The government wants to buy up all bad loans

September 24, 2008 by Gene Veith

The way the proposed bailout plan works is that the government would buy all of those bad mortgages held by banks and investors. Now the plan has already been expanded to allow the government to buy up all “troubled assets,” including student loans, car debt, and even credit card debt (not from consumers, of course, but from the banks that aren’t collecting what people owe them).

Think of that. The government would be assuming the banks’ risks and bad investments. In regular socialism, the government at least nationalizes productive industries. In this government takeover of capitalism, the government is nationalizing only bad assets.

Opposition to this plan is growing, especially among the general public, even though both presidential candidates essentially support it.

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Manxman
Some comments by Professor Allan Meltzer of Carnegie Mellon U. on a recent PBS nightly news program –
ALLAN MELTZER: Yes. I don’t want to join a debate about different ways of picking the public’s pocket. I think, if they’re going to do something — and I don’t think that we really need to do anything. I’ve heard these stories over and over for 40 years. You know, maybe there will be a crisis.
But despite all the talk, Main Street is not doing so badly. And the fact is that they’ve been predicting disaster since January. It hasn’t happened.
And if they’re going to do something, then what they ought to do is make loans, which the financial institutions have to repay with interest. And if you think — that’s an idea which the Chileans have used in a bigger crisis than this for them in 1982, and it worked for them.
People paid back the loans. They weren’t allowed to pay dividends until they repaid the loans. They weren’t allowed to take bonuses until they repaid the loans. I think that’s the way — if we’re going to do this, then that’s the way we should do it.
Putting limits on executive pay
JEFFREY BROWN: Professor Meltzer, are you concerned about rewarding the people who caused this, the trouble? Is that part of this? I mean, one of the questions or issues on the table we just heard on the tape is whether we should use this opportunity to put limits on executive pay, for example.
ALLAN MELTZER: Well, I don’t want to get into the distribution of income arguments that are so prevalent in the Congress. I’m against this mainly because it seems to me this is private interest activity at the expense of the public interest.
I mean, Mr. Paulson can talk about all the things that are going to be good for Main Street, but the fact is that Main Street is going to incur a huge debt and a big loss, for the reason that Paul Krugman just mentioned, because most of these assets are not worth much.
Well, let’s do loans, which they have to repay with interest, and let’s see what happens.
I know that many people think it can’t happen. But, look, today, Morgan Stanley sold 20 percent of its company to a Japanese bank. There’s lots of money out there, liquidity. The Chinese have it. Others have it. They’ve come in.
If the government steps aside and says, “Solve this problem,” then we’ll see more of that activity and people will begin to do it.
Merrill Lynch sold itself. It sold out some of its assets. It got 22 cents on the dollar. It’s correct to say nobody knows how to value these things, and they won’t know how to value them until the housing price reaches a bottom or is expected to reach a bottom, because you can’t value the mortgages until you know what the underlying asset, which is the house, is worth. And nobody knows that.
JEFFREY BROWN: … what’s fascinating and, you know, kind of scary for people at home is just the notion that nobody really seems — nobody really knows, so it’s a bet either way. You’re saying we shouldn’t take this kind of action, but what’s the alternative?
ALLAN MELTZER: The alternative, if we’re going to do something, it is to put them in the responsible position of borrowing the money and having to pay it back with interest. That’s how…
JEFFREY BROWN: But their answer…
ALLAN MELTZER: … we could go a long way to protect the interests of taxpayers.
JEFFREY BROWN: But their answer is that the repercussions are on the rest of us. That’s what we’ve been hearing.
ALLAN MELTZER: Well, you know, I just don’t believe it. It may be true. It may turn out to be true this time. I’ve heard it now for 40 years over and over again.
Whenever they want to make a grab of this kind and bail out their friends, that’s what they tell us. Well, let’s try, and test it, and see whether it really is that bad.
In a democratic country, we discuss these things thoroughly. We air the problems. We listen to various points of view. And we take our time about making decisions of this magnitude.
ALLAN MELTZER: May I just say one last thing?
JEFFREY BROWN: Well, OK, make it very briefly.
