[Vision2020] Debate about the bailout

[jeanlivingston]

The nation has tried to rush to a bailout solution based on the
seeming consensus that the financial markets, credit in particular,
will collapse or freeeze to our great and lasting detriment if a
"deal" is not obtained this week.


Senator McCain "suspended" his campaign and refuses to participate in
tonight's scheduled debate unless the deal, or at least an agreed
structure of the deal, is reached before it is time to fly to
Mississippi for the debate.  He, too, seems to accept the concept,
touted by bureaucrats and Wall Street economists alike and reiterated
by politicians of all stripes, that an immediate agreement upon a deal
is absolutely crucial.

 

We are trying in one week to structure and agree upon the largest
financial deal in our history.  George Will aptly termed this
phenomenon as acting like "lemmings in reverse," as everyone rushes
pell mell away from the proverbial cliff, from which lemmings
supposedlyleap  as they blindly follow the lemming in front of
them.  It seems to me that getting a deal of this magnitude done well
in a considered fashion is more important than getting it done this
week.  That idea of "getting it right" seems to be taking root. 
Note the article reprinted below, which talks at length about the
split in "expert" opinion on how to structure the bailout.  


All that being said, it appears that a deal may not be reached this
week due to the complexity of the situation and well meaning
politicians, conservatives and liberals alike, now struggling to "get
it right."  In my opinion, debate on this issue and "getting it
right" is paramount.  


For me, the importance of "debate" on the issue also means getting
the two presidential candidates discussing it openly in public for the
nation to hear, tonight.  


If a deal in Congress is reached today in time for the debatetonight,
wonderful.  If a deal is not reached, I think Senator McCain ought to
hop on that plan and attend the scheduled debate, notwithstanding his
offer to "put the nation first" by sitting in Washington.  Certainly,
getting the deal done right in Congress is important.  But skipping
an hour and a half presidential debate -- when the financial
markets will be closed for the next two days -- makes no sense to
me.  Skipping the debate does not materially advance getting the deal
done right in a time frame that matters.  We need to hear
what Senator McCain has to say, and why his ideas are better or
worse than Senator Obama's.  As debate grows about the wisdom of the
structured bailout deal being proposed, the need for debate by our
presidential candidates likewise grows.


Bruce Livingston


Away from Wall Street, Economists Question Basis of Paulson's Plan


By Neil Irwin andCecilia Kang
Washington Post Staff Writers
Friday, September 26, 2008; A01



The Bush administration's pitch for a sweeping bailout of the
financial system has centered on two simple premises: that the economy
could suffer a crippling downturn if action is not taken very quickly
and that this action should consist of the government buying troubled
mortgage securities from banks and other institutions.

But many of the nation's top economists disagree with one or both of
those ideas, even as many top political leaders have swung behind
them.

Wall Street economists have mostly endorsed Treasury Secretary Henry
M. Paulson Jr.'s plan, or a variation thereof.

But almost 200 academic economists -- who aren't paid by the
institutions that could directly benefitfrom the plan but who also may
not have recent practical experience in the markets -- have signed a
petition organized by a University of Chicago professor objecting to
the plan on the grounds that it could create perverse incentives, that
it is too vague and that its long-run effects are unclear. Sen.
Richard C. Shelby (Ala.), ranking Republican on the Budget Committee,
brandished that letter yesterday afternoon as he explained his
opposition to the bailout outside a bipartisan summit at the White
House. The petition did not advocate any specific plan, including that
offered yesterday by House Republicans.

Economists tend to agree that the nation's economy is at serious risk
as the flow of credit threatens tofreeze. Just yesterday, the interest
rate at which banks lend to each other rose steeply, as it has every
day this week, suggesting that lenders are hoarding cash. History
shows that when this happens, a broad economic crisis can follow, for
instance, the Great Depression and Japan's decade-long recession in
the 1990s.

