A Bailout for America?

Bear Stearns has been rescued [1], and its shareholders have been placated [2]. Wall Street has several invigorating injections of billions of tax-payer dollars. Now that a great deal of public wealth has gone to prop up private wealth, maybe some of that public wealth can be used to help, well, the public. But only if the free market fundamentalists in the Bush administration stay out of the way, or trip over themselves while hurrying to offer their idea of a remedy.

Clearly something's up, because both the White House and Congress are racing to present plans to (finally) bail out homeowners stuck between impending forclosure. Congress is considering proposals [3]. The Bush administration has ideas [4] of its own. Treasury Secretary Henry Paulson's plan to overhaul regulation of Wall Street [5] is coming under particular scrutiny, because of how much it probably won't accomplish.

The proposals would, for the first time, create a set of U.S. regulators with the authority over all players in the financial system, be they banks, insurance companies or other entities like hedge funds and private equity funds, which now operate virtually without regulation.

But that authority would be limited. The Fed, which Paulson proposes to make the "market stability regulator," would be given explicit authority to limit the risks financial institutions take regarding "certain asset classes" and to "address liquidity and funding issues."

Broadly speaking, those are the problems that have cost the largest U.S. banks and brokerage firms tens of billions of dollars. They took risks trading an alphabet soup of unregulated products cooked up by financial engineers, like CDOs (collateralized debt obligations) and CDSs (credit default swaps).

But the Fed would not be able to act simply because one bank or brokerage house was taking excessive risk. Instead, the Fed's "authority to require correction actions should be limited to instances where overall financial market stability was threatened," the proposal states.

...Under the Treasury proposal, while the Fed would have some authority to stop financial institutions from taking on too much risk through the use of exotic financial instruments, it appears that little would be done to limit the flow of such new products.

The Treasury says that it and other U.S. regulators still believe a principle it enunciated a year ago, "that market discipline is the most effective tool to limit systemic risk."

You're kidding me, right? Wasn't "market discipline," or the lack thereof, what got us into this mess in the first place? And it would do little to limit the flow of new "products"? (And I use the term loosely, because we're talking about "products" that don't appear to have any real value and don't seem to be of use to anyone.)

And Paulson's plan won't protect us from the next subprime-esque "product"? Then who does it protect? If recent events are any indication, the administration's plan will protect the same people its been protecting all along, and the evidence may be in what's missing from Paulson's plan [6].

Experts said that what's not in the report may be more important than what's in it.

Dean Baker, co-director of the Center for Economic and Policy Research, said the blueprint did not seem to have much teeth to force change. It was also unclear how much investment firms were going to have to disclose.

Mason and Ely agreed that the plan should have addressed head-on the issue of mortgage-backed securities.

"The underlying cause was securitization and firms operating in highly-leveraged fashion," Ely said. "Nowhere is the underlying cause of the crisis touched on. ... You are not going to prevent crisis by moving boxes around."

Mason said he believes the first step towards reform must be the government taking over the role of providing ratings of complex securities.

Paulson's plan includes some provision for the government to review the books of firms in question. But without soem clarity on what those firms have to disclose, it's easy enough for some firms to do what they did where their investors were concerned, regarding mortgage-backed securities: leave out the stuff that doesn't look good. 

Paul Krugman [7] takes on "moving the boxes around."

Anyone who has worked in a large organization — or, for that matter, reads the comic strip “Dilbert” — is familiar with the “org chart” strategy. To hide their lack of any actual ideas about what to do, managers sometimes make a big show of rearranging the boxes and lines that say who reports to whom.

You now understand the principle behind the Bush administration’s new proposal for financial reform, which will be formally announced today: it’s all about creating the appearance of responding to the current crisis, without actually doing anything substantive.

...So the Treasury has, with great fanfare, announced — you know what’s coming — its support for a rearrangement of the boxes on the org chart. OCC, OTS, and CFTC are out; PFRA and CBRA are in. Whatever.

Will rearranging these boxes make any difference? I’ve been disappointed to see some news outlets report as fact the administration’s cover story — the claim that lack of coordination among regulatory agencies was an important factor in our current problems.

It sounds pretty much like the rules for operating and old-fashioned shell game: keep talking, keep your hands moving, and they'll never know quite which shell the pea is under.

