SFE blog Consectatio offers some excellent food for thought on the bailouts:

Every reaction the government has to the current “crisis” keeps leaving me with the question “How could we possibly dig ourselves any deeper?” Needless to say, I have been amazed at our ingenuity in this regard. Fr. Sirico’s observations (”Isn’t it obvious that once we concede the principle of a bail-out for those ‘too big to fail,’ we invite a queue that will wrap around the globe?”) are becoming more and more realized, with one of the latest announcements that the FDIC is now proposing to “help delinquent homeowners”.

Dictionary.com defines delinquent as: “failing in or neglectful of a duty or obligation“, and these are the folks who are getting the bailouts.

This begs the question, if you fathered two twin sons who were very, very different (one was very responsible and planned ahead, the other was reckless and failed in fulfilling or was neglectful of duties or obligations), who would you drop the big bucks to send to college? Which one is going to take care of you when you retire? Which could you trust with your money? Which investment guarantees that the money will be spent for productive purposes?

It is true that people had varying degrees of awareness about the oncoming dip in the housing market, but, as Christopher Deming pointed out:

“The banks are regulated. They have to tell you everything. They can’t make you read it, and really, why should they have to? They spend the time to write it, the least you could do is go through it.”

When you sign a mortgage agreement, you know what you are getting into. This is why, Chris says “there is a reason why you don’t see mortgage agreements written on cocktail napkins.”

I’ll wrap this up with a personal example: I am starting a new Electrical Engineering job in January. I have to move across the state, and, while I knew that I would be given no relocation fee, I knew there was a signing bonus included with the job. I was later notified that the signing bonus would be given to me in the first paycheck, which will appear about a month after I start (…and four months later than I had expected).

This means, I’m on my own for a U-Haul, securing an apartment, and all of the additional charges associated with moving to a new place. This may not seem like much, but it is quite a bit for a student to handle (I haven’t been making nearly as much as the typical starting-salaried engineer in my internship). Regardless of my smaller salary, I have managed to save enough in my bank account to allow me to get a U-Haul, secure an apartment, buy an engagement ring, and have several months of groceries or whatever else I may require.

This does mean, however, that I do not have an mp3 player (not even a cheap one). As a bass guitar-playing, electrical engineer, I do not even own a Sansa. I also do not have a cool, flashy cell phone, and my car is probably 25% rust. I rode my bike 26 miles a day last summer to work and back to avoid buying gas, and I ate two packs of oatmeal for lunch every day instead of going out to eat.

I’m not trying to make myself sound spectacular, but I know my own story the best.

There are plenty of people who have saved. There are many people who did not rule out the possibility of this “crisis” and they planned accordingly. These are the good sons that are not only going unrewarded, but paying out of their pockets for those who were reckless.

An excerpt of the newest proposal (with some more specifics) can be found on CNN here:

“The proposal would have the government share up to 50% of the losses if the homeowner re-defaulted on the modified loan.”*

Yes, it appears that the age of personal bailouts is on the horizon.

How could we possibly dig ourselves any deeper?

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*Recent talk of “help” for people struggling with mortages has included the idea of offering lower rates or exemptions from payment only to those who have missed at least three payments.  Talk about moral hazard.

From Chris’s Color Commentary:

“Little did I know, until a recent exposure to this concept at certain gala event, that banks really are villainous monstrosities.  I was not aware that banks gave loans.  I was always under the naive assumption that people asked for them.  Silly me.”

From Consectatio:

“…let me get this straight. We are going to seize people’s private savings and force them to deposit a percentage of their earned income into a “guaranteed retirement account”. That sounds roughly like Social Security to me… I suppose that is why it makes sense to have this new account be managed by the Social Security Administration…

…This sounds strikingly similar to the definition of the “guaranteed retirement account”, so why is this proposal gaining any ground whatsoever? Is it because we don’t currently have a “guaranteed” social security?”

By the Mackinac Center’s own David Littman in today’s Detroit News:

Reject bailout rush to socialism

Fix government ventures, rules that got nation into trouble, not market

David Littmann

Prudent workers, taxpayers and firms are getting the bum’s rush on a massive proposed bailout from panicked politicians who are weeks away from a national election of extraordinary significance.