ALLAN MELTZER: Very brief. No one, no one has said this will solve the problem. No one has said it will solve the major problem in housing and finance.
http://www.rebelliouspastorswife.blogspot.com Rebellious Pastor’s Wife
Wow, potent last line from Allan Meltzer.
I was listening to BBC World News, and they were saying that the buyout would be based on the supposed value at maturity of the bonds, NOT their actual value, which means that the banks would actually be making a profit off of the Federal Government buyout.
This is getting more troubling all the time
Manxman
As I’ve watched Paulson & Bernake calling for hurry-up action on this financial crisis bailout/massive power grab, I notice they say nothing about making the financial institutions involved PAY for the services the taxpayers will be providing them with by picking up their rotten loans.
Instead of giving them a free ride, why not make LOANS to them, with interest, like Meltzer says, which they have to pay back to the Treasury. Until those loans are paid back do not allow them to pay dividends or pay out bonuses to their employees or executives.
Then, as those loans are repaid, earmark the repayments to go into a special fund to put the Social Security & Medicare systems on a better financial footing.
Maybe some actual good could come out of this thing instead of merely preventing some theoretical financial disaster – which may not even occur or the Paulson/Bernake power grab might not solve, anyway.
http://www.bikebubba.blogspot.com Bike Bubba
Now wait a second; loans to troubled institutions are better than outright buying their bad debts and investments, literally throwing good money after bad, but the root of this problem is people loaning money to people who are not good credit risks.
I’m not ordinarily with the Democrats on anything, but I’m 100% fine with the idea that when you take government help, all of your executives’ “golden parachute” clauses are cancelled. Reality is that the plan, as it stands now, inflicts more pain on the local barber than it does on the executives who knowingly bought risky loans. That’s just wrong.
http://www.utah-lutheran.blogspot.com Bror Erickson
So if the government buys my studen loan, does that mean I own it, and therefore don’t have to pay it?
I watched that same interview last night. I think he is right, make it a loan, make them pay the government back with interest, and set that interest at 30% maybe then we can work our way out of the national debt.
http://www.pluckedchicken.net Jesse
The arrangement reminds me of what Joseph did for the Egyptians during the seven bad years. By the end of it, the government (Pharaoh) owned just about everything in Egypt.
Peter Leavitt
Well, we need to scrutinize the details of this bailout plan and make sure that the fundamental purpose is to restore the credit markets that froze last week , causing a global panic. Paulson and Bernanke argue that the economy is alrady verging on a recession; with clogged or frozen credit markets it could morph into a deep recession or worse that could cost the nation a lot more than the money involved in the bailout.
During the days of the early Great depression the Fed and the Hoover administration sat on their hands at the urging of conservatives and watched some 7,000 banks fail causing a vast number of people of all classes to lose their life savings. This ushered in the Roosevelt administration that found a way to prolong the Depression for about ten years. Bernanke BTW is an expert on the Great depression.
Meltzer is a fine economist whose view needs to be considered and respected, though , he is one economist; should his view be adopted and turn out to be wrong an exceedingly high price would be paid.
The real danger in my view is that the mainly Democrats and a few spineless Republicans, who are responsible for the lowering of mortgage credit standards through Fannie Mae and Freddy Mac , will make a Christmas tree of Paulson’s proposed bill.
At any rate, people need to think carefully about this matter and not jump to any hard and fast conclusions, though if the Congress dawdles on this much damage could be done.
An incisive summary of all this is the lead WSJ editorial today, The Paulson Sale Taxpayers are going to put up capital one way or another
Carl Vehse
The fact that this “crisis” is occurring right in the middle of the presidential election campaign raises all kinds of cynical alarms to me. Both political parties, the White House, regulatory bureaucracies, major corporatiions, and the MSM are putting out so many spins on this. The claimed need for “quick action” is particularly suspicious. Trust no one; follow the money.
Elsewhere, another news story from India reported that a group of laid-off company workers in retaliation attacked and killed the company’s CEO. Such extreme action is not warranted here, but perhaps we should demand the implementation of justice and punishment for the culprits through our legal system, as unlikely as it is that the legal system is interested in justice.
