By G.L.C., on October 9th, 2008
The Federal Reserve was created 95 years ago to prevent banking crises as an independent agency whose Washington-based governors are appointed by the president of the United States and confirmed by the Senate. Its officials usually steer clear of the most heated political debates in a bid to protect their freedom to make the tough decisions required to keep inflation under control. There’s a good reason for giving the Federal Reserve so much independence. Decisions about the stability of the financial system often require quick decisions in times of crisis.
Ever since the credit crisis started in August 2007, the Federal Reserve has been engaged in a few political actions involving tax payer risks: asking Congress to approve Treasury Secretary Hank Paulson’s $700 billion bailout plan, agreeing to lend $85 billion to American International Group, taking on $30 billion in illiquid Bear Stearns assets to facilitate its take over by J.P.Morgan Chase, and helping engineer the federal takeover of Freddie Mac and Fannie Mae, which could cost the Treasury over $200 billion.
The political role being played by the Federal Reserve is setting a dangerous precedent: unelected officials deciding, without congressional votes, which companies and industries should be aided by its nearly $1 trillion balance sheet and which should be left hanging. The Federal Reserve is committing so much taxpayer money on its own rather than having Congress or the executive branch commit it. Its new roles of overseeing Wall Street investment banks and the AIG loan portfolio, among them, may bring it into conflict with the job of managing monetary policy.
The Federal Reserve has been using government funds and its credibility in its attempts to end the credit crisis. This increasing political role of the Federal Reserve could put its hard won independence at risk. Its independence is crucial to setting the interest rates that guide the economy.
The Federal Reserve probably did not want to be seen in a political role, but it had no choice – charged with maintaining the stability of the financial system and the economy, it had little choice but to take aggressive action in the face of a potentially devastating crisis. It was watching a falling knife and had to grab it before it landed on somebody’s chest.
Any proposals to change the Federal Reserve’s role would face fierce opposition. Because of the actions it has taken so far in trying to save Wall Street firms, if it comes under attack, Wall Street will be among its main supporters. It will also have the support of an army of loyal bankers around the country.
Everything depends on how the economy emerges from the present credit crisis. If it stages a steady recovery, it will increase the credibility of the Federal Reserve and there will be less concern about its political role.
By Stephan Zimmermann, on October 6th, 2008
Several questions during the last few days pointed out the obvious: lost in the media coverage of the American financial crisis and the tail end of the presidential election seems to be the fact that there really is news beyond Wall Street and Main Street.
I could not agree more.
For example, how much attention has been paid to the fact that our closest neighbor, Canada, is having its 40th parliamentary election on October 14?
Neither the Liberal nor Conservative Party has a majority in the parliamentary system.
The economy, of course, is topmost on the agenda.
In the Toronto Star, the paper raised the question whether Canada is likely to experience similar problems in its housing boom. The upsurge in housing lasted for more than ten years, although it has somewhat cooled off even before the Bearn Stearns, Merrill Lynch, Lehman Brothers, and AIG debacles.
According to Jim Adair of Realty Times,
Tighter lending guidelines for developers and a lower level of investor participation have reinforced a more cautious approach among home builders. …Households, for their part, are not over leveraged. Home equity as a share of real estate assets has been steadily building this decade, as price appreciation outpaces the rise in mortgage obligations. Canadian households also have little direct exposure to sub-prime lending, which has accounted for only about five per cent of domestic mortgages in recent years, compared to over 20 per cent in the United States. (www.realitytimes.com)
Reflecting the fears and uncertainties of Wall Street, however, the Toronto stock exchange (TSX) on October 2 saw a fall of more than 800 points, following on the events of Monday, September 29.
Further adding to market malaise,
On October 1, 2008, the United States Securities and Exchange Commission issued Release No. 58703 announcing the extension of the temporary easing of restrictions on issuers repurchasing their securities. Issuers listed on a U.S. national securities exchange (U.S. Exchange) are temporarily exempt from the application of certain share repurchase rules under the Exchange Act Rule 10b-18. TSX has granted and is extending similar temporary relief to TSX listed issuers that are also listed on a U.S. Exchange. (www.tsx.com)
That SEC rule extension virtually encourages Canadian companies to repatriate subsidiaries with U.S. exposure.
Other key items on Canada’s election agenda include the environment, the arts, infrastructure, and the nation’s role in Afghanistan.
Unlike the United States with it two-party political system, Canada’ multi-party parliamentary structure assures that dissident or minority parties’ concerns are widely aired. The dual-language nation also airs its major parties in both French and English debates. Interestingly, while some 30% of Canadians didn’t plan to listen to either the Canadian or the American vice-presidential debates, more than 60% of those polled had planned to watch both. The debates were both aired on October 2.
