Wednesday, September 17, 2008

Where 'Art Thou, Mr. President?

'Fess Up: President George Bush must go on primetime television and use the bully pulpit to inject confidence in the American psyche that the financial skies are not falling and together we can ride out this brutal, painfull tsunami. He should tell the truth and mince no words that his administration shares blame for the mess we find ourselves in. And, he should spell out exactly how to first weather and then make the proper adjustments in the future. After all, the American consumer is as much at fault as the predatory lenders. Consumer confidence is the subtle psychological key needed to forge ahead and avoid total disaster which already has destroyed third world economies. Bush is not an inspirational orator unlike his presidential hero Teddy Roosevelt. But, a speech can be crafted that goes beyond the bromide he offered immediately after the Sept. 11, 2001, terrroist attacks. "Go shopping," won't cut it this time. He must call on Americans to sacrifice, not that most victims of the affected financial sectors aren't doing that already. But, sacrifice by changing the culture of borrowing and spending to within their means and the habit of treating their homes as ATM machines. For a Harvard Business graduate, Bush appears flummoxed by the crises and has shirked the leadership role and the heavy lifting to Treasury Secretary Henry Paulson. We've seen lame duck presidents in the past but Bush is taking it to nose-bleeding heights. Much of the crises is of Bush's and the Republican Party's own making with help from key Democrat banking committee chairmen Rep. Barney Frank and Sen. Chris Dodd (for their paternal protection of Fannie Mae and Freddy Mac). Bush's appointments on financial regulatory agencies were blinded by the idealogy of de-regulation and failed to peform their jobs protecting investors and consumers. If their subordinants raised red flags, the top brass wasn't listening and greed in the corporate world flourished. Meanwhile, Bush spent two minutes in the Rose Garden Thursday reading a statement that the markets are adjusting to "extradordinary measures" the government has taken to stabilize the economy. The infusion of federal funds to bailout the private sector -- a departure from past Bush policies -- is a step to keep taxpayers from facing the potential of even worse problems, White House aides said.

Fundamentally Strong: Bush and John McCain have taken heat from the media and Democrats on pronouncements the economy is "fundamentally sound." In some sectors, there's evidence to support such assertions -- but McCain's fallback reasons placed on the productivity and ingenuity of the American worker is not one of them. After turning negative in the last quarter of 2007 and growing at an anemic 0.9% in the first quarter of 2008, the nation's gross domestic product helped by $165 billion of more borrowed money in government stimulus checks grew 3.3% in the 2008 second quarter. The weak dollar helped U.S. exports while high prices have benefitted food and other commodities, agriculture, energy and mining industries. Even these sectors will suffer "if all this should lead to a tightening of credit, which it very well might," said Hank Cox, spokesman for the National Association of Manufacturers. Back to McCain. If he has such a high regard for the U.S. labor market, why does he support policies that oppose labor unions, oppose equal pay for women and cut net income by $2,000 over the past eight years while rewarding corporations to relocate their workforce to foreign countries?

Bad News Bears: The U.S. economic pratfall has sent world markets into a tailspin. Russia closed its market to avoid panic. The Federal Reserve negotiated as much as $180 billion cash relief from central banks in Europe, Canada and Asia. The move , called swap lines or reciprocal currency arrangements, is designed to encourage tight-fisted banks to spread billions of dollars globally in exchange for foreign currencies. "It seems as though banks are hoarding cash, no matter what rate they could be lending it at," said David Rosenberg, North American economist at Merrill Lynch. The U.S. stock market in the past four days has lost nearly $700 billion in investments -- at least on paper. The nation's five major investment banks -- Bear Stearns, Merrill Lynch and Lehman Brothers -- collapsed or acquired cheaply by other banks. The other two -- Goldman Sachs Group Inc. and Morgan Stanley -- are under seige. While investors demanded to buy super-safe Treasury, yield on the 3-month notes sunk below zero after commission for the first time since 1940. The $85 billion bail out of insurance giant AIG means taxpayers are the majority shareowners, a first in U.S. history. Construction of new homes and apartments fell 6.2% in August, the biggest one-year drop in 17 years. Jobless application claims rose 5,000 to 445,000 last month. Economists consider claims exceeding 400,000 a sign of a struggling economy. Unemployment is 6.1% and rising. The total taxpayer obligation now sits at $100 billion for the banking system bailout, $115 billion more to rescue Bear Stearns and AIG and growing. This is the greatest destruction of financial wealth ever witnessed and measured in trillions of dollars. It stretches to corporate wealth, oil wealth, real estate wealth, bank wealth, private-equity wealth, hedge fund wealth, pension wealth. Stephen Pearlstein, an economist writing an op-ed article for the Washington Post, called it a painful reminder of the trappings of new global infrastructure. "...Finance is still a confidence game -- and once the confidence goes, there's no telling ..." when the crash will end, Pearlstein wrote.

Sobering Thoughts: While there is little doubt the subprime mortgage scandal sending the housing market into freefall chaos triggered the crises, foreign creditors for the past decade were only too happy to provide U.S. households, corporations and governments all the cheap money they wanted. Once the house of cards -- Ponzi scheme in the case of subprime lenders --fell they retrenched and told us to begin living within our means. What they saw, and our regulators didn't, was the price of residential and commercial real estate, corporate takeover targets and the stock of technology companies rose and kept on rising until the markets turned into classic bubbles. While this was going on, many industries expanded to accommodate the demand only to find themselves caught in the net. "What should have happpened at that point," writes Pearlstein, "was that interest rates on those loans should have increased, demand for that kind of borrowing should have decreased, the price of real estate and corporate stocks should have leveled off, takeover activity should have slowed and companies should have cut back on expansion." Instead, Wall Street banks that originally made these loans before selling them off in pieces decided to keep the good times rolling and lucrative underwriting fees pouring in. According to Pearlstein, some used their Triple A credit ratings to borrow more money and keep the loans on their own balance sheets as "structured investment" vehicles in order to hide new liabilities to investors and regulators. Others returned to the foreignors and offered to insure those now-unwanted takeover loans and asset-backed securities against credit losses -- a new kind of derivative contract known as a credit-default swap. As a result, the unsuspecting foreign creditors were burned as was their creators who made the mistake of doubling down on their credit risk at the very moment they should have been cutting back, Pearlstein said.

Two Choices: Since Treasury can borrow from foreign banks and investors at incredibly attractive rates, perhaps the U.S. government can keep the economy and financial system afloat
as long as regulatory and oversight provisions are enforced. One strategy offered by the Democrats is creating a new agency that would use money borrowed by Treasury to recapitalize troubled financial institutions by buying their unwanted loans and securities at discounted prices. This was a successful practice during the Great Depression and the savings and loan crises of the 1980s. "The only other choice is for Americans to finally put their spending in line with their incomes and their need for long-term savings," Pearlstein concludes.

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