While I am a serious if amateur student of economics, this current crisis is more than difficult to understand. Partisan politics only makes it more so.

John Taylor, a professor at Stanford, has authored a book attempting to explain titled “Getting Off Track: How Government Actions and Interventions Caused, Prolonged and Worsened the Financial Crisis.”

The first culprit was bad monetary policy, interest rates set too low and causing a boom and a bust. Interest rates set too low encouraged too much risk taking in the mortgage sector. New instruments such as subprime magnified this problem.

The Fed misdiagnosed as a liquidity problem the counterparty risk behind the sudden surge in money market rates late 2007. The effort to increase liquidity thus failed.

The Economic Stimulus Act of 2008 signed by Bush also failed since, as Milton Friedman would have predicted, because it was so impermanent.

The sharp reduction in fed funds rate in April 2008 also failed, severely weakening the dollar and driving commodity prices to an extreme.

The crisis was made worse by clear evidence that the TARP program had not been thought through. Response was inconsistent an uncertain.

The end lesson of Taylor is that “massive responses with little explanation will probably make things worse”.

Read the entire article here.

HKO comments- Republicans want to blame the Democrats and their weak oversight of Fannie Mae and playing politics with housing policy. Democrats want to blame Wall Street greed, Bush tax cuts, budget deficits, and deregulation. Yet for any of these to have grown to the current crisis they would have required the misguided and erroneous monetary policy of the Fed.

Unfortunately is easier for the average voter to attack tax cuts and housing policy than to understand monetary policy, and thus this crisis becomes partisan fodder. Our irresponsible media does little to alter this ignorant state of affairs.

While poor monetary policy may have largely created this crisis, political posturing such as this ridiculous “so called” Stimulus Bill can definitely make it worse.

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