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The current financial crisis is not all Phil Gramm's fault. Who says? Well, Phil Gramm says. Big surprise. But in a lengthy defense of his record and analysis of the current mess Friday afternoon in Washington, Gramm did allow that it might be at least a teeny bit his fault. Call it the beginning — maybe — of the nuanced consideration of the causes of the crisis that was impossible during the fall election campaign.

As chairman of the Senate Banking Committee from 1995 through 2000, Gramm was Washington's most prominent and outspoken champion of financial deregulation. He played the leading role in writing and pushing through Congress the 1999 repeal of the Depression-era Glass-Steagall Act that separated commercial banks from Wall Street, and he inserted a key provision into the 2000 Commodity Futures Modernization Act that exempted over-the-counter derivatives such as credit-default swaps from regulation by the Commodity Futures Trading Commission (CFTC). (See who's to blame for the current financial crisis.)

Now these laws are under fire, cited by critics — mostly but not exclusively on the political left — as major precipitating causes of the financial meltdown. And while both were signed into law by Bill Clinton, Gramm has taken the most heat. (It hasn't helped that, since leaving the Senate in 2002, he's been working for Swiss banking giant UBS, which has sustained huge losses on bad mortgage securities and derivatives.)

So the American Enterprise Institute, a right-leaning think tank, invited Gramm in Friday to make his case and take some questions. The crowd was heavy on the conservative Washington notables — Cato Institute chairman emeritus William Niskanen, McCain campaign talking head Nancy Pfotenhauer and Iraq War architect Paul Wolfowitz were three that I recognized. But rabble off the street were welcome as well. (Read a critique of Phil Gramm's explanation of the financial crisis.)

Gramm, who before he got into politics was an economics professor at Texas A&M, took to the task with relish. He was dismissive of the charge that Glass-Steagall repeal has been a big problem. "Europe never had Glass-Steagall," he said. "So why didn't this happen in Europe rather than here?" On derivatives he was a bit more nuanced: All he and the Clinton Administration were trying to do with the 2000 bill, he claimed, was establish that interest-rate and currency swaps — two relatively uncontroversial forms of over-the-counter derivatives — couldn't be regulated as futures by the CFTC. At the time, credit-default swaps weren't on the radar, and the bill didn't prevent the Securities and Exchange Commission or bank regulators from stepping in with new rules.

They never did so, and Gramm acknowledged that the credit-default swaps market as it developed was "so opaque that nobody knew who was holding the bag." But he said he didn't buy that it was a major precipitating cause of the crisis. What was? "It was a confluence of two forces," he said. "Alone, neither would have created a cataclysm."

One force was a Federal Reserve interest-rate policy that was appropriate for the previous "inventory cycle" recessions since World War II, but didn't fit at all the collapse of a speculative bubble in the stock market in 2001 and 2002. Consumers, and the housing market, weren't in a recession at all — and the Fed's super-low rates precipitated a bubble. "We inadvertently stimulated an industry that was already in boom conditions," Gramm said. "This changed everything. It changed consumption behavior, it changed lending behavior."

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The other factor was where Gramm's culpability came in: "the politicization of mortgage lending." Gramm trotted out the Republican bogeymen of the fall election campaign: Fannie Mae, Freddie Mac and the Community Reinvestment Act. But then he did something really interesting. He didn't give them all the blame.

Instead, he said they were simply part of a decades-long, bipartisan push — from Capitol Hill, the White House, the Department of Housing and Urban Development (HUD) and even bank regulators — for ever more mortgage lending on ever easier terms. Gramm said he arrived in Washington in 1978 convinced as an economist that subsidizing housing and mortgage lending was a bad idea, but was soon won over to Washington's pro-housing consensus. During his 1990 U.S. Senate campaign, he said, polls revealed that 82% of Texas homeowners supported him over his Democratic opponent. After that, "You didn't have to convince me that homeownership was a good thing," he joked. (See pictures of Americans in their homes.)

The result was an environment in which official Washington seemed to believe that no home loan could be a bad home loan. "What we did and what we started was not just to push banks to make marginal loans, but to give them an excuse and to give them regulatory cover," he said. "Countrywide became HUD's poster child for what a good lender was like."

Gramm's solution is tougher mortgage regulation. Down payments should be at least 5%, borrowers should be required to provide tangible proof of income, adjustable rate mortgages should only be approved if the borrowers can afford to make the payments after the rates have adjusted upward, home equity loans should be restricted, etc.

The Great Deregulator has thus become a believer in regulation, at least in the messed up mortgage market. That's because the alternative to concluding that the mortgage market is in need of serious reform, Gramm said, is to conclude that financial capitalism doesn't work. And he's nowhere near ready to conclude that.

"Why are you just so afraid to say this whole system is bankrupt and the whole thing should just be reorganized?" someone from the audience asked after Gramm finished his lecture. "Why don't you just let it go?"

"First of all I think that's a good question," Gramm responded. But then he offered something of a personal credo: "I would be a little concerned about letting capitalism go, because it made me prosperous and free and it made my country prosperous and free."

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• Justin Fox
• The former Senator defends his role in financial deregulation, points a finger at the Fed, and pushes for new regulations on the mortgage industry