Wavepacket Blog

Wavepacket Blog
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Wed Sep 24 22:37:39 2008
Cure for our Ills
The administration proposes a really big blank check.

Keep plugging the holes!
Image courtesy of Pieter1 (wiki)

Wow, a lot has happened in the past 2 months! I used this photo before, but it is still relevant: the administration continues to find ways to throw money at the problem.

In Fannie and Freddie I argued against bailing out Freddie Mac and Fannie Mae. Since then, the administration has nationalized the companies, and put billions of dollars of Federal funds behind those mortgages.

Then, Lehman Brothers collapsed in a spectacular and (for investors and employees) painful bankruptcy.

Now President Bush is proposing a $700 billion bailout of the financial industry, by having the Federal government buy even more of the distressed mortgages.

Embarrassingly, I didn't see the speech. I was working.

However, I have read a few summaries and other articles about the speech. And I have of course seen the plan in the press for the past several days.

The net result?

Bush's speech appears to be a concession that the plan will not be approved by Congress. He seemed more interested in preserving his legacy by presenting the plan as a way to assign blame. Perhaps that is an unfair assessment. But I think he is well aware that the plan has little chance of passing.

At least, I hope it has little chance of passing! My goodness, why would we sign up to spend that much money? Paulson and Bernanke are right: the piecemeal approach isn't working. But I think a better solution is to leave things alone, rather than put more Federal funds at risk.

Remember, there is a real chance that even if the $700 billion plan was approved, it wouldn't work. Then we'd have a serious recession anyway, no reserves to spend our way out of it, and we'd have scared away all of the creditors we'll desperately need to borrow more money. Then we are faced with Federal bankruptcy, or hyperinflation as the Fed has to print money to get out of the disaster. Inflation is definitely the more likely scenario.

And in any case, we always have the option to start buying troubled mortgages later. Perhaps the markets will panic, and the financial system will "seize up". But that might happen regardless of the $700 billion Federal infusion, or might not.

And there are chances that the overall economic collapse won't be that bad. I think Paulson and Bernanke are surrounded by frightened Wall Street executives, and they are picking up that panic. But there are large parts of the economy that are still rolling, many banks still lending to businesses that are not underwater in bad mortgages. So I think we should let the honest businesses have a chance to take advantage of the lower prices and collapse of overly-aggressive competitors.

The risk-takers should sweat a bit longer.

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