Sumner on Piketty

Scott Sumner has been reading Piketty. And in the first of (apparently) several posts he picks Piketty apart, starting with this passage:
"Where does one begin?" cries Sumner. And he then proceeds to give five reasons why this particular passage is wrong:
"1.  In my view there is plenty of doubt as to whether inequality contributed to the crisis, partly because Europe is much more equal, and had an even worse financial crisis.  In fairness, he did say “contributed,” but my real complaints lie elsewhere.
"2.  Why would stable real wages lead to more debt?  More specifically, why would it “inevitably” lead to more debt?  If my wages were stagnant I certainly wouldn’t react by taking on more debt, rather I’d borrow more if I expected my income to rise.  Is there a theory here?
"3.  Correct me if I am wrong, but I thought the extra saving injected into the US economy came from the poor Chinese, not “well-to-do” Americans.  Why weren’t the Chinese “inevitably” forced to go into debt?  They were much poorer than Americans.  Yet they saved 50% of their incomes.  Some of this was forced by the government, but nowhere near all of the savings was forced.
"4.  Experts say that the risks taken by the banks had little to do with deregulation, that subprime lending and mortgage-backed securities were legal well before “deregulation.”  Lehman wasn’t even a commercial bank.  And wasn’t US banking among the most heavily regulated industries in the world, even after the “deregulation” of the 1980s and 1990s?
"5.  Why would “unscrupulous banks” lend on “increasingly generous terms?”  Why no discussion of how the government encouraged banks to lend money to low income people?  In Piketty it’s almost always the evil capitalists, never the well-meaning government bureaucrats."
Indeed, where does one begin? Every one of these points is wrong in some respect.

1. “Europe…had an even worse financial crisis”.
I've complained before about the tendency of Americans to see "Europe" as a stable, unified federal entity similar to the United States. It is nothing of the kind. The continent of Europe is a melting pot of sovereign states with ties of varying strength: some are members of a single currency, some are members of a wider free trade area, and some are simply part of the continent without being formally part of any grouping. The eastern border of "Europe" is still being defined following the fall of the Iron Curtain in 1989: countries such as the Ukraine are in effect being asked to choose whether they see themselves as European or Russian. Even within the Eurozone - the tightest of the available super-sovereign groupings - countries are distinct in important ways: federal programs, taxation and transfers that Americans take for granted simply do not exist in the Eurozone.
It is simply inaccurate to say that "Europe" had a worse financial crisis than the US. The UK, Ireland and Iceland had a worse financial crisis. In each case it was because the size of the banking sector dwarfed the sovereign, and the banking sector had extensive toxic cross-border liabilities. The rest of Europe – including Piketty's France – actually fared much better in the financial crisis than the US.
Of the individual European countries that fared worst in the financial crisis, only one - Ireland - is a member of the single currency. Eurozone politicians still claim that the single currency protected its members from the financial crisis. But the fallout came later, in the sovereign debt crisis of 2011-12. The severity of THAT crisis was due to the incompetence of the ECB, the idiocy of Eurozone politicians and the insanity of creating a single currency without the institutions to make it work properly.
2. Why would people borrow when they don’t expect their incomes to rise?
This is indeed a good question. But it is not what Piketty actually says. He notes that the purchasing power of low-to-middle income people stagnated. But he says nothing about their expectations. People expect their incomes to rise over the course of their working life. This expectation is near-universal and has nothing to do with short-term economic conditions. Even when average incomes are falling, individuals still generally expect their incomes to rise over the medium term. Sumner, king of monetary policy expectations theory, doesn't seem to understand that expectations matter in labour market economics too.

