Two Points for the Post

The Washington Post has two editorials worth reading this morning. In the first, Sebastian Mallaby throws some cold water on the Cramer-style hype surrounding sub-prime credit markets. Mallaby recalls how junk bonds caused a similar stir in the mid 90s, but have since more than tripled their total market value and are now considered boring, respectable investments.

The meltdown in financial markets may seem scary or mysterious, but it’s part of a time-honored story. In Chapter One, a new financial instrument makes capital available to a new class of borrower, and the result is profits for the innovator along with gains for consumers. In Chapter Two, a group of not-so-smart investors misunderstands the novel instrument and bids its price up too enthusiastically; when the inevitable bust follows, the innovation is denounced as inherently dangerous. Then, in Chapter Three, the complaints blow over. The not-so-smart investors learn their lesson and the new instrument stabilizes. Financial innovation turns out to be beneficial without being scary, but by that time another newfangled instrument has emerged to frighten people, and finance is hauled before the court of public opinion — again.

This is likely to be the story with the current subprime mortgage meltdown, just as it was with subprime’s close cousin, the junk bond.

Junk bonds, you will recall, are a way of getting loans to companies that stand a big chance of defaulting, much as subprime mortgages enable people with questionable credit to buy homes. During the 1980s, the value of junk bonds in circulation went from nothing to around $200 billion, enabling dozens of fringe companies to innovate and experiment. Then, in the early 1990s about one in 10 junk borrowers lived up to their names and defaulted, and junk bonds were widely denounced. But the fuss was over quickly. By 2000, the value of the junk bond market had soared to $600 billion. Nobody doubted that fringe companies should have access to finance, provided that they compensated investors for the risk that they might fail

Sub-prime mortgages, he suggests, are more than likely to follow in the footsteps of junk bonds and, after a period of upheaval, emerge as a thriving, stable market.

Meanwhile, Robert Novak calls out Congressional Republicans for, with a few exceptions, acceding to the rampant wasteful earmarking pushed by Democrats in appropriations bills. The hero in the story in Rep. Jeff Flake, but his willingness to to push back on earmarks hasn’t earned him many friends, even amongst his own party.

Claims of newly established transparency were undermined by the late-night follies. Flake, who ran a Phoenix think tank, the Goldwater Institute, before coming to Congress in 2001, is immensely unpopular on both sides of the aisle for forcing votes on his colleagues’ pork. He burnished that reputation by prolonging the marathon Saturday session and challenging selected earmarks.

[snip]

Republicans split so that motions by Flake and Campbell lost overwhelmingly. House Minority Leader John Boehner voted against most earmarks but did not make it a party issue as the rest of the GOP leadership backed Murtha. Two former Republican chairmen of the Appropriations Committee — Jerry Lewis of California and Bill Young of Florida — eagerly joined the debate on Murtha’s side. Lewis, one of the House members under investigation by the Justice Department, defended one of his own earmarks and treated Flake with sneering contempt for wasting the House’s time.

Good for Flake, but this is hardly promising for those of us who’d like to see a little more restraint in Congressional spending.