"MUST READ" because this is the single best explanation of the American
financial crisis I have seen so far! Hajja Romi
Not Without These Elements (and Perhaps Not Even With Them)
Can a Bailout Succeed?
By PAUL CRAIG ROBERTS
While the U.S. Senate predictably capitulated to the demands of Wall Street
last night, for the first time in recent memory the House listened to the
American people and blocked Paulsons bailout of his rich buddies by US
taxpayers. The same House that refuses the publics demand that the Bush regime
be held accountable and its gratuitous wars halted refused to hand over $700
billion to the financial institutions whose irresponsibility has brought the US
to its worst economic crisis since the Great Depression.
We must be thankful for this sign that American democracy is not completely
dead and supplanted by executive branch authority. However, whatever bailout
package that emerges will fail unless it takes into account the following.
Any package that maintains the mark-to-market rule and permits the resumption
of short-selling will undermine itself. In panic conditions without the
existence of a market, the mark-to-market rule results in asset prices being
driven below their values, thus eroding balance sheets and producing
insolvencies. Short-selling permits short-sellers to profit by destroying the
share prices of institutions suffering balance sheet problems, thus eliminating
their ability to borrow and driving them into failure.
A bailout, however large, that maintains the mark-to-market rule and permits
short-selling will pour money into a black hole.
A bailout that is treated as a mere addition to the US governments already
massive indebtedness will disconcert foreign creditors. There is a limit to the
amount of debt for which the US Treasury can assume responsibility without
undermining its own credit rating. The bailout, especially if the $700 billion
proves insufficient and more is needed, could impair the Treasurys credit
standing.
In this event, foreign creditors might not provide the funds needed for the
bailout or would provide them only at higher interest rates, which would
themselves undermine the bailouts success.
According to a September 29 report in the Washington Post:
Twenty of the nation's largest financial institutions owned a combined total
of $2.3 trillion in mortgages as of June 30. They owned another $1.2 trillion
of mortgage-backed securities. And they reported selling another $1.2 trillion
in mortgage-related investments on which they retained hundreds of billions of
dollars in potential liability, according to filings the firms made with
regulatory agencies. The numbers do not include investments derived from
mortgages in more complicated ways, such as collateralized debt obligations.
Leaving aside the collateralized debt obligations, adding the three
mortgage-related instruments of the 20 financial institutions comes to $4.7
trillion of which $700 billion is 15 percent. If more than 15% of just these
troubled instruments are bad, the bailout would require more money. At what
point would foreign creditors see an endless pit?
If foreign creditors are to finance the bailout, it must be credible. The best
way to achieve credibility is to combine the bailout with a reduction in other
forms of US foreign borrowing, specifically the US governments budget deficit
and the US trade deficit.
Based on assumptions that do not allow for recession and, perhaps, the full
amount of the wars cost, the US budget deficit is estimated to be in excess of
$400 billion. Considering the urgency of the bailout, the $700 billion would
also be near-term borrowing. This means a minimum of $1.1 trillion in new US
borrowing over the course of the year, a sum that could cause foreign creditors
to blink.
The bailout would gain credibility if the US budget and trade deficits were
addressed as part of the package. The US government needs to choose between its
financial system and its wars. As the wars serve no US interest except for
those of a few powerful interest groups, the government should declare an
immediate end to the wars, thus reducing the budget deficit by at least $200
billion annually.
The government should then turn to the military budget, which at about $700
billion is larger than the combined military spending of the rest of the world
combined. The only justification for such an enormous amount of military
spending is a policy of US world hegemony, a policy that financial collapse
makes nonsensical. The defense budget needs to be cut sufficiently to bring the
US budget into balance or, better still, into $100 billion surplus.
Such action would demonstrate to foreign creditors a responsible approach to
the economic crisis. Instead of more than doubling the demands for new credit
from foreign creditors, the US government could keep the current level of
borrowing constant by eliminating the budget deficit. This would signal a new
seriousness to foreign lenders.
The trade deficit also must be addressed. The US is dependent on the
willingness of foreigners to finance its annual consumption of $800 billion
annually more than it produces. This ongoing financing floods foreign creditors
with dollar assets in such large quantities as to raise questions about the
worth of the US dollar.
The offshored production of goods and services for US markets has added
significantly to the US trade deficit as these offshored goods and services
count as imports when US corporations bring them to the US to be marketed.
Offshoring activity must be curtailed either with taxes, quotas, or tariffs. It
would be difficult to impose tariffs or quotas on goods made by companies of
our foreign creditors. But US firms that are producing offshore for US markets
could be curtailed. Eventually steps will have to be taken to bring the US
trade deficit into balance, but this could await the end of the financial
crisis.
Over the last 20 years the US has made a collection of serious mistakes that
may yet prove fatal. With the collapse of the Soviet Union, the US government
launched a policy of world hegemony for which it lacked the means. The US
government permitted much of its manufacturing base to be located offshore to
the point of even being dependent on imports for its military capability. The
US government deregulated the financial sector and permitted the rise of new
highly leveraged financial instruments whose failures currently threaten the US
with economic collapse.
University of Maryland economist Herman E. Daly points out that the current
crisis is really one of the overgrowth of financial assets relative to growth
of real wealth. Daly believes that financial assets have grown by a large
multiple of the real economy and that paper exchanging for paper is now 20
times greater than exchanges of paper for real commodities. Exploding debt
liens have simply outgrown the wealth.
The problem, in other words, cannot be bailed out. Historically, debt that
cannot be redeemed has been repealed by inflation. The same inflation that
wipes out debt will wipe out savings.
A failed bailout is the worst possible outcome. The chance of failure rises if
the US government tries to turn bad private debt into good public debt without
regard to the expansion of the public debt.
Paul Craig Roberts was Assistant Secretary of the Treasury in the Reagan
administration. He was Associate Editor of the Wall Street Journal editorial
page and Contributing Editor of National Review. He is coauthor of The Tyranny
of Good Intentions. He can be reached at: [EMAIL PROTECTED]
http://www.counterpunch.org/
[Non-text portions of this message have been removed]
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