On "The Bailouts"
By Robert Ross

"What worries me most about the credit crunch, is that if one of my checks is returned stamped ‘insufficient funds,’ I won’t know whether that refers to mine or the bank’s."
-Jay Leno

It was a scene out of a Hollywood movie. The fall colors were in their splendor as Secretary Paulsen’s limousine drove along the Potomac toward the Treasury Department. After the morning greetings, Mr. Paulsen entered his office to find the usual stack of paperwork and phone calls which needed attention. He flipped on the computer, showing the stock markets from the U.S. and around the world on various monitors. It was September 17, 2008, a day that the Secretary would not forget.

The U.S. stock market opened down a hundred points that morning as Mr. Paulsen shuffled through the papers on his desk. He glanced at the monitor, repeating the pattern several times, paper shuffling then glances up, only to see the market down another hundred points, then another hundred

points . . . and then another hundred. The world markets were all down, crashing in unison. A friend from his days at Goldman Sachs called, there was sense of panic in his voice, "the markets are crashing, the credit markets have frozen - banks aren’t lending to each other, and there’s a run on the money markets!" the caller blurted out. Paulsen knew this was no ordinary "down market" day. It was a worldwide financial meltdown. His secretary entered the room, "The Speaker of the House is on the phone" she stated. "Line one." Paulsen’s worst nightmare was unfolding, a worldwide lockup of the financial markets. Nervously, he picked up the phone. The voice on the other end was equally ill at ease, "we’ve got to get together tomorrow to discuss what’s happening in the markets," Speaker Pelosi stated. Paulsen felt a tension in his throat as he often did when he was under pressure. He stammered in response "ta . . . tomorrow? . . . quickly summoning confidence, "Madame Speaker, we can’t wait until tomorrow, we must meet today!"

And so began the official kick-off of what would be known as "the bailouts." But how did we get to this point? A few years back, the Economist magazine described the real estate market as "the biggest bubble in history." They were right. It was a mania. Loans were made to unqualified buyers for houses that were selling at highly inflated prices. Before the ink dried on the loan documents, the banks sold the loan to another financial institution which packaged it up with other bad loans and sold them again to other institutions. These "toxic assets," as they were later dubbed, became all the rage, and soon countries and pension funds were buying these investment vehicles - after all, real estate never goes down in price, right? But, in 2008, the real estate bubble burst, and the effects were devastating; so devastating that the five largest investment banks (Morgan Stanley, Lehman Bros., JP Morgan, Merrill Lynch, and Goldman Sachs) ceased to operate as such. The financial tsunami brought down the country of Iceland, which is in a state of bankruptcy. Fannie Mae and Freddie Mac - private institutions - were absorbed by the government to the tune of five trillion dollars. National and regional banks that were teetering on collapse were "lent" billions and billions of dollars, to bolster their faltering balance sheets. Soon the auto industry decided that since their cars weren’t selling, they too need billions to continue operating unprofitable companies. The line for this free money was long. Not to take a back seat to all of these needy companies, states like California, that couldn’t seem to balance their budgets, got in line for the free dough.

For some, this economic downturn had all of the appearances of comedy show. Fly to D.C. in a private jet, go before Congress with a forlorn face, ask for bailout money, fly back home, hand out millions in bonuses to top executives, and perhaps have a toast to our elected officials for their kindness.

The bailout monies took on fancy names like TARP (Targeted Assisted Recovery Program) and the Economic Stimulus Plan. What started out as a 150 billion-dollar tax rebate in the early months of 2008, grew into a 350 billion-dollar real estate bailout plan in the Summer of 2008, which grew into a 700 billion-dollar economic recovery program in the Fall of 2008, which at this writing (late January 2009) has morphed into an 820 billion-dollar TARP program.

This bailout mania has reached levels never before seen in this country. We, as a nation, are no longer taking on a little debt with the assurances that the books will be balanced in short order. We’re taking on massive debt, debt that will never be paid back in our lifetime. We’ve crossed the Rubicon, into uncharted waters. A trillion is the new billion. Our budget deficits for 2009 are expected to easily exceed one trillion dollars. Our National Debt level is raised by a trillion dollars every couple of months.

The problem is, the bailout is trying to fix a condition that is fatally flawed. The banks, the investment banks, the auto industry, states like California, were all living foolishly, beyond their means. Rather then learn a hard lesson in life (live within your means) they turned to Washington for handouts. The irony to this drama is, Washington is . . . yes, living foolishly, way beyond its means. What’s that saying about the blind leading the blind?

Imagine a neighbor who’s living the good life, new car, new furniture, trips, all the latest gizmos. This neighbor works at the same company you work at, so you’re familiar with his salary and realize that the neighbor is either robbing banks or living way beyond his means. The family has taken second and third mortgages on their home to pay for all their luxuries. They also have a dozen credit cards that have been maxed out. Those in the neighborhood shake their heads in disbelief. The irresponsible couple reach a point where their world implodes. They can’t afford the payments on anything. The interest payments alone are untenable. In desperation, they ask their children if they can borrow their credit cards - temporarily, of course - just to help them through this rough patch. The children agree. There’s a sigh of relief from the parents. To relax a little, they plan a trip to Hawaii, charging it to their new credit card. Sound familiar; sound like the state of California, the Federal government, the auto industry, and many banks and financial institutions?

There will be consequences to this abuse of our monetary system. One of the more obvious consequences is the debasement of our currency. As the amount of dollars is increased and pushed into the system, the value of those dollars goes down. An extreme example of this is Zimbabwe, which prints money willy-nilly, creating an inflation rate that is off the charts. Sometime down the road we can expect that it’ll take more dollars to buy the same item. Translation: inflation. The other less obvious consequence to printing and handing out money with little restraint, is what is commonly referred to as the "moral hazard." Remember the neighbors, the ones that were spending without restraint? After maxing out their children’s credit cards, they heard that government bailout money was available to help them through this rough patch. At last report they were planning another trip to Hawaii!

It’s difficult to predict with certainty how this is all going to play out. A coming inflation seems to be an accepted result of our monetary abuses. But I can’t help thinking that there will be other consequences . . . and that at some point . . . somewhere down the road . . . mother nature will also call this mythical family, the government, the banks, and the auto makers, and say "excuse me, that’s not the way things work around here!" The results of that call? We’ll just have to wait and see.

The Chinese have a saying: "May you live in interesting times." These are definitely interesting times!


Robert Ross can be reached by e-mail at:

Copyright 2009 by Robert Ross, all rights reserved

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