Did Sub-Prime Lending Cause the Liquidity Crisis?

Reviewing last year's events toward the precipitous liquidity crisis there is a tendency to identify the sub-prime lending market as the primary cause.

Sub-prime debt was securitized so that it all looked triple A in the aggregate, but that did not cause the crisis. The crisis was caused at the fundament: a lack of income to support the value of the debt instruments, thus called "sub prime."

Buying and selling the sub-prime debt was predicated on a theory of economic investment and growth that fails, or nulls, its hypothesis in every case.

Trickle-down economics always nulls its hypothesis. It accumulates and consolidates the value, the income, needed to cause the growth and distribution of income to pay the debt. Pretty simple!

Rejection of making permanent a public policy plagued with a continuously nulled hypothesis was definitely worth voting for in the last election cycle.

In retrospect it is time to confirm what the truth is by very simply rejecting what it clearly is not. This is a function of critique: testing the hypotheses of theoretical models, and this particular model of trickle-down economics has been thoroughly tested negative for the results it promises. It caused the sub-prime liquidity crisis because it does not work.

The solution is very easily, very simply, induced from the evidence: if you want to prevent liquidity crises, do not use trickle-down economics.

Making sub-prime loans did not cause the crisis. The accumulation of wealth to trickle down to pay the debt caused the crisis because "accumulation" and "trickle down" (distribution) are antithetical. Remove the contradiction--what conservatives say requires a secret knowledge to understand why it really works--and the problem is actually solved rather than continuously reinvented in the guise of empirical improvement.

It is no secret that the trickle-down hypothesis is continuously nulled.

Slow growth plagued the Bush administration despite record budget deficits that will continue well beyond its eight years. During that time, growth was most robust when tax policy favored the middle class. When those middle-class tax cuts expired, so did the more robust growth.

Growth--expanding the pie--supports the dollar and a "fundamentally" low interest rate. Instead, the rate was "technically" low to support the trickle-down theory with positive confirmation.

Of course, truth kicked out the front door just comes in the back.

The funds provided by the "technical" rate, instead of adding liquidity to be trickled down, were retained at the top. The funds remain there, in a steady state of accumulation, which is why the economy is on a slow slope to recovery.

The funds to support the trickle-down hypothesis (an extra-large buget deficit AND a low interest rate) were technically provided but used to finance the over-leveraging, and consolidation of the wealth, to a larger-than-usual crisis proportion.

(Hedge fund managers called the over-leveraging "the magnifier effect" which technically indicated the deviation from the normal distribution would not be a random event.)

All the indicators were technically there to prevent the magnitude and precipitousness of the crisis, but that does not allow for the gratitude the little people should have for the technical elits that saved us from the folly of their own devices.

The wealth, even with a record budget deficit, did not trickle down to cause growth. Instead, it accumulated and caused the most severe deflationary trend since The Great Depression.

More disturbing is that the crisis was so easily predictable, indicating how entrenched a lack of empirical methodology is for the development of public policy. It is like living in the Middle Ages when the earth was flat and at the center of the universe.

Even after the crisis and an election cycle with a clear mandate to make application of the truth permanent instead of the Bush tax cuts, we persist with a failed model of political economy that is methodologically no less akin to what Galileo faced with his observations.

Secular economic reality is the remaining legacy of the empirical heresy.