Thoughts on “The Big Bailout”

The biggest bailout plan (so far) will continue to be revised in an attempt to win approval of a congressional majority. The goal of the Emergency Economic Stabilization Act of 2008 is to put the brakes on the unwinding of the largest debt and leverage bubble in history in the hope of preventing a crash.

Nobody feels good about this extraordinary proposal. It is terribly expensive, it expands government power tremendously, it strikes many as being terribly unfair for rescuing fat-cats, it is supported even by some who acknowledge that it may not work, and it is (at best) the lesser of two evils.

The partisan politics of the bailout negotiations have been fascinating. A majority of congressional Democrats favor the bailout, even though polls show most Americans dislike it. A majority of Republicans have resisted the bailout. This is a very high-risk strategy, because if the financial system collapses before Election Day, the public probably would take it out on the party currently in the White House, thereby guaranteeing a Democratic triumph in the November elections.

One particularly cynical aspect of the bailout negotiations was the Democrats’ request for 20 percent of any profits that the Treasury might make on the eventual sale of assets that they would purchase under the plan; those profits would go to groups that serve as slush funds and lobbyists for Democratic special interests. The profits would go there instead of back to the Treasury. Republicans naturally balked at agreeing to fund the Democratic political machine as a condition of trying to rescue the country.

The heart of the plan is to allow the Treasury to purchase bad mortgages from various financial institutions — financial instruments that nobody knows how to value, for which there are no market prices, and indeed, for which there is no market at all. Few financial experts, however, believe that the Treasury can save all the banks and other financial companies that are choking on these depreciated, possibly worthless, assets. Officially, there are 117 banks on the FDIC’s “in trouble” list, but private estimates say it’s more like 1400 banks. How will Treasury decide which firms to save? Will there be a merit system, or will it all boil down to who has the best personal connections and most influential lobbyists?

Economics teaches us that policies have costs as well as benefits. While preventing the financial system from collapsing is something that most of us would prefer, the bailout plan will interfere with markets correctly pricing assets that are currently mispriced. That is, in an effort to prop up floundering financial institutions, the Treasury interventions are designed to keep housing prices from falling. But housing prices got way out of balance in recent years, stretching beyond the affordability of many Americans. The negative side of falling housing prices is a lot of pain to homeowners, particularly those who would end up with negative equity, as well as the financial institutions holding mortgages and mortgage-backed securities (MBSs). That is a huge negative, because the MBSs are spread throughout the global financial system, which is tottering as falling housing prices erode the foundation of the huge financial house of cards resting on them. But if the market prevails, with all its merciless short-term pain, the outcome will be more affordable housing prices — a boon to younger Americans just entering the workforce.

The original wording of Treasury Secretary Paulson’s proposal included a provision that would make his office’s decisions unreviewable and irreversible. At this moment, I don’t know if that language remains intact. It probably doesn’t, but just the fact that someone would dare to propose that an unelected official and his team would have sole discretion over the use of $700 billion of taxpayer monies is incredible. It would utterly banish the “checks and balances” principle of our representative system of government. I rarely agree with Speaker of the House Nancy Pelosi, but when she told “60 Minutes” that the proposal asked for “czar-like powers,” she was spot-on.

What, exactly, should Uncle Sam do? I am asked that question frequently these days. The short answer is “I don’t know.” Neither does anyone else. I’m not sure that King Solomon, with all his legendary wisdom, could solve this problem. The policy-makers certainly will try to preserve the existing system, even though that system is full of financial rot, such as excessive debt and leverage. On the other hand, the market — that is, all of us as buyers and sellers — will ultimately assert itself, correct the excesses, and price assets rationally, as surely as water finds its way to the sea. All this economist can do is sit back and watch this extraordinary drama unfold.

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  • http://arkanabar.blogspot.com Arkanabar Ilarsadin

    “Will there be a merit system, or will it all boil down to who has the best personal connections and most influential lobbyists?”

    Perhaps merit will be the basis for the guidelines, but those with enough lobbyists and connections will get exceptions. When politics, instead of market forces, drive business decisions, then those with political power always get extra slices of the pie, always taken from those who have earned it.

  • elkabrikir

    Now is a perfect time for a “State of the Union” address.

    The Constitution and the intent of our Founding Fathers must be examined closely.

    I think this current crisis is only a symptom of the potentially terminal cancer from which the USA suffers.

    The bloated Federal government has suffocated the states to the point where federalism is about dead. In most areas of government from education to highway funding to speed limits to drinking ages to right to life issues we have a unitary system of government.

    And while I’m not condemning a unitary form of government (such as what the UK has) that form of government was not the intent of the Founding Fathers. Therefore, the Federal government must be drastically slashed and power devolved from the Congress.

