The $700 Billion "No Deal" Deal

Posted on September 11, 2008 at 9:05 PM PDT by

Today was a bad day for trying to reach consensus on the mortgage bailout thanks to House Republicans trying to remember what fiscal conservatism means. After eight years of writing checks to fund anything and everything the Bush Administration sought, these members of Congress remembered they must stand for re-election on November 4th. Apparently, they believe that standing behind conservative fiscal ideologies for the next 40 days will keep them in their seats in Washington.

I’m not sure I can blame them for disliking the so-called Paulson Plan. Let’s consider the most recent set of facts:

  • Are we really going to rely on the same people who led us into this mess to get us out? It is entirely possible that had Fannie Mae and Freddie Mac reform legislation been passed two years ago, the scale of the current economic mess would be greatly reduced.
  • I’ve heard a number of financial experts talking today about how the taxpayers will make money on their $700 billion investment. Here’s why I disagree. Investing in bad mortgages is not like investing in distressed companies. If you invest in a distressed company, the company can right itself and provide a good return. If you invest in a second mortgage that was written on a house valued at twice what its currently worth, the odds are slim you will ever see a positive return on that investment.
  • Secretary Paulson’s plan would entitle him to purchase assets from any financial institution. When asked if this would allow him to purchase from pension plans, he said yes. How does purchasing from a pension plan help the homeowner facing foreclosure or the bank who can’t afford to lend any money?
  • From what I can tell, the plan does not differentiate between the types of loans that the government can purchase. There is a big difference between purchasing a first mortgage on a property and purchasing a no-documentation loan or home equity line of credit. We may have a chance of recouping money on the first mortgage; we have little to no chance on the others.
  • Where are the details? Three pages aren’t enough for me to feel comfortable spending this kind of money.

What if we don’t do anything at all? What if we let the market sort this out on its own? Isn’t this socialism at its worst? As much as I believe in free markets ability to self-regulate, I no longer believe nothing is an option. The United States cannot afford to lose credibility with foreign investors while we’re $9.6 trillion in debt. It would be disastrous if foreign countries no longer purchased our debt because they didn’t trust the United States financial markets. If we let this linger, retirement investment accounts and pensions could be seriously impaired.

How do we know that a $700 billion bailout will work? Haven’t we already pumped hundreds of billions of dollars into the economy? How can we claim that this money is working when the nation’s largest thrift, Washington Mutual, just failed tonight? There is no simple answer to this. The fact is nobody knows the right number. It’s simply a guess.

So what should happen? Here are some things that I believe are critical when a bailout plan eventually gets finalized.

  • Phased approach. There is no reason to spend all the money up front. It makes sense to invest a portion, watch what happens, and evaluate how successful the strategy is.
  • Once the government purchases assets, it must be ready to work out these loans to prevent further foreclosures. If we can stem the tide of foreclosures, we can stop this meltdown dead in its tracks.
  • Oversight. The Treasury must be accountable for what it purchases. A plan with no or little oversight asks for corruption, preferential treatment to certain institutions, and the like.
  • Taxpayers first. This bailout is to protect the taxpayer. Any proceeds from this bailout should go to pay back the money we borrowed and to lower the deficit, not into the pockets of Wall Street bankers who aided in creating this mess.

I wish us all luck in the coming days, and hope that Washington is able to set aside both partisan and Presidential politics in order to put together a plan that has a chance of succeeding in a timely fashion.