Musings Of An Indie Writer| « | Unringing the Bell |
»
|
|
Monday, September 08, 2008
One Hand On Your Wallet Dept.
The Treasury Department's move to put Fannie Mae and Freddie Mac under federal conservatorship has sparked a rally in the stock markets, with the Dow-Jones Industrial Average up 280 points since this morning's opening bell. The move heartened the American financial sector and a number of international investment houses. It should scare the undies off the rest of us.
Treasury Secretary Henry Paulson has announced that the government will purchase up to $200 billion worth of Fannie Mae and Freddie Mac stock to keep those institutions afloat. Many an otherwise sane American nodded approvingly at the news. But your Curmudgeon hastens to inform you: It's not good news for anyone but the holders of Fannie Mae and Freddie Mac stock.
It won't do a thing for Americans in trouble on their mortgages, no matter who holds their liens. Their obligations will remain unaffected; the money will go to current holders of Fannie Mae and Freddie Mac securities.
The failure of a private business concern might cause damage to the finances of many persons, but each of those persons will possess one or more of the following characteristics:
- He owns stock or debt issued by the failing concern;
- He draws a salary from the failing concern;
- He's a vendor to the failing concern, who hasn't been paid for his most recent shipments to it.
In the case of a very, very large business, that could be a few million people, some to a greater degree than the rest. But even if it were ExxonMobil, General Motors, or Microsoft, it wouldn't be every last American. That is, unless Washington were to step in and "compassionately" spread the loss among us all by propping up the unsound firm.
You didn't think the money to buy all that stock and impose federal oversight on those two huge institutions can be found under the president's couch cushions, did you? Federal money is tax money, or it's borrowed money, or it's fiat currency conjured out of nothing. In the first case, we'll feel the bite at once; in the second and third, we or our kids will feel it in due course, via inflation.
A sane American should hope the funds required are raised immediately and directly from taxation. The alternatives involve a surge of inflation. Government debt is the engine of inflation; Government borrowing constricts the capital markets, causing interest rates to rise. The cost of the interest payments -- "debt service" -- creates an incentive for the Federal Reserve to create new money to retire some of the debt. The creation of new money reduces the purchasing power of every dollar in existence; it takes a bite from your weekly paycheck, and a second bite from whatever you've managed to save.
But wait, there's more! When government borrows to spend on a new undertaking, it also distorts patterns of investment. When the undertaking is a bailout, it artificially increases the perceived value of the bailed-out company's equity and destroys the market incentives that would normally discipline the failing firm. Finally, it creates an expectation among businessmen generally that "bailouts can be had," always assuming one can make the case for one's own financial straits sound sufficiently dire. That increases the pressure on Washington to bail out other companies...pressure our legislators are ill-equipped to resist.
"But might the bailout be necessary to prevent a depression?" No, it is not. Here's why.
Consider: If 10% of the mortgages held by Fannie Mae and Freddie Mac were to eventuate in default, the loss to those institutions would come to about $600 billion: about 4% of the Gross Domestic Product. That would collapse them both and give us all the shakes for a while. But even at the lowest lows of the Great Depression, mortgage defaults never reached that level. Today the default rate is about 1.5% -- a risk to Fannie Mae and Freddie Mac of about $90 billion: just possibly a fatal loss for those institutions, but only 0.6% of GDP, a far cry from the magnitude of catastrophe that would be required to topple the $14 trillion American economy.
What the bailout does is inform Fortune 1000 CEOs and Boards of Directors that those who are sufficiently well connected in Washington can make risky moves with confidence; if necessary, the taxpayer will foot the bill. It buys a lot of political support for the Republican Party, in a national election year when that support could make a crucial difference.
So, for the sake of corporate good will and a near-term bounce in the DJIA, the S&P, and the NASDAQ indices, the Administration has endangered the savings and the investments of anyone with a dollar to his name. The bad mortgages that are believed to threaten the viability of Fannie Mae, Freddy Mac, and their stockholders now endanger everyone on Earth who saves, is paid, or invests in dollars or dollar-denominated instruments.
The Administration's economic and fiscal policymakers aren't stupid. Neither are the men who advise them on such things. But their priorities are their own. Doing right by the common man isn't necessarily near the top of their list.
Comments
I want a government bailout for people who are just making it, yet who make every effort to pay their way, and not get government relief. People who save, and who do without to make it within a budget.
There’s not too many of those left, so it shouldn’t cost much.
Posted by mts on 09/08/2008 at 06:43 PMThe more I think about this stuff, the more I believe that I should invest my retirement dollars in something more tangible than a tax-deferred growth vehicle. Something that will (in the long term at least) increase in value, something that cannot be deflated by short-sighted or idiotic government policy. Maybe real estate?
Posted by .(JavaScript must be enabled to view this email address) on 09/09/2008 at 09:19 PMReal estate has its hazards too, Alex. Zoning. Eminent domain. Environmental activists. I wish I could say it were, in the time honored phrase, “as safe as houses,” but I’m afraid the facts say otherwise.
The precious metals are still safe…assuming we don’t get another Roosevelt in the White House. Jeez, look what I just wrote. No, nothing is really proof against State interference. It’s all a gamble. Place your bets according to your best judgment of the risks most likely to develop in your area, and then pray a lot.
Of two things we can be sure: 1) The problem is universal; 2) The source of the problem is government. All else is speculation—as is virtually all the “investing” going on these days.
Posted by Francis W. Porretto on 09/10/2008 at 04:40 AM
Comment Form
Commenting is not available in this weblog entry.
