Treasury Secretary Hank Paulson accepts his winnings
As everyone knows the Wall Street crash of 1929 ushered in a period of profound and unprecedented hardship for the American people. Then President of the United States, Hoover was castigated as a do-nothing president, a failed leader, a man who allowed his nation to wither for the sake of laissez-faire purity and a lack of compassion. Unemployment soared, commerce ground to a halt, and thousands of Americans found themselves waiting in soup lines and living in shantytowns known as “Hoovervilles.”
Thus, the remedy was Franklin D. Roosevelt, who ushered into being a new era of massive government spending that forever and fundamentally altered the nature of American government. Roosevelt found work for people through public spending on public works projects and a host of financial reforms that gave rise to the modern welfare state. Roosevelt is beloved by many for being the man who saved the day, but some have argued that the true engine of prosperity that pushed America out of economic hardship was World War II, and that for all his good intentions, Roosevelt may have actually prolonged the Depression. In any event, he left us with a nanny state mindset accompanied by an unwieldy and monstrous federal apparatus that has grown like a hydra and threatens in time to devour America’s prosperity. As it turns out Hoover wasn’t all bad, and Roosevelt wasn’t all good.
For nearly the last century, the bedrock of American conservatism has been the notion of containing the size and scope of the federal government, and fostering a society of individual responsibility – rolling back the worst provisions and precepts of the New Deal. Now, on the eve of a federal intervention into the American economy of massive scale, there is a deafening silence from the Right, and a sinking feeling that we have reached another New Deal moment that will have profound consequences for America’s future.
To be certain, the issues involved in this current intervention are very complex, and their complexity leaves many (perhaps most) Americans without a clear understanding of what is happening, and what is at stake. At the root of the problem of course are the so-called subprime lenders. Essentially lending institutions that gives loans to individuals who are adjudged a higher risk. In other words, these are people with bad credit, questionable incomes, etc. The name “subprime” has nothing to do with interest rates, but rather the quality of the loan/borrower – like with meat, there’s prime rib…and not. These are risky loans given to high-risk borrowers, with a higher default expectation rate, and as such they come with higher interest rates. So, why would anyone lend to these people? The simple truth is greed…greed made easy by government meddling. A soaring housing market, low interest rates, and mortgages backed by Fannie & Freddie all contributed to a go-go lending atmosphere in which everyone was making money, and no one was asking questions. And why would they? Lenders simply made loans to risky borrowers then packaged and sold that debt to other institutions including, most notably, government-chartered mortgage lenders Fannie Mae and Freddie Mac, which gobbled-up these mortgage-backed securities and fed a false perception of government guarantees and low risk. Eventually, the party ended. As the housing supply exceed the demand, interest rates began to rise and payments on variable interest rate mortgages began to dramatically increase, these risky borrowers began to default and the declining value of their real estate made it impossible to refinance. Lenders were left holding the bag – billions of dollars in illiquid securities that created a credit crunch and practically frozen capital markets.
So, who’s to blame? In short: borrowers, mortgage underwriters and lending institutions, ratings companies, and of course, Congress. Continuing the trend of government interference into the marketplace and the ever-popular attempt by those on the Left to socially engineer a better world, Congress chartered the establishment of mortgage guarantors Fannie & Freddie – the so-called GSEs or Government Sponsored Enterprises. Their aim of course was to encourage lending and make the dream of home ownership possible for more people, but in reality, these GSEs were encouraged by Congress to lend to high-risk individuals who couldn’t find a lender under normal creditworthiness guidelines. In short, Congress attempted to elevate whole classes of people into homeownership who couldn’t afford it.
The problems with this were apparent however to anyone who cared to look. As early as 2005, then Fed Chief Alan Greenspan warned the Senate Housing, Banking and Urban Affairs Committee, “Without restrictions on the size of GSE balance sheets, we put at risk our ability to preserve safe and sound financial markets in the United States, a key ingredient of support for homeownership.” Greenspan went on to explain, “Without changes in legislation, Fannie and Freddie will, at some point, again feel free to multiply profitability through the issuance of subsidized debt…The strong belief of investors in the implicit government backing of the GSEs does not by itself create safety and soundness problems for the GSEs, but it does create systemic risks for the U.S. financial system as the GSEs become very large.” In May of 2006, U.S. Senator John McCain warned about the crisis from the well of the Senate and urged Congress to act, “For years I have been concerned about the regulatory structure that governs Fannie Mae and Freddie Mac–known as Government-sponsored entities or GSEs–and the sheer magnitude of these companies and the role they play in the housing market. OFHEO’s report this week does nothing to ease these concerns. In fact, the report does quite the contrary. OFHEO’s report solidifies my view that the GSEs need to be reformed without delay.”