Indeed, it seems that low-to-middle income people in the US did borrow excessively in the early to mid 2000s, probably driven by a combination of (irrational) expectations of higher incomes, wealth effects and cheap and easy lending terms. Mian & Sufi's meticulously researched book “House Of Debt” shows that the principal driver of both borrowing and consumption spending in the run-up to the crisis was rising house prices. And research by Alan Greenspan prior to the 2007-8 crisis shows that mortgage lenders allowed people to borrow against rising house prices to fund consumer spending and refinance unsecured borrowings. Possibly as much as half of all US consumer spending was financed by borrowing against property in the run-up to the financial crisis. I’ve explained here how a sudden fall in house prices triggered by the Fed raising rates could have caused the sharp cut-back in consumer spending that Mian & Sufi noted.
3. The US "savings glut" came from poor Chinese households, not the well-to-do.
No, it did not. Chinese households do not generally save in USTs. China practices financial repression on a simply massive scale, and has virtually no state safety nets: the inevitable forced saving by Chinese households goes to fund its investment boom. It is Chinese corporations, high net worth individuals and government that export their surpluses - not poor households. The same is true in other emerging markets too. 
But Sumner's comment also suggests ignorance of how national accounting works. When a country runs a persistent trade surplus, as China does (along with Germany and until recently Japan), that surplus must be matched by trade deficits elsewhere. The principal deficit nation at the moment is the US, and it is enabled to run such large trade (and by extension, fiscal) deficits by the dollar's primary reserve currency status. Trade deficits are funded by lending from surplus countries: countries with trade surpluses therefore inevitably run capital deficits, and vice versa. Both China and Germany have substantial capital deficits: this shows itself in both countries as low household demand, but Germany also has weak capital investment. China has far too much capital investment but a very poor household sector.  The principal reason why Chinese households don't go into debt is that capital in China is either used for public investment or is exported. And this will remain the case as long as China has a trade surplus.
This does not mean that a trade deficit such as the US has is a good thing either: the associated capital imports inevitably go into unproductive assets such as housing, causing prices to rise, and into unproductive and risky lending. The US property and construction bubble of the early to mid 2000s was at least partly due to a dysfunctional financial system misallocating imported capital. That is what Sumner is referring to, but he has misunderstood it. To be fair, Piketty has not explained it too well in this paragraph (though he covers it in a lot more detail elsewhere).
I don't know which "experts" Sumner refers to here, but most experts on the financial system that I know agree that inadequate regulation DID encourage excessive risk-taking by banks. I should make it clear that by "inadequate regulation" I do not mean lack of rules. I mean a laissez-faire attitude on the part of regulators. Had regulators used their existing powers effectively in the early to mid 2000s, the course of history might have been very different.
But it should also be borne in mind that the financial crisis, although originating in (regulated) mortgage lending, erupted in SHADOW banking, which by its very nature was unregulated. Shadow banks are customers of regulated banks, because they need access to payments systems. Therefore a crisis in shadow banking can bring down the regulated system. And it very nearly did.
Historically, the US banking system has been heavily regulated. That is in part why the shadow banking system developed. When you regulate something, people inevitably try to find ways round it. The resulting shadow structures are where crises tend to develop, precisely because they are not regulated.
It is also worth remembering that the principal problem in the financial crisis was not that banks were doing illegal things (though some were), nor even that they were taking excessive risks (though most were). It was that they thought they were safe. The products that Sumner cites were not only legal, they were regarded as low risk or even risk-free. And financial institutions - including unregulated shadow banks - had learned to expect bailout. The "Greenspan put" from 1987 onwards meant that financial institutions did not expect to make losses in a systemic crisis. Lehman was a terrible shock because it was in effect a default by the US government: suddenly, nothing was safe any more. Those who think the US government defaulting on its debts would be a good idea should take another look at the effect of Lehman. 
5. Why would banks lend on "increasingly generous terms"?
Sumner wishes to blame government for banks' enthusiastic lending to lower-income borrowers. He does have a point: government certainly discouraged close investigation of the activities of banks. But is he right to exonerate banks?
Government did indeed encourage lending to poorer people in order to extend to them the American dream of home ownership. But Mian & Sufi's research, and Greenspan's, that I've cited above shows that lending for primary house purchase was not the primary driver of the property and lending boom. It was lending for consumption, either directly or via refinancing of unsecured lending. 
But why would banks lend excessively? Simple. Banks were going for market share. Retail lending is a low margin business - it is difficult to make profits at low volumes. The bigger the business, the better the opportunities for diversification into higher-value activities. And as I noted in 4 above, banks expected bailout and regarded the loans and derived securities as safe. Excessive lending was not regarded as excessive at the time. That is a judgement of hindsight. 
It could be argued that government encouraged excessive lending by giving the impression that the good times would never end. But prudence in lending is a business decision by bank management. It should not be the business of government to enforce it. It is therefore quite wrong to exonerate banks on the grounds that government encouraged them to lend. They did not have to. 
I should add that the present approach to regulation, where lending decisions by banks in effect have to be approved by government agents, in no way encourages a responsible attitude to lending on the part of primary bank decision makers.  
So having completely misunderstood one paragraph from Piketty - though admittedly a complex one - Sumner then turns his attention to Piketty on labour markets. But his analysis doesn't improve. Indeed, it gets worse. I do wish he would stick to macroeconomics.