    Term limits on Congress are a must. Constituents are not angels. They vote their self interest. That’s why pork barrel projects and earmarks are essential for both representatives and voters. Nobody, and I mean Soloman himself or Rick Santorum should have a career as a representative. Power corrupts and absolute power corrupts absolutely. If we are too selfish as a people to vote them out, term limits will do the trick. After all, it is the career men and women in Congress who played an instrumental role in this financial meltdown. (and it is a meltdown)

    If the purpose of career congressmen is to provide stability in and a “memory” for the Congress, this current scandal proves a lifetime job for senators and representatives hasn’t served anybody but themselves and special interest groups.

    Next, reduce, reduce, reduce–yes slash– the budget of the federal government. Let the financial markets crash, don’t expand universal health care…..eliminate public healthcare for all. Get rid of free food programs sponsored by the federal government. Stop paying for section 8 housing. Don’t bail out any private industry. LET IT FAIL. LET THEM ALL CRASH.

    Chemotherapy is no fun for anybody who has ever experienced it. Family members suffer too in dramatic ways. Watching your beloved lose their hair and vomit and lay in bed listless for days at a time is torture. However, very often the cancer is destroyed so that the person may live.

    I have been telling those close to me for years that we need a serious depression in order to regain our soul as a nation. This financial crisis has been caused by many factors which have their genesis in greed and the passions gone wild. As Americans we have become self indulgent, complacent, dead souls. Decorating for Halloween and Christmas, both Christian holidays (read holy days) has become the pagan pastime for many including those who call themselves Christian. People have gone into debt to finance their superficial lives of vacations and new TVs and seasonal comforters and electronic gadgets.

    A depression will hurt most economically and sensually. Correct prioritization will occur. Families and Churches and personal responsibility will regain their proper place in our society.

    I know this sounds extreme, but tough love is in order or chaos and anarchy will become widespread and our nation will be unrecognizable as the one for which my ancestors fought in 1776. God willing we can yet save our individual souls with God’s grace and our country might be spared too. They are inseparable.

  • elkabrikir

    PS Now you know what I do when my baby gets me up waaaaaay to early. Got to make lunches now for the hoards.

  • DonnaMaria

    Wow, elkabrikir! I am thoroughly impressed, and I have to admit, I agree with you. Your lucid argument should be shared with our representatives, and I pray that they are getting some good advice like this. God bless you, and God help America.

  • gk

    I watch in amazement as our entire nation squirms. Oh Lord come to our assistance. Oh lord make haste to help us!

  • Warren Jewell

    elkabrikir calls for economic sackcloth – if only . . .

    $300 billions would take us over the mortgage crisis, which was the greatest cause of ‘meltdown’. It does seem that such ‘solution’ requires us to pay $400 billion in ‘commissions’ to those who having gotten us in this mess supposedly will get us out of it. Rather than effective ‘commissions’ I think indictments and trials are called for.

    (BTW, $700 billions is over $2,300 more debt for every man, woman and child of us. And, do not let us forget that debt composites like interest on savings; our grandchildren just may spit on our graves . . .)

    Economic (and cultural, social, etc.) depression may be more expensive, but more effectual ‘solution’, since not only will it call to our spirits, but also to taking long looks at the ‘geniuses’ we elect.

  • kent4jmj

    Of possible help.

    HR 2755 is Dr. Paul ’s bill to abolish the Board of Governors of the Federal Reserve System and the Federal Reserve banks and to repeal the Federal Reserve Act.

    http://www.cnn.com/2008/POLITICS/09/29/miron.bailout/index.html
    Commentary: Bankruptcy, not bailout, is the right answer

    Miron: Rather than a bailout, government should let firms go bankrupt
    Talk of economic Armageddon is scare-mongering,

    Editor’s note: Jeffrey A. Miron is senior lecturer in economics at Harvard University. A Libertarian, he was one of 166 academic economists who signed a letter to congressional leaders last week opposing the government bailout plan.

    Ron Paul: Corporatism – not free markets
    http://www.youtube.com/watch?v=ticytEUvVhQ

    http://digg.com/political_opinion/Fox_News_calls_Ron_Paul_an_economic_genius

  • kent4jmj

    http://70.32.73.101/contactcongress.php#. from Campaign for Liberty web site.

    Dear Representative/Senator:

    I urge you to oppose Treasury Secretary Henry Paulson’s $700 billion bailout of Wall Street.

    The bailout:

    - violates the Constitution by authorizing the Treasury to purchase bad mortgage-related assets.
    - greatly enlarges our national debt and further erodes the value of our dollar.
    - bails out Wall Street at the expense of Main Street by putting taxpayer funds at risk while freeing up banks to continue making bad loans.

