TightWind is written by Kyle Baxter. Stay Hungry. Stay Foolish.

David Leonhardt asks a good question: if the Federal Reserve couldn’t predict the last housing bubble, how can they predict the next one, and solve it?

They didn’t just not predict the last bubble, they helped start its inflation by lowering interest rates so low after the tech stock collapse and September 11th attacks. They did this for a good reason — to help prevent the resulting recession from being too painful — but as always, their actions had unintended consequences. It inflated an even larger and more connected bubble, which precipitated a market crisis that could have brought down the entire financial system.

The problem isn’t so much that they (or anyone else) can’t predict the next bubble. They can. The problem is having someone with as much power as the Federal Reserve, trying to even out the business cycle, when they don’t have a real understanding of how the economy is functioning at the moment, and what it will do in the future. The economy is much too complex to understand, and as a result, they try to correct for problems they see, and create even larger issues.

The Federal Reserve helped cause the housing bubble, and they weren’t under political pressure to do certain things. They were just wrong. The federal government itself is constantly pressured to do things for political, rather than economic, reasons, and this terribly distorts the market.

The business cycle is inevitable, but government action accentuates it even more.