Much like Janet Yellen (President Obama’s nominee for the Chair of the Federal Reserve), who is roundly and wrongly praised for her allegedly uncanny ability to make accurate predictions about the U.S. economy [read OCR’s 10/9/13 and 10/11/13 articles], Nobel Prize-winning economist Robert Shiller has attracted much hype based on his earth-shattering observation of the obvious early signs of a housing bubble in the mid 2000s.
Sure, unlike most mainstream economists, Shiller was able to see what some economists regard as obvious signs that housing prices were skyrocketing on an unsustainable path. (Indeed, pointing out the obvious is ground breaking in an economic world dominated by Keynesian mythology.) But Shiller had no understanding of how the housing bubble would impact the overall economy. In Shiller’s 2003 analysis of the housing bubble, Shiller concluded:
judging from the historical record, nationwide drops in real housing prices are unlikely, and the drops in different cities are not likely to be synchronous: some will probably not occur for a number of years. Such a lack of synchrony will blunt the impact of the bursting of the bubbles on the aggregate economy.
Boy, like Yellen, was he wrong!
The truth is that Shiller has no understanding of what caused the housing bubble or the previous obvious stock bubble, which he also shockingly observed. Shiller blamed the bubbles on human psychology, a.k.a. “irrational exuberance.” According to Shiller,
The predominant story about home prices is always the prices themselves; the feedback from initial price increases to further price increases is a mechanism that amplifies the effects of the precipitating factors. If prices are going up rapidly, there is much word of mouth communication, a hallmark of a bubble. The word of mouth can spread optimistic stories, and thus help cause an overreaction to other stories, such as stories about employment. The amplification can also work on the downside as well. Price decreases will generate publicity for negative stories about the city, but initially downward stickiness is encountered.
Schiller does not recognize that the irrational behavior is caused by the Federal Reserve’s manipulation of interest rates that create booms and busts in the economy. In fact, in Shiller’s 2012 book, Finance and the Good Society, Shiller states that central banks are “the first line of defense against economic instabilities” (p. 112). With a proper understanding that central banks are the source of economic instability, Shiller could have rationally rejected his psychological folklore and actually understood the significant impact that the bursting housing bubble would have on the overall economy.
For example, in contrast, economist Mark Thorton accurately noted in 2004:
Why have home prices been increasing? David Lereah, chief economist with the National Association of Realtors, explained: ‘It’s a simple matter of supply and demand…We continue to have more home buyers than sellers in most of the country, which results in tight housing inventories and higher rates of home price appreciation.’ Of course the cause of higher home prices is that the Federal Reserve has kept interest rates, and thus mortgage rates, at historically low rates so that people find it easier to finance homes. In fact, despite an 18% increase in home prices since 2001, the median monthly payment remained the same at $789/month and the “median payment as a percentage of income” has actually fallen. This is the magic of monetary inflation, courtesy of Alan Greenspan.
What was the probable consequence according to Thorton? He predicted that “home prices could crash, bankruptcies would increase, and financial companies, including the government-sponsored mortgage companies, might require another taxpayer bailout.”
Boy, did he get that right!
Of course, Shiller’s lack of understanding the Fed’s role in creating the housing boom and bust also prevented him from forecasting the obvious signs that the Fed was re-inflating the housing bubble. In April 2012, while the Fed was in the midst of its massive money printing, Shiller stated that the he could not envision a substantial increase in housing prices for a long time.
Boy, did he get that wrong again.
Why is this delusional hype over Shiller and Yellen so important? As long as our economic problems are supposedly caused by irrational human behavior instead of interference by the Fed, government expansion is needed to protect us from ourselves. At least, that is the propaganda we are told to swallow.
Shiller and Yellen are both economists from Yale. During an April 16, 1999 speech, as Chairman of President Clinton’s Council of Economic Advisers, Yellen declared:
The Yale macroeconomic paradigm provides clear answers to key questions dividing macroeconomists along with policy prescriptions. Will capitalist economies operate at full employment in the absence of routine intervention? Certainly not.
Similarly, according Shiller in Finance and the Good Society, “[g]overnments that do not encourage entrepreneurial enterprises that actively look for problems to solve won’t be very helpful” (p. 73). The fictional hype of Yellen, Shiller, or even Bernanke, is really just about that: keeping the establishment in control of us.
John Langenderfer is a practicing attorney with a focus in consumer and commercial law. He can also be reached on his Facebook page.
All opinions expressed belong solely to their authors and may not be construed as the opinions of other writers or of OCR staff.
RELATED ON OCR: “Follow Up: Nobody is Qualified To Be the Next Fed Chair”
RELATED ON OCR: “Our Coming Economic Collapse, Part 5: The Crash”
RELATED ON OCR: “Our Coming Economic Collapse, Part 4: Lessons from History”
RELATED ON OCR: “Our Coming Economic Collapse, Part 2: The Boom and the Bust”
RELATED ON OCR: “Our Coming Economic Collapse, Part 1: Introduction”
READ ALL OCR articles by John Langenderfer here.