Welfare as We Know It Now

In the days before welfare reform, single mothers could collect five or six hundred dollars a month without working. That was what welfare looked like before 1996. In the Internet Age, welfare is about having the government do everything it can to make the rich absolutely as rich as possible. As F. Scott Fitzgerald said many years ago, the rich are not like you or me: They need the government's assistance to get by. There are all sorts of ways in which the government helps those who have the most.

For example, Bill Gates might have to work for a living if the government didn't grant Microsoft a copyright monopoly on its software. Sure, we all know copyrights provide an incentive to innovate, but there are much more efficient ways for the government to provide incentives. But, the more efficient mechanisms may not make Bill Gates and his ilk quite so rich, so politicians who hope to get elected and reelected don't talk about them.

Patent monopolies for prescription drugs are also a great way to put more money into the pockets of the extremely rich. The CEOs of drug companies like Pfizer and Merck are able to earn tens of millions of dollars each year only because the government grants them patent monopolies on their drugs. As a result of their government granted monopolies, drugs that would sell for $4 a prescription in a competitive market can instead be sold for hundreds of dollars per prescription, and sometimes even more.

This is enormously inefficient from an economic standpoint. It also leads to unnecessary suffering on the part of millions of people who must struggle to pay for their drugs out of pocket, or deal with crazy bureaucratic rules to get insurers to pick up the tab. But, when it comes to helping the most affluent, efficiency is a secondary consideration.

In the same vein, the fund managers' tax break, which applies a special low tax rate on the earnings of managers of hedge and private equity funds, puts as much as $6 billion a year into the pockets of some of the richest people in the country. This tax break costs about a third as much as the annual TANF appropriation, the main federal welfare program for families with children. While the money for TANF is divided by millions of families, the fund managers' tax break goes to just a few thousand individuals. For the highest paid fund managers, the tax break can mean hundreds of millions of dollars to pay for vacation homes, private jets and other necessities for the extremely rich.

At the moment, many of the high-flying hedge fund boys and girls find themselves in trouble because they invested heavily in subprime mortgages and other risky assets. With the housing bubble starting to deflate, some of these assets are nearly worthless and many are worth far less than what the hedge funds paid.

Hedge funds make big returns by making highly leveraged investments, meaning they borrow heavily to multiply their gains. The flip side in this story is that when the hedge funds bet wrong, they can lose much of their capital very quickly.

The hedge fund crew is desperately hoping the Federal Reserve Board will swoop in to save the day. Most immediately, they need lower interest rates. The hedge funds can only hang onto their assets as long as they can pay interest on the money they borrow. If interest rates fall, then an important source of pressure will be relieved.

Next, they need some sucker on whom they can dump their bad mortgages. The best candidates are Fannie Mae and Freddie Mac. These government-backed firms created the secondary market in mortgage debt that allows banks to sell the mortgages they issue. It turns out the hedge funds have been big players in the secondary market, buying up hundreds of billions in mortgage debt that is going bad at a very rapid rate. The hedge fund boys will be lobbying Congress big-time to broaden the role of Fannie and Freddie so they can buy this bad debt and save them from large losses.