$700 Billion for Disastrous Financial System Bailout

by Hans Bader on September 20, 2008 · 40 comments

Bush is seeking $700 billion to buy “bad mortgages” in the largest bailout in history.  The proposal attempts to bail out the entire financial system, rather than individual banks.  This sweeping federal intervention will turn out to be either excessively costly, or unnecessary.  Defenders of this bailout, like Treasury Secretary Hank Paulson, claim it is needed because the mortgage meltdown and ensuing panic have led to mortgages having a market value of far less than they are truly worth, drying up markets for mortgages and resulting in “frozen” credit markets.

But even if this is true, it’s no reason for a bailout.  There are two possibilities, neither of which justifies a bailout.  Either the mortgages are just as worthless as their current market price suggests, in which case the banks that hold them, rather than taxpayers, should pick up the tab (and any insolvent banks should be closed, so that they cannot gamble with depositors’ and taxpayers’ money in the future).

Or, the mortgages are worth much more than they are currently valued — their current value being set under federal “mark-to-market“ accounting regulations, which require that assets like mortgages be conservatively valued at what they can currently be sold for at the moment, rather than what they would be worth if held to maturity.  If that’s the case, then federal accounting regulations need to be immediately relaxed by federal agencies like the SEC that enforce them — as John Berlau argues today in the Wall Street Journal, and as former FDIC Chairman William M. Isaac urged yesterday in a Journal editorial attacking the federally-enforced Fair Value Accounting Rules and Basel II capital rules.  (This would also be a good time to revisit the truly senseless accounting regulations imposed by the Public Company Accounting Oversight Board, which cost the U.S. economy over $35 billion per year, and were used by sub-prime mortgage lender Countrywide Financial as a smokescreen to hide its risky business practices).

As John Berlau and Holman Jenkins have noted in the Wall Street Journal, if it were not for federal accounting regulations, the federal bailout of AIG might never have been necessary.   And banks, rather than dumping their own sub-prime mortgages at fire-sale prices to meet reserve and regulatory requirements, might instead have been willing and able to purchase or make loans to troubled financial institutions that now will have to be bailed out by the taxpayer.

As we noted yesterday, federal regulation contributed to the mortgage bubble and meltdown, as regulators encouraged and promoted risky lending, rather than curbing it.  Laws that pressure banks to engage in risky lending, like the Community Reinvestment Act, remain in full force, and the government-backed mortgage giants Fannie Mae and Freddie Mac, which failed and were taken over by the federal government, are now buying even more risky mortgage loans.  “Affordable housing” mandates continue to encourage risky lending.

But politicians, seeking to avoid any responsibility for causing this mess, are blaming the mortgage meltdown entirely on the free market and an alleged lack of regulation.  And journalists who recently (and belatedly) admitted the role of federal affordable housing mandates in causing the mortgage crisis, like the Washington Post’s Steven Pearlstein, a long-time cheerleader for Fannie Mae against its critics, are now back to their long-time role of cheerleading for more federal involvement in lending, and claiming that the massive federal bailout proposal shows the need for still more regulation of financial markets.

John Lott explains how regulators helped spawn the mortgage crisis by eroding lending standards here and here.

Brian September 20, 2008 at 7:12 am

The Constitution of the United States of AmericaBill of RightsAmendment I: Freedom of speech, religion, press, petition and assembly.Congress shall make no law respecting an establishment of religion, or prohibiting the free exercise thereof; or abridging the freedom of speech, or of the press; or the right of the people peaceably to assemble, and to petition the Government for a redress of grievances.On this day the 19th of September in the year 2008 we hereby issue an invitation to affix your name upon the petition for a redress of grievances.“The Use of Taxpayer Monies to Bailout Fraudulent Bankers Shall Be Prohibited”The Citizens assembled of the Republic of the United States of America hereby declare to the Congress of the same that they shall not continue to raid the People’s Treasury to resolve the immoral and illegal practices of lenders and speculators in the Domestic and Foreign Markets. The Moral Hazard of private profits and public losses has resulted in an imbalance in the Treasury creating a deficit that threatens the foundations of this Republic. The duly elected servants of the People have betrayed the trust bestowed upon by the Founding Fathers and signatories of the Constitution of the United States of America by putting financial interests ahead of and to the detriment of the will of The People thereby forfeiting those positions of responsibility. We the signers of this petition strongly protest the fiscal malfeasance of those who have sworn to uphold the laws and protect the interests of The People and call on those individuals who will not cease the illegal raiding of the Treasury to resign forthwith. Those that stand against the tyranny of moneyed interests and with the taxpaying citizens of the Republic are hereby urged to hold fast against the immoral and shameful behavior of those seeking bailouts. We urge all that sign to copy and disseminate this petition as widely as possible throughout the Republic. Together we can restore the People’s interests.

