The Fed and the Sub-Prime Lending Debacle
What the Fed does or fails to do has more effect on the nation’s poor than any other policy making body. When the Fed decides to fight inflation by raising interest rates and cooling the economy, it’s the poor who are the first to be drafted into the inflation fight because their jobs are the most tenuous, and they’re the first to lose them. When the Fed decides to ease up and reduce rates, it’s the poor who are among the first to get the new jobs because employers who are most likely to hire at the start are small service businesses offering jobs at the bottom rungs of the wage scale. The best example of this occurred in the late 90s, when Alan Greenspan bucked conventional economic wisdom and decided that the economy could safely grow fast enough that unemployment dropped to around 4 percent. The result was to create more jobs for people in the bottom fifth of the income ladder – whose total income therefore began to rise for the first time in decades.
But the Fed affects the poor in another way, too. It determines their access to credit. And here as well, the Fed’s decisions can either be a great boon to poorer Americans or a huge curse, depending on how responsibly the Fed manages the credit markets. In this respect, it’s done a lousy job in recent years. In the early 2000s, rates were so low that banks didn’t know what to do with all the extra money they had on hand. But instead of keeping an eye on bank lending standards, the Fed looked the other way. The result: Credit standards were disregarded in a tidal wave of sub-prime lending to the poor home buyers – often without down payments, often with mortgage interest rates that would rise if and when the prime rate went upward. Then what happened? The Fed raised short-term rates seventeen consecutive times, catching poor borrowers in the very trap the Fed allowed banks to set for them. So now millions of poorer Americans face foreclosures on their homes, and sub-prime lenders are in trouble.
Will anyone hold the Fed responsible? Answer: No. Does anyone know how to hold the Fed responsible? Answer: No.