The Mound of Sound

I was wondering when we’d hear from Joe Stiglitz on the US economic meltdown. Fortunately that happened today in the form of an opinion piece from the Nobel Prize winning US economist. As expected, Stiglitz brings some much needed clarity and insight to the problems:

“…the rescue plan that was just defeated was far better than what the Bush administration originally proposed. But its basic approach remained critically flawed. First, it relied – once again – on trickle-down economics: somehow, throwing enough money at Wall Street would trickle down to Main Street, helping ordinary workers and homeowners. Trickle-down economics almost never works, and it is no more likely to work this time.

Moreover, the plan assumed that the fundamental problem was one of confidence. That is no doubt part of the problem; but the underlying problem is that financial markets made some very bad loans. There was a housing bubble, and loans were made on the basis of inflated prices.

Even if a bail-out plan were implemented quickly – which appears increasingly unlikely – there would be some credit contraction. The US economy has been sustained by a consumption boom fueled by excessive borrowing, and that will be curtailed. States and localities are cutting back expenditures. Household balance sheets are weaker. An economic slowdown will exacerbate all our financial problems.

We could do more with less money. The holes in financial institutions’ balance sheets should be filled in a transparent way. The Scandinavian countries showed the way two decades ago. Warren Buffet showed another way, in providing equity to Goldman Sachs. By issuing preferred shares with warrants (options), one reduces the public’s downside risk and ensures that they participate in some of the upside potential.

This approach is not only proven, but it also provides both the incentives and wherewithal needed for lending to resume. It avoids the hopeless task of trying to value millions of complex mortgages and the even more complex financial products in which they are embedded, and it deals with the “lemons” problem – the government gets stuck with the worst or most overpriced assets. Finally, it can be done far more quickly.

At the same time, several steps can be taken to reduce foreclosures. First, housing can be made more affordable for poor and middle-income Americans by converting the mortgage deduction into a cashable tax credit. The government effectively pays 50% of the mortgage interest and real estate taxes for upper-income Americans, yet does nothing for the poor. Second, bankruptcy reform is needed to allow homeowners to write down the value of their homes and stay in their houses. Third, government could assume part of a mortgage, taking advantage of its lower borrowing costs.

Investment banks and credit rating agencies believed in financial alchemy – the notion that significant value could be created by slicing and dicing securities. The new view is that real value can be created by un-slicing and un-dicing – pulling these assets out of the financial system and turning them over to the government. But that requires overpaying for the assets, benefiting only the banks.

In the end, there is a high likelihood that if such a plan is ultimately adopted, American taxpayers will be left on the hook. In environmental economics, there is a basic principle, called “the polluter pays principle.” It is a matter of both equity and efficiency. Wall Street has polluted the economy with toxic mortgages. It should pay for the cleanup.

There is a growing consensus among economists that any bail-out based on Paulson’s plan won’t work. If so, the huge increase in the national debt and the realisation that even $700bn is not enough to rescue the US economy will erode confidence further and aggravate its weakness.
But it is impossible for politicians to do nothing in such a crisis. So we may have to pray that an agreement crafted with the toxic mix of special interests, misguided economics, and right-wing ideologies that produced the crisis can somehow produce a rescue plan that works – or whose failure doesn’t do too much damage.”

I think there’s enormous merit in Stiglitz’ approach. You don’t buy bad mortgages. They stay with the outfits that were stupid and greedy enough to buy them. Instead you inject government money into those same companies to restore their liquidity, taking back a preferred share position that means the taxpayers’ interest stands above all others. The taxpayers’ money has to be repaid – out of the good mortgages if it comes right down to it – before the other investors see a dime.

Steve Martin, sorry, he’s that other comedian, – Steve Harper has been running an empty campaign. No issues, no platform. Vote for me because I’m better than the others. Don’t worry about what I’ll do with your vote, that’ll be none of your concern after the election.

Harper has told us that there’s a Bad Moon Risin‘ south of the border and therefore we should put our trust in him to do – well he doesn’t want to say what he’s got in mind.

That’s just not good enough now that America’s boiling pot of red ink and bad paper is threatening to spill over. C’mon Steve, what gives? Just what do you see coming? What is it likely going to mean for Canada and Canadians? What can we do about it? What are our options? What do you plan to do about it if you get another minority? What do you have in mind if you get a majority?

Steve, if you don’t seek a mandate by giving us a clear platform, a plan of action to deal with what’s coming, don’t claim afterward that you’ve got a mandate. That’d be a goddamned lie and that’s a serious sin for a pious man like yourself, Steve.

Listen Steve, what’s that sound? It’s something flying off the blades of the fan down America way. We’ll need a lot more than sweater vests to get through this winter, Steve.

Time for some straight talk, Steve Harper. You called this scam election. You owe us that.

The rightwingnutjobs like nothing more than to promote the outlandish myth of conservatives as the guardians of fiscal restraint. That it’s an outright lie doesn’t trouble them because lies are the only thing that can hold their preposterous narrative together.

The chart above shows, administration by administration, how American presidents have tackled America’s debt. Debt is shown as a percentage of GDP represented by the lines – blue for periods of debt reduction, red for periods when debt was allowed to skyrocket.

Suffice to say the red line for George w. Bush will spike sharply upward this year as federal debt (exclusive of enormous unfunded liabilities) begins to approach 80% of GDP. …And where it stops, Nobody Knows!

Here is something to keep in mind while you’re mulling this over. After the bailout, if it goes through, the American federal debt this year will swell to $11.3-trillion. That omits unfunded liabilities such as Social Security and Medicaire which would triple that figure.

America’s Gross Domestic Product – the value of everything made in the country, comes in at about $14-trillion. So, even leaving out the lion’s share of the government’s red ink, the deferred and unfunded Social Security and Medicare liabilities, Washington is getting awfully close to a full year’s GDP in direct debt.

But it’s not just Washington’s debt that has to be fed out of that GDP. You have to squeeze in all the indebtedness of other levels of government and the private debt – you know, mortgages and the like. The best estimate of the total American debt (excluding Social Security and Medicaire) is $53-trillion.

And only a small part of that $14-trillion GDP can go to debt. A lot of it goes into direct spending – people have to eat, they have to put fuel in their cars, they have to send their kids to school; businesses need to pay their employees and buy supplies; governments need to pay for bureaucracies and buy tanks and jet fighters for their military, states have to maintain highways, cities have to pay their cops and on and on and on. At the end of the year the Feds alone have added another $400-billion in debt that just goes right on top of the pile along with the accumulated deficits anyone else is running.

Geez, ask yourself what the United States would look like today if it actually had to balance all of its budgets – individual, corporate, municipal, state and federal? I’ll bet there would be massive, widespread poverty to the point of provoking dangerous social upheaval. Wouldn’t that be a gruesome spectacle?