daltonsbriefs September 21, 2008 at 3:42 am

Terrific post, I've been hoping that conservatives would start talking about the government's role in causing this crisis in the first place. The problem isn't too little regulation, but far too much.As a home builder I watched governments at local, state and national level regulate our industry to the point of collapse. As a mortgage lender I've now watched regulations raise the cost of obtaining a home, raise the cost of overhead to all participants, and somehow reduce the market's belief in what used to be the strongest credit market in the world.

Topcat September 21, 2008 at 2:36 pm

Another point. Why all the worry about 'the marked to market rules'? Again, Free Marketers are always on the hunt to put the blame on some regulation as the cause of a market-induced problem. Any buyer of this debt is free to disregard the regulatory rule for valuation and apply their own, so that can hardly be cause of the credit seizure. The seizure is a result of a lot of bad, bad loans being written that shouldn't have been. And in no case was any one of those loans EVER written with a government gun to the head of the mortgage broker who booked it, or the bank that bought it, or the underwriter that securitized it, or the rating company that rated it, or the insurer who insured it. Those were ALL private market decisions made one-by-one by people that should have known better.This forum is a case study in cognitive dissonance. As True Believers, you cannot bear to put this one on the workings of a Free Market, so you get busy trying to blame the Guv'ment for the stupid, greedy actions of Wall Street. As JK Galbraith said: "Faced with the choice between changing one's mind and proving there is no need to do so, almost everyone gets busy on the proof."

Topcat September 21, 2008 at 2:42 pm

What?? How was this industry 'regulated to the point of collapse'? There are millions of foreclosures in play now for loans written to people who were in no way qualified to support. How was that a problem created by regulation?? In turn, there were millions of homes made to meet this artificial demand.No idea how you can put this one on the government. Just another Wall Street Ponzi scheme is all.

Nancy September 21, 2008 at 7:51 pm

They are ALL responsible!!!! It's time for riots in every city if they don't punish the people who broke the law! It's clear they are trying to abolish the laws and establish a Monarchy! How DARE they!~ There are other ways beside REWARDING CRIMINALS! Are they trying to start a civil war????? LET THEM HAVE ONE ….if they don't take care of this by LAW.

Nancy September 21, 2008 at 7:59 pm

Bullshit! This was done by the crooks who sent it in a tailspin! You crooks won't stop 'til you're DEAD will you?????" I hope they bury you under the prison when they catch you for your crimes!!! You are SUCH a LIAR@!!!! Ya'll SKULKED around in the dark of night to ELIMINATE REGULATIONS and LAWS on these institutitons! HOW DARE YOU? If I was a man I would break your arrogant CRIMINAL NOSE!

Nancy September 21, 2008 at 8:01 pm

That poster is OBVIOUSLY a REpublican and one of the crooks that has been taking advantage of the goodness of Americans!

Nancy September 21, 2008 at 8:03 pm


Nancyf September 21, 2008 at 8:07 pm

If I ever find out who you are….I'm gonna spend the rest of my life taking your arrogant ass down you crook. I promise. No threat.

Downhill in So. Cali September 22, 2008 at 11:09 am

The mortgages that should be "bailed out" lie in the hands of the citizens on Main Street, not the giants on Wall Street. The "trillion" dollars or so, should be used to assist all Americans directly, to bring their mortgage debt in line with market values. This would free up dollars on Main Street to be spent, on Main Street, and begin reinvestment where it will do the most good, at the neighborhood shops, maket, and stores. To "bail" out Wall Street leaves us citizens powerless to renegotiate with the banks and will exponentially increase the forclosure rate.Wake up and write Congress and the President. NOW!

mickey September 23, 2008 at 12:53 am

I dont think that these people should get a bail out on a mortgage that they cant pay for as a home owner you should understand in full before you sign the loan papers. I bought my house when I was 22 yrs old and have never been late on one. My husband lost his job due to military obligations we had no income for a 1 1/2 mon. but we never missed a payment why because we bought a house we could afford. Im sorry but I dont feel sorry for these people.

