As Democrats and Republicans debate the bailout, it is becoming clear that each player
has its own interest. The idea of capitalism, need not necessarily imply that all money
be raised or underwritten on Wall Street and flow from there into Main
Street and then on into the hands of the Wealthy Americans and the Sovereign Funds. Saving
Wall Street in this crisis is the key premise that Paulson and Bernanke are espousing. Thus
there is this interest in working through a lot of Mortgage Derivatives,- namely MBS, CMOs
and CDSs. That said, the Democrats are adding their own window dressing to this given that
the crisis is here. And it is here. Numerous banks have been borrowing in the hundreds of
billions from the Fed. But the question is whether tackling CEO pay or allowing judges to
change the interest rate on loans goes far enough to solve the problems. o
My own opinion is that President Bush needs to show that he still supports perhaps his biggest
political achievement, namely "ownership society". The problem is that a sudden rise in real estate
prices and the use of ARMs and other poorly conceived innovations along with a penchant to
push people into the biggest home they could afford left little room for manoever. The second
part of the problem was Bernanke's surprising lack of awareness that if he raised rates, there
would be an effect felt by all the players of this boom. He inherited from Greenspan a set of
conditions that did not allow him to be too aggressive either in fighting inflation or recession.
He could only go to 3% in 2007 but he did not realize this. If they had waded through this for
a few more years the ARMs would have continued and he would have been able to eventually
regained his ability to raise rates. But in the meantime he had to tread carefully. The problem
was also compounded by Harvard studies that indicated that the US needed 17 million new
homes. The mad rush to create CMOs that the Goldmans and Lehmans could then underwrite
for the Chinese and the Gulf Countries pushed everybody into this credit trap of greed for income
creating a larger longer term liability. That said, I believe the overall ideas needed some
Keynesian thinking(ala, protecting Capitalism from itself).Helicopter Ben and Bazooka Hank should
have dealt with the problem as it emerged, not try to firefight with waterguns and liquidity today. Ben
was asleep at the wheel in 2007 and closed the spigot even as the excesses of HELOCs no-documentation
loans and negative amortization started to bring in a new class of aggressive lenders brokers and homeowners.
I remember a story in the recent past when Ben Bernanke apologized to Milton Friedman for the errors of
the Fed in tightening in the middle of the Depression. This mistake by Ben is probably why he seems so
troubled these days. Bernanke's thinking and his opinion that the 70s inflation was the result of monetary
excesses of the 1970s might have been behind the ratcheting of rates. Their was both model error as well
as errors relating to measuring where actual growth came from. The lack of understanding was what pushed
the velocity of money dramatically lower and the self-feeding cycle squeezed creditors and took its toll on the
asset markets and eventually eroded financial trust, the cornerstone of banking. Hank was too hands off and
"stuff happensy".
His Ramboesque intentions not withstanding, it is difficult to understand how or why he practically forced Lehman
into bankruptcy at this critical juncture and stayed aloof but suddenly seemed to understand the gravity of
the situation and demand action. While a monetarist like Bernanke might mainly worry about controlling
money supply and a supply sider like Paulson might look at the issue as a "troubled asset problem", both miss
the basic point.
And that is that this is a demand side problem as it stands today. And requires a Keynesian answer.
So this is the plan for a Barach Obama to espouse.
The Govt. avoids any large buyout of CMOs or CDOs. Instead, they offer a plan to residential
homeowners. (I still do believe that the "ownership society" can be and should be saved. )
This is the plan. A Homeowner facing foreclosure goes to the Feds. They could find
one of three different solutions (1) Take this home and give him a different home - one he could afford
(2) Rent it back to him with a "right of first refusal" down the road
(3) Offer a better mortgage that facilitates ease of payment and that includes Govt getting some equity on sale
But they should also -
(4) Work with payment plans and with CMOs and banks to take a small hit
(5) Create a "set-aside" a portion of the social security tax - through a rebate that is later deducted or
is paid back
- a second set aside that allows retirement savings to be used as redeemable collateral when homes briefly
go under water
(5) In depressed neighborhoods a jobs program may be necessary
Most of all avoid the case where foreclosure removes a potential homebuyer from the market. This is done
by both working with the troubled homeowner as well as by eliminating the stigma of foreclosure. The
Govt's goal must be to be true to the idea of "ownership society"
which is to put families into homes they currently or will eventually own and importantly can own.
The surprising thing is that most homebuyers would tell you that they can afford "today's price" of their
homes.
Other things to do include a quick introduction of the "guest" worker program and allow for summer homes
in the sunny states to be owned by foreigners notably Canadians, South Americans, Europeans and Asians.
A visa program that allows people outside the US to own a home here and visit would also help reinvigorate
demand.
By working on the demand side, the Govt. can solve this problem as prices will eventually come back up. This
is how Keynesians like FDR were able to pull the US out of a depression. Senator Obama, it is up to you to
come up with an answer that carries this forward.
The Federal discount window borrowing was said to be several 100 billion this week. This is important for the
near term. The idea that Caterpillar needs to pay 7% for commercial paper and Goldman needs Buffett to
underline their creditworthiness is indicative that the immediate problem could be a loss of trust and the fact
that panic could easily set in. A further problem is that there is no longer the ability to create CMOs. This
has been alleviated partly by the takeover of Fannie and Freddie.
However, the fundamental problem deals with demand. For the financial
institutions, the Govt. needs to cut some slack and work with them in finding buyers for their foreclosed
real estate. It is time to "get real" and think realistically and realize that the monetary panic is momentary
and a symptom of a real economic problem that arose from imbalance, namely excess supply vis a vis demand.
