Who will bail out Uncle Sam?

We are in the midst of the most serious financial crisis since the Great Depression of the early 1930s. It all began with the housing bubble and subprime loans. Wall Street got into this mess by betting recklessly on real estate via the purchase of subprime loans. Lack of due diligence, euphoria, and a casino mentality were the problems behind the debacle.

What was unthinkable has happened. In March 2008 there was the rescue of the fabled Wall Street investment bank Bear Stearns by JP Morgan Chase with billions in help from the Fed. Many experts thought that this was the last of our Wall Street problems.

But that was just the beginning. In a matter of weeks we witnessed the takeover by the U.S government of mortgage giants Fannie Mae and Freddie Mac. Both were at the brink of disaster. This shocker was followed by the bankruptcy of 158 years old Lehman Brothers, followed by the quick sale of Merrill Lynch  to Bank of America.

It was hard to believe that in a matter of a few days two of the largest investment banks in the world became history. Then came another shocker – the bail out of the world’s largest insurance company, the $1 trillion American International Group (AIG) via an $85 billion loan from Uncle Sam.

More surprises were in store. The administration decided to solve the imploding credit crisis in one swoop. The mother of all bail outs, a $700 billion plan, was presented to the U.S. Congress on Monday, September 22, ’08 by the U.S Treasury Secretary, Henry Paulsen. It involved the creation of a fund that would buy out toxic loans from banks. The idea is to soften the credit crisis and restore confidence in the financial system.

The underlying concern in framing this proposal was that the meltdown of Wall Street poses great risks for Main Street. Credit is the life blood of our high spending market economy. Disappearance of credit would mean that consumers and businesses will not be able finance their spending and investments. That would result in a further worsening of the weak US economy, continued disappearance of jobs, and further delay in the recovery of the housing sector.

Congress has expressed concern about writing an enormous blank check with tax payer money to Wall Street without fully examining the plan. Specific concerns in congress included independent oversight of the fund, help for homeowners facing foreclosure, limits on executive compensation of firms seeking help from the plan, and the value of what the government will be buying. An additional issue is taxpayer ownership in the banks selling their bad debt to the government.

Most economists agree that the current situation is too risky to just leave it to the market and the Paulsen intervention is necessary to avoid huge problems down the road. The debate is about how to do it. There is much concern that the bill will serve private interests at public cost.

I expect that this bill will pass in a matter days. With national elections coming in a few weeks and the congress getting ready to adjourn for the fall elections the sense of urgency is acute.

My questions at this point are:

· Who will be bailed out next? The auto companies?
· Are there more shocking surprises like the ones we have experienced in the last several weeks?
· Is $700 billion too little, or is it too much?
· Value of what the government will be buying?
· What will be the economic consequences of the bill?
· What is in the bill for Main Street
· Are we drifting into an era of state capitalism?
· When do we say enough is enough?

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2 Comments

Filed under Economy

2 responses to “Who will bail out Uncle Sam?

  1. The $700 billion bailout is necessary at this time.But, as the author of this blog I remain very concerned about the issue of moral hazard. Bailing out businesses that have performed disasterously may suggest that we may bail them out in the future partcularly if “they are too big to fail”.

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