John H September 23, 2008 at 2:26 am

Where do I sign this petition prohibiting the $700B Fed bailout?

txrain September 23, 2008 at 9:04 am

The new USSR:United States Socialist Republicans

txrain September 23, 2008 at 9:10 am

Maybe Palin can get her witchdoctor evangelist to help.

John Wheeler September 23, 2008 at 9:39 am

I am again writing to express my disgust with our Senate and Congress in advance for once again abdicating their constitutional responsibilities to the executive branch by legislating a blank check to the treasury department with only the slightest pretense of oversight. I am amazed that the Fed has the audacity to tell congress to pay the full future value of the notes when the banks themselves will only pay a fraction of that price. The note should only be bought as a last resort, at fire-sale prices, and should be backed by the banks assets as well as the CEO’s personal assets. This is the way it works when banks loan to small business’s and the banks should be treated accordingly. It appears Chairman Ben S. Bernanke, like Secretary Paulson has drunk the Kool-Aide and favors the interest of their Wall Street cronies over the interest of our country. The congress is responsible for America's budget and should individually deal with the bank failures, letting the worst institutions fail and only addressing the victims’ losses. The American Taxpayer should exchange adequate health care and a good education for their children so these Fat Cats can continue raping and pilfering America. Please let them drown in their greed, and get control the remaining institutions with rigid regulations to prevent recurrence. I, like many of the Electorate, am mad as hell and will not be held hostage by Bush and his band of thieves as they flush America down their toilets. In the end, the buck stops with the Congress and I, like many Americans, will watch this play out; in six weeks I will give each participant an UP or DOWN VOTE. I am respectfully asking that you represent America, and not the greedy corporate interest that many of our representatives have chosen to serve. Please do not bail out these thieves. Respectfully, an American Taxpayer.

chris September 23, 2008 at 9:59 am

topcat please reread the article. I think you missed the part on how Gov't regulations, such as the affordable housing mandates requiring lenders to take on risky and outright stupid loans so as to avoid the wrath of the Gov't. Why would a lending agency loan money to someone it believed wouldn't it pay back? Because it was regulated by the Gov't to do so. A free market left alone to be free will always work. When a Gov't sets regulations dictating how the market should behave for social engineering purposes the "free" market fails. There is plenty of blame to go around but the solution needs to be a drastic and sweeping reform of Gov't and what its actual responsibilities are in regards to our financial markets. This crisis will be looked upon as the "good ole days" when Medicare, Medicaid and Social Security collapse. We the people need to decide whether we want to become another failing socialist society like all of Europe or go back the the free and prosperous democratic republic we once were. There is no middle ground.

Topcat September 23, 2008 at 10:55 am

No need for a re-read, Chris. The article merely ASSERTS this as the cause of the problem, it doesn't provide factual evidence in support of that assertion. Ironically, i just got done reading one of the WSJ articles cited in one of these stories in support of the ASSERTION that this problem was caused by Fannie Mae/Freddie Mac. In it, the author offers that Fannie Mae/Freddie Mac went from writing 6% of the sub-prime loans to 20% of the total sub-prime loans written in an effort to curry favor from Congress regarding their GSE status. From this, they concluded that this was the 'driving force' behind the collapse. That is a bizarre conclusion to draw. Using their own math, that means at the outset of this mania, 94% of the loans were written by regular banks, and ultimately this dropped down to a mere 80%. So from that, we're supposed to get that the minority portion of the loans booked by the FMs was the driving force of the problem?There are mountainous journalistic accounts of how these loans were marketed, and compliance with Fair Housing regulations were NOT a major consideration for these mortgage broker houses and banks. The boiler-room mentality was rampant, and the degree of fraud and deceit on the part of lenders was appalling. The willful ignorance of the actual facts here is amazing. I know of a person who got over $2 million in loans for 10 different properties, while having (unverifiable) self-employment income of less than a $100,000/year. All of the loans were piggy-backed, with 2nd mortgages on the early properties used as the down payments on the others. NONE of the loans were done as FHA loans, so none of the lenders had a governmental gun to their head to write the loans.You ask how it could be that lenders would be so stupid as to lend money they knew couldn't be paid back? Can't the question as easily be asked why would a borrower commit to a mortgage they had no ability to pay back? The stupidity and greed cuts both ways, but the facts are the facts.Market manias are time-honored, and they were occuring long before there was the bogeyman of 'Government' to lay the blame on. Free Marketers hate it when the marketplace demonstrates its capacity for irrational behavior, but it is a fact of life.Look it, to see these facts doesn't mean you have to believe socialism is the answer. If you can bring yourself to get past the dogma and rhetoric of your blind faith in the marketplace, the thing to look at are the key ingredients of market bubbles. Certain conditions have to arise for their creation, and after nearly 60 years of of seeing only minor marketplace bubbles, we've seen 3 MAJOR cycles in the last 10 years (dot.com, housing, and now oil). That is a factual reality that cannot be dismissed. If you don't want the US to 'go 'socialist', then capitalism's defenders need to think harder about the cause of these problems instead of burying their heads in the sand, and trying to put the blame somewhere other than where it lies. This should be a design question: What is it about the DESIGN of our financial marketplace that is keeping it from working.A

