’s explicitly temporary, but we don’t really know where this crisis ends yet,” said Robert E. Litan, an economist at the Brookings Institution. “The logic of intervention is that the more ownership the government has, the greater the regulation and management control.”

Yes, but how many years? Also, it helps to remember that Fannie Mae and Freddie Mac are semi-governmental institutions.

Fannie was created during the depths of the Great Depression, and Freddie in 1970, to help make mortgages more affordable for homeowners.

But as the housing bubble grew, the companies came under political pressure to buy riskier loans and loosen their standards, according to former executives and analysts.