Hank Paulson’s Little White Lie

 

The bipartisan Emergency Economic Stabilization Act. Paulson’s opening statement, “EESA provides the Treasury, the Federal Reserve and the FDIC with important new authorities to complement existing ones. We will continue to coordinate with other federal regulators to use these tools to implement our strategy to address the four key challenges in our financial markets today - confidence, capital, systemic risk and liquidity. Although we are facing particularly difficult circumstances, I remain confident that we will work through this challenge, as we have always successfully worked through every economic challenge in the history of the United States. We are a strong and wealthy nation, with the resources to address the needs we face. I am confident that, with the right public policy response, time and effort, we will conquer these challenges as well.”

U.S. and global financial markets continue to be severely strained. Just a few months ago Treasury Secretary Paulson told us that the “subprime” issues were contained and would not spread to the “real” economy. In reality the seeds of The Great Credit Crunch were planted in 2003, recognized by our regulators in 2005, but left to become a crisis beginning in August 2008. That’s five years of time, where measures could have been taken to prevent the current downward spiral. The sad part is that nothing but voluntary actions and lip service have been given to homeowners and Main Street, which is where the problems originated.

This financial market turmoil is now directly affecting more families and businesses. Our regulators essentially waited until our financial system needs a quadruple bypass, and a bowel detoxification at the same time. We have bad loans coming out of the wazoo and lower interest rates do not make them solvent.

New Authorities Needed to Address Challenges – We are stuck with some rather frightening actions that were concocted by an unpopular congress and an unpopular president that the tax payer did not want. Congress “high-fived” each other when they passed EESA, then watched in amazement as the Dow dropped a thousand points costing citizens more than a trillion in net worth.

Now we watch as the US Treasury spends up to $700 billion to bail out lenders and investors on Wall Street, while defaults and foreclosures rise on Main Street. In some respects the EESA Bailout Bill does not go far enough, which is typical of the many mistakes taken already to solve our economic ills.

·        The law temporarily increases FDIC deposit insurance from $100,000 up to $250,000. It should be permanent and insure all US deposits.

·        The US Treasury has the authority to use tax payer money to buy or insure troubled assets, provide guarantees, and inject capital. The regulators will determine which banks will be bailed out and which banks will be allowed to fail.

Prevent Systemic Impact from Bank Failures – There are 8,450 FDIC Insured Financial Institutions, and in my judgment at least 2,500 are vulnerable to fail.

 

Increasing Liquidity to Financial Markets – It’s a global affair including coordinated rate cuts, and adding to our alphabet soup of credit facilities. Increasing the size of some Federal Reserve loan facilities and creating a new one to protect the commercial paper market for example. I would have kept the federal funds rate at 2.00% and cut the discount rate to 1.00%. I have been in favor of setting the discount rate below the funds rate since August 2007, and for the Federal Reserve to take in toxic collateral since the bailout of Bear Stearns. The Fed and Treasury are not telling the Public what securities were taken in with that $29 billion bailout, and what that collateral is worth today. Where’s the transparency promised?

Mortgage Credit Availability and Affordability – Here’s where I question Secretary Paulson’s creditability when he says, “As I have long said, the housing correction is the root cause of the current financial market turmoil. We must continue to keep mortgage credit available and support the housing market, so that we can more quickly turn the corner on the housing correction.” In fact he did not see the pending problems until after the credit markets froze up.

Continuing Paulson’s Little White Lie - Stabilizing Fannie and Freddie to support mortgage availability has been constructive. “As the rest of our markets experienced increased turmoil the interest rate on a 30-year fixed rate mortgage has come down from its peak of 6.6 percent earlier this year to as low as 5.9 percent this week” Fact – In January the 30-Year fixed rate mortgage was 5.25%, and there has been little change, a range of 5.75% to 6.00% since the GSEs were put into Conservatorship. In hindsight temporary Conservatorship should have been complete Nationalization to make it certain to the World that Fannie Mae and Freddie Mac are backed by the full faith and credit of the US government. If that were the case spreads would not be wider than when Conservatorship took effect.