The Subprime Solution: How Today's Global Financial Crisis Happened, and What to Do about It

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Princeton University Press, Aug 4, 2008 - Business & Economics - 208 pages
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The subprime mortgage crisis has already wreaked havoc on the lives of millions of people and now it threatens to derail the U.S. economy and economies around the world. In this trenchant book, best-selling economist Robert Shiller reveals the origins of this crisis and puts forward bold measures to solve it. He calls for an aggressive response--a restructuring of the institutional foundations of the financial system that will not only allow people once again to buy and sell homes with confidence, but will create the conditions for greater prosperity in America and throughout the deeply interconnected world economy.

Shiller blames the subprime crisis on the irrational exuberance that drove the economy's two most recent bubbles--in stocks in the 1990s and in housing between 2000 and 2007. He shows how these bubbles led to the dangerous overextension of credit now resulting in foreclosures, bankruptcies, and write-offs, as well as a global credit crunch. To restore confidence in the markets, Shiller argues, bailouts are needed in the short run. But he insists that these bailouts must be targeted at low-income victims of subprime deals. In the longer term, the subprime solution will require leaders to revamp the financial framework by deploying an ambitious package of initiatives to inhibit the formation of bubbles and limit risks, including better financial information; simplified legal contracts and regulations; expanded markets for managing risks; home equity insurance policies; income-linked home loans; and new measures to protect consumers against hidden inflationary effects.

This powerful book is essential reading for anyone who wants to understand how we got into the subprime mess--and how we can get out.

 

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I have read some of Dr. Shiller’s books. I love his book because he often lay it all out for the readers that the clashes are not isolated incidents. He provided strong evident that this had happen in the past yet we have fail to recognize it. As the results of the evident provided, I am convinced by his unconventional interpretation of the stock market clash and the housing clash.  

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When innovation is the only remedy
Book review
A far-reaching volume by one of the globe’s foremost thinkers in his field offers some radical responses to our present economic ills, writes Clive
Crook
Yale University’s Robert Shiller is one of the world’s outstanding economic thinkers and intellectual innovators, with a record of foresight that is the envy of his profession. Against the run of expert commentary, he correctly predicted the bursting of the stock market bubble at the start of this decade. Again in a small minority, he accurately forecast the collapse of the US housing market. His short, snappy and surprisingly far-reaching book on the subprime crisis is as interesting and indispensable as you would expect.
The Subprime Solution is an ambitious little volume: if anything, too much so. It covers a remarkable amount of ground in less than 200 (small) pages. In its second half, the proposals for reform arrive at a furious pace, and are presented too tersely to be entirely convincing. Yet the book’s broad framing of the issues is novel and valuable, and its arguments are always stimulating.
It starts with some historical context, focusing on lessons from the previous great US housing meltdown during the Great Depression. Shiller explains how that gave rise to a comprehensive programme of public and private institutional reform: the Federal Home Loan Bank system, a new bankruptcy law, the Home Owners’ Loan Corporation, the Federal Housing Administration, the Securities and Exchange Commission and so on. He argues that the current crisis calls for a similarly radical and encompassing response, as yet unforthcoming. He says that the measures adopted so far are inadequate to the scale and likely persistence of the subprime problem and its related ills.
Shiller’s central point is that remedies should not be organised around regulation, which aims to stifle or reverse financial innovation. Instead, his long-term remedy is more innovation in the correct institutional context. Meanwhile, in the shorter term, he calls for a greater willingness to arrange bail-outs of various kinds.
Governments are usually reluctant to call a bail-out a bail-out, but the book argues that there is no need to be embarrassed. Sometimes they are necessary, and what matters then is to design them carefully, fund them adequately and act promptly. The fundamental purpose of a bail-out should not be to shore up inflated house prices or stock prices but to avoid a loss of confidence in economic institutions and maintain a sense of fairness. “The Federal Reserve has been bailing out troubled banks since it opened for business in 1914,” Shiller writes. “The Bank of England has been doing the same for hundreds of years. We must face up to the fact that we have not been able to avoid bail-outs in the past, and we cannot do so today.”
In the longer term, the goal should be to create what Shiller calls “financial democracy” – that is, extend the benefits of financial innovation to the
widest span of society. In principle, mortgage securitisation aimed to do that, but the process was incomplete. The institutional foundations were missing and the information infrastructure, as the book calls it, was weak. Shiller’s principal focus is on how to improve the flow of information so that financial markets and financial innovation can foster financial security.
Shiller makes six proposals to improve the information infrastructure. First, ensure the supply of comprehensive, subsidised, fee-only financial advice to everyone. Second, create a financial product safety commission analogous to the one that oversees consumer products. (The US Treasury’s blueprint for reform envisages such a body.) Third, develop default-option financial plans – “authoritative assertion of new standard boilerplate for common contracts such as mortgages”.
Fourth, demand better financial disclosure; mortgage-backed securities were mispriced because of a lack of information about underlying loans
 

Selected pages

Contents

Introduction
4
Housing in History
32
Bubble Trouble
42
The Real Estate Myth
72
A Bailout by Any Other Name
90
The Promise of Financial Democracy
118
Epilogue
174
Index
182
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About the author (2008)

Robert J. Shiller is the Stanley B. Resor Professor of Economics at Yale University. Also the author of the award-winning "Macro Markets" as well as "Market Volatility", he lives in New Haven, Connecticut.

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