“May you be cursed to live in interesting times.”
(Not an old Chinese Proverb)
Negotiations to bail out Wall Street, dead beat homeowners, school loan scofflaws credit card scammers, ACORN, and others who have lined up outside the doors of Democratic lawmakers with their hands out wanting a piece of that $700 billion in free money appear to be stalled at the moment. Apparently, House Republicans are balking at the prospect of a large chunk of our free market economy being taken over by the government and are exploring alternatives.
If such action is necessary to keep us from sliding into a depression with a financial implosion this country may never fully recover from, then I am one of those conservatives who would reluctantly sign on to the Paulson plan – even with its goodies for left wing special interest groups and bailouts unrelated to the credit crunch on Wall Street.
But the more I read about this plan, the more I’m convinced that something akin to the 1982 tax cut bill is being acted out on Capitol Hill with everyone and their cockeyed uncle getting in line for a piece of the bailout pie. It is the time honored practice of log rolling – legislators loading up a bill with unnecessary and unrelated provisions supported by this powerful member or that one, done so that support for the overall measure can be gained. The smell of free money is loose in the land and the sharks are in a feeding frenzy.
Even with all of that, I’d be willing to embrace the bill – if there is no viable alternative. At the moment, there doesn’t appear to be one. Holding up the bailout are conservative Republicans in the House who, even if they come up with something, will never get Pelosi and Reid to go along with it. In that sense, their efforts are a waste of time. The Bush Administration has caved on just about all of the Democrat’s demands to make this a “comprehensive” (read “Christmas Tree”) bailout bill. And the liberals are not about to give up the goodies they have fought for to help their various constituencies. Hence, the best the free market conservatives can hope for is to make a statement for the historical record that somebody stood up for liberty when the rest embraced dependency.
Overly dramatic? Not by much. No, we are not “nationalizing” Wall Street nor is America going to become a socialist country overnight. But to say nothing fundamental is going to change in America as a result of this massive intrusion by the federal government in the financial markets is equally wrong. We will come to rue this day, of this I am sure.
Here is a smattering of responses to three questions from “free market” economists that Reason’s blog Hit and Run asked: How bad is the current market situation?; how bad are the current proposed bailout plans?; and what’s the one thing we should be doing that we’re not?
How bad is the market? Bryan Caplan is an associate professor of economics at George Mason University:
To be honest, I’m not too sure. While we’re blaming banks and investors for their “herd behavior,” we should remember that politicians and the media often run with the herd, too. When the dust settles, I suspect we’ll realize that conditions weren’t as bad as people assumed—or at least they weren’t until we tried to fix them.
Same question to Robert E. Wright, clinical associate professor of economics at New York University:
The current situation is potentially dire. The comparison with 1932-33 is sobering: An unpopular Republican president is in office, the financial system is a mess, and an important election looms, yet many fear what the articulate Democratic candidate might do if elected. We won’t have to wait until March to find out this time around. But given how fast the world moves these days, late January will seem an eternity away. The payments system broke down last time (March 1933), necessitating a bank “holiday,” a moving speech (“the only thing we have to fear is fear itself”), and creation of the FDIC (Federal Deposit Insurance Corporation). Breakdown of the payments system today would stagger the economy
Next question. How bad are the current bailout plans? This from Jeffrey A. Miron, senior lecturer and director of undergraduate studies in the Department of Economics at Harvard:
The bailout is a terrible idea. It transfers a huge amount of wealth to people who do not deserve it. It will generate enormous incentives for creative bookkeeping as the investment houses and banks try to rid themselves of any assets they do not want. The bailout fails to eliminate the crucial policies that contributed to and caused the current situation, such as the Community Reinvestment Act, the creation of Fannie Mae and Freddie Mac, and so on. Last but hardly least, the bailout sets a terrible precedent: If you take huge risks and become too big to fail, the government will bail you out.
Finally, what should we be doing? This from Fredric Sautet, senior research fellow at the Mercatus Center at George Mason University:
Getting out of the mess is not going to be easy. Once the perverse incentives are in the system, it’s hard to go back. Bailing out is very bad and in the long run is worse than bankruptcy. It is not a coincidence that Paulson is the former CEO of Goldman Sachs and is now bailing out his friends. The problem is that bankers should be punished for their careless, stupid investments (JP Morgan, for instance, has $8.1 trillion in credit derivatives on its books), but since it was largely driven by the government’s loose monetary policy and regulation, bankers are not the only ones responsible. Clearly letting the banks fail in the short run would have bad consequences for many households in the U.S. (and elsewhere). The problem is that the government does not have the incentives to intervene just for a short time. Once the banks are nationalized, it may take a while before the government leaves the place. Ultimately, this situation calls for radical policy solutions: The return to the gold standard and the abolition of central banks.
What is truly frightening to me is that no one really knows how bad things are now. Nor does anyone have a clue whether this bailout plan will work or make things worse. And to top it off, there is a growing belief among some economists that we are in a world of hurt and the probability of not a slowdown but an actual contraction of the economy looms large.
Yves Smith of the blog Naked Capitalism (writing in the same Reason Magazine article) points to a 2007 study done by Harvard University’s Kenneth Rogoff and the University of Maryland’s Carmen Reinhart who analyzed similar market conditions that led to contractions in other countries. This is long but worth reading in its entirety:
This credit crisis has already led to the biggest 12-month fall in household wealth in U.S. history, including during the Great Depression. It has not yet had a commensurate impact on economic growth because our foreign creditors provided what economist Brad Setser called “the quiet bailout,” lending to us to the tune of roughly $1,000 per man, woman, and child. But it would be a mistake to expect this largesse to continue, at least at such favorable interest rates.
