The New TARF, the Moribund Bailout, and a Real-World Stimulus Plan

The
public is both stymied and angry about a series of bailouts that
constitute the biggest transfer of public funds to a handful of the
superrich in American history. The problem is that these handouts have
not decreased the burden on households victimized by the financial
misdeeds of the recipients of the transfer.

The alarm might well increase as some of the most disturbing elements
of Ben Bernanke's $1 trillion Term Asset-Backed Loan Facility (TALF),
scheduled to begin operations on Thursday, become evident. The plan
would work in conjunction with Treasury Secretary Tim Geithner's
public-private partnership (ppp), also budgeted at $1 trillion.
Together, the two schemes christen some of the worst features of the
financial system that has broken down.

Key Features of TALF and the PPP: Back To Mischief As Usual

The ground rules of ppp are byzantine. But this much is clear. The
principal aims of the plan, to be implemented along with TALF, are
threefold: to protect the big banks from failure by injecting them with
yet more government funds, to keep these banks in private hands, and to
restart the same kind of trading between banks and investors that
contributed mightily to the present meltdown.

TALF restores exactly those features of the so-called shadow banking
system that lead to financial instability. Investors will purchase,
with the help of low-interest government loans, mortgage securities and
a variety of other distressed assets from the banks. Since the plan is
termed "Asset-Backed," the banks will claim that the junk they are
selling is collateralized by an array of (notoriously troubled)
obligations such as credit card debt, student loans and car loans. The
traded assets will continue to be marked-to-model, i.e. valued at the
bloated prices set by incomprehensible models created to produce wildly
inflated valuations. Thus, Treasury gives its blessing to the continued
mispricing of risk. Complex, opaque and unregulated derivatives would
remain in circulation.

TALF will also enlist the Federal Reserve to further protect financial
institutions from the consequences of their misbehavior. This feature
of TALF has received little comment. Most press attention has been
directed at the Fed's new function of providing one trillion dollars to
hoped-for consumer and business borrowers. But overindebted and
cash-strapped individuals and businesses have been wisely reluctant to
get themselves further into debt. This does not faze Treasury or the
Fed.

The most important element of the Fed's role in TALF is its guarantee
of any losses the banks might incur as they resume what is essentially
business as usual. Losses are inevitable, since certain types of
security are disqualified from the program. Since it is virtually
certain that very many of these ineligible instruments, underwritten by
the Fed, will be unloaded onto TALF, and the Fed is legally prohibited
from buying assets worth less than triple A, the tab will be picked up
by working people, otherwise known as "the taxpayer."

The Fed has established additional limitations on investors, the
purchasers in this game. And this translates into corresponding
restrictions on banks' freedom to sell/dump their junk. Since banks
despise restrictions and regulations, they have responded to this
limitation by resorting to the labyrinthine procedures concocted to
enable them to evade regulation and transparency during their
pre-meltdown heydey years. The Structured Investment Vehicle has been
revived both to enable banks to hide their virtual insolvency from
investors, and to allow investors to escape the restrictions laid down
by the Fed. Both the Fed and Treasury have given their blessing to this
bald effort to evade transparency.

This new round of cash-for-trash swaps works like its predecessors to
move red ink from the books of the banksters to what is supposed to be
the balance sheet of the people, the U.S. Treasury. This is the only
recourse available to Geithner and Bernanke given their commitment to
"making the banks whole" or "saving the banking system," offering no
direct aid to working people and keeping the banks in private hands. It
is as if the debt burdens of the working population don't exist - the
insolvency of the biggest banks is treated as THE debt problem.

Is There Really a Freeze On Credit?

Prioritizing the problems of the banks seems to be axiomatic for the Obama administration. On
March 12 president Obama spoke before the Business Roundtable, an
assemblage of leading corporate CEOs. He summed up nicely his
administration's economic obsession: "[T]he only way we can truly
unlock credit and heal our financial system for good is to address the
state of our banking system,... And I know that this crisis is at the top
of your list of immediate concerns - and I promise you, it is at the
top of mine, as well."

George W. Bush made the same claim in his defense of then Treasury
Secretary Paulson's TARP scheme, warning that unless huge sums were
given to the banksters "Even if you have a good credit history, it
[will] be more difficult for you to get the loans you need to buy a car
or send your children to college."

These claims are the main justification of present policy, but they are
indefensible. They start from an irrefutable premise, that the number
of new loans issued to households has indeed fallen sharply. But is
this due to banks' unwillingness to lend to qualified borrowers?
Economist Dean Baker has tested the hypothesis that credit-worthy
applicants are being denied loans by banks unwilling or unable to lend.
If the hypothesis is true, we should expect to observe mortgage
applications increasing much more rapidly than home sales, since
qualified applicants would be applying to multiple banks for a loan.
But Baker found no significant increase in the ratio of mortgage
applications to home sales. The dramatic decline in new loan
applications is more plausibly explained by the dire straits of
consumers, who have lost $6 trillion of housing wealth and $8 trillion
of stock and retirement wealth. They are therefore hunkering down,
saving and servicing debts instead of putting themselves deeper in
debt. The problem is not that "the financial system" is badly strapped,
but that working people have no money.

