Truman, now at the Peterson Institute, has always been a forceful advocate, even when defending the indefensible. But the counter-argument is pretty compelling:

1. Other countries may have housing price asset bubbles, but no country has lent so much to so many borrowers who have so little capacity to service the loan. The US has a uniquely vulnerable lending model, whereby housing borrowers can refinance their loans if interest rates move against them, and can return the keys without further recourse if they decide they don’t want to repay the loan.
2. The US has its own version of ‘crony capitalism’, operating between their lending agencies (Fannie and Freddie) and Congress, ensuring that cheap housing loans with ‘teaser’ interest rates became a political vote-buyer.
3. Whereas other countries have consolidated their market regulators to improve coordination, US regulatory and prudential responsibilities were spread in a way that made coordination and proper oversight of systemic vulnerabilities impossible. Critical functions were in the hands of state-level or minor offices ill-equipped to identify problems, let alone do anything about them.
4. Ratings agencies (under US supervision, of sorts) were allowed to let commercial advantage influence ratings and provided AAA ratings to financial instruments which could not survive a systemic shock.
5. The US mono-line insurers were allowed to provide credit enhancements way beyond their capacity to back these up from their own capital.
6. Wall Street and the Institute for International Finance (the bankers’ lobby group) have been effective in ensuring that the international model for prudential supervision (the Basle rules) was ‘light-touch’ (some would say ‘soft-touch’).
7. The limits to financial engineering were pushed out through special investment vehicles (SIVs) and other off-balance-sheet methods of avoiding capital requirements, despite the Enron experience. These ‘innovations’ were condoned by the prudential authorities.
8. The ‘shadow banking sector’ (mainly investment banks) was allowed to expand without prudential regulation.
9. Securitisation was encouraged as a method of spreading risk, without proper assessment of who was holding the risk.
10. The LTCM crisis in 1998 was allowed to pass without reform of excessive leverage via derivatives. Hedge funds, derivatives and short-selling all allowed a degree of leverage which was unsustainable.
11. Chairman Greenspan’s famous ‘spare tyre’, whereby non-bank finance would stand ready to pick up the slack if the banks faltered, turned out to be subject to the same correlated errors.
12. US monetary policy was kept too loose for too long after the ‘tech-wreck’ in 2001. The Fed Chairman held a strong view that asset bubbles could not be identified ex ante and the only proper action was to attempt to clean up after the mess.
13. Unsustainable macro imbalances (large current account deficit, budget deficit, huge household dis-saving) remained unaddressed.
14. The delay in passing the $US700 billion Congressional package plus the failure to bail out Lehman Brothers ushered in a new and much more vertiginous phase of the crisis.

Sure, other countries went along with many of the institutional changes which exacerbated vulnerabilities, and some made their own policy mistakes. China’s reserve accumulation provided Americans with enough rope to hang themselves. But world leadership, and long years of vigorous advocacy for free markets and globalization, imposes special obligations to ensure that the interlinked financial system doesn’t have intrinsic fatal vulnerabilities. We are all entitled to feel let down by the US performance.

Cross posted from the Lowy Interpreter