Stephan is a former department chair for economics and taught at various colleges and universities at both graduate and undergraduate levels. If you would like Stephan to answer your economics-related questions, read his post “Got an Economics Question?” and submit your questions in the comments area there.
By Evelyn Black, on September 22nd, 2008
I confess I wasn’t happy to wake up Wednesday morning and find out that Federal Reserve Chairman Ben Bernanke and Secretary of the Treasury Henry Paulson had decided to put taxpayers on the hook for up to $85 billion in loans to AIG, the world’s largest insurer of mortgage-backed securities.
I was even more dismayed at the news that the Treasury wasn’t just loaning money to AIG (money it doesn’t really have), it had actually seized AIG, relieved its managers of their duties, and had taken over, at least for the short term. So now, the U.S. owns and runs AIG. Wow.
Was that really necessary?
Early on, the talking points Wednesday were familiar ones: lots of “too big to fail” sorts of statements, along with frequent reassurances by government officials and financial pundits that the worst that could come of the AIG bailout would be an orderly dissolution that would not roil markets as traumatically as a sudden bankruptcy would. In a better case scenario, they assured that there was even a chance that the government could actually make some money selling off parts of AIG, since only the divisions that insure structured investment vehicles and bad mortgage debt are unprofitable.
The reassurances fell mostly on deaf ears.
The Dow dropped 200 points right after the opening bell, swung wildly all day but mostly down, and ended the day down almost 450 points. Down 500 on Monday, 450 on Wednesday, what next? Press Secretary Dana Perino was out in front of cameras expressing confidence in the economy’s ability to withstand these shocks, and John McCain was out in front of cameras trying hard not to repeat the phrase, “Our economy is fundamentally sound,” without, at the same time, inducing further panic.
Carly Fiorina, former (deposed, as in “fired”) CEO of Hewlett-Packard was, I think, hiding in a closet somewhere after telling the press on Tuesday that McCain, Palin, Obama, and Biden were all unqualified to run a major corporation. (Many pundits gleefully pounced on the fact that, apparently, so was Fiorina.)
Fiorina is a McCain adviser. But maybe not for long.
Weirdly, the cable news channels seemed much more interested in who was getting the most political traction out of the queasy atmosphere on Wall Street: the McCain campaign or the Obama campaign. Real, thorough analysis of the day’s financial events was not easy to find. At one point, I did catch a brief televised interview with a member of the Reagan administration who expressed the (rather off the wall) opinion that what was most needed to calm this crisis was immediate corporate tax cuts, and lots of them.
That would have been funny if he didn’t mean it, and the markets weren’t really tanking.
While it may seem trite, the problem, as I see it, is that markets don’t like uncertainty, and right now, no one knows how deep these problems go and how many more financial institutions might fail. The government takeover of AIG sent a message that the situation is now dire, so dire that a bridge loan wasn’t enough; nothing less than a complete government takeover would do. Even though the intent was to stabilize markets by slowing down the collapse of AIG, markets were not calmed by the realization that AIG was collapsing, and that it would have collapsed over the course of a single day without government intervention.
It’s hard right now to take in the magnitude of what is happening, but if we all keep in mind how long this bubble has been building, how disguised all this bad debt is, and how enmeshed it still is in the worldwide financial system, it shouldn’t be a surprise. By most accounts, Washington Mutual may well be next, and after that, it’s hard to take an educated guess who else will fall.
Things could go on like this for another week, another month, another year. No one knows.
All of which spells a rough ride for financial markets for the foreseeable future. I don’t think there is anything that will soothe these troubled waters anytime soon. But I’m pretty certain of one thing: these bailouts will not play well on Main Street. People were already upset over Fannie Mae and Freddie Mac. Now we’re taking on AIG, the auto industry has its hand out for $50 billion, no one knows how many banks will fail after that, and ordinary people are getting really fed up.
Wall Street may be in shock. Main Street saw this coming a mile off.
By Evelyn Black, on September 17th, 2008
OK, I know Lehman Brothers just tanked, Fannie and Freddie have been seized, and AIG has been taken over by the Fed, but can we put all that aside for just a few minutes and talk about me for a change, please? I have liquidity problems of my own, and that being the case, I only have so much patience for Wall Street melodrama anyway anymore. It’s getting exhausting. I mean, seriously, what are are you and I going to do about it right this minute? Won’t things still be totally, terminally screwed up tomorrow? Am I right? Of course I am. So let’s take a little “me” break today for a change of pace.
Here’s what’s going on this month in Evelyn’s life:
Last Friday, I got a letter from the escrow department of my mortgage company letting me know that the dying, rust-belt city where I still own a small house in a bad neighborhood (because I couldn’t sell it after I moved to another state to take a job) has decided to hike my property taxes by $610 a year, thus causing a shortfall in my escrow account. I now have a choice. I can send the mortgage company $610 today, or I can pay an extra $50 each month on the house payment for the next twelve months.