    Already, hundreds of billions of dollars have been spent bailing out Freddie Mac, Fannie Mae, and AIG, and the final price tag for those moves could result in trillions of dollars being added to our national debt.

    The bailout plan ignores the fundamental reason why our economy is in such crisis: the Federal Reserve and the federal government’s interference in the market and manipulation of the money supply spurred major banks and other corporations to back bad mortgages.

    Adopting this proposal will only continue the same flawed practices and greatly worsen the long-term effects.

    The way out of this current economic crisis is to return to the principles that made this nation great: constitutionally-limited government, personal freedom, low taxes, and a belief in sound money.

    I am asking that you strengthen our economy by taking action to:

    1.) End the Bailouts – The Federal Reserve’s authority to use taxpayer money to bail out Wall Street must be revoked and the Fed must be held accountable.

    2.) Cut Taxes and Curb Regulation – If we really want to stimulate businesses and revive the market, we need to cut corporate and capital gains taxes, spurring investors to come back to the market and making it easier to attract new workers and clients. It is also time to repeal failed legislation like Sarbanes-Oxley, which has crippled capital markets, diminished our competitiveness, and greatly harmed small businesses.

    3.) Reduce Spending – We must freeze all non-entitlement spending by the federal government at current levels and eliminate wasteful spending both domestically and in our trillion-dollar overseas budget. Our debt has to come down, and it won’t until we start living within our means. Reducing spending and cutting the debt will strengthen our dollar and reduce our cost of living.

    4.) Reform the Monetary System – If we are to have long-term economic progress, we must end the system of printing money out of thin air. The current laws limiting the circulation of gold and silver-backed currency must be overturned.

    Thank you for your attention in regard to this matter. I will be closely watching as events unfold over the next several days. A vote to approve the bailout plan will cost you my vote for your next reelection bid.

    Sincerely,

    [Your name]

  • elkabrikir

    Kent4jmj:

    exactly! I am going to cut and paste your succinct letter and email it to my Representative, John Spratt (D). My Senators Jim Demint and Lindsay Graham are already on board.

    One should note that entitlements are a major cause of Federal government insolvency. I’m sure a Democrat, say FDR, for example invented the term.

    Get rid of most entitlements as we know them. There are no pennies in the piggy bank. Shake it as hard as you want, there’s nothing there. Massive wealth transfers will only make the nation as a whole much poorer, and quickly. We need a complete paradigm shift vis-a-vis the role of the government’s role in a democratic society and its economy.

    I fear only an economic disaster (which is the natural consequence of greed and government run amok) and all it entails socially is the cure.

    Thank God, Jesus is the answer to all that ails us. He did not come with a political or economic policy. The Doctor of Souls will heal us and we will heal our nation.

  • kent4jmj

    I apologize for the length of this one but since it was an email I am unable to post a link. The four points for solving this problem are concrete no nonsense solutions. Obama McCain are not even close to this kind of analysis, understanding and solution to the economic crisis we are in.

    SOMETHING WICKED THIS WAY COMES
    By Darrell L. Castle
    Constitution Party 2008 Vice-Presidential Candidate

    Crystal water turns to dark
    Where ere it’s presence leaves it’s mark
    And boiling currents pound like drums
    When something wicked this way comes.
    (Original poem by Ray Bradbury)

    Laws, originally evolving out of the New Deal legislation written in response to the great depression, once protected the American financial system. Starting in the 1990’s, in response to intense lobbying efforts by the financial industry, those laws were stripped away. The most important one was Glass Steagall which separated commercial banking from the type of investment work of a stockbroker. Glass Steagall was signed out of existence in 1999 by President Clinton and less than 10 years later the entire financial system is bankrupt. Another law, known as The Uptick rule, prevented companies from crashing due to large scale shorting of company stock. A company’s stock could not be sold short as long as it was in continuous decline. Short sellers had to wait for an uptick in the stock before shorting. The Uptick Rule ended in 2007 just about one year ago.

    The end of the laws protecting the American public from unscrupulous speculators disguised as bankers caused changes in the way our banks do business. The banks decided that simple banking, that is loaning money at interest, was not profitable enough so they began investing in risk paper. This changed them from banks into something akin to casinos. Now that the gamble has finally failed these new casinos are asking the American taxpayer to pick up the tab for their greed and excess.