http://www.bikebubba.blogspot.com Bike Bubba
Actually, Peter, Hoover did anything but sit on his hands; he was, according to Rothbard’s history of the Great Depression, convening groups of industrial leaders within a few weeks of the initial market shock. (available from http://www.mises.org for free) The Fed also had relentlessly inflationary policy throughout the Depression.
Which, ahem, suggests that the proposal may in fact deepen the problems by diverting resources from profitable enterprises to ones that are not.
Peter Leavitt
Bike Bubba, Hoover met with groups of businessmen to little effect; he cut government spending, raised taxes and supported restrictive trade legislation, all of which deepened the depression.
As to Fed monetary policy during this period, Ben Bernanke in a 2004 lecture at Washington and Lee remarked as follows:
The market crash of October 1929 showed, if anyone doubted it, that a concerted effort by the Fed can bring down stock prices. But the cost of this “victory” was very high. According to Friedman and Schwartz, the Fed’s tight-money policies led to the onset of a recession in August 1929, according to the official dating by the National Bureau of Economic Research. The slowdown in economic activity, together with high interest rates, was in all likelihood the most important source of the stock market crash that followed in October. In other words, the market crash, rather than being the cause of the Depression, as popular legend has it, was in fact largely the result of an economic slowdown and the inappropriate monetary policies that preceded it. Of course, the stock market crash only worsened the economic situation, hurting consumer and business confidence and contributing to a still deeper downturn in 1930.
Look, I’m an economic conservative, well aware of the inefficiency, self-interest, and stupidity of many government entities; however, government does have a purpose, especially in diplomacy, national defense, sensible regulation, federal justice, and monetary policy.
Also, from time to time since the Washington administration the federal government has had the financial savvy and resources to stabilize matters during economic manias, panics, and crashes.
http://www.bikebubba.blogspot.com Bike Bubba
Methinks that the Fed governors need to take a look at the data; throughout 1929, the Fed was keeping interest rates low, though to his credit, Hoover did recognize the time bomb in Wall Street investment loans and tried to dissuade them.
In other words, although Fed policy was not quite as inflationary in 1929 as it had been from 1920 to 1928, the money supply still rose, and while the money supply actually did drop in the Depression, it wasn’t for lack of trying by the Fed to boost it!
Peter Leavitt
throughout 1929, the Fed was keeping interest rates low,…
According to Bernanke the Fed tightened [high interest rate] the money in 1929:
Friedman and Schwartz emphasized at least four major errors by U.S. monetary policymakers. The Fed’s first grave mistake, in their view, was the tightening of monetary policy that began in the spring of 1928 and continued until the stock market crash of October 1929 (see Hamilton, 1987, or Bernanke, 2002a, for further discussion). This tightening of monetary policy in 1928 did not seem particularly justified by the macroeconomic environment: The economy was only just emerging from a recession, commodity prices were declining sharply, and there was little hint of inflation. Why then did the Federal Reserve raise interest rates in 1928? The principal reason was the Fed’s ongoing concern about speculation on Wall Street. Fed policymakers drew a sharp distinction between “productive” (that is, good) and “speculative” (bad) uses of credit, and they were concerned that bank lending to brokers and investors was fueling a speculative wave in the stock market. When the Fed’s attempts to persuade banks not to lend for speculative purposes proved ineffective, Fed officials decided to dissuade lending directly by raising the policy interest rate.
http://www.bikebubba.blogspot.com Bike Bubba
According to the data, Bernanke is wrong. Read Rothbard. 1929’s money policy wasn’t as loose as 1928’s, but it was hardly deflationary.
It’s the myth we’ve all been taught; the disaster of the Depression was due to Hoover’s inaction. Nothing could be further from the truth; the disaster of the Depression was due to Hoover’s action.
Anon
Carl, indeed, and Soros has done this kind of thing before, in 1992 in Britain. And he has said he will do -anything- to elect BHO.
He certainly has the clout to bring down governments. Actually, I’m not sure that Britain was the only one in his record thus far.
http://www.toddstadler.com/ tODD
Anon (@14), I’d love to see a source for your assertion that Soros “has said he will do anything to elect” Obama.
And yes, I Googled it. The most authoritative source I could find was reader mail posted on the American Spectator site. … Yeah.
So back up your claim, would you? Thanks.