Bailout Threatens Economy, Shreds Constitution, Rips Off Taxpayers

by Hans Bader on September 22, 2008 · 11 comments

in Bailout Watch, Economy, Legal, Politics as Usual, Precaution & Risk, Sanctimony

The stock market sank as the Bush Administration capitulated to liberal demands that its proposed $700 billion bailout of the financial system be expanded to add more costly give-aways, like “systematic” limits on foreclosure, that would allow irresponsible borrowers to remain in their homes at taxpayer expense.   The bailout is so extreme that it is unconstitutional.

Because of rigid federal accounting regulations that require Enron-style “mark-to-market accounting,” the bailout could actually deepen the financial crisis.  The bailout will reduce economic growth over the long run, and is logically inconsistent.

The bailout rips off people who lived within their means to pay their debts.  I can pay my mortgage, because I was frugal, and bought a little two-bedroom house on a fixed rate mortgage.  But reckless people in my region can’t pay their mortgage, because they bought big houses on adjustable interest-rate loans with low teaser rates.  Now that their introductory low rates have expired,  they can’t afford their payments.  The government is going to bail them out, at our expense.  While many defaulting borrowers have been living it up, buying fancy Lexus cars and eating expensive restaurant meals, I’ve been going through recycling bins on weekends searching for coupons.  (I found over $100 in baby food coupons that way).

There is no reason to believe government officials who claim their sweeping bailout will fix what ails the economy, since it was their incompetence that spawned the crisis.  John Lott, Jonah Goldberg, and the Wall Street Journal explain how redlining regulationsfederal affordable housing mandates, and the Community Reinvestment Act encouraged lenders to make risky loans to irresponsible people who never saved any money and now are defaulting.  Financial expert John Steele Gordon describes how the government-backed mortgage giants Fannie Mae and Freddie Mac spawned the mortgage crisis, in the New York Times.

Congressman Barney Frank and other bailout supporters are relying on blatant lies to pass the bill.   Barney Frank spawned the mortgage crisis by defending the corrupt management of the Government-Sponsored Enterprises, Fannie Mae and Freddie Mac, which gave him and his liberal allies enormous campaign contributions, bullied political opponents, and encouraged lenders like Countrywide Financial to make risky loans in the name of affordable housing.  He ridiculed whistleblowers like Greg Mankiw, chairman of the Council of Economic Advisers, whom he mocked for being  “worried about the tiny little matter of safety and soundness rather than” the liberal goal of promoting affordable housing.  Frank and his allies repeatedly blocked critically-needed reforms of Fannie Mae.

Now, Frank he claims that he and other government officials are blameless.  “The private sector got us into this mess,” he said, “The government has to get us out of it.”  Never mind that the federal government, through the Department of Housing & Urban Development, played a key role in causing the proliferation of risky mortgage loans, as even the liberal Village Voice has chronicled.

Scholarly reaction to the bailout is so hostile that Walter Olson calls it a “hail of dead cats.”

John Berlau, Holman Jenkins, Newt Gingrich, and former FDIC Chairman William Isaac argue that federal accounting regulations aggravated the financial crisis.  (Iain Murray describes how strange those “mark-to-market” accounting rules, which Enron used, can be).  If that’s so, then relaxing the regulations might go a long way towards eliminating the need for a bailout, as John and I have noted.

The bailout plan gives Treasury Secretary Hank Paulson extraordinarily broad powers to buy bad loans throughout the economy, without any meaningful standards, barring any judicial oversight of even patent misconduct, to a degree that is unconstitutional.  Sweeping grants of authority are only permitted when government officials are subject to judicial review to prevent arbitrary or capricious acts.  President’s Nixon’s price controls were upheld in the Amalgamated Meat Cutters case only because they incorporated judicial oversight.

News reporters question Paulson’s possible conflict of interest in pushing the sweeping bailout, since he himself is a wealthy former Wall Street executive whose firm stands to benefit from taxpayers, rather than Wall Street, picking up the tab for bad loans.

No matter what strategy the government uses to buy bad loans, it will place the economy in profound jeopardy.  Sources say that if the Paulson plan goes forward Paulson will buy risky mortgage-based securities at a value somewhat greater than they are worth intentionally. The effect will be that taxpayers are guaranteed to lose money and that the crisis will just be pushed down the road to a later deflationary event.  He has powerful incentives to do so, not just political, but also economic, despite the devastating effect it will have on taxpayers.  One reason is because of the chain-reaction effect described by John Berlau here and in the Wall Street Journal.  Under rigid federal “mark-to-market” accounting rules, if a mortgage is sold by one bank for a low price, other banks have to revalue their mortgages downward to reflect that price (even if few of their own mortgages have ever defaulted).  So if Paulson buys up a mortgage security for a low price, it may cause banks that hold similar mortgages to default.  So he has an incentive to overpay for mortgages, even if taxpayers get ripped off in the process.  If he underpays, by contrast, it wipes out banks’ assets as defined by federal accounting regulations, putting them in jeopardy of violating their reserve requirements.

