I mean, really, what else is there? Our elected leaders in Congress are effectively socializing the financial industry one chunk at a time by using taxpayer money to secure mistakes and bad debt. So what am I talking about? The $700 billion (yes, BILLION) bailout that our government is now working through Congress.
Look, I won't even pretend to understand everything that's been going on. I'm convinced that no one truly understands the full shebang, though there are some very smart people who seem to have a very good handle on it. I've compiled a bunch of links below with a wide variety of analysis for you to ponder, if you want more details. Rather than go into excruciating detail, I'll try to sum up some of the general impressions and consistent themes in this post so you get a basic idea of what's going on, and you can form your own conclusions.
I blogged yesterday on how Democrats got us into this mess (but, to be fair, Reps were more or less complicit, by lack of prevention if nothing else...until just a few years ago, anyway), so go check out that post if you haven't seen it yet. While it was their policies that drove the overriding scenario, there were plenty of other factors that capitalized on the policies they set up which exacerbated the weaknesses of those policies. All together, a snowball rolled itself into a gigantic mountain-sized hunk of ice that we're now having to dodge. One of those factors is the politically correct lending practices of Fannie and Freddie (hm...political correctness at the expense of common sense? do you hear liberalism at work here?).
"In an attempt to increase homeownership, particularly by minorities and the less affluent, an attack on underwriting standards was undertaken by virtually every branch of the government since the early 1990s," [Stan J. Liebowitz, economics professor at the University of Texas at Dallas] Liebowitz writes. "The decline in mortgage underwriting standards was universally praised as 'innovation' in mortgage lending by regulators, academic specialists, (government-sponsored enterprises) and housing activists."
He continues, "Although a seemingly noble goal, the tool chosen to achieve this goal was one that endangered the entire mortgage enterprise."
As the huge investment banks purchased subprime or other risky loans, the problem spread beyond Fannie and Freddie into wider markets. When the risky loans began to see defaulting, the effects were widespread (or, as I quoted in my post yesterday, Fannie and Freddie blew up, and many others got caught in the explosion).
Before we can find our way out of this mess, we need to understand how we got here and look at other times in our history when we've seen financial difficulties. As with any free market, the American economy experiences periods of both positive and negative growth. It wouldn't be a vibrant, active economy if it didn't. The key is to maximize the things that promote positive growth and minimize the things that promote negative growth. What we're experiencing now is not unique to American history.
But the turning point of the Panic of 1907 came on a swap of assets, according to Robert F. Bruner and Sean D. Carr in The Panic of 1907. On the weekend of November 3-4, 1907, it was feared that a stockbroker, Moore & Schley, would fail on Monday because the assets on which its working capital was secured, common stock in Tennessee Coal & Iron, was of questionable value. In other words, nobody knew if Moore & Schley was underwater or not.
Then the Great Depression began in 1929 because of inflation and Fed failures to prevent a decline in money supply. It was worsened and lengthened by the implementation of tariffs, decrease in trade, and raising taxes through the roof (sound familiar to any Democrats running for office today?). History shows us that what really pulled us out of the depression was the hyper-productivity of World War II.
Then we saw the Savings & Loan debacle in the mid-80's:
That was the coup de grâce for the S&Ls. They had been buffeted by so many government regulations for so many years that many of them were already struggling to stay solvent. When the real estate investors walked from their devalued investments after 1986 and returned the devalued collateral to the lenders, almost everyone lost. The taxpayers and anyone interested in freedom took a hit, the "evil, greedy" owners of the S&Ls got blamed and punished, but the Senators and Congressmen who "solved" the problems they caused got re-elected--with raises.
Immediately after that, the stock market crashed again in 1987:
The Reagan administration did nothing in 1987, despite outrage in the media at the government's failure to live up to its responsibility, as seen in liberal quarters. But nothing was apparently what needed to be done, so that markets could adjust.
