- For the first time in recent memory Congress listened
to the American people and blocked Paulson's bailout of his rich buddies
by US taxpayers. The same Congress that refuses the public's 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
- Any package that maintains themark-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
- 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
government's 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 Treasury's 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 bailout's success.
- According to a September 29 report in the Washington
- "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."[Broad Authority, Lots of Money
And Uncertainty ]
- 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 government's 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 ffshored
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 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
- Paul Craig Roberts [email@example.com] was Assistant
Secretary of the Treasury during President Reagan's first term. He was
Associate Editor of the Wall Street Journal. He has held numerous academic
appointments, including the William E. Simon Chair, Center for Strategic
and International Studies, Georgetown University, and Senior Research Fellow,
Hoover Institution, Stanford University.