Sumner correctly notes that there are conflicting academic studies on the effect of minimum wages on employment: some show that employment is depressed by a minimum wage, others show that whatever negative effect there is on employment is outweighed by the positive effects on welfare from higher wages. It is fair to say that Piketty's analysis here is too limited and he does not pay sufficient attention to research showing that minimum wages do depress unemployment particularly for young people. But unemployment is not the only problem with minimum wages: they actually distort labour markets in unexpected ways. Neither Sumner nor Piketty mention the possibility of a minimum wage acting as a wage ceiling, flattening the wage curve and forcing further intervention to provide worker incentives, as discovered by the Resolution Foundation in recent research. Because of their distorting effects, I am personally not a fan of minimum wages, preferring a basic income.

Sumner cites falling unemployment in Germany after the Hartz reforms, and the absence there of a minimum wage, as evidence that a minimum wage depresses employment. But low unemployment in Germany relative to the rest of the Eurozone really can't be used as an example of the positive effect of having no minimum wage. The Hartz reforms happened at a time when the Eurozone periphery was building up unsustainable household and sovereign debt. Germany’s recovery was built on the back of its banks taking advantage of the single currency and free movement of capital in Europe to lend heavily to Eurozone sovereigns, households and corporations to finance German exports. At the time of the Eurozone crisis, 40% of German exports went to Eurozone countries and 60% to the whole EU. Even though Germany bailed out many of its banks in the financial crisis, they remain under-capitalized and over-leveraged. Had Germany’s banks been less enthusiastic about cross-border lending, Germany would not have been able to build up such a large trade surplus and would therefore probably have higher unemployment.

It is questionable whether the Hartz reforms would have caused such a fall in unemployment if Germany had not been part of the single currency. But more importantly, in the aftermath of reunification, German trades unions colluded with management to hold down wages in order to encourage employment. Even though reunification is now largely complete, that collusion exists to this day. The attitude of trades unions in France, where they have not been attempting to reintegrate and rebuild a former Soviet province, is very different.

It is far too simple to claim, as Sumner in effect does, that there is a simple causative relationship between minimum wages and unemployment. Had he compared the UK with the US, for example, he would have found a different story. The UK's minimum wage is considerably higher as a proportion of the median wage than the US's, but UK unemployment levels are similar to the US. Indeed, the UK's employment record since 2008 has been rather good, considering how poor its economic performance has been until very recently: but productivity and wages have taken a massive hit.

Sumner also claims that 73% of Americans reach the top 20% of incomes at some time in their lives. He doesn't give a source for this "fact" and I have been unable to substantiate it. Can any reader here do so? However, there is a problem with backward versus forward-looking income data, of course; just because most (male) Americans in the past have been able to reach high income levels doesn't mean they will be able to do so in the future. The "hollowing out" of traditional middle-class jobs may significantly reduce the proportion able to reach high income levels even for short periods of time.

And Sumner further claims that the fact that the Dow has grown much more than the Nikkei since 1982 justifies high pay for American CEOs. This correlation is not entirely spurious - we would expect CEO pay to reflect stock market returns. But it takes no account of local conditions, and it has the causation the wrong way round. Japan has been in a depression for 20 years. Does Sumner really think that raising Japanese CEO pay to American levels would lift Japan out of its depression? That is the implication of his remark about not investing in Japanese firms with their poorly-paid CEOs. And it is utterly wrong. If and when Japan rises out of depression, and the Nikkei responds to this, we would expect Japanese CEO pay to rise. Not the other way round.