Of course, the administration's intention has never been to make a difference in the current crisis. So it stands to reason that the administration's plan doesn't do much — or does as little as possible — to remedy what's happening to homeowners and communities right now. Proposals in Congress [8] go furher in that direction.

Congress' debate will center on plans by Democrats Rep. Barney Frank of Massachusetts and Sen. Christopher Dodd of Connecticut to have lenders excuse a portion of some mortgage loans while government-run entities soak up $300 billion in shaky mortgages that would then be repackaged.

Some Republicans, who think the housing crisis may be easing and that many of those in jeopardy should face up to the risks they took, will offer narrower measures. Those include incentives for buyers to scoop up foreclosed houses to reduce a large inventory that is suppressing prices.

...Congress returns from a recess on Monday, when measures to stanch home foreclosures and further stimulate the economy will be "front and center," said Illinois Rep. Rahm Emanuel, a member of the House of Representatives' Democratic leadership.

By comparison, the administration's plan relies heavily on voluntary measures from lenders, which might be as effective as self-regulation has turned out to be. But that effectiveness depends on intention.  Just last week Paulson emphatically supported letting the housing run its course [9].

President Bush warned against the "temptation" to limit foreclosures [3] by putting "bad law" in place. It's possible that the administration had a "come-to-jesus" moment just now. But fudamentalists don't give up the faith that easily or quickly, let alone do a near-180.

But limiting foreclosures is key to resolving the current crisis and reducing the damage. And here's the rub. Stopping foreclosures would even help banks. (Then again, Dean Baker effectively argues that we should be avoid a bank bailout under the guise of helping homeowners [10].) Remember when the bankruptcy laws changed [11], making it more difficult for people to recover from personal bankruptcy and get a "fresh start"? The irony is that the change has resulted in more people simply walking away from their homes [12] and mailing the keys to their lenders, because it's easier to recover from a foreclosure than to face bankruptcy. Bet the banks, and their lobby, didn't see that coming.

Keeping homeowners out of foreclosure also helps communities avoid the blight [13] of abandoned houses, and all the problems that come with them [14]. President Bush says, "The temptation is for people, in their attempt to limit the number of foreclosures, to put bad law in place." But limiting foreclosures also limits the devastation communities and state budgets [15] are experiencing as they deal with the consequences of a boom that benefited everybody but the "everyday people," who are filling up homeless shelters or queuing up at food banks.

All of that hits states in the pocketbook at precisely the moment when state budgets are getting hammered [16] by the aftershocks of the subprime debacle.

State budgets have been hit hard by a worsening national economy, including rising costs for energy and health care. In addition, fallout from the subprime mortgage crisis -- declining home sales, deflated property values and mounting foreclosures -- has caused a slide in states' anticipated tax receipts. Revenue from property taxes, sales taxes and real estate transfer taxes is affected.

At least half of the nation's states are facing budget shortfalls, some of them severe, and policymakers in most of the states affected are proposing and passing often-painful measures to trim costs and close the gaps. Spending on schools is being slashed, after-school programs are being curtailed and teachers are being notified of potential layoffs. Health-care assistance is being cut for the elderly, the disabled and the poor. Some government offices, such as motor vehicle department locations, will start closing on weekends, and some state workers are receiving pink slips.

Governors have already asked the administration for infrastructure funding [17], only to be turned down by Bush [18]. Meanwhile, Bush wants to take away mineral royalties that could help support infrastructure [19], probably because he's got a war to finance, and contractors who must be paid [20].

By some assessments, we live in a debt-driven economy, and in the case of the subprime debacle, "creating credit" — which is really creating debt — is a basis for creating wealth. One man's debt is another man's wealth, to be bought and sold. In an economy where wages are stagnant [21] and inflation is making it hard for people to buy necessities like food [22] and gas [23], owning someone else's debt is almost equivalent to...

Well, it comes back to who's a member of the ownership society and who's a member of the society of the owned. The Fed's actions so far have been mainly geared towards increasing available credit and encouraging borrowing which means increasing debt, and which ultimately means increasing someone's wealth at someone else's expense. In other words, a wealth transfer that trickle's up.

By presenting a plan that does little to prevent the next Wall Street invention from wreaking havoc, and does even less to protect consumers right now, the Bush administration makes its priorities clear. Whether that's a bailout for America or not depends, largely, on which America they're talking about.