Conservative Bailout Plans Don’t Address The Causes Of The Crisis
Conservative Bailout Plans Don’t Address The Causes Of The Crisis
Yesterday, negotiations over the $700 billion federal bailout imploded after House Republicans, led by Rep. Eric Cantor (R-VA) and Rep. John Boehner (R-OH) circulated an alternative plan that “advocates tax cuts and relaxed regulations.”
This is the second alternative plan offered by conservatives. This week, the Republican Study Committee (RSC) released its own plan, which is also being supported by former Speaker of the House Newt Gingrich.
Both of these plans are fundamentally flawed, and fail to address the causes of the current financial crisis.
The Boehner/Cantor Plan, among other provisions, calls for the removal of “burdensome regulatory and tax barriers” to pull capital into the market:
Instead of injecting taxpayer funds into the market to produce liquidity, private capital can be drawn into the market by removing burdensome regulatory and tax barriers that are currently blocking private capital formation. In short, too much private capital is sitting on the sidelines during this crisis, and it is well past time to unleash it.
This plan is essentially a non-starter. It doesn’t address the underlying problems in the mortgage market by allowing any restructuring of bad mortgages. Also, the plan’s provision to “insure mortgage backed securities (MBS) through payment of insurance premiums” is “akin to selling homeowners insurance in New Orleans after the dikes broke.” Only those financial institutions with the very worst assets would be willing to participate.
Cantor has admitted his plan has a problem, and said “he would support giving the Treasury secretary some authority to purchase the most troubled securities linked to failing mortgages,” because “some of the ‘exotic sliced and diced’ mortgage-backed securities at issue for the financial institutions are of such little value.” But the plan still does nothing to restructure the “sliced and diced” mortgages.
For its part, the RSC proposed cutting the capital gains tax to zero and privatizing Fannie Mae and Freddie Mac, in a “market based alternative” to the bailout. The RSC solution also calls for the suspension of mark-to-market accounting.
As previously noted on the Wonk Room, zeroing the capital gains tax would mostly benefit the wealthy and not draw capital into the market. Meanwhile, privatizing Fannie and Freddie incorrectly places the blame for the crisis on the GSE’s alone. While Fannie and Freddie did invest in bad mortgages, Bush administration regulators failed to prevent such practices.
Moreover, the collapse of Fannie and Freddie “was patently not the beginning of the latest leg of this crisis.” Instead, that honor belongs to the unregulated credit default swaps issued by insurance giant AIG that AIG subsequently couldn’t back up. The elimination of mark-to-market accounting would simply allow U.S. financial institutions to continue pretending that their bad assets are good, which would not fix the underlying problem of toxic mortgages pervading the market.
All in all, the conservatives have proposed deregulation to get the U.S. out of a problem caused by deregulation – with some tax cuts for the wealthy thrown in as a bonus.
5 Responses to “Conservative Bailout Plans Don’t Address The Causes Of The Crisis”
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Oh, so the solution to an unregulated market is more deregulation? More Bait & Switch from the Bucking Chastards!
Wall Street investment houses fled an unregulated market last week for the less risky waters of “commercial bank status”. Up until then, they were free to get all the capital investment the world wanted to give. However, their vault was full of rotting fish.
Boehner/Cantor’s root cause is whole seven days old, if that. If the God of the Old and New Testament were as interventional, the earth would open and swallow this pair.
September 26th, 2008 at 5:03 pmI have 2 major problems with this.
1) First you assume that deregulation was the cause of this mess. I have little doubt that the bankers acted with reckless abandon using mortgage-backed securities and credit default swaps (which are 2 different type of paper). These derivatives were fairly new in a financial sense. These things we are also very complex and hard to understand. How can you regulate something you don’t understand? Does this mean they should be banned? No. But when you play with fire, and burn not just yourself but others as well, you will learn a lesson from the experience. Take a look a the dot com results. Many major tech companies keep little to no debt because they have learned over time this breeds trouble. It took pain to get them to learn. Sarbanes-Oxley was a direct result of other failures. You cannot legislate out problems out of financial failure.
The second problem is, 55 other economists wrote to congress and told them that a $700 billion dollar buyout was not necessary. Economist don’t seem to be able to agree on anything that is this complex. It simply because of how complex the financial system is and you must accept you are taking an “educated guess”. The only way to know is to do it.
While the House Republican plan is just as risky, it less expensive and an easier pill for constituents to take. And right now, even by Senate and Representative admission, the response they are getting is an emphatic HELL NO on the $700 billion bailout.
September 27th, 2008 at 5:44 pmThe real cause was not adequately pricing risk into credit for the last 6 years. This occurred a myriad of ways. The instruments that were supposed to provide peace of mind, credit default swaps, went nuts on Sept. 17-18.
They raised the effective interest rate by 8% over last year, just to cover the risk of corporate failure. Pass that through the system and you get 14% mortgages, 27% credit card interest, and 20% CCC rated or junk corporate debt.
That’s the unregulated, free market working. Making up for past excesses or accurately pricing in risk?
September 28th, 2008 at 9:14 amThe identified the welfare mother that took down Bear, Lehman, AIG, Fannie, Freddie and sent Goldman and Morgan fleeing to the safer waters of commercial bank status:
September 28th, 2008 at 12:58 pmGood article on the subject, although I am not a finance major. I also come bearing gifts. Here and here are two articles for your inspection, if you haven’t already read them. While not as technical as yours, I think it gives general show of both sides of the CDS question, in more laymen terms.
The premise assumes rational pricing. As volatility continues to be present, this seems far from the case. Panicked, investors make less than rational decisions. Take the cases where some financial companies are being unfairly targeted (as in the case of Goldman Saks and Morgan Stanley). Now add the fact that in buying these derivatives of cash starved institutions, requires a tight balancing act. This then becomes a receipt for disaster. I agree that the pricing of will continue to get better as pointed out by your article. But all these adjustments will take time to work through the markets, even if mandated by government.
September 28th, 2008 at 12:59 pm