As Harvard University’s Kenneth Rogoff and the University of Maryland’s Carmen Reinhart found in their analysis of financial crises, every country that experienced a housing/bank crisis of the magnitude of the one we are in has suffered a marked fall in GDP. As they noted in their paper “Is the 2007 U.S. Sub-Prime Financial Crisis So Different? An International Historical Comparison”:
At this juncture, the book is still open on the how the current dislocations in the United States will play out. The precedent found in the aftermath of other episodes suggests that the strains can be quite severe, depending especially on the initial degree of trauma to the financial system (and to some extent, the policy response). The average drop in (real per capita) output growth is over 2 percent, and it typically takes two years to return to trend. For the five most catastrophic cases (which include episodes in Finland, Japan, Norway, Spain and Sweden), the drop in annual output growth from peak to trough is over 5 percent, and growth remained well below pre-crisis trend even after three years.
Note that their study shows the U.S. to be on a trajectory considerably worse than the average of the five worst cases, suggesting our fall in growth will be at least as severe. And no public official in the U.S. is willing to tell the public that no matter how this crisis plays out, we will suffer a fall in our standard of living.
Contraction, deflation, high unemployment, the disappearance of entire industries, a budgetary nightmare of unimaginable deficits in the out years that will top half a trillion dollars – this is what we have to look forward to even if this bailout plan goes forward – at least according to some economists.
Is this a glimpse of the future? Or just a worst case scenario? No one knows. And this is why the markets are so unsettled – panicky if you will. Uncertainty will eat away at our economy until not just Wall Street but Main Street as well feels the effects of the crisis.
Thankfully, we are not likely to have the bank failures, the soup lines, the massive dislocations that occurred during the Great Depression 80 years ago. FDIC and a social safety net along with (hopefully) no Dust Bowl will bring us to a hard, but manageable landing. But any recession (or contraction) will not be measured in months. It will be years before the toxicity of all this debt is wrung from the economy. It appears to me from reading what economists of all stripes are saying, that we are in for a period of slow or non-existent growth that could last 3 to 5 years (some say longer).
None of this refers to our current problem; the bailout and what to do about it. My desire – my longing – for alternatives to this plan will apparently not be realized. And while it is not a universal belief that catastrophe will occur if we do nothing, enough people who are a helluva lot smarter than me (and not all of them in government or supporting Bush) seem to think the chasm is open beneath our feet already and we are hanging on to the edge of a very steep cliff.
Incredibly, some Republicans are screaming for us to let go:
According to one GOP lawmaker, some House Republicans are saying privately that they’d rather “let the markets crash” than sign on to a massive bailout.
“For the sake of the altar of the free market system, do you accept a Great Depression?” the member asked.
If it were just some Wall Street fat cats who would lose their shirt, I wouldn’t lose any sleep over killing the bailout. But since there is no realistic chance for any other emergency measure to pass – not with Bush’s shameless caving in to the Democrats and the Senate Republicans meekly going along not to mention the Democrat’s desire to pander to their left wing interest groups like ACORN - I am forced to the conclusion that without this bailout, havoc would ensue and we might very well have a serious contraction of the economy with the result being the end of the US as a economic powerhouse for the foreseeable future.
The Germans already see it:
Germany blamed the United States on Thursday for spawning the global financial crisis with a blind drive for higher profits and said it must now accept more market regulation and a loss of its financial superpower status.
In some of the harshest criticism of the United States since the crisis threw Wall Street banks into financial disarray this month, German Finance Minister Peer Steinbrueck said the turmoil would leave “deep marks” on both sides of the Atlantic, but called it primarily an American problem.
“The world will never be as it was before the crisis,” Steinbrueck told the Bundestag lower house of parliament.
“The United States will lose its superpower status in the world financial system. The world financial system will become more multi-polar,” he said.
Once again, I must confess ignorance as to whether Steinbrueck is blowing smoke out of his ass and engaging in a little wishful thinking or whether this is a consensus belief among other European powers. If the former, I hope he chokes on his sauerbraten. If the latter, we better get used to the idea that the kinds of huge capital infusions from overseas that have been one of the driving forces of American entrepreneurship may dry up and curtail business formation and expansion.
Whatever they are going to do, I hope they do it quickly. With Washington Mutual being seized by the government and many of its assets sold to J.P. Morgan while the credit crisis for ordinary folks hits home – the result of a wait and see attitude on the part of banks large and small on this bailout plan – you would hope that the powers that be on Capitol Hill might put aside the campaign for a moment to do something, you know, for the country.
But with John McCain’s political stunt apparently yielding zero results at the negotiating table while Democrats falsely accuse him of gumming up the works (after demanding he make his position on the bailout known), it doesn’t appear there are any grown ups in Washington who want to bite the bullet and do what is right for the country. There is suspicion that many of the liberal ornaments on this Christmas Tree were put in for the unexpressed purpose of presenting the Republican Congress with a plan they could not possibly support:
One of the sticking points, as Senator Lindsey Graham explained later, wasn’t a lack of begging but a poison pill that would push 20% of all profits from the bailout into the Housing Trust Fund — a boondoggle that Democrats in Congress has used to fund political-action groups like ACORN and the National Council of La Raza
So before we hear much about GOP obstructionists, perhaps we should look at the question of why Democrats would make that a deal breaker in their negotiations if not to play politics with the nation’s economic future?
Obama? MIA, of course. Not a peep from the messiah on the biggest issue to hit Capitol Hill in a generation. So much for leadership, eh?
If there is no plausible alternative, pass the damn Paulson plan and let’s hope for the best. That’s all we’ve got at the moment. Otherwise, the consequences of doing nothing may make us all wish we were somewhere else come Monday.