Saturday, October 04, 2008

Bailout

The bailout approved by the US House of Representatives.  In this second attempt to pass the bill - ansd after more than a usual amount of pork - many Republicans shifted their vote in favour of the bill. Still a majority of Republicans did not. Wall Street soars (Update: Subsequently falls heavily).  America is happy (Update: Subsequently unhappy) again.

It is interesting to glance at the first few pages of this enormous (400+ page) "Assets Relief Program" bill. Here is a negative assessment - to be clear I don't agree with this line but it does reflect what about half of America thinks.

Saul Eslake over at Troppo will no doubt be happy with this legislative outcome. The deal plus a few extras only costs 6% of GDP according to Saul the banker which he claims is cheap in the history of such matters. Saul urges politicians to protect Australian bank profitability by not insisting that any forthcoming RBA interest cut be passed onto borrowers.  Yes he does work for a bank and obviously sees no humour in the self-interest that seems to underlie such claims. What's good for bank shareholders is apparently self-evidently good for Australia. Why have the Australian Banks done so well in difficult times? Partly I guess it is a sound regulatory setting and maybe efficiency - is this the same thing as lousy customer service - but also it reflects the cosy security of a tight quadropoly. Where is Caesar's wife?

4 comments:

rabee said...

Its becoming apparent that one of two things happened:

1) The market when distorting incentives in the way it did was betting that any catastrophic event such as this will be bailed-out by the US government. The market was aware of the possibility of the financial crisis and reflected the inevitable government rescue in its prices.

2) The market was unaware and did not understand the possibility of a financial collapse, nor did the government.

In the first case, basically, the collapse has to do with government distortions of the market. The second is akin to a natural disaster--and sure relief is the government's role.

Given that the behavior in the markets was so deliberate in transferring risk toward a bet that "she be right mate" it seems to me that the first explanation is more accurate.

Basically financial markets deliberately transfered high stake-low risk to Joe six pack betting that normal Joe six pack American will bail them out. Will Joe be better off bailing them out? You betcha. Was it obvious ex ante that Joe would be better off bailing markets out? You betcha. Would Joe six pack have been better off had he unequivocally declared that he won't bailout Wall Street a number of years ago? You betcha. But unfortunately that may not have been credible.

All in all, my view is that we would probably all be better off if constitutionally governments were not able to bailout financial institutions.

hc said...

Rabee,

It's a key question - perhaps the question. The difficulty with your prescription - even assuming (1) is true - is that you drag the good down with the bad. If you do adhere to this prescription then of course the bailout worsens things.

Obviously lending needs to be more actively regulated in the US. The market does not know best.

I think Americans need to save more. I also think that the barman at a mid-Western hotel should not be trading stocks and buying speculative real estate - such a person exists! The barman should be generating wealth by working.

Sir Henry Casingbroke said...

Yes, 6% of GDP doesn't seem much, except when you compare it to, say, US defence spending, which is "only" 3.7% of GDP but yet in dollar terms it is almost as much as the rest of the world combined, including Russia and China, or 45% of the world defence budget.

Furthermore to say "only 6%" implies that it's somehow a small to price to fix the problem or do some good. Which it will not. In fact, it will do bugger all.

The size of the derivatives market, or to call a spade a spade, credit default swapping party is around $62 trillion. Yep. A lovely set of numbers.

Take a deep breath punters, we're all going down the gurgler. Now's the time to put in that veggie garden and oil the chain and pump up the tyres on the bicycle.

But before we turn out the lights, I think we should all stand back and have a geezer at the big picture. The US has resumed ripping off its working class blind since the sinister influence of the so-called Washington Consensus (and the Chicago School of Economics) got its hands on the levers of the government in the early 80s.

To maximise profits the good corporate citizens of the USA, accelerated to export jobs to low-wage countries and when that wasn't practicable they paid workers $5 an hour or employed wetbacks for even less.

While the working poor could afford to shop at Walmart and eat at McDonald's they couldn't afford housing. Instead of putting the floor under the wage system like in Australia and Europe, and/or providing the working stiffs with a health scheme to ease things, someone had a bright idea. Give the low-wage workers "cheap" loans, which can then be collaterised and onsold to mugs as "packages".

Enter the no-deposit-pay-1-percent-for-next-three-years loans. What happens after three years? The loans go back to market mortgage rate of 4-5%. In which case, the wage income is not congruent with the borrowing payback.

Panic in the streets, especially in the rustbelt states where the once mighty US manufacturing is on its last legs.

As the trailer parks filled up, property prices went south because the punters couldn't afford the mortgages. This created a situation where the price paid for the house was in excess of what it was worth. Who is going to pick up the difference now?

Ah, the US gumment? Don't make me laff.

rabee said...

By the way Harry,

Last night I got a late phone call from a relative in Tel-Aviv, whose Arabic is as rusty as mine and who probably thinks in Hebrew as frequently as I think in English. He's lost a small fortune in Sunday's virtual collapse of the Tel-Aviv stock exchange.

After assuring him that I haven't the foggiest clue about what's going to happen in the next few weeks. Our conversation, as is usual, turned to self disparaging humor, whereby he wished that rumors of economic discrimination in Israel against its Arab citizen's were true, and the Bank Leumi branch manager who afforded him a large loan had been stereotypically discriminatory.

At that point it occurred to me that there are number of groups in the Middle East who are both cashed-up and who have been operating under very tight US financial sanctions. Groups like Hizb-Allah in Lebanon are likely winners. Its exposure to the US financial crisis is limited, because of America's financial squeeze on it and its Iranian mentors, but at the same time high oil prices and its purported interests in Lebanon's always booming drug trade has left it debt-free and cashed-up.