Enron famously used “mark-to-market” accounting to inflate the value of its assets and conceal its financial problems until it went bankrupt and wiped out thousands of people’s life savings.  But Paulson has avidly defended federal accounting regulations mandating this controversial practice.

The Fed’s inflationary easy-money policy, and a government-enforced credit-ratings oligopoly, also contributed to the mortgage crisis, something long chronicled here and in the Wall Street Journal.

fedgovernor September 22, 2008 at 6:31 pm

Hans,

Even responsible people were effected by the Great Depression.

If the ship sinks, everyone goes down with it, even if it was the captain's fault.

Pete September 23, 2008 at 3:01 am

Love it! Principled, concise, and on-point. Keep fighting the good fight Hans. It's time to inject reason into this love-fest for big, interventionist government.

NowTell That September 23, 2008 at 3:48 am

Sometimes I don't think people get the REAL SENSE OF A $1. When you see money written out like two trillion, it really doesn't mean alot to folks because many people…less face it have NEVER SEEN $500,000 (five-hundred thousand) in real life. So it's hard to concieve someone spending $700,000,000,000 (seven-hundred billion) of the TAXPAYER HARD EARNED MONEY. When the average Joe/Jane is living day-to-day. It worry's me a GREAT DEAL that this will be swept under next years news. With the US led WAR in IRAQ costing the TAXPAYER over $2,000,000,000,000 (two trillion) and the bailout of AIG at $85,000,000,000 (eight-five billion) and our beloved Government continuing to help out the GREEDY. One can only GUESSIMATE that this the added DEBT which will be combined into this TRANSACTION. ***BUT WHO CARES*** IT'S ON THE TAXPAYERS NOW. What I would really like to see a website generated (how about) http://www.TAXPAYER_DEBT.COM Online of an Excel Spreadsheet. Showing this Debt, when dollars are paid in to this account is showcased, if a private/public company wish to purchase some of this debt its shown…I WANT TO SEE A TRANSPARENT GENERAL LEDGER LOG. Which everyone can see no matter where you are. NO BACKDOOR DEALINGS and NO SKIMMING OFF THE TOP. A Live Tally. If it done any other way. What's going to keep it "HONEST." This is just a FINANICAL TRAGEDY…I'm sure there will be more to come.

A Friend September 23, 2008 at 5:06 pm

"…The bailout plan gives Treasury Secretary Hank Paulson extraordinarily broad powers to buy bad loans throughout the economy, without any meaningful standards, barring any judicial oversight of even patent misconduct, to a degree that is unconstitutional. …"NO. That is BLATANTLY UNCONSTITUTIONAL.

ElisaMich September 26, 2008 at 5:03 pm

SOMEONE PLEASE TELL THE REPUBLICANS THAT NANCI PELOSI JUST HANDED THEM A MAJOR VICTORY IN NOVEMBER, IF THEY WILL JUST CONTINUE OPPOSITION TO THE BAILOUT!SHE WANTS 80 REPUBLICANS TO BACK THE DEMS…YET, IF WE DON'T VOTE, THEY WILL HAVE TO CARRY THE BAILOUT THEMSELVES! IN NOVEMBER, WE CAN GO TO THE CONSTITUENTS AND SAY, "THEY PASSED THE BAILOUT WITH YOUR MONEY, AND IT FAILED!"WE GET THE SENATE BACK, THE HOUSE AND THE PRESIDENT!VOTE NO FOR THE DEMOCRAT'S BAILOUT–PERSEVERE IN NOVEMBER! LOOK AHEAD AND DON'T BLINK, DON'T FLINCH!ELISA

Alice September 26, 2008 at 10:05 pm

Whose authority is it that the government can use taxpayers' money to bail out companies who started this whole mess anyway?. The authority of GREED?Without any oversight, to prevent fraud, and protection of taxpayers, I am not for it.Taxpayers should all be against it.Why reward the greedy, the corrupt, and those borrowers who borrowed money they cannot afford to pay and expect the government to bail them out? Most borrowers expected the house to go up in value, so they borrowed to the hilt without thinking if they could afford to pay it. The bail-out will punish the savers, the seniors who are on fixed incomes. It will punish small businesses. We will lose jobs and businesses.It will punish everyone who pays taxes. It will reward the banks, and investment companies, the lenders, Goldman Sachs, AIG, Bear Stearns, Fannie Mae, Freddie Mac, whose CEOs are highly paid with golden parachutes. While taxpayers could hardly pay their bills or make ends meet, the government is dumping these toxic loans or assets on the taxpayers, forcing them to buy it. It is a crime and a shame. If the Dems like Frank are all for it, maybe he is not thinking. Would anyone in his right mind buy an investment (the non-performing loans) and expect a profit?. If the government wanted to use taxpayer's money, the taxpayers should be paid back, via tax cuts, or tax credits. The CEOs of these failing companies should be investigated for fraud or malfeasance, conflicts of interest, be made to pay. or go to jail. Private enterprise did it unto themselves, let them fail or let them fix it. Do not use taxpayers money.If the dems wanted to use taxpayers money, for this monstrous bail-out, we know who will be the next Pres, that is McCain, of course.

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