As you can see, financial crises are a normal occurrence for an open market. This is nothing new, so let's keep things in perspective. This last quote, in particular, also gives us a clue as to how we should proceed now, in the current financial crisis. Some are saying that granting the Treasury Secretary, Henry Paulson, a blank check for $700 billion to bail out whomever he feels needs it is necessary to avert the next Great Depression:
The numbers are spelled out in the US News link below, and are interesting to chew on. Here's another analysis that seems to agree:
It seems to me that the crucial prudential judgment to be made right now is this: How much time and freedom of action does the political process have to improve the bail-out before the time and/or complexity of the process serves to undermine the confidence-building impact of the bail-out? My view is, unfortunately, "not much." We need to pick our battles, and focus more on trying to make the bail-out as flexible and temporary as practicable, than on trying to get a well-designed regulatory reform in the time and policy space available to us.
But, not everyone thinks this massive bailout is a good idea. Here's a cross-section of skepticism and alternatives:
And:
Mr. UNTERMYER. Is not commercial credit based primarily upon money or property?Mr. MORGAN. No, sir; the first thing is character.Mr. UNTERMYER. Before money or property?Mr. MORGAN. Before money or anything else. Money cannot buy it.
Amen to that! And:
Everyone should read the actual text of the proposed bailout plan the administration is sending to Congress. It's clearly not a final version (the part about only purchasing from financial institutions headquartered in the US has already been changed, as Kathryn notes below), but it's the essential shape of the proposal. See if you can read through the whole of it without concluding that everyone in Washington has lost their minds.
I'm not an economist, and I wouldn't pretend to be one, but just as an observer of Washington, and as someone who has worked on the Hill and at the White House, it is simply apparent from this draft that this program will get completely out of control very quickly. It gives the Secretary of the Treasury essentially unlimited power to use $700 billion to make purchases the scope of which is defined very loosely and vaguely. It even says:
Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.
Even if Hank Paulson were the all knowing god of economics, would it make sense to give this kind of power to the treasury secretary for the next two years just forty days before an election? Shall we go through our mental list of who an Obama administration (or a McCain administration for that matter) is likely to put in that post? And doesn't it make sense to establish some kind of process for deciding how specifically to use the money? To put in place some criteria of prioritization? Some real-time oversight? Isn't transparency crucial to the proper functioning of our modern financial system? And how is everyone in both parties suddenly satisfied that this approach is the only one that could work?
Most of us are in no position to question the view, espoused by just about every economist heard from in the past few days, that some serious action is called for and soon. But the way this is all being pushed through, and the character of the proposal itself, are deeply disconcerting.
And:As it is, it also doesn't make much sense for the federal government to spend (which means borrow) as much as $700 billion -- or a total of $1 trillion, when you add in the other bailouts -- in order to stave off a credit crunch.
Alas, I do not see President Bush pushing a fiscally conservative bailout plan. At the very least, Bush should have opened with a smaller price tag, say, $100 billion.
And:At the same time, socializing economic risks come at a great cost to the American economy by misallocating capital, inviting political manipulation, and putting taxpayers on the hook for possibly a trillion dollars. Such a large takeover by the government will surely be accompanied by adverse, unintended consequences. Already, other companies and industries are lining up at government's door asking for their own bailout. And if the government incurs $700 billion in debt to finance the purchase of bad bank assets, the danger that it will eventually monetize that debt and trigger dramatic inflation is very worrisome
"The Treasury's bailout proposal will likely cause more harm than good," said Club for Growth President Pat Toomey. "Instead of launching the largest government bailout since the Great Depression, the government should be implementing policies to stimulate the economy. These include, at a minimum, cutting the tax on capital gains, cutting corporate taxes, reviewing and considering repeal of FAS 57 which requires banks to mark-to-market most securities, and emphasizing the need for a strong dollar."
"Finally, many politicians are using the current struggle to make free-market capitalism the scapegoat for the economy's troubles, when in fact, government played a major role in getting us into this mess in the first place. Free-market capitalism is alive and well, and we should be embracing its tenets, not rejecting them."
