Robert Shiller says the housing boom and subsequent crash isn't the Fed's fault. He says the Fed didn't start the bubble, couldn't have done much to prevent it (though they could have leaned harder against it), and can't do much now to stop it from popping:
Worldwide bubble trouble,by Robert Shiller, Project Syndicate: The future of the housing boom, and the possible financial repercussions of a substantial price decline in coming years, are a matter of mounting concern among governments around the world. ... [Many] countries have had dramatic housing booms since 2000, most of which appear to be continuing, at least for the time being. But there [is] no consensus on the longer-run outlook for home prices.
Of all these countries, the United States appears to be the most likely to have reached the end of the cycle. ... There seems to be a general recognition of substantial downside risk, as the current credit crisis seems to be related to the decline in U.S. home prices that we have already seen.
The boom, and the widespread conviction that home prices could only go higher, led to a weakening of lending standards. Mortgage lenders seem to have believed that home buyers would not default, because rising prices would make keeping up with their payments very attractive.
Moreover, the boom resulted in a number of financial innovations, which may have been good ideas intrinsically, but which were sometimes applied too aggressively, given the risk of falling prices...
Paul McCulley of PIMCO ... argued that in the past month or two we have been witnessing a run on what he calls the "shadow banking system," which consists of all the levered investment conduits, vehicles and structures that have sprung up along with the housing boom. The shadow banking system, which is beyond the reach of bank regulators and deposit insurance, fed the boom in home prices by helping provide more credit to buyers. ...
The U.S. Federal Reserve is sometimes blamed for the current mortgage crisis, because excessively loose monetary policy allegedly fueled the price boom that preceded it. Indeed, the real (inflation-corrected) federal funds rate was negative for 31 months, from October 2002 to April 2005. ...
But loose monetary policy is not the whole story. The unusually low real funds rate came after the U.S. housing boom was already well under way. ... The rapid increase thus appears to be mostly the result of speculative momentum that occurred before the interest-rate cuts.
Alan Greenspan, the former Fed chairman, recently said that he now believes that speculative bubbles are important driving forces in our economy, but that, at the same time, the world's monetary authorities cannot control bubbles. He is mostly right: the best thing that monetary authorities could have done, given their other priorities and concerns, is to lean against the real estate bubble, not stop it from inflating.
The current decline in home prices is associated just as clearly with waning speculative enthusiasm among investors, which is likewise largely unrelated to monetary policy. The world's monetary authorities will have trouble stopping this decline, and much of the attendant problems, just as they would have had trouble stopping the ascent that preceded it.