3 posts tagged “bail out plan”
Speaker of the House, Nanacy Pelosi, should have taken the opportunity of the vote yesterday to sound grand-eloquent and all embracing. Instead she ceded both political and strategic ground by taking a side shot at the Administration, the Congressional Republicans and the Republican Party. This was a mistake.
Patently, the Republicans were to blame for the failure of the vote. This is both clear from the breakdown of command of their own party that defied their party lines as well as by the ideological reservation of those that did so. The fact that two thirds of the Democratic Party voted for the bill should have cleared the way for the Democrats to label the Republicans as the ‘wreckers’ of the package.
Instead of this clear cut clarity (that the voters like) Pelosi’s words were enough to muddy the waters. Against charges leveled against the Congressional Republicans, the Republican Party through Rudolf Giuliani and others could point to these very public utterances that it was out of synchronization with at least the spirit of the bill. The worst thing is that her words clearly had no affect i.e. they were not the main driver of the ‘nay’ vote. But it was a pure gift of political capital to the Republicans who can now claim a) to have supported the survival package b) to have rejected unnecessary expense to the tax payer and c) to have attempted to act in a bipartisan manner. The Republicans must be grateful to Nancy Pelosi.
Lawmakers will pay a steep price for the rejection of the bailout package. The financial crisis will now spread throughout the economy and the world, testing even the greatest believers in the free markets. The central problem with the pure movement of the markets in the financial services sector, that economists have long known about, are the ‘externalities’ involved with the failure of a bank and other financial institutions. Failure of these institutions corrodes trust and thus exponentially affects the rest of the economy.
A bank multiplies the amount of money available in the economy by lending more than it receives. It can do this because the majority of people the majority of the time do not need their money. Although this may seem suspicious on an individual basis, without this process we would not have been able to build the society in which we live. Furthermore, even if there is a small decrease in this multiplication process the real economy will pay a big price.
There are other levers at the disposal of the Federal Reserve System as well as the Treasury. Interest rate policy, flooding of the market with treasurys and accommodation of the needs of banking institutions are just some ways of effectively doing the same thing as the bailout package. But no one should be under any illusion that the price will have to be paid one way or another for this systemic failure. This cannot be borne by the financial sector by itself unless we are to send the American economy back to the ice age. More or less it will have to be borne socially. The central bankers will have to try and mitigate the abandonment to which the politicians thought that they were entitled in tackling the problem facing the economy.
The bailout package should be called a survival package. Without it the Federal Reserve system will have limited power to contain the toxic effect of the subprime bubble. By all accounts this pile of instruments is sitting on the books of financial institutions valued at approximately $1.2 trillion. The amount that has been asked for by Hank Paulson is therefore about 58% of the total outstanding. The amount that is authorized is almost as important as the spending of the money itself, indeed, if the market believes that this money might be used it might not have to be used at all. It is, like all of the capital markets an issue of trust, confidence and a measure of risk.
Why bail out these greedy institutions? Because as if the amount outstanding of $1.2 trillion is not a large enough amount, these institutions have multiplied this figure as a normal function of their job. Leaving aside whether they multiplied this by a figure that was too large in a time of plenty, the immediate eradication of this money in the economy would have an abrupt effect on economic activity and jobs. The dual effects of falling stock markets as well as the seizing up of the capital markets will choke off investment in firms, and this will lead to job losses. There is, therefore, no tension between capital and people or between Wall Street and Main Street. The real tension here is between the politicians who try to explain this to the people and those that want to act out partisan, divisive and class theatrics to the people of America. Let us hope that the former politicians prevail over the latter.
