Bad Bank – Bad Consumer – Bad Stimulus – Bad Economy

Our country, our citizens and our policy makers need to begin to face reality. Nothing they have done and nothing they are preparing to do, will fix the fundamental problems plaguing our economy. For the sake of political expediency, policy makers are addressing the very real fear and panic of the people by applying chiropractic manipulations to shrink a cancerous tumor. It hasn’t worked to this point, and it’s not going to work in the future and here’s why…

Our economy faces three primary issues:

1. Getting credit flowing to businesses and consumers
2. Creating jobs to stimulate the economy
3. Stabilizing the housing market

Credit

The only way to get credit flowing to the levels policy makers and the public think we need, is to guarantee the banks against losses on new lending moving forward.

Banks will not increase credit availability regardless of how many trillions are pumped into the system, because it would be fiscally irresponsible to do so. They will make loans to businesses and consumers when they think they will be paid back.

How do they know who will pay them back, when unemployment is reaching record levels and over 466,000 new lay-offs were announced from October 2008 through the month of January 2009?

The amount of lending will not change by giving the bank’s more capital or buying bad assets from them. No matter how much capital banks have or are given, they will hoard the funds until the future looks more promising.

Stabilizing the Housing Market

Unless there is a different response, credit will continue to be restrictive, jobs will continue to be lost and housing prices will continue their decline.

A significant portion of previously qualified home buyers can’t obtain a mortgage because far fewer people now qualify with the revised guidelines and limited products available. Home values have declined so far and fast, that existing mortgages exceed the value of the property and can’t be refinanced. Banks own more and more of the homes through record foreclosures and need to liquidate these properties at severely reduced prices. Unfortunately, this will continue for the foreseeable future.

Continuing job losses means even fewer qualified borrowers with access to credit which translates to reduced home sales and a continuing decline in home values.

Creating Jobs

The government can’t create sustainable jobs. The only way to create sustainable job growth, when sales and profits are down, is to give companies more capital to work with. This should be done by letting them keep more of the money they already earn. This should not be pursued through any government loan or equity ownership; it should be stimulated through tax policy. If these bail-out and stimulus dollars are to be spent, it should be spent on creating jobs in the private markets.

We need to cut personal and corporate taxes immediately. This will leave more capital with the people who earned it and lead to sustainable job creation.

The “Bad Bank” and the New “Stimulus” Plan

As I’ve already established, relieving banks of their bad assets will not increase credit availability. It will concentrate the bad assets and provide some operating relief to the banking system, while loading it elsewhere. All of these actions resolve nothing in addressing the real problems. Leaving these assets on bank balance sheets and allowing the write-up of the values and/or reducing the capital requirements, and/or providing a federal guarantee accomplishes the same thing.

The “Bad Bank” is a Bad Idea and will solve none of the 3 top issues facing the economy.

It seems apparent to the people serious about actually stimulating the economy, that the stimulus package, as approved in the house, is quite disassociated from actual stimulus. Infrastructure spending seems to make everyone feel good, but it will take too long to ramp up. And in the end, what sustainable job growth will result when the government is out of money and/or the bridge is built and we have to put the shovels down?

If we are going to address these issues and we are going to do it with taxpayer dollars, we need to get directly to the tumor. How many of you have spent and borrowed your way into prosperity in your personal lives?

Here is a suggestion for how to do it...

1. Banks should be allowed to write up the value of their assets and/or reduce their capital requirements.
2. This one I find the most painful, since I believe the companies should be allowed to fail and these bailouts have no place in free market capitalism. However, we’re well past that point, so if we actually want to have an impact, the government should temporarily step-in and guarantee losses on new credit advances and on mortgages in particular. This would include extending credit to borrowers who are not qualified for a loan today because of their job and/or credit record, and don’t meet the more restrictive hurdles created by market conditions with high loan-to-value ratios and high debt-to-income ratios.
3. This is where something akin to the covered bond structure would come into play using the government; take the $1-$2 trillion we are getting ready to commit for nothing, and use it as the insurance wrap on a covered bond pass-through structure. This scheme sells the bonds collateralized by the loan (i.e., mortgages) to private investors bringing private capital back into the banking system. Normalized losses would be allocated to the bank and to investors; excess losses would be covered by the government. You can find extensive coverage on covered bonds at the "Covered Bond Investor".

This outright government guarantee is the only way credit will get flowing to a more un-rational level again. The structure can be debated, but excess losses will have to be picked up by the tax-payer if we want to get things moving.

The bottom line is that it doesn’t take this complex patchwork of ineffective policies that just flush trillions in tax money down the drain. A government guarantee of losses to the banks will stimulate lending, significant reductions in corporate and personal taxes in combination with credit access will stimulate jobs and housing can be stabilized... eventually.

Comments

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Um...like the style of your writing.

[Ron]

If you print up a bunch of money and throw it out the window it will trickle down up or sideways and stimulate somebody to do something.

If the government really wanted to "pump" some real money into the capital market it would balance its own budget and stop siphoning off so much available capital that goes to lend money to the government to prop up excessive and irresponsible spending.

People who favor bigger government propose it as a solution to everything and then use people's fear and confusion to justify a program that does more harm than good.

[Elijah]

While the government guarantee would help a lot more than this rediculous spending plan (as you stated far from stimulating anything), I have to take issue with ANY further government involvment period. Even though what you've laid out here would have the quicker effect on a visable rebound I think it still creates an unacceptable contribution to the increasing involvment in the private sector. As we are starting to see the government can't just "lend a hand" without immediately dictating business processes, decisions, and structures. Just look at what these guys are doing with the banks and the auto industry (spending restrictions, capping salaries). This is a HUGE issue for me because if history has proven one thing in this country and many others...once the government puts it's hands around something, it will never let go. I wholeheartedly agree with the tax relief side of things and think that though the effects would be slower coming that the effects would be the best option for the prolonged economic future. Increased government control (I believe government guarntees continues down this path) will lead to an increasingly socialized economy. We have to back the government out of this thing as soon as possible because they are mostly to blame for the reason we're in the mess that we're in. It will take time but put the money (tax cuts) back in the hands of the people and the free market will do what it does from there.

[Shea]

Question- In your "government guaranteeing loss" solution, would this mean the government would assume partial ownership in these banks or take the losses completely (Bad Bank)?

This stimulous plan is more of a political plan. Take some of what the Democrats proposed, then take some of what the Republicans proposed...and poof! Now you have a plan that will make both sides happy. There is nothing in our history that says a plan like this will work. Most of stimulous plan (i.e. green spending, billions to ACORN, billions to states, etc.)isn't considered "stimulous" anyway!