The fact is that the financial system needs basic, long-term reform, but right now the system is clogged with enormous amounts of toxic real-estate paper that will not repay according to its terms. This paper, in turn, is unable to support huge quantities of structured financial instruments, levered as much as 30 times.It's good to know that some folks out there are not merely advocating throwing public funds at the losers who got us into this deal, nor shrieking that the whole thing should be allowed to resolve itself and get the pain over with at once. Pain like a world-wide dperession? Yeah, that's the ticket.
Until there is a new mechanism in place to remove this decaying tissue from the system, the infection will spread, confidence will deteriorate further, and we will have to live through the mother of all credit contractions. This contraction will undercut the financial system, and with it, the broader economy that so far has held up reasonably well.
There is something we can do to resolve the problem. We should move decisively to create a new, temporary resolution mechanism. There are precedents -- such as the Resolution Trust Corporation of the late 1980s and early 1990s, as well as the Home Owners Loan Corporation of the 1930s. This new governmental body would be able to buy up the troubled paper at fair market values, where possible keeping people in their homes and businesses operating. Like the RTC, this mechanism should have a limited life and be run by nonpartisan professional management.
It is certainly the case that the new institution we are proposing will in the short run require serious money. That will involve a risk to the taxpayer; but the institution, administered by professionals, means that ultimate gains to the taxpayer are also possible.
Moreover, a failure to act boldly in the fashion we are suggesting would cost the taxpayer and the country far more. The pathology of this crisis is that unless you get ahead of it and deal with it from strength, it devours the weakest link in the chain and then moves on to devour the next weakest link. A deteriorating financial system, diminished economic activity, loss of jobs and loss of revenues to the government is enormously costly. And the cost to our citizens' well-being is incalculable.
Resurrect the Resolution Trust Corp.
Neither of the fools running for Preznit seem to have a clue of what to do, floundering around with vague or outlandish suggestions instead of offering a clealry defined, demarcated and effective management operation that provides the right kind of government intervention to stabilize a system and prevent catastrophic failures that do the most long-term harm to the actors least able to withstand upheavals in financial markets. The Masters of the Universe formerly employed by the greed machines will be fine after a few months of twiddling their thumbs. They'll network and help each other into lucrative positions in new ventures intended to generate money for nothing and the chicks for free.
The people hurt will be the working class poor, especially minorities and women, who will be hit with double-whammies of toxic loans and a retracting economy. Not that our current Democratic nominee has anything to offer people. He hasn't really thought about it. He warns against doing anything hasty. He's really not much into using the government proactively to help people who are in no position to weather this economic hurricane whose outer bands are starting to send a lot of water over the seawall.
Of course, way back in March, we did have a candidate who could see what was barreling down at us and who was proposing exactly the things Volker et. al. are saying today in the WSJ:
Hillary Clinton said she fears the U.S. is slipping into a Japanese-style economic malaise that will overwhelm the Federal Reserve's considerable powers.
The Democratic presidential candidate said the U.S. government should be ready to buy troubled mortgages from investors and lenders to spur a recovery and avoid a lengthy period of stagnation because of unaddressed weaknesses in the financial sector.
"We might be drifting into a Japanese-like situation," she said Wednesday in a wide-ranging interview with The Wall Street Journal on economic issues. "I don't think we can work our way out of the problems we're in in the broad-based economy with monetary policy alone. I think the Japanese tried that and tried and tried that.
Sen. Clinton said that, if the government's buying and eventual sale of the mortgages is handled well, "over the long term, the government involvement would be self-financing."
Treasury Secretary Henry Paulson Wednesday criticized the Clinton proposal, which harkens back to the New Deal's Home Owners Loan Corp. That agency helped families avoid foreclosure by replacing mortgages in default. It bought mortgages from banks with government bonds and then issued new, lower-cost loans to homeowners. "We do not need a system-wide solution for the vast majority of loans where a homeowner temporarily has negative equity," said Mr. Paulson. "Negative equity does not affect borrowers' ability to pay their loans," and in the long run many homeowners will find their purchases "good investments" despite their current woes, he said.
In a speech on economic policy scheduled for Thursday in New York, Sen. Obama is expected to emphasize tax cuts for middle-class families -- a proposal Sen. Clinton doesn't endorse -- and additional ways to stem foreclosures. His economic advisers caution that the next turn in the financial crisis will be credit-card debt. Credit-card delinquencies are rising as hard-pressed consumers turn to plastic to pay for the rising costs of gasoline, groceries and other necessities, in addition to discretionary purchases, such as furniture.
"You have the same deterioration of credit standards, the same securitization of debt, the same leveraging, the same inability of people to pay," said Austan Goolsbee, the Illinois Democrat's chief economic adviser. "People are using credit cards as their cushion. We're set up for a consumer credit-card debt crisis if we do nothing."
In the interview, Sen. Clinton, a New York Democrat, said even the specter of taking office during a recession hadn't changed her determination to boost taxes on the wealthiest taxpayers by reversing the Bush tax cuts. Those tax cuts are set to expire at the end of 2010. She dismissed the argument that taxpayers look ahead at what their tax bill may be in the future. "I don't buy it," she said. "The tax rates of the '90s did not slow down investment and wealth creation."
Hillary Clinton Pushes for More Governmental Aid to Homeowners
Yup, she called it back in March when the Republicans were pooh-poohing the idea of crisis and where Obama didn't want to be seen agreeing with an opponent. She even challenged the cut-taxes mantra by flatly saying she was going to raise the taxes on the people who had become filthy rich through this financial shell game.She saw that this was not just a challenge for individual home owners or consumers, as though situations like this because of silly choices by some marginal economic actors and not because of institutional and structural defects in the financial market itself, but a fundamental crisis for the financial system that had gotten in over its head.
Maybe next time we can have a real Democrat on the ticket, not just two guys who owe their souls to the financial services industry?