August 13, 2021
During the first decade of this century I was one of the few economists in the country to warn of the housing bubble and the likelihood that its collapse would lead to a serious recession. It was easy to see that the housing market was in a bubble, and that when the bubble burst it would lead to plunges in both residential construction and consumption, which was booming thanks to bubble generated housing wealth.
My favorite remedy for the bubble was talk, or more specifically, talk from Alan Greenspan and other top Fed officials, about research documenting the housing bubble. The point I tried to make in those years was that the hard data showed we had a bubble. It wasn’t an issue of crystal ball reading.
We had an unprecedented divergence of house sale prices and rents. While house sale prices were soaring, rents were moving along roughly in line with the overall rate of inflation. At the same time, the vacancy rate for housing units was hitting record highs. These facts were hardly consistent with a story of house prices being driven by an increased demand for housing.
The explosion of subprime mortgages was also not a secret, it was widely talked about in the business press. The fact that increasing numbers of mortgages were being issued with low or even no down payment was also widely known. And, the fact that people were spending in a big way out of their newly generated housing wealth was well-known. Greenspan even wrote about it.
If the Fed had done research documenting these, and other facts, showing that the housing market was indeed in a bubble, and top Fed officials regularly highlighted this research in Congressional testimony, public speeches and their writings, it would be impossible for the financial sector to ignore. As it was, the mortgage bankers and brokers, the investment banks, and everyone else involved in the process, was making money hand over fist.
No one gave a damn if a few scattered economists said there was a bubble and it would burst. When it finally did burst, and many banks were pushed to the brink of bankruptcy and beyond (before the government bailed them all out), the people who got them into trouble all got off on the “who could have known?” defense. After all, no one saw the bubble, so how could a highly paid CEO be held responsible if they just made the same mistake as everyone else in believing that house prices would rise by double digit amounts forever?
They might have had a more difficult time with this defense if Greenspan and the rest of the Fed crew had been writing “WARNING: HOUSING BUBBLE” in huge neon lights everywhere they could. It’s easy for a high-level executive to say that they didn’t pay attention to the rantings of some obscure economist, it’s much harder for them to say they don’t bother looking at what the Fed chair says and the research it publishes.
The Role for Fed Warnings on Global Warming
Just as I would have liked to see the Fed document the existence of a housing bubble and offer clear warnings about the implications of its collapse, I would like to see it do the same with the impacts of global warming. This would mean researching the ways in which climate change is likely to affect various areas of the economy in coming decades, and giving clear warnings to the affected businesses and financial institutions, as well as the general public.
Much of this research would involve just documenting what should already be fairly obvious. For example, there are large areas of the country near the coasts, lakes, or rivers, where there is a far greater likelihood of serious flood damage due to both rising water levels and also the greater probability of hurricanes and other extreme weather events. One implication of this increased risk is that there are now likely millions of mortgages that should not be issued without flood insurance.
Flood insurance is usually quite expensive. Having it as a requirement for mortgages will make the affected areas far less attractive to would be homebuyers. It would also be a big hit to house prices in the affected areas. Also, in floods many cars are destroyed. That should mean that auto insurers either write policies that explicitly exclude flood damage, or raise their prices for people living in areas newly susceptible to flooding.
We have also seen a massive wave of forest fires through large chunks of the West, driven by years of drought and high temperatures. These fires have destroyed thousands of homes and threatened tens, or even hundreds of thousands, more. Here too, solid documentation of the fire risk to houses as a result of global warming should have a substantial impact on the course of development. If someone wants to build a home in a densely wooded area, they should know that insurance will either be very costly, or altogether unavailable, because of the heightened fire risk resulting from global warming.
There are also large portions of the Southwest (Utah, Arizona, Colorado, Nevada and Southern California) where lack of water may be a serious impediment to further development. The prospect of water shortages may make certain patterns of growth, such as developments with large homes with large lawns, unaffordable. The lifestyle that people moving to the area anticipated, which often includes golf as a major form of recreation, may no longer be possible. Furthermore, this area, which is heavily dependent on hydropower, may be looking at power shortages unless it turns to alternative energy.
All of this could be documented in Fed research. Developers and lenders would need to take it into account in their plans.
There are similar stories for many other types of business. The unprecedented heat wave hitting the Northwest devastated its berry crops. In a world where such extreme weather may be a more regular event, berry growing is a less profitable and more risky business. The same applies to agriculture in many other areas, most notably the inland valley in California, where hot weather and water shortages are likely to be a serious hit.
We can also expect to see some serious hits to the fossil fuel industry, if measures to promote clean energy get off the ground. If half of new cars sold in 2030 are electric, and we have seen large-scale conversion of utilities to wind, solar, or other clean energy sources, then oil and gas prices will almost certainly take a big hit. The projection of lower prices may not have much impact on fracking projects that are expected to pay off in two or three years, but if taken seriously by the industry, it should wipe out long-term projects like drilling in the Arctic, which would require decades of revenue to recover the upfront investment. Even if companies might want to do such drilling, they would probably be unable to arrange the financing.
The Power of a Green Fed
This list is just the beginning. There are few areas of the economy that would not be affected in a big way, either positively or negatively, by the long-term implications of global warming. Research from the Fed could drive the realities home in a way that would have real impact.
At least as important as the direct economic impact that the Fed’s research could have, it will also help to bring home the fact that global warming has real costs in people’s everyday lives. The question is not just whether we think it would be nice to have a decent planet to pass onto our kids, it’s also an issue of how much people want to pay for their food. It’s a question of whether they want to see their home plummet in value because of the increased flooding or fire risk. It’s a question of whether they want to see an increased risk of future pandemics because of the changing habitats of various species of plants and animals.
Of course, there is a large number of people who will always be climate deniers, just as there are many people who insist the earth is flat. But, constantly hitting people with the evidence can have an effect on at least some people, and as a result, they may be more willing to support measures that will reduce greenhouse gas emissions.
There are some climate activists who have wanted the Fed to act more directly to try to reduce greenhouse gas emissions, for example by trying to block loans to the fossil fuel industry. While the Fed has a broad mandate that it has been largely free to interpret itself, it’s clear that few in Congress intended to give it this mandate. If it were to go this route, there would likely be efforts, coming from both parties in Congress, to rein in the Fed. It is likely in that story that we would end up with a Fed that, is not only prevented from acting directly to reduce greenhouse gas emissions, but is much more tightly constrained in its ability to sustain full employment.
By contrast, the Fed is supposed to do research on the economy for the benefit of governments, businesses, and households. As we know, many Republicans object to research when the data doesn’t support their preferred outcome, but thankfully that is still a minority view in the public and even in Congress. Informing the public about the economic risks of global warming should not be a bridge too far for the Fed.
 Ideally, we would offset price declines with higher taxes to discourage the use of fossil fuels, but the point is that the industry will be seeing less money.