coronada_xv September 24, 2008 at 6:36 am

Bush, et al, are trying to scare us. We must pass this quickly, they say, or disaster ensues. Why not let the billionaires buy up this bad debt, the result of Washington and Wall Street greed and deregulation. Why not use the money, instead, to shore up the FDIC or make a minuscule dent in the national debt?

nidhogge September 25, 2008 at 10:36 am

Because of the Federal Reserve lowering interest rates to ridiculous levels and manipulating the market and the Bush administration's encouraging of Predatory lending practices, which is EXACTLY WHAT lending to people who were in no way qualified is. If you give these banks the opportunity to lend with no risk of failure, then lend they will do. They won't be suffering, the people that will suffer are the common taxpayers.Government intervention in the markets is what caused this mess, and you have to let the markets flush out the crap on their own and not prolong the agony with these ridiculous regulations and bailouts. We haven't ever had a true free market in this country, particularly after 1913 when the Fed was created. Our whole country would be wealthy if we had no absurd income tax or big government intervening left and right.

nidhogge September 25, 2008 at 10:38 am

Wrong.Again, the Federal Reserve manipulating interest rates and Bush's encouraging of predatory lending practices…read this article by Eliot Spitzer:http://www.washingtonpost.com/wp-dyn/content/ar…..Maybe you'll have an idea why he got busted on prostitution by the Federal Government (remember, prostitution is a state legality issue and it's not legal for the Federal Government to regulate it) after he took Bush to school here.

nidhogge September 25, 2008 at 10:41 am

F-E-D-E-R-A-L R-E-S-E-R-V-E There, spelled it out for you. Go research Hayek's work, in particular, the work he received a Nobel Prize for.

Shirley Burgess September 26, 2008 at 2:13 am

Lif the mark to market regulation and lets try that avenue first before more banks go bellie up.

DOUG September 29, 2008 at 12:57 pm


Payday Loan Advocate October 14, 2008 at 10:35 pm

One of the most watched events in recent television programming was the presidential debate, “town hall” style. Like many other Americans, I tuned in to watch despite my disillusionment with American government over the last couple of decades. I watched it without many expectations, knowing that no matter how direct a question was asked, the responses would be somewhat non-committal, and sound bite ready. The major news journals in the United States were certainly taking notes, as the New York Times depicted the debate as “90 minutes of forced cordiality” and the Boston Globe stated that it was “mercifully free” from the personal attacks I was beginning to get used to and tired of. It certainly was full of tension and made for good T.V., to say the least. McCain continues to pursue policies nearly identical to George W. Bush despite his “maverick” status, such as off shore drilling and staying the course in Iraq. (The irony is astounding: what makes him a maverick is that he wants to do the same things as one of the most unpopular presidents in living memory. The BIG joke is that he is rebelling against the American public.) Obama relied heavily on criticizing the Republican Party, stating that they were the ones that created this mess and he’s going to get us out of it. If we had to go by what they actually said, there’s no telling just which one is the best for getting our economy out of these turbulent times. Obama’s position on “predatory lending” is not a good solution – it’s sure to lead to more unemployment – is more a declaration of intent to appease the banking industry. Post Courtesy of Personal Money StoreProfessional Blogging TeamFeed Back: 1-866-641-3406Home: http://personalmoneystore.com/NoFaxPaydayLoans……Blog: http://personalmoneystore.com/moneyblog/

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