Where blame is due

Blaming the crisis on anyone other than the government -- and its supporters -- is a big mistake. Investors, speculators, financiers, businessmen, house-flippers, real estate agents, banks, bad credit house-buyers, money managers, ratings agencies -- they are all proximate causes. Their failure to avoid risk on the present, catastrophic scale would not have been possible without specific policies of our governmental institutions, and primarily the central bank. In fact, the functioning of the central bank -- its very existence and the lack of a gold standard -- must lead to excessive, underestimated risk-taking and widespread malinvestment. This is explained simply and clearly in a book by Murray Rothbard (1.5MB PDF).

There is no need to look for the devil(s) in the details. The fundamental cause of the latest boom and bust is clear, and this path was generally predicted by many -- because decades of money and credit inflation ineluctably lead to deflationary meltdown.

As Amit Ghate explains:

When the free market functions--and failure is allowed--people become viscerally aware of risk, with the result that they voluntarily assume less of it.

Conversely, when the government tries to "manage" the economy--when the consequences of risky behavior are shifted from self-interested actors to taxpayers, as was done by the creation of the Fed and its various insurance programs, or when weak financial firms are propped up rather than being allowed to fail--people take on risks they would not otherwise. Banks are less careful, depositors no longer evaluate their institutions, and risks are concealed and amplified until they become catastrophic.

To put it negatively, don't blame speculation as such:

Speculators and short-sellers don't create facts, they seek to identify and respond to them; and in the process they help adjust prices to economic conditions and establish smooth and liquid markets. As a result--instead of being scapegoated and banished--they should be respected and welcomed for the productive role they play in our markets.