AS A general rule of thumb, the answer to the question, "Did x cause the crisis?" is no, for all x. No one factor caused the crisis, and that's as true of the involvement of Fannie Mae and Freddie Mac in mortgage markets as it is of anything else. The right question to ask is to what extent various factors contributed to the crisis. Where Fannie and Freddie are concerned, the answer would seem to be: some, but less than many may imagine.

The latest round of debate over Fannie and Freddie began with Raghu Rajan, whose book "Fault Lines" argues that government action to support housing markets was one of the major economic forces underlying the development of the crisis (alongside things like global imbalances and easy money). Responding to a review of the book by Paul Krugman, Mr Rajan wrote:

Clearly, Fannie and Freddie did not originate sub-prime mortgages directly — they are not equipped to do so. But they fuelled the boom by buying or guaranteeing them.

I actually think that the evidence for Mr Rajan's argument here is somewhat weak. For a collection of responses to this particular critique, see this post by Mark Thoma. The thing is, Mr Thoma's post contains references to an alternative contributory path for Fannie and Freddie, to which I haven't heard as good an answer. He quotes Jim Hamilton on the issue, saying:

Second, what forces caused the explosion of private participation in a much more reckless replication of the GSE game? A year ago, I suggested one possible answer-- private institutions reasoned that, because the GSEs had developed such a huge stake in real estate prices, and because they were surely too big to fail, the Federal Reserve would be forced to adopt a sufficiently inflationary policy so as to keep the GSEs solvent, which would ensure that the historical assumptions about real estate prices and default rates on which the models used to price these instruments were based would not prove to be too far off.

Is that the answer to the second question? I'm not sure. But if anybody has a better answer, I'd still like to hear it.

You see, one of the defences of Fannie and Freddie is that their involvement in mortgage markets trailed off in 2003, just as the housing party really got going. But a good question is why private lenders surged into the gap.

Mr Thoma also links to a post by Richard Green, in which the author cites research indicating that it's this transition that made housing markets run off the rails:


Again, by one reading this acquits Fannie and Freddie. But it also seems consistent with Mr Hamilton's assessment. So, too, does this critique, by John Taylor, who argues that the Fed contributed to the crisis by leaving interest rates too low for too long; Mr Taylor indicates that Fed policy didn't catch back up to his Taylor rule until 2005 or 2006. Back in 2002, Mr Krugman himself warned that the Fed might be tempted to support the economy by blowing a housing bubble.

Of course, this then moves into another argument about the crisis, which concerns whether or not low interest rates produced dangerous debt bubbles. The trouble here is that the answer seems to be "no", or at least "only a little". Here's Ed Glaeser, Joshua Gottlieb, and Joseph Gyourko:

The modest predicted impact of interest rates on prices is in line with empirical estimates, and it suggests that lower real rates can explain only one-fifth of the rise in prices from 1996 to 2006. We also find no convincing evidence that changes in approval rates or loan-to-value levels can explain the bulk of the changes in house prices, but definitive judgments on those mechanisms cannot be made without better corrections for the endogeneity of borrowers' decisions to apply for mortgages.

The obvious point to make here is the one I started with: no one thing generated the crisis. Was it low interest rates? Sure, a little. Fannie and Freddie? They probably contributed some. Reckless financial institutions? You know it. A savings glut due to emerging market reserve accumulation? No doubt that had something to do with it.

The criticism of this approach to the crisis (one of them anyway) is that it's mealymouthed, and because it's mealymouthed it doesn't provide much in the way of guidance as to what should be done differently to prevent future crises. I'm sensitive to that point. At the same time, I think my view does allow for some meaningful lessons. Regulation needs to be dynamic and regulators vigilant. No one rule is going to prevent the next crisis. Policymakers need to be aware of the importance of incentives. What are the potential downsides to an implicit guarantee on private debt (like the one large financial institutions currently enjoy)?

Meanwhile, those attempting to warn policymakers off efforts to support incomes are drawing what is, in my view, an incorrect conclusion. As I've argued before, disparities in income growth generate demand for policies to support the living standards of those not doing well. The lesson here is that it's best to tackle those disparities head on, rather than through the backdoor route of providing subsidies to credit growth. On that point, at least, I believe Mr Krugman, Mr Rajan, and myself are all in agreement.