"If nothing is done, the potential for these markets to seize up in a
big way is definitely there," said Frederic S. Mishkin, an economist
at Columbia University who was a Federal Reserve governor until last
month. "When you look at the history of these crises, when things spin
out of control, the cost to fix it later goes up exponentially."

But many others with a deep theoretical knowledge of finance and
experience in government are skeptical ofthe structure of Paulson's
plan -- and the speed with which it has been crafted.

The critics can be roughly divided into two camps. One group thinks
money should be directly infused into banks, which should allow it to
trickle down through the financial system to borrowers. A second group
thinks the government should buy individual mortgages, thus helping
ordinary Americans more directly, with the benefits trickling up to
the banks.

The plan promoted by Paulson and Fed Chairman Ben S. Bernanke is
somewhere in between: buying up packages of mortgages and hoping that
the benefits spread both up to banks and down to households.

"The plan is a trickle-down approach from banks to Main Street," said
Alan S. Blinder, a professor at Princeton University. "But if you
reducethe flood of foreclosures and defaults" -- which he would have
the government do by buying loans directly and then renegotiating the
terms -- "it will make mortgage-backed securities worth more."

That might help ordinary Americans but would be extremely difficult to
administer. The government would have to make decisions on the
foreclosure and resale of individual houses all over the country.
Still, many economists with left-of-center political views favor some
variation of this approach to the plan endorsed by Bush.

"There is a kind of suggestion in the Paulson proposal that if only we
provide enough money to financial markets, this problem will
disappear," said Joseph Stiglitz, a Nobel Prize-winning economist.
"But that does nothing to address the fundamental problem of bleeding
foreclosures and the holes in the balance sheets of banks."

Coming from the other direction, more conservative economists worry
that by having thegovernment buy mortgage securities, the Paulson plan
would manipulate prices in that market without getting at the nub of
the problem: that banks do not have enough capital and are having
difficulty raising any on private markets.

In a sign of how the debate over the economy has shifted in recent
weeks, some conservatives, even as they argue for a relatively limited
government role, are calling on the government to invest public money
in private banks.

"The root of the issue is recapitalizing banks," said Glenn Hubbard,
dean of Columbia Business School and a former chairman of President
Bush's Council of Economic Advisers. "That could be done more
efficiently through the government injection of preferred equity. Then
the market could figureout the prices of the assets."

Many of these critics don't care for the assumption behind the
administration's plan that the market is now pricing these mortgage
securities incorrectly, a problem that the government intervention
aims to fix.

"The premise appears to be that the market is irrationally
pessimistic," wrote Greg Mankiw, a Harvard University economist and
another former Bush economic adviser, on his blog this week. "That
might be so. Nonetheless, one has to be at least a bit skeptical about
the idea that government policymakers gambling with other people's
money are better at judging the value of complex financial instruments
than are private investors gambling with their own."

Some conservatives are now arguing, notably, that the government
should be investing in banks.

Many economists fault the Bush administration and Congressfor moving
so quickly on the bailout package without allowing more time for
debate. That sentiment was reflected in the petition organized by John
Cochrane of the University of Chicago. (None of the economists quoted
here were signatories.)

"I totally disagree that this needs to be done this week. It's more
important to get it right," Blinder said.

Moreover, some economists said the proposed $700 billion may not be
enough to address all the problems stretching across the financial
landscape. "You only show up if you can win, and this is not that
package," said Simon Johnson, a professor at Massachusetts Institute
of Technology and former chief economist at the International Monetary
Fund. "This cannot be the ultimate, decisivesolution if you are not
addressing the underlying cause."

The plan is short on details, instead giving the Treasury secretary
wide latitude to determine how to execute the purchases of mortgage
securities.

"I'd like to see how they see the evolution of an end game. There are
still many questions," said Myron Scholes, a retired professor at
Stanford University and Nobel Prize winner. He said how long the
government holds the assets and how they are later resold would be the
keys to determining whether the plan works.

 

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