Another part of the problem is overall confidence in our financial leaders in the industry.
Whether Paulson and Bernanke can do that, however, is another question. This comes back to where perception is reality. If people think their bank is on the doorstep of collapse, they'll go pull their money out, ensuring that collapse takes place. This happened recently with the closing of the IndyMac bank on a single statement from a politician (naturally), and again with United Airlines, when a fluke of Google searching returned a news report of United's bankruptcy, thus triggering a massive sell-off of United stock. When people realized the report was several years old, things recovered...but you see the point.
Still, there are legitimate questions about Paulson himself:
Listen to what he said about the subprime crisis in April 2007:
U.S. Treasury Secretary Henry Paulson said…the housing market correction appears to be at or near its bottom and that troubles in the subprime mortgage market will not likely spread throughout the economy.
"We've clearly had a big correction in the housing market. Retail housing was growing for some time at a level that was not sustainable," Paulson said in a speech to The Committee of 100, a business group in New York promoting better Chinese relations.
"I don't see (subprime mortgage market troubles) imposing a serious problem. I think it's going to be largely contained," he added.
Listen to what he said about the subprime crisis in May 2007:
JIM LEHRER: One final question, and a third subject. How worried are you about the slump, so-called slump in the housing market in the United States right now? And what kind of damage, if any, is it doing to the economy?
HENRY PAULSON: Well, let me say this. As you've pointed out, we've had a major housing correction in the U.S. The U.S. economy had been growing at a rate that was unsustainable and, in housing, it had clearly been growing at a rate for a number of years.
That correction was inevitable; that correction has now been significant. We think it is near the bottom. It will take a while to work its way through the system. Fortunately for us, we have a very diverse, healthy economy. There are other things that are positive that are offsetting that.
…So my very strong view is that we are near the bottom and that this will be contained as — the housing will be contained, and we're fortunate that we have a diverse, healthy economy.
Listen to what he said about the subprime crisis in August 2007 while on a trip to Beijing (more on Paulson's ChiCom ties in a moment):
Treasury Secretary Henry Paulson said on Wednesday the repricing of credit risk was hitting financial markets, but U.S. subprime mortgage fallout remained largely contained due to the strongest global economy in decades.
Speaking to reporters in Beijing, where he ran into stiff resistance in persuading Chinese officials to let the yuan strengthen more quickly, Paulson said markets were unwinding excesses in U.S. mortgage and leveraged buyout financing.
European and Asian stocks tumbled on Wednesday following a sharp drop in U.S. shares on Tuesday, after American Home Mortgage Investment Corp. said it might have to liquidate assets, fuelling worries over problems in the subprime mortgage market spilling over into other sectors.
"The market has focused on this. There's a wake-up call, and there's an adjustment to this repricing of risk, but I see the underlying economy as being very healthy," he told reporters before leaving Beijing.
Paulson added that he did not see anything that caused him to reconsider his view that the economic damage from the housing correction was "largely contained," despite losses in a number of financial institutions and a long period for subprime issues to move through the economy.
Here's Paulson in October 2007 assuring us that he had no interest in government bailouts while touting the economy's health again:
Paulson: Subprime help needed - but no bailout
Treasury Secretary Hank Paulson is walking a fine line, pushing the need to help troubled mortgage borrowers without rewarding past risky behavior.
"I have no interest in bailing out lenders or property speculators. Still, we must recognize the very real harms to families affected by the housing downturn," Paulson said in prepared remarks for a speech given Tuesday at Georgetown University.
…Although the speech seemed to mark a step up in activism on the part of the Treasury Department, Paulson was quick to point out the limitations of the government's approach during the question and answer following the talk.
Referring to HopeNow, he said, "This is a 100 percent market-based solution. I believe in markets. The government is doing nothing here but facilitating people coming together."
Paulson also downplayed the possibility that the housing crisis could plunge the nation into recession. "I've seen turbulence in the market a number of times and I can't think of any situation where the backdrop of the global economy was as healthy as it is today," he said.