The city, which is in northern Indiana, was once a major manufacturing center but has been decimated in recent years by the fall of the U.S. steel and auto industries. The government there is now in serious financial trouble. The tax base has eroded, companies have moved overseas, businesses are failing, unemployment is off the charts, and now, thousands of people are losing their homes to foreclosure.
Because the situation is so dire, and because the city has already cut essential services to the bone and still can’t generate the revenue needed to maintain normal operations (not public services, just day-to-day government operations), the city has seized on an opportunity and is hiking property taxes in the poorest neighborhoods so that the owners will be forced into foreclosure and the city can then sell the property back to the mortgage companies for pennies on the dollar (plus the cost of the back tax bill).
That strategy is indeed generating a small but steady stream of revenue for my old home town. It is also creating boarded up, bombed-out slum neighborhoods full of squatters, crack addicts, and meth labs, just like inner Detroit or the neighborhoods in Flint, Michigan. My dying city is literally eating itself to stay alive, and appeals by concerned citizens to turn the trend around fall on deaf ears. When there is nothing else to eat, we eat each other. Just shouting, “Stop it!” isn’t effective in such situations, no matter how passionate the shout may be.
“Scrapping” (the practice of pulling scrap copper and steel out of abandoned homes and buildings) has become a huge cottage industry here, and though such break-ins are illegal and the trade is dangerous, it continues to grow. A few months back, two homeless men were killed by other scrappers who wanted their haul. They stole the stolen scrap from the men, killed them, and stuffed them down a manhole. Such is life in the post-industrial Midwest in 2008.
On the block where my little house is located, fully half of the buildings are vacant and boarded up. I had my house on the market for a year and a half, asking only what was left on the mortgage and offering to pay all closing costs, everything negotiable. Not one person ever viewed the house, much less made an offer. The house has a new roof, a new furnace, new siding, and new appliances, and I couldn’t get anyone to even view it, much less make an offer, and this at a negotiable asking price of $39,000.
After a year, my real estate agent started to get testy. “People want nice kitchens and bathrooms. Why don’t you put some money into these two rooms and see if that helps?” I have no money to put into upgrading a house in a slum neighborhood in a dying city; I can barely pay my own bills where I am, and honestly, if no one is looking at the house, what difference would it make if I installed gold leaf appliances? A house two doors down is still for sale for $8900. Four years ago, when I bought this house, it was in a nice neighborhood. A new grade school was built right across the street in 2005. All that doesn’t matter.
So when my realtor asked me after a year and a half of not showing my house even one single time why didn’t I remodel the place, I said, “Why don’t you?”
That was the end of my realtor.
After flailing around for a couple more months once the realtor fled, I was finally able to rent the house to my daughter’s mother-in-law. She likes it there, and renting to her also means that our kids get to keep their privacy. But now, with the tax increase, I pay more on the mortgage than I take in for rent. I still take the homestead deduction because, if I don’t, the property taxes will shoot up to $4000 a year on a house I can’t sell at any price: not for the $37,000 I owe on it, not for $20,000, and not for $4000.
People tell me, “Walk away. Don’t waste another cent.” But I do still see some good coming out of renting it: one less bombed-out house in my town, a place where my daughter’s mother-in-law is happy, the knowledge that I am not directly contributing to the decay of a major urban center. So for now I will pay the extra $50 a month and pray for the best. But I know it can’t last.
Like a lot of Americans right now, I am always one disaster away from bankruptcy. So, apparently, is our entire financial system. That cheers me up a little bit (as in, at least it’s not personal), but it’s hard to maintain my good humor when I keep getting love letters from the city, the mortgage company, the insurance company, and God knows who else. I get depressed sometimes. And now the bank where I took the job (the one that landed me farther north with an unsold home in Indiana) is on a short list of four or five big regional banks most likely to tank in the near future, right behind WaMu.
So, OK, Wall Street is (once again) having a very, very bad week. That’s a problem. Pundits are all over the TV and radio explaining that this promises to be the worst financial disaster since the Great Depression, and that no easy fixes loom on the horizon. A hard correction is in process, they say, and it won’t be finished this year, next year, or maybe the year after that. (A few weeks ago, these same pundits were saying that it was way too early to call the current economic slowdown a recession.)
Here’s what bugs me today: while Wall Street is having its Very, Very Bad Week, Main Street is having a very, very bad yesterday, today, tomorrow, and what’s more, a fairly miserable foreseeable future. For every Bear Stearns that goes down, thousands of cities lose jobs, tax income, and infrastructure. For every Lehman Brothers that cashes in, millions of people like you and me lose homes, cars, and retirement benefits. For every AIG that goes bust by betting high on the wrong horse, another couple generations of kids can kiss college and all hope of progress goodbye.
So yes, I’m worried about Wall Street.
What I want to know is, when will Wall Street worry about me?
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