While a relatively small number of giant banks are in big trouble, many
credit unions and smaller local banks are in fact ready, willing and
able to lend to qualified borrowers.

Bailing out the Big Boys is a distraction from the more fundamental problem of debt-hobbled households and businesses.

Focusing On the Biggest Contributors to GDP: Households

Consumer spending accounts for over seventy percent of the Gross
Domestic Product. In most of the business cycles since the Second World
War, economic recoveries were initiated at the household level, by
increases in consumer spending stimulated by expansionary fiscal and/or
monetary policy. The resulting pickup in consumption expenditures
elicited growth in business investment, thereby increasing production,
employment, wages, profits and tax revenues required to provide
essential public services.

The financial crisis was initiated by defaults on fraudulently
inflated mortgage obligations. It is the latter, at the household
level, that have made financial instruments troubled. Delinquent
mortgages have had an even broader ripple effect, threatening major
banks, reducing consumption, stifling production, increasing
unemployment, and reducing the tax base, rendering cities and
municipalities unable to provide adequate public services.

Addressing the Meltdown at the Household Level, Without Adding Debt

Present administration policy is to induce banks to lend much more,
and to a lot of consumers, not merely qualified borrowers. Thus,
tightly strapped consumers up to their ears in debt are to increase
their already crushing debt burden. The effect of this would be to
re-inflate the housing bubble and to resume crisis-inducing business as
usual, garnering for the bankers yet another fortune. This seems to
have been the goal of Paulson's short-lived TARP, and it seems to be
the objective of TALF. But the fact is that the existing debts, of both
households and financial institutions, simply cannot be paid. The
administration recognizes this for the banks, but flatly ignores the
predicament of households. Government has chosen to give unheard of
sums to the banks, with no strings attached, even as it leaves
households to twist in the wind.

Standard capitalist procedure is to wipe out unpayable debts and start
anew. The only feasible alternative to injecting more public money into
broken banks is to destroy their worthless assets and nationalize them,
which should include the new government owner issuing loans at lower
rates commensurate with prevailing income levels. Variations on this
theme have been proposed by an impressive array of distinguished
economists.

The corresponding policy regarding households should be to directly
engage the problem of negative equity by acknowledging the disparity
between the real value of the house and the size of the mortgage. This
means writing down the mortgages to correspond to the real value of the
house and the ability of the homeowner to pay. These mortgages would
then be purchased by government at their depreciated market value and
returned to the homeowner when the house is paid for.

This would be far cheaper than the astronomical cost of the current succession of bailouts.

And this plan has a real-world precedent, the Homeowners' Loan
Corporation (HLC), created by FDR as a government credit agency for
homeowners hit by the Great Depression. The HLC did exactly what is
described in the preceding paragraph, with great success. Roosevelt
conceived the HLC as a workable alternative to Herbert Hoover's failed
Reconstruction Finance Company, which, like the Bush-Obama bailout,
stuffed the banks' coffers with public money. Less than three years
later, almost all the recipient banks had gone under.

After Nationalization: A Stimulus Program Based on Historical Precedent

Addressing the housing crisis is not enough. It needs to be coupled
with a stimulus plan directly aimed at providing employment to working
people seeking a living wage in a de-industrialized economy with an
employment problem that has been mounting since the late 1960s. Since
then the unemployment rate has displayed a gradual but steady upward
trend.

An effective stimulus would provide funding directly to working people
for education, small business starts and, as noted, housing purchases
and starts. There is much to learn from the most extensive social
program in American history, the 1944 Servicemen's Readjustment Act,
the "G.I. Bill." In 1947 40 percent of housing starts were funded by
the G.I. Bill's loan guarantee. The Bill's fruits were ongoing: between
1945 and 1956 16 million veterans used the Bill's funding to put
themselves through college and trade schools, and for on job training
in factories and on farms.

This social program was running when the deficit was four times its 1997 size, exceeding the GDP by 125 percent.

A 1988 U.S. Senate study reviewed the G.I. Bill and estimated that it
had provided the greatest return on investment, in both the private and
public sectors, in the country's history.

There is no dearth of public works, public service and infrastructure
needs that could be met by a comparable program today. This would be
greatly facilitated by the nationalization of the Federal Reserve,
making that institution a public utility. Monetary policy, the creation
of money, and whatever distribution is effected by government, would be
subject to democratic determination, just as fiscal policy has always
been. The case for this is made more compelling by repeated calamitous
experiences resulting from permitting private, profit-motivated banks
to create money solely for the purposes of maximizing private profit.

Needless to say, this outcome will materialize only in the wake of
large-scale public agitation, nationally coordinated grass-roots
politicizing, in its support. The precedent: it was only the
radicalization and "revolt from below" of the 1930s' burgeoning
organized labor movement that compelled FDR to initiate programs that
provided direct benefits to working people in the "second New Deal." At
this historical juncture there is a great deal to be gained. In the
1930s, the achievements of political agitation were not to be sneezed
at: the Works Progress Administration, the Wagner Act, which gave
workers the legal right to organize, unemployment insurance, and Social
Security. In these times, comparable accomplishments are an urgent
need.