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Bailout is wrong

Sandhusker

Well-known member
Economist Jeffrey Miron says the bailout plan presented to Congress was the wrong solution to the crisis

CAMBRIDGE, Massachusetts (CNN) -- Congress has balked at the Bush administration's proposed $700 billion bailout of Wall Street. Under this plan, the Treasury would have bought the "troubled assets" of financial institutions in an attempt to avoid economic meltdown.

This bailout was a terrible idea. Here's why.

The current mess would never have occurred in the absence of ill-conceived federal policies. The federal government chartered Fannie Mae in 1938 and Freddie Mac in 1970; these two mortgage lending institutions are at the center of the crisis. The government implicitly promised these institutions that it would make good on their debts, so Fannie and Freddie took on huge amounts of excessive risk.

Worse, beginning in 1977 and even more in the 1990s and the early part of this century, Congress pushed mortgage lenders and Fannie/Freddie to expand subprime lending. The industry was happy to oblige, given the implicit promise of federal backing, and subprime lending soared.

This subprime lending was more than a minor relaxation of existing credit guidelines. This lending was a wholesale abandonment of reasonable lending practices in which borrowers with poor credit characteristics got mortgages they were ill-equipped to handle.

Once housing prices declined and economic conditions worsened, defaults and delinquencies soared, leaving the industry holding large amounts of severely depreciated mortgage assets.

The fact that government bears such a huge responsibility for the current mess means any response should eliminate the conditions that created this situation in the first place, not attempt to fix bad government with more government.

The obvious alternative to a bailout is letting troubled financial institutions declare bankruptcy. Bankruptcy means that shareholders typically get wiped out and the creditors own the company.

Bankruptcy does not mean the company disappears; it is just owned by someone new (as has occurred with several airlines). Bankruptcy punishes those who took excessive risks while preserving those aspects of a businesses that remain profitable.

In contrast, a bailout transfers enormous wealth from taxpayers to those who knowingly engaged in risky subprime lending. Thus, the bailout encourages companies to take large, imprudent risks and count on getting bailed out by government. This "moral hazard" generates enormous distortions in an economy's allocation of its financial resources.

Thoughtful advocates of the bailout might concede this perspective, but they argue that a bailout is necessary to prevent economic collapse. According to this view, lenders are not making loans, even for worthy projects, because they cannot get capital. This view has a grain of truth; if the bailout does not occur, more bankruptcies are possible and credit conditions may worsen for a time.

Talk of Armageddon, however, is ridiculous scare-mongering. If financial institutions cannot make productive loans, a profit opportunity exists for someone else. This might not happen instantly, but it will happen.

Further, the current credit freeze is likely due to Wall Street's hope of a bailout; bankers will not sell their lousy assets for 20 cents on the dollar if the government might pay 30, 50, or 80 cents.

The costs of the bailout, moreover, are almost certainly being understated. The administration's claim is that many mortgage assets are merely illiquid, not truly worthless, implying taxpayers will recoup much of their $700 billion.

If these assets are worth something, however, private parties should want to buy them, and they would do so if the owners would accept fair market value. Far more likely is that current owners have brushed under the rug how little their assets are worth.

The bailout has more problems. The final legislation will probably include numerous side conditions and special dealings that reward Washington lobbyists and their clients.

Anticipation of the bailout will engender strategic behavior by Wall Street institutions as they shuffle their assets and position their balance sheets to maximize their take. The bailout will open the door to further federal meddling in financial markets.

So what should the government do? Eliminate those policies that generated the current mess. This means, at a general level, abandoning the goal of home ownership independent of ability to pay. This means, in particular, getting rid of Fannie Mae and Freddie Mac, along with policies like the Community Reinvestment Act that pressure banks into subprime lending.

The right view of the financial mess is that an enormous fraction of subprime lending should never have occurred in the first place. Someone has to pay for that. That someone should not be, and does not need to be, the US tax payer.
 

Mike

Well-known member
Pretty good read. SH.

I know that Armaggeddon is not in the cards, but NO ONE knows the results of not buying those mortgages.

Funny how the Dems are blaming the Repubs and 95 Dems voted against it. :lol: :lol: :lol: :lol:
 

aplusmnt

Well-known member
I think ideas like Dave Ramsey has about providing insurance plans for those notes that fail would be easier and cheaper. He claims more like 38 Billion needed vs the 700 billion.

He had some interesting other ideas also. I am leaning towards no bail out but some sort of plan to work through it. I don't think the best plans are being presented I am suspicious on all this! And I think Washington does not know how to work out of a mess only how to let us buy them out of stuff!
 

don

Well-known member
if they estimated they needed $700 billion you have to assume that's the amount of bad paper out there and how the heck is $38 billion in insurance going to cover those losses? that's the kind of derivative thinking that got us where we are. aren't premiums supposed to cover claims?
 

Sandhusker

Well-known member
They have no idea how much is actually needed. They asked for 700B because they wanted a really big number with plenty of wagon room.

This plan leaves way too much room for banks to simply offload their crap.
 

aplusmnt

Well-known member
don said:
if they estimated they needed $700 billion you have to assume that's the amount of bad paper out there and how the heck is $38 billion in insurance going to cover those losses? that's the kind of derivative thinking that got us where we are. aren't premiums supposed to cover claims?

I assume that because someone defaults on a $200,000 home it still has value even if it is less value it has some. I think the 700 Billion covers 100% money of projected defaults plus some! Not how it will play out in real dollars! You Repo those homes and then you short sell them and you only had to pay a fraction in net loss on the insurance you provide.

That is just my opinion on why, maybe someone else can support or discredit my opinion?

They way things look now they are setting up a Golden Parachute for anyone who wants to dump on a loan to do so and pay 100% of all money defaulted on.
 

don

Well-known member
whatever number a government asks for you know it won't be enough. analysts today were saying the 700 b wasn't going to do it.
 
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