Bad Bailout – No Vote For You
House Republicans blamed the failure of the $700 billion Wall Street rescue plan
Monday on House Speaker Nancy Pelosi (D., Calif.), saying that Pelosi had been too
partisan in a floor speech prior to the vote. Pelosi was tame compared to what I wanted
to tell Congress about this bailout proposal.
Today the stock market drops proves their point, they report with an aghast demeanor
that should be reserved for a real catastrophe. Here is the first question I asked a few
soldiers who are genuinely surprised to learn I am more opposed to the bailout than
having a Richard Simmons in spandex for my personal trainer in Iraq: Would the stock
market have dropped yesterday if President Bush had not promised to do something he
had no business (or authority) promising?
This financial pseudo-crisis is a result of government interference. Looking to the
government to fix this makes as much sense as Libya chairing the UN Human Rights
Commission. Wait… we did that. Okay, as much sense as appointing a known terrorist
to head the Department of Homeland Security.
The current mess would never have occurred without 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.
The Bush Administration and 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 decisions
with more bad government decisions.
Another piece to this puzzle is how many people own stock who never take their
shareholder responsibilities seriously. Why do some executives make millions per year?
Blame the shareholders who vote for board members who hire the CEO who promises
that their stock will go up 30% during his tenure and all you have to do to approve my
hiring package.
Stock prices are inflated because that is what we asked for. We wanted to feel good
about our retirement portfolios. We did not bother to check under the hood as long as
the returns meet expectations. But when returns didn’t meet expectations we the stock
owners (directly or through mutual funds) bailed to the next snake oil charlatan.
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 (including stockholders) while preserving
aspects of businesses that remain profitable.
The costs of the bailout 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
private parties should want to buy them. 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. Bankers will not sell their lousy assets for the real value
of 20 cents on the dollar if they can convince the government to pay 30 or 50 cents.
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 getting rid of Fannie Mae and Freddie Mac,
along with policies like the Community Reinvestment Act that pressure banks into
subprime lending.
This means in particular that we, the U.S. taxpayers and ultimate stockholders of
everything American, need to wake up to our responsibilities. We need to demand truth
and accountability above rate of return. We need to elect board of director members to
our companies and our government who will be proper stewards of our money rather
than making behind the scenes promises to their friends and creating false impressions
of the 'good' job they do.