But it is Sumner's description of this paragraph from Piketty that makes me want to weep:
Sumner calls this "dystopia" for "most men". But Piketty has merely described the future of work.  Sumner's "dystopia" is already being created, and the forces driving it are too powerful to resist. Men have to change their attitude. In the future most men will dip in and out of work, study, caring and unemployment, just as women already do. They had better get used to it.

Related reading:

Capital in the 21st Century - Thomas Piketty (book)
House of Debt - Mian & Sufi (book)
The Great Rebalancing - Michael Pettis (book)
Our Work Here Is Done: visions of a robot economy - NESTA (book)

(And in case you were wondering - yes, I have read all of these, including Piketty!)


  1. I don't know which "experts" Sumner refers to here

    I've read a few of these studies, the most thorough of which was a San Francisco Fed report, based on the Loanware database. What's happened here is that Sumner's made a classic speed-reading error (picking up factoids from working paper abstracts is an occupational hazard of the "explainer" industry). The data shows that underwriting standards on a loan-by-loan basis didn't change over the pre-crisis period - this wasn't a case where credit standards were compromised, it was a case where the same standards suddenly got hit by a surge in demand.

    But of course, "underwriting standards" isn't the same thing as "risk taking". Simply writing a much larger volume of business on the same capital base is riskier, even if you keep the same credit standards. This is much, much, wronger than it's right and "most experts", including the ones he's implicitly cited, agree

  2. Excellent post. The most bizarre assertion for me was "Sumner also claims that 73% of Americans reach the top 20% of incomes at some time in their lives."

    However I do agree with Sumner on NGDP level targeting and his point that low rates don't necessarily mean "loose policy."

  3. Nice work, although I doubt it will make much impact.

    A few points to add:

    First, you can be sure there are no "experts" that agree with Sumner, and no source for his claim about income mobility. This is a standard tactic he uses - making claims about facts or appeals to authority based on nothing. Milton Friedman also used to do it, maybe there's something in the water at Chicago that makes people intellectually dishonest.

    Second, here's Piketty on the China-US thing:

    "Quite obviously, if the increase in inequality had been accompanied by exceptionally strong growth
    virtual stagnation of low and medium incomes.

    Note, too, that this internal transfer between social groups (on the order of fifteen points of US
    national income) is nearly four times larger than the impressive trade deficit the United States ran in
    the 2000s (on the order of four points of national income). The comparison is interesting because the
    enormous trade deficit, which has its counterpart in Chinese, Japanese, and German trade surpluses,
    has often been described as one of the key contributors to the “global imbalances” that destabilized
    the US and global financial system in the years leading up to the crisis of 2008. That is quite possible,
    but it is important to be aware of the fact that the United States’ internal imbalances are four times
    larger than its global imbalances. This suggests that the place to look for the solutions of certain
    problems may be more within the United States than in China or other countries."

    So he clearly deals with Sumner's objection about China.

    People wanted to spend more because they were keeping up with economic growth! New products. higher incomes for the wealthy, plus available funds -> people try to keep up even if their incomes fall short. Sumner should look up Robert Frank's work on the Relative Income Hypothesis and expenditure cascades over the (empirically unsupported) PIH he leans on.

    1. In the interests of not being a hypocrite, I'm happy to provide citations if anyone's interested. However, since I'm lazy I won't do it until prompted.


    Sumner originally mentioned it in point two of this post on June 4. That links to this NY Times article From Rags to Riches to Rags from April 18. Which in turn refers to a study by Mark Rank (Washington University) and Thomas Hirschl (Cornell). Presumably, they discuss it in more detail in their book, "Chasing the American Dream: Understanding What Shapes Our Fortunes", but I haven't read it.

  5. Frances,

    "It is Chinese corporations, high net worth individuals and government that export their surpluses"

    Does anyone know who in China owns US Treasuries? Is the mainly the central bank? Any stats anywhere on this?

    1. China 'exports its surplus' for the fairly simple reason that it would never sell more abroad than it imports otherwise.

      It is a consequence of the currency system China chooses to run. The financing arm and the trade arm of any deal has to be in place at the same time or the trade will simply not happen.

      All export surplus countries have to 'vendor finance' their export business otherwise the floating rate exchange system would eliminate the surplus due to a lack of the right kind of money at the right time.