    Now all this risk paper, known in the financial world as “the derivatives market” is collapsing. Derivatives are not stocks or bonds or anything else substantial. They are simply paper derived from other paper such as futures and options. Futures and options are exchange traded derivatives, but the largest group of derivatives is not even traded on the exchanges. These are called “counterparty derivatives” and consist of such things as collateralized debt obligations, mortgage backed securities, and credit default swaps. It is estimated that total derivative exposure of the financial system is between one quadrillion and one and a half quadrillion. A quadrillion is 1000 trillion. To put that in perspective, the entire GDP of all the world’s countries in 2007 was approximately 60 trillion. GDP is basically everything that is produced for sale. The American people are now being asked to shoulder the risk of the entire derivatives market and if they do, 700 billion will prove to be a drop in the bucket.

    The rapid increase in the price of fuel during the last year is a good example of the destructive nature of the derivative market. Much of the price increase was due to speculation in futures especially by Goldman Sachs (Henry Paulson’s company) and Morgan Stanley. These companies, it is believed, are responsible for about 50% of the speculative price of oil. What that means is that every time we buy gas we subsidize the parasites who feed off us so they can continue their existence. We are now being asked to accept increased taxes to cover their losses.

    Now that this mess has been created, what should be done to resolve it with the least amount of pain for the American People?

    1. All failed and at risk financial companies, not just those we constantly read about, should be seized by the F.D.I.C. (Federal Deposit Insurance Corporation) and put into involuntary Chapter 11 Bankruptcy. The money people have on deposit would carry the same FDIC guarantee as before so there would be no need for panic. The Chapter 11 trustee would examine the assets of these institutions and all derivative paper should be discharged in bankruptcy. The American people should not accept one penny of risk for derivative paper. The real assets such as mortgages on residential real estate should be separated and foreclosure should be indefinitely frozen. The at risk mortgages, whether subprime or not, could be written down to the current value of the property and re-amortized for a payment the homeowner could afford. The mortgage could then be returned to the bank for service or referred to Fannie and Freddie if the bank did not survive Chapter 11.

    2. The Federal Reserve Banks should be seized by Congress under Article 1 Section 8 of the Constitution. The FED banks could survive as Clearinghouse banks but the Federal Reserve that has robbed the American people for 100 years would cease to exist. The debt owed by the American people to the FED banks would be discharged in bankruptcy. Congress would take monetary policy from the FED and would simply stand in place of the FED through a monetary board. The FED credit computers would be transferred to Congress who would issue new credit (money) because under our present system 97% of all money originates as credit. This new credit would keep the system going and prevent collapse. It could all be done without interest and without debt. The backs of the international banking cartel would be broken forever and the American people through their elected representatives would control monetary policy i.e. money in circulation, interest rates, and credit availability.

    3. Glass Steagall and the Uptick Rule should be returned. Speculation in the futures markets of essentials such as fuel, food, and medicine should be banned or at least have a punitive tax say 50% attached.

    4. The Chapter 11 Bankruptcy Trustee would immediately move to seize any assets taken by the CEO’s and Boards of Directors from the bankrupt companies during the prescribed time period. No bankruptcy system would allow the CEO of the bankrupt company to keep hundreds of millions as in some of these cases. At the same time, the U.S. Attorney should be directed to examine the process for criminal sanctions where laws have been violated.

    In conclusion, this plan would return our monetary system to the American People and ignite a new wave of prosperity and liberty. Every crisis presents opportunities if we only look for them. This is an opportunity for the American people to throw off the yoke of debt bondage that has enslaved them for 100 years and gain direct control of monetary policy through representatives answerable directly to them. No particular philosophy has been respected or spared in this plan. I am more interested in saving the system for the American people than I am in respecting anyone’s philosophy of money or government. This is intended to be a simple, easy to understand, explanation of our banking crisis with a Consitutional solution.

  • elkabrikir

    thanks

  • kent4jmj

    From a friend of mine.

    China, the EU, Russia and other countries were sitting on Trillions of dollars, the result of our twenty year long trade deficit. They have had to do something with all those dollars and they have been buying all sorts of things in America. Among the things that they have bought are a lot of worthless CMOs. They want their money back, and the reason that Paulson wants to give it back is because otherwise they can sell their foreign reserves (dollars) and crash our currency.

    This is extortion.

  • kent4jmj
  • kent4jmj

    No Bailout bill then Marshall Law! As reported by rep. Brad Sherman.

    http://www.youtube.com/watch?v=HaG9d_4zij8

    And from a spiritual perspective.
    http://www.markmallett.com/blog/?cat=2

    TEN months ago on the vigil of the Feast of Mary, Mother of God, I wrote to you the words I was hearing in my heart:
    This is the Year of The Unfolding…
    Those were followed this spring by the words:
    Very quickly now.
    The sense was that events around the world were going to unfold very rapidly. I saw three “orders” collapse, one upon the other like dominoes:

    The economy, then the social, then the political order.

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