And here's Paulson in May 2008 declaring the credit crisis on the wane:
The credit crisis that has scorched international financial markets is on the wane but more shocks are ahead, U.S. Secretary Treasury Henry Paulson told the Wall Street Journal in an interview published on Wednesday.
'The worst is likely to be behind us,' Paulson told the paper, in one of the most optimistic comments by a top U.S. finance official since sub-prime mortgage losses set a domino effect in motion in mid 2007.
Paulson said it would take 'some months longer' for the situation to stabilize and cautioned there would likely be further 'bumps along the road'.
Is this really the guy we should be confident in to fix this problem with a blank check? Add to that the fact that he will not have any oversight or accountability, his history of supporting mandatory global warming schemes, his open promotion of Chinese interests (and it has now come out that foreign banks will also be included in this bailout), and Paulson's own statement that this whole thing will probably not stop at $700 billion, and we have real reasons for concern!Regardless of all this, we have to move forward somehow. So, what do we do? Again, I won't pretend to have the answers, but here are some things that seem to make sense:
If every subprime loan went bad, and banks recovered just 40 cents on the dollar, the bonds would still be worth 40 cents. But the market
has pushed bonds well below that level, taking down venerable firms and causing the government to consider draconian solutions.
In other words, mark-to-market accounting, not the reality of the economy or the actual credits, has created much of the financial turmoil that has shaken the world. Imagine if you had a $200,000 mortgage on a $300,000 house that you planned on living in for 20 years. But a neighbor, because of very special circumstances had to sell his house for $150,000. Then, imagine if your banker said you had to mark to this "new market" and give the bank $80,000 in cash immediately (so that you would have 20% down), or lose your home. Would this reflect reality? Not at all. Would this create chaos? Absolutely.
But what if Merrill was allowed to hold those securities on its books, without marking them to an illiquid market? The company would not have had to take a $24 billion loss. And maybe investors in Merrill Lynch would not have had to settle for a $29/share buyout from Bank of America, a 60% mark-down from the share price less than a year ago. After all, everyone knows those loans were worth more than 22 cents. The actual performance of the bonds was much better than the price, and Lone Star was able to take advantage of the fact that Merrill was over the proverbial knee of accounting rules.
In essence a firm could sequester, or firewall off these specific assets from the rest of its balance sheet, and either finance this itself, or bring in outside financing. The firm would promise to hold the securities to maturity, or until government insurance was no longer needed when it liquidated the assets. All of these deals could be settled in the private sector, in multiple locations with the government looking over the shoulder of each deal.
And:
Second, repeal Sarbanes-Oxley. It failed with Freddy Mac. It failed with Fannie Mae. It failed with Bear Stearns. It failed with Lehman Brothers. It failed with AIG. It is crippling our entrepreneurial economy. I spent three days this week in Silicon Valley. Everyone agreed Sarbanes-Oxley was crippling the economy. One firm told me they would bring more than 20 companies public in the next year if the law was repealed. Its Sarbanes-Oxley's $3 million per startup annual accounting fee that is keeping these companies private.
Third, match our competitors in China and Singapore by going to a zero capital gains tax. Private capital will flood into Wall Street with zero capital gains and it will come at no cost to the taxpayer. Even if you believe in a static analytical model in which lower capital gains taxes mean lower revenues for the Treasury, a zero capital gains tax costs much less than the Paulson plan. And if you believe in a historic model (as I do), a zero capital gains tax would lead to a dramatic increase in federal revenue through a larger, more competitive and more prosperous economy.
Fourth, immediately pass an "all of the above" energy plan designed to bring home $500 billion of the $700 billion a year we are sending overseas. With that much energy income the American economy would boom and government revenues would grow.
And this, from Mike Pence, one of the few voices of fiscal sanity and responsibility in Washington:
"Our financial markets are in turmoil and the Administration was right to call for decisive action to prevent further harm to our economy but nationalizing every bad mortgage in America is not the answer.