      So China, overall, has no choice other than to buy foreign assets because its policy is to maintain a trade surplus.

    2. The People's Bank of China (PBOC)'s State Administration of Foreign Exchange (SAFE).

  6. Also, here is your statutory reminder from Doug Henwoood (always up to no gooood) that US personal consumption expenditure in the last 20 years was mostly driven by healthcare:

    JW Mason drives the nail in deeper:

    1. Lovely! So I could be forgiven for thinking that if household consumption is not actually rising as much as it looks as if it is, because it includes employer spending on healthcare, then perhaps wages aren't stagnating as much as they look as if they are either? After all, if consumption figures include employer-paid healthcare on the grounds that it is really part of wages, then it should show up in wage figures too.....which it doesn't. Alternatively, we exclude it from both consumption AND wages and tell a story of flat consumer spending because of flat wages and high debt burdens. Which would you prefer? Or both, maybe?

  7. 1. New York was hit much harder by the financial crisis than was North Dakota and the two have very different economies. Does that mean we can't include them when referring to "the United States"?


    I'm pretty sure that was exactly Scott's point. Their expectations were irrational.

    3. "The US "savings glut" came from poor Chinese households, not the well-to-do."

    I think you are taking this too literally. Whose efforts, exactly, contributed to that Chinese trade surplus? Solely the efforts of "rich" Chinese? When the Chinese government buys US Treasuries, whose "savings" does that represent?


    Nearly everyone else using the term "inadequate regulation" and/or "deregulation" mean that there were/are too few regulations on the books. Common usage for what you are trying to communicate is "lack of regulatory enforcement". You can't fault Scott merely because you are using your own rather arcane usage.


    Come on. Did Sumner really "exonerate banks"?


    This doesn't make a lot of sense as a rebuttal to the idea that the US government contributed to the crisis by encouraging lending to low and middle income persons (as you admit in the first sentence!!). Sure, a lot of money lent ostensibly to purchase homes ended up increasing other consumption. Money is, after all, fungible. Home equity loans were utilized due to rising prices, etc. But, how does this "exonerate" government :-) ? Should not government have foreseen that by encouraging (and in a real sense, demanding) the extension of mortgage loans to low and middle class borrowers all of that would happen? What makes you think that the US government's (sole) contribution to this increased lending was to "discourage close investigation of banks"? This seems to contradict your admission that the government did indeed encourage increased lending to those income groups. If your point is that the government encouraged such lending, but later didn't enforce against imprudent lending, why do you think banks had failed, in the first instance, to make those loans? Perhaps, because they thought it imprudent before government intervened?

    1. Vivian,

      Your support of Scott is admirable, but misrepresenting what I said and omitting key parts of it does you no favours.

      1. The US is a unified federation and full currency union with federal programs and fiscal transfers. In that respect it is much more like the UK, Germany or Switzerland than like the EU, or Eurozone, both of which are loose (to varying degrees) associations of sovereign states. So in that respect, no you can't meaningfully compare "Europe" (whatever that means) to the US.I did explain this briefly in the post and provided a link to another post that explains it more fully.

      2. Scott said that as incomes were not rising, there was no reason for people to borrow. He did not mention expectations, which is what I am discussing here.

      3.When the Chinese government buys US treasuries, it uses its own savings. Employed labour does not own the profits generated by its efforts. China is still a Communist economy: most profits go to the State one way or another.

      4. "Regulation" has two common uses in relation to banks. When people use the term "light-touch regulation" they are talking about the behaviour of regulators, not the existence or otherwise of rules. I am therefore consistent with general parlance.

      5. If you read my comment CAREFULLY you will realise that lending to poorer people for primary residence purchase was a very small part of mortgage lending even though government directly encouraged it. Lending specifically for debt refinancing and consumption was much larger. You do realise that new mortgages can be taken out on properties that people already own, don't you? Equity release mortgages were big, big business in the early to mid 2000s. I did provide a link to a post discussing this in more detail. I suggest you read it.

      The US government also encouraged lending against property to support consumption in the aftermath of the dot-com bubble and 9/11. But that encouragement was not specifically aimed at poorer people.

      I did not say the US government's "sole contribution" was to discourage close investigation of banks.