In this case, a bipartisan group is forcibly trying to eject this country from a market-based, decentralized economic and financial system. Washington, its politicians and armies of regulatory employees are touting another elixir of taxpayer dollars to fix yet another of their colossal fiascos. The proposed federal intervention (up to a $1 trillion bailout of distressed assets and bonus-paying firms) is the antithesis of what the competitive markets of capitalism would permit.

The problem is not the fundamental well-being of our economic system. At midyear, the U.S. economy was still running at growth between 2-3 percent above 2007 levels, even discounting inflation. The national unemployment rate was 6.1 percent, not the 35 percent of the Depression era. The stock market remained higher than the levels of four years earlier.

No, the problem lies with the bursting of the residential housing bubble that developed an irrational price exuberance (except in Michigan) in the wake of the Federal Reserve’s exceptionally easy monetary policies from 2003 to 2006. Economics students understand this axiom: “Loose money policies create tight credit conditions.”

In this case, the tight credit situation — where banks fear lending, and markets no longer supply bonds or equity capital — emerged because of the collapse of the housing bubble and the suicidal regulatory mandates that politicians and their special-interest campaign fund-raisers legislated. And Wall Street’s pursuit of opaque financial derivatives and the credit rating agencies’ complicity in subprime mortgages played a role.

Yet, to cover their corrupting decisions and past complaisance, Washington’s major mouthpieces — from former Federal Reserve Chairman Alan Greenspan and Treasury Secretary Hank Paulson to Senate Banking Committee Chairman Chris Dodd — now say that unless we trust them with a new round of our scarce resources, the U.S. economic system will collapse. This rhetoric is meant to panic us into accepting a new federal steward of our hard-earned dollars.

But when you dissect the palaver, what you see is a bare-knuckled proposal to further centralize federal control over the marketplace of investments and savings. Such a revolutionary move is socialism. It will not simply be a matter of taxing the rich or those with some ability to pay for the purpose of redistributing shelter to the poor. It will represent an institutionalization of financing immoral behavior. Why?

If I take an interest-only loan with the hope and bet that my new mortgage will pay for itself as home prices escalate, it leaves me free to spend, not save, on other things. I have little reason to defer purchases. When housing prices go south, however, I can walk away as if my payments were just rentals and the lender gets back a depreciated asset. Why reward this kind of behavior by either the lender or the borrower?

Considering the incentives that were in place, we now know why so many fellow citizens chose these reckless options. And clearly, Washington does not want you to remember the four ways it has brought us to this unfortunate moment. Let’s review:

• The Community Reinvestment Act (approved in 1977 during the Carter administration) compelled banks and other lenders to loan money and grant mortgages in areas where they would have never dreamed of making such loans because of the exceptional risks of default. Banks were denied charters for growth and geographical expansion if regulators found them to be out of compliance with these politically correct regulations, enforced by the Federal Reserve and others.

• Government-sponsored enterprises (such as Fannie Mae and Freddie Mac) received taxpayer subsidies to provide mortgages and are favored by politicians and regulators with the privilege of maintaining very thin capital reserves as buffers against losses that result from defaulting on delinquent mortgages.

• Insane accounting rules, the Sarbanes-Oxley regulatory regime and Securities and Exchange Commission rules have contributed to the mess, especially the devastating “mark-to-market” requirement. The financial reports of firms and financial organizations must carry assets on their ledgers as though they were forced to sell them immediately into distressed markets, rather than at book value.

This is like requiring people to send wedding or graduation photos of themselves to newspapers while sick with the 24-hour flu rather than pictures of themselves when they are healthy the rest of the year. No wonder the market seized up.

Regulators require that firms go to the market and raise capital when their assets fall below book value, even if it is a paper value, rather than a real loss, that is registered. When hundreds of large and small firms all seek scarce capital at once, the market can’t meet their needs.