"The Administration's request amounts to the largest corporate bailout in American history. Congress should act, but should act in a way that protects the integrity of our free market and protects the American taxpayer from more debt and higher taxes.
"To have the freedom to succeed, we must preserve the freedom to fail. Any solution to our present crisis must preserve our essential economic freedom.
"Congress should delay consideration of any legislation until the facts and competing solutions can be fully debated, consider alternatives to massive government spending and figure out how to pay for the solution through budget cuts and reform instead of more debt or taxes.
"Congress must not hastily embrace a cure that may do more harm to our economy than the disease of bad debt
"Before any bailout is enacted, Congress must set itself on an unalterable path to truly overhaul these Government Sponsored Enterprises from the top down and hold those accountable, in and out of government, who drove them, and our financial sector, to the brink of bankruptcy. Some important work is already underway, but additional reforms are needed. Even now, we read that the Treasury Department is using Fannie Mae and Freddie Mac to purchase many of these bad mortgages while it seeks the authority to purchase them all. Congress should also ensure that these GSEs can no longer pose a systemic risk to the entire economy while placing them on a brisk schedule to be fully private companies with no guarantee of taxpayer support in times of trouble. And Congress should immediately repeal the Affordable Housing Fund, which will actually siphon off capital from these under-capitalized entities, in order to fund left-wing, third party organizations.
"Next, Congress must consider all available options to put our nation's economy back on its feet. There are no easy answers but there are alternatives to massive government spending.
"Indexing the Capital Gains tax to inflation (which the Treasury Department can do without any help from Congress), or suspending it for one year, would release an enormous amount of capitol into our economy. Passing an energy bill that lessens the price of gasoline at the pump through more domestic drilling, wind, solar, nuclear and conservation would bring relief to family budgets and create American jobs. Establishing an entitlement reform commission to develop bipartisan solutions to the crushing weight of entitlements would strengthen the American dollar.
"These and other alternatives to a massive federal bailout must be fully considered and debated before Congress acts.
"Finally, any new expenditure of taxpayer dollars should be paid for with fiscal discipline and reform. If Congress decides to spend nearly 1 trillion dollars on a corporate bailout, it must find budget savings to prevent that cost from being passed along to the American people.
"We must address this crisis with forethought, creativity and fiscal discipline. Protecting the American taxpayer from higher debt and taxes and renewing our belief in the power of the free market must be our guide."
I heard Dave Ramsey on the radio this morning, and he said, in effect, that he has heard from many, many people who are not hurting very badly themselves, but are very afraid that bad things will happen (run on banks, foreclosures, etc.). The danger is the self-fulfilling prophecy, and he suggested just sitting tight. The way he put it was that when you're on a roller coaster, you only get hurt if you jump off. Just ride it out, and you'll be okay.So, to recap...
Our national leaders are proposing the single biggest bailout in history, which amounts to handing a blank check that will be at least $700 billion (and will likely spiral much, much higher) to a man with a history of NOT protecting the American taxpayer. They are reacting in a knee-jerk way, and desperate to look like they are doing something to fix the problem, when the reality is that they created it and do not understand how to fix it because they don't understand that THEY are the problem.
I don't know about you, but I have already called my Senators and demanded they not support this bailout. There are other ways to correct things, but more government intervention -- especially in an unspecified amount of at least $700 billion -- is NOT the answer. My fear is that our government will not have the spine that Reagan did, and force a 'solution' that will be far, far worse down the road. Are we going to feel some pain in the coming months? Maybe. But, if the right corrections are put in place and government is kept out of things as much as possible, that pain will likely be minimal. If we allow the government to do what they want, our children and grandchildren will experience pain far, far beyond what we will endure in the next few months.
There's my two cents.
Sources:
http://corner.nationalreview.com/post/?q=ZGE5MmE0YmRiODA3YTRiNzFlN2FmNDU5N2I0ZDc3YTE=
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http://www.ftportfolios.com/Commentary/EconomicResearch/2008/9/22/heres_a_plan_to_avoid_a_new_rtc
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