Bailout

I have no idea what to think of the financial bailout being discussed even now in Washington (well past midnight on early Saturday morning). I am deeply suspicious of the idea of a seven hundred billion dollar act of market participation by the government into an obviously-failing credit market. Our GDP is $14.3 trillion. $700 billion represents a direct government takeover of about 5% of the total economy -- and a critical 5%, which will reverberate around about eight times that much of the economy from there. This is closer to socialism than the country came under FDR or LBJ.

On the other hand, I am not certain that this will be enough. Home mortgages are the basic engine driving our financial institutions; the bulk of our wealth comes from either the value of our land or the value of the products we produce. Our service and information sectors are only valuable because they sit atop financially powerful land and manufacturing sectors of the economy.

I think that, like the thoughtful Rick Moran, I have to accept that the situation is more complicated than I can fully understand, and be prepared to bite this bitter pill as a fundamentally necessary evil. It is galling but on the other hand, leaving the free market to take care of this many banks simply failing would pretty clearly create chaos of 1929-like levels. So the government has to do something.

One alternative idea I heard on NPR today was a suggestion that a change in the bankruptcy code, perhaps drafted with a very short sunset, would allow debt in qualified financial institutions to be transformed into equity. Creditors of these failing institutions would become stockholders of them instead. I'm not sure if that would be a good idea or not. It would take some pressure off of the failing bank, for a while, by relieving it of its debts and allowing it to start to accumulate capital to retire other debt. The value of the institution's stock would fall dramatically when this happened, of course, but perhaps the company could be de-listed while its debt (or a portion of it) is transmuted into equity. A week or so later, it could be re-listed on the exchanges, when it would obviously trade for far less than it had before, having been both diluted and de-valued. But, its debt-asset ratio would be considerably more favorable and its abilty to recover from making bad loans would be enhanced.

It's an interesting idea, radical and bold and therefore well beyond the ability of the current government to handle. I'm still not sure what to think of it. It would be a big help with the secondary-debt market side of things, which would probably keep several banks afloat that would otherwise have failed. And, it would produce new blocs of shareholders who would impose new directorates and therefore new governance rules for the banks, so over time it would have the effect of helping shore up another one of the fundamental causes of the current situation -- banks making too many risky loans.

It doesn't deal with the fundamental problem, though, of too many homeowners unable to pay inflated mortgages on property whose value has deflated. Nor does this address the question of the proper extent of regulation of the home mortgage market -- an important political issue all of a sudden, since at least one Presidential candidate is moving the platform plank of re-regulation of this segment of the economy to front and center of his campaign.