Neither Greenspan nor McCain’s warnings were heeded, and GOP-backed legislation that would have helped regulate these out of control mortgage giants were blocked by Democratic lawmakers including Senators Chris Dodd and Representative Barney Frank who foresaw no problems and encouraged the lending practices to continue unabated. Indeed Frank now famouly denied that there were any signs of problems with Fannie and Freddie. This of course brings us back to the proposed current remedy for this crisis, a remedy being engineered in part by Messrs. Dodd and Frank. (Dodd meanwhile has been under close scrutiny for receiving a sweetheart mortgage deal from Countrywide Financial – one of the lending institutions who sold the most securities to Fannie & Freddie.)
The options presented to us by the Olympians on the Hill, at Teasury and the Fed is essentially this: give us seven hundred billion or else the economy will collapse.
That’s right. Having encouraged lenders to make lousy loans to high-risk borrowers in an misguided attempt at social justice, Congress wants to appropriate more money from taxpayers to give to companies so they can offload the mortgage-backed securities that are causing their implosion. They’ve used the power of the federal government to encourage poor lending practices, allowing Wall Street to reap huge profits while the market was booming, only to have to admit that their scheme failed when the market went bust and forcing U.S. taxpayers to bail everybody out. It is worse than merely privatizing gains and socializing losses – it is a degree of incompetent central economic planning not seen since the Hammer and Sickle flew over the Kremlin.
Congress of course promises that these securities are not valueless, that they are backed by valuable real estate assets, and that in the fullness of time, taxpayers will recoup their investment, perhaps even turn a profit. Forgive us if we seem skeptical. We’re certain if there was money to be made, a private-sector solution would be found. Yet, there is no discussion of forcing (since we’re into that now) a private sector solution, at least in part. Congress could do more than simply write a check. SEC accounting rules could be changed immediately to help revalue some of these assets. Congress could temporarily mandate the cancellation of dividends to help improve the financial soundness of these institutions without generating the fear that normal dividend cancellations would engender, it could order these institutions to issue new preferred stock which would immediately increase their capitalization, etc. But for obvious reasons (greed) no one in these institutions wants to dilute their existing shares, to take dividend decreases, or to lose managerial control by partnering with a deposit bank that could provide the capitalization and liquidity they need (as Merrill Lynch did). It’s easier to dump the illiquid assets on the taxpayer and let the party continue.
So, it’s to be a multibillion-dollar bailout that will be something on the order of double the cost of the Iraq war – a war long held by Democrats to be ruinous in cost. Keep in mind that there’s been no discussion of the constitutionality of any of these actions; the Constitution now viewed by so many as merely quaint and irrelevant. In a month where the Federal Government of the United States has become the major player in the insurance business, and become the world’s largest mortgage lender, what’s to stop it from bailing out the investment banks? And that’s the whole point isn’t it? Where does this merry-go-round stop? What happens when the airlines fail? What happens when GM or Ford go belly-up? What happens if the credit card companies – now saddled with America’s largest ever debt ratio fail? Is the federal government going to enter these industries as well? Are we to bail out every failing industry, lender or borrower, socializing every loss, and paying it all with printed paper money backed by nothing but illusory guarantees with liquidity provided to us by foreign lenders like China? Of course, if one looks at the government’s own balance sheets the figure of seven hundred billion pales in comparison to the massive debt load that looms over the nation. A national debt of almost $10 trillion and rising fast thanks to what will necessarily be a debt ceiling increase included in this bailout, and then the really big money – massive unfunded mandates such as Social Security, Medicare and Medicaid totaling an utterly unfathomable $53 trillion. All the product of further government attempts to create a better world…all stemming from the ruinous expansion of the federal government under the New Deal, and gross mismanagement and dereliction of duty on the part of the U.S. Congress who refuses to regulate, to dramatically cut spending, or to be honest with the American people about the true magnitude of this house of cards.
It’s New New Deal Time! Money all around! To add to the insanity of course, America can’t seem to make up its mind between two candidates – one who wants to cut spending and lower taxes (McCain), and one who promises higher taxes and MORE spending (Obama). Of course, Obama doesn’t promise that, he claims he can deliver a tax cut to 95% of Americans…even though 40% of Americans don’t pay taxes at all. But, who cares where the money comes from as long as it’s flowing, right? Free money!
That this election should even be close in light of the current crisis defies belief.
Of course now that we have an economic gun to our head, loaded with bullets provided by Congress, we seem to have little choice but to open our collective wallets and hope for the best. The unpopular Bush doesn’t wish to add the title of the “Second Herbert Hoover” to his resume, those running for the presidency don’t want to be seen as lacking in leadership, Congress has been bitten by its usual “do something” bug, and those voices on the Right who harbor genuine concern about where this is heading remain silent, lest they be adjudged responsible for the crash that would follow.
The truth of the matter is, this bailout sets a terrible precedent, and rather than exposing the ghastly arithmetic that undergirds our economy, it will likely prove to be a mere band-aid that will fail to address the underlying fundamental (and necessarily painful) reform that is urgently needed as well as the natural market correction that should be allowed to happen. Instead we will allow the problem to fester, likely giving rise to additional unintended consequences, pushing an ever greater burden and an ever more calamitous collapse upon the heads of Americans yet to be born.