  8. Francis,

    1. I'm not "supporting Scott". I am supporting my own views of your post and, if you read Money Illusion regularly, you'd know that I do not shy away from disagreeing with Scott when I think that is appropriate. Your suggesting otherwise and that my comments are meant merely to support Sumner do *you* "no favors" and strike me as rather condescending. And, misrepresentation and omission is very much part of my critique of your critique of Scott's post.

    2. The idea that one cannot refer to "Europe" in a discussion of economic policy and its consequences is disingenuous and rather petty. True, there are differences in degree of economic integration, but that should not eliminate the Europe or EU from discussion any more than it should eliminate North Dakota and New York, as I pointed out.

    3. You are avoiding the point. The Chinese government (just like the US government) is not a person. It savings are derived from the people and ultimately belong to the people, not to the government. The vast majority of the Chinese people happen to be poor. I doubt these facts are disputable. I'm here reminded of that rather insightful comment of Mitt Romney about corporations...

    4. "Light touch regulation" is not a term in common parlance in the United States. You are making objections to Sumner's post on the basis that he refuses to use your own, rather unique, terminology. On this point, however, you seem to agree with Sumner: if you view is that the crisis had nothing to do with "de-regulation", as Sumner originally wrote, then it is absurd to now claim that taking regulations off the books (e.g., Clinton era deregulation) had little to do with the risks taken by banks? Or, is "de-regulation" in your unique lexicon a synonym for "light-touch regulation"? Just for fun, I googled the latter term and, much not to my surprise, the first ten links were to usage by the BBC, the Guardian and the FT. When critiquing the posts of others, I suggest that one be a bit more careful not to substitute your lexicon for that of the original writer. I think you are caught here in a rather narrow ego centric point of view (see also, in this respect, 3, supra, which suffers from the same problem).


    And, do you, Francis, realize that *due to government regulation*, the interest paid on home equity loans is tax deductible (within certain monetary limits, generally not of concern to lower income folks)? Government regulation makes this a rather cheap credit card. And, that the very practice of government encouraging and demanding home loans to lower income people fueled not only additional lending, but the temporary rise in house prices that enabled these home equity loans to be made? Think about it: if it were not for those initial loans, the subsequent (tax advantaged) home equity loans would not have been possible.

    No, you did not say that the US government's "sole contribution" was to discourage close investigation of banks. However, you perhaps missed the little smiley face appended to that comment. It was, in fact, a little rejoinder to your own misrepresentation of Sumner's post that he "exonerated" banks. I hope that didn't fly over your head.

    1. Vivian,

      1. Your comment came across as supporting Scott and misrepresenting me. However, on reflection perhaps you did not intend to misrepresent me. You may regard this as petty, but the fact that you persistently mis-spell my name is to me clear evidence that you do not read things properly.

      2. It is not meaningful to compare a country with an entire continent. Would you compare the US with Africa, or Asia? We could compare North America with Europe, but then we would have to include Canada.

      However,, Scott's statement that Europe had a worse financial crisis than the US is wrong anyway.

      3. I'm not going to argue with you about the extent to which in a state communist system "the people" can be said to "own" anything. The profits of China's state-run enterprises go to the State. It is those, not the meagre savjngs of poor Chinese households, that are invested in USTs. That is the point I was making.

      4. As the term I have just quoted to you was easily found in a Google search, and featured in mainstream media. it is hardly unique to me. It may br that using the term "regulation" to mean what regulators do is more common in Britain. But that does not make it either wrong or egocentric of me to use it in this way. On the contrary, it is parochial of you to expect a British writer on a UK blogsite to use words in an American way.

      5. Yes, I know there is tax relief on US mortgages. It has existed for decades. It cannot in any way be regarded as specific enouragement of the sort of lending I described.

      No, I missed the smiley face. But I would not have understood it. in my world, a smile is a smile, not an indicator of sarcasm.

  9. Frances,

    Sorry for using an "i" in the spelling of your name rather than an "e". At least I was consistent. :-). (That's not sarcasm),

    Just a couple of responses before I let this drop.