• And the Federal Reserve spurred subprime lending by pursuing inflationary money policies that dropped bank-borrowing rates to 1 percent.

To avoid greater government involvement and messes in the future (think Medicare, Medicaid and Social Security), Washington must extricate itself from the market. As real estate prices become more affordable, credit-worthy firms and individuals throughout the nation and world are ready to pounce on bargains that will appreciate.

The government got America into this situation. The solution is simple: Government, get out.

By Ron Paul for CNN:

Many Americans today are asking themselves how the economy got to be in such a bad spot.

For years they thought the economy was booming, growth was up, job numbers and productivity were increasing. Yet now we find ourselves in what is shaping up to be one of the most severe economic downturns since the Great Depression.

Unfortunately, the government’s preferred solution to the crisis is the very thing that got us into this mess in the first place: government intervention.

Ever since the 1930s, the federal government has involved itself deeply in housing policy and developed numerous programs to encourage homebuilding and homeownership.

Government-sponsored enterprises Fannie Mae and Freddie Mac were able to obtain a monopoly position in the mortgage market, especially the mortgage-backed securities market, because of the advantages bestowed upon them by the federal government.

Laws passed by Congress such as the Community Reinvestment Act required banks to make loans to previously underserved segments of their communities, thus forcing banks to lend to people who normally would be rejected as bad credit risks.

These governmental measures, combined with the Federal Reserve’s loose monetary policy, led to an unsustainable housing boom. The key measure by which the Fed caused this boom was through the manipulation of interest rates, and the open market operations that accompany this lowering.

When interest rates are lowered to below what the market rate would normally be, as the Federal Reserve has done numerous times throughout this decade, it becomes much cheaper to borrow money. Longer-term and more capital-intensive projects, projects that would be unprofitable at a high interest rate, suddenly become profitable.

Because the boom comes about from an increase in the supply of money and not from demand from consumers, the result is malinvestment, a misallocation of resources into sectors in which there is insufficient demand.

In this case, this manifested itself in overbuilding in real estate. When builders realize they have overbuilt and have too many houses to sell, too many apartments to rent, or too much commercial real estate to lease, they seek to recoup as much of their money as possible, even if it means lowering prices drastically.

This lowering of prices brings the economy back into balance, equalizing supply and demand. This economic adjustment means, however that there are some winners — in this case, those who can again find affordable housing without the need for creative mortgage products, and some losers — builders and other sectors connected to real estate that suffer setbacks.

The government doesn’t like this, however, and undertakes measures to keep prices artificially inflated. This was why the Great Depression was as long and drawn out in this country as it was.

I am afraid that policymakers today have not learned the lesson that prices must adjust to economic reality. The bailout of Fannie and Freddie, the purchase of AIG, and the latest multi-hundred billion dollar Treasury scheme all have one thing in common: They seek to prevent the liquidation of bad debt and worthless assets at market prices, and instead try to prop up those markets and keep those assets trading at prices far in excess of what any buyer would be willing to pay.

Additionally, the government’s actions encourage moral hazard of the worst sort. Now that the precedent has been set, the likelihood of financial institutions to engage in riskier investment schemes is increased, because they now know that an investment position so overextended as to threaten the stability of the financial system will result in a government bailout and purchase of worthless, illiquid assets.

Using trillions of dollars of taxpayer money to purchase illusory short-term security, the government is actually ensuring even greater instability in the financial system in the long term.

The solution to the problem is to end government meddling in the market. Government intervention leads to distortions in the market, and government reacts to each distortion by enacting new laws and regulations, which create their own distortions, and so on ad infinitum.

It is time this process is put to an end. But the government cannot just sit back idly and let the bust occur. It must actively roll back stifling laws and regulations that allowed the boom to form in the first place.

The government must divorce itself of the albatross of Fannie and Freddie, balance and drastically decrease the size of the federal budget, and reduce onerous regulations on banks and credit unions that lead to structural rigidity in the financial sector.

Until the big-government apologists realize the error of their ways, and until vocal free-market advocates act in a manner which buttresses their rhetoric, I am afraid we are headed for a rough ride.