The Agenda

NRO’s domestic-policy blog, by Reihan Salam.

The War for U.S. Capital Markets Revisited


Donald Marron and Hillel Kipnis observe that the dramatic post-crisis expansion of the U.S. federal government’s investment porfolios has yet to reverse itself:

Since October 2007, the public debt has increased by $6.9 trillion. Most went to finance deficits, but about $650 billion went to expand the government’s investment portfolio, including a big jump in student loans. Before the financial crisis, Uncle Sam held less than $500 billion in cash, bonds, mortgages, and other financial instruments. Today, that portfolio has more than doubled, exceeding $1.1 trillion.

The U.S. Treasury has sold off many of its financial assets over the intervening years, yet it has greatly increased its holdings of student loan debt.

The federal government used to subsidize student borrowing not only by providing loans directly to students, but also by guaranteeing many private loans. In 2009, however, Congress eliminated private guarantees and dramatically expanded direct federal lending. The government’s portfolio of student loans has since increased from about $90 billion at the start of fiscal 2008 to more than $560 billion today.

As a result, the government’s financial investments now total about $1.1 trillion, essentially all of which was financed by borrowing. The debt supporting Uncle Sam’s investment portfolio thus accounts for almost 10 percent of the $11.9 trillion in public debt.

If you told me that Congress was planning to borrow heavily to finance a variety of large-scale public investments, I wouldn’t necessarily balk. But I would want the country to have a proper conversation about the kind of investments we ought to make. That hasn’t really happened. Back in 2011, Christopher Papagianis and Arpit Gupta argued that “private sector is fighting the government for control of capital markets, and the government is winning”:

At first, government dominance of credit allocation is presented as a good thing, or as a choice between equally unpleasant outcomes. In the case of residential mortgages, government involvement is generally rationalized as a choice between government mortgages or no mortgages at all. Yet, the refusal to allow the market to find a price at which lenders are willing to assume the risks of consumer lending creates the real potential for much worse long-run outcomes.

While it’s already starting to happen, increasingly the levers that control the provision of credit for consumers will be set in accordance with the needs and wants of politicians and bureaucrats. As the risk of a Japan-like period of stagnation grows for the U.S., it’s worth bearing in mind the lessons of Anil Kashyap from the Chicago Booth School of Business, who has warned that politically-driven investment and capital decisions played a large role in the long Japanese recession.

We are now at a point where it is almost impossible to imagine a functioning capital market without an oversize role for government. The longer the government maintains a dominant role, the more the private sector’s capacity to fill in or take control atrophies. This dynamic needs to shift back in the direction of the private sector. In many ways, the most important battle the U.S. faces over the next few years is wrestling back control of its own capital markets. [Emphasis added]

On a related note, Jason Delisle of the New America Foundation has written extensively on the transformation of the student loan market and its implications, most recently in engaging with Sen. Elizabeth Warren (D-MA).


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