    Much of your critique of Scott's post seems to be based on your use of a different language and understanding of his usage. Rather than try to understand where he was coming from, you seem to see everything through your own lenses, as well as the British language, and insist other do, too. *That* is parochial. The Chinese savers is one example. Your interpretation of what he meant is certainly not the only one and, in my view, not the correct one.

    The other example, again, is your continuing critique of an American writer for failing to use a British understanding of the term "regulation" and "de-regulation". Your comment above only reinforces that problem rather than rebuts it. I have no disagreement what your understanding of those terms might mean in the UK, but you were responding to an American writer's usage of those terms! Europe may be only a continent, and the UK may be an island off that continent, but the latter is not the world. If you want to criticize someone then please try to understand the language he or she is speaking.

    Finally, regarding those US equity loans. As I previously pointed out, had it not been for the original loans to those borrowers, they would have had no home and no (temporary) equity from which to borrow against. You wrote "It (the favorable tax treatment) cannot in any way be regarded as specific encouragement of the sort of lending I described. I'm really scratching me head on this: You mean that providing tax preferred treatment to home equity loans in no way encourages that lending? You indicated that "equity release mortgages were a major problem! (despite the fact that "equity release mortgages" is an apparent Britishism, I understand you are talking about home equity mortgages).

    So, in sum, "US regulation" encouraged imprudent lending in two ways that contributed to the financial crisis: By encouraging (and indeed demanding) that more home loans be given to low income persons and second, once this contributed to price inflation, to take out tax-advantaged home equity loans against that newly created "equity".

    1. Vivian,

      Re interpretation: with respect, my interpretation of what Scott meant is every bit as valid as yours. We will simply have to agree to differ.

      Regarding language, I have two comments to make.

      1, The noun "regulation" has three meanings, none of them exclusively British. This is the definition from Merriam-Webster, which is an American dictionary:

      Full Definition of REGULATION

      : the act of regulating : the state of being regulated
      a : an authoritative rule dealing with details or procedure
      a : the process of redistributing material (as in an embryo) to restore a damaged or lost part independent of new tissue growth
      b : the mechanism by which an early embryo maintains normal development

      3 is clearly of no consequence in our discussion, but both 1 and 2 apply. You are criticising me for using 1 instead of 2.

      2. You have focused so much on my use of language that you actually missed the point I was making. I neither agreed or disagreed with Scott about deregulation in the sense of removal of rules. I pointed out that it made no difference whether or not rules existed, because regulators weren't enforcing them anyway.

      3. The reason why the tax treatment cannot be regarded as specific encouragement of home equity lending AT THAT TIME is because both home equity lending and tax relief on it had already been in existence for many years. I don't deny that tax relief encourages mortgage borrowing, but it does not explain the boom in home equity lending that started in 2001, peaked in 2004 and continued at an elevated rate until 2009.

      Regarding your implied criticism of my use of the term "equity release mortgages": it is completely reasonable for me to use British terminology on this site. It is a UK blogsite and most of my readers are British. If I had used the term "home equity mortgages", I would be using an Americanism.

  10. 1. No, I'm criticizing you for originally criticizing Sumner on the basis that "regulation" or "de-regulation" includes failure to enforce regulations on the books. The definition you cite does not include failure to enforce existing regulations. You also seem to be insisting on your own definition to the exclusion of the likely usage of the original offer. I'm afraid you are digging an even deeper hole for yourself.

    3. Frances, when a legislature passes a law, and an administrative agency passes a regulation, those rules remain in effect throughout the term of those laws and regulations being in force. It does not make any sense to argue that a law or a regulation ceases to encourage (or discourage) activity the moment after it has entered into force. The encouragement continues as long as the rule is in effect.

    And, your argument here seems to directly contradict the idea that your unique definition of "de-regulation" includes not enforcing rules on the books ("light regulation as you alternatively referred to it). You need to be a bit more consistent.

    1. Vivian,

      1. Failing to enforce existing regulations is a failure of regulation under definition 1. If you prefer you may call it a failure TO REGULATE. It is the same thing.

      As I said before, your interpretation of the "original offer" is no more valid than mine. I have dug no holes.

      3. I did not argue that tax relief did not encourage borrowing. I said that since it had not changed, it could not encourage borrowing any more than it had done previously, when there was no lending boom.

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