Says Law and the Housing Bubble (argument)

[CapitalistDog]

i’m having a conversation with someone on another forum, and I’m looking for input and criticism.

I said:

Focusing on demand to drive the economy into prosperity by “creating jobs” completely ignores Say’s Law, and ignoring Economic Laws will always yield negative consequences.

The housing bubble in the US was a clear demonstration of this. The Government guaranteed housing loans that the market would’ve denied (through the lender of last resort, aka, Central Bank). The guarantees shielded the lenders and investors from the full risks of their actions, while maintaining their ability to reap all the benefits, which caused them to take more risks than they otherwise would’ve if the guarantees were not in place (moral hazard). This caused prices to go way higher, and caused people to see a “demand” where there really was none. It was artificial demand. A correction in price was inevitable, because the appearance of demand for real estate in the bubble did not reflect the real demand for real estate in the market.

He Responded:

That is not a very good of usage of Say’s Law, nor a good description of the causes of the housing bubble. Say’s Law does not make sense if you ignore relative output. If you focus on government guaranteed loans as a cause of the housing bubble, then you should also explain why issuers lost market share to uncovered lenders throughout the bubble. Why have GSE mortgages outperformed subprime mortgages? It’s just not an important part of the story.

[Aristophan3s]

That is not a very good of usage of Say’s Law, nor a good description of the causes of the housing bubble. Say’s Law does not make sense if you ignore relative output.

Relative Output is another way for a Keynesian to say "potential output." It is esentially the planners ‘vision’ of what will happen at the planning level, but that doesn’t always reflect in the real world, when this happens they call this the “GDP gap.” The planners are never wrong…the potential should be there…

If you focus on government guaranteed loans as a cause of the housing bubble, then you should also explain why issuers lost market share to uncovered lenders throughout the bubble.

Quiz him on the second half of this. “explain why issuers lost market share to uncovered lenders throughout the bubble” You should make him expand on that. He will doom himself if he says what I think he is saying. Ask him to provide evidence if he says that ‘uncovered lenders’ are those that simply do not have government backed insurance or loans. The Community Re-investment act update in early 1992 (Bush Sr.'s Congress) set a percentage of all mortgage lenders needed to be in subprime markets. Every amendment to the bill after that increased the percentage, from its initial 5% to something like 45% or 55% by 2006.

If he doesn’t accept the possibility that the government knowingly created the bubble, even if by accident (they know not what they do), then you will only talk past him.

Why have GSE mortgages outperformed subprime mortgages?

Ask for evidence. I don’t think these are mutually exclusive domains.

Also, now that I think about it, “issuers lost market share to uncovered lenders throughout the bubble. Why have GSE mortgages outperformed subprime mortgages?” Is a contradiction from one sentence to the next.

I think that ‘uncovered lenders’ are private market actors (to him, this is all to him) and GSE are government sponsored. So, it is not a universal statement to say either one. If the GSE outperforms then the government issuers aren’t losing marketshare. He cannot have it both ways.

It’s just not an important part of the story.

He thinks this because ‘credit expansion’ encompasses virtually everything. In his mind, my guess is, that the term needs qualifiers. Also, moral hazard, opportunity, and interest rates are Econ 101 to Keynesians. They do not accept the concept of “artificial demand.” Any possible demand (credit or not) is acceptable in terms of ‘growth’. They pay no mind to the idea of excessive growth, excessive credit, etc.

[CapitalistDog]

Here’s what I’m submitting.

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Say’s Law does not make sense if you ignore relative output.

When you say “Relative Output”, is this another way of referring to the Keynesian “potential output.”?

If not, can you help me understand what you mean?

If you focus on government guaranteed loans as a cause of the housing bubble, then you should also explain why issuers lost market share to uncovered lenders throughout the bubble.

Can you explain to me why issuers lost market share to uncovered lenders throughout the bubble?

Why have GSE mortgages outperformed subprime mortgages?

Firstly, what is your evidence for this? I don’t think these are mutually exclusive domains, are they?

Secondly, if they are mutually exclusive domains, isn’t there a contradiction within the above two quotes of yours?

You’re saying (if i understand correctly), that ‘uncovered lenders’ are private market actors and GSE’s are government. If the GSE outperforms then the government issuers aren’t losing marketshare. I don’t think you can have it both ways.

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Will post his response.