01.03.09
Trillion-Dollar Scam?
RG mail
Even as the media continue to repeat the claim that credit has frozen
up, evidence has emerged suggesting the entire story is wrong.
by Joshua Holland
AlterNet (December 29 2008)
There is something approaching a consensus that the Paulson Plan – also
known as the Troubled Asset Relief Program, or TARP – was a boondoggle
of an intervention that’s flailed from one approach to the next, with
little oversight and less effect on the financial meltdown.
But perhaps even more troubling than the ad hoc nature of its
implementation is the suspicion that has recently emerged that TARP -
hundreds of billions of dollars worth so far – was sold to Congress and
the public based on a Big Lie.
President George W Bush, fabulist-in-chief, articulated the rationale
for the program in that trademark way of his – as if addressing a nation
of slow-witted twelve-year-olds – on September 24: “Major financial
institutions have teetered on the edge of collapse … [and] began
holding onto their money, and lending dried up, and the gears of the
American financial system began grinding to a halt”. Bush said that if
Congress didn’t give Treasury Secretary Hank Paulson the trillion
dollars (give or take) for which he was asking, the results would be
disastrous: “Even if you have good credit history, it would be more
difficult for you to get the loans you need to buy a car or send your
children to college. And ultimately, our country could experience a long
and painful recession.”
For the most part, the press has continued to echo Bush’s central
assertion that there’s a “credit crunch” preventing even qualified
borrowers – that’s the key point – from getting loans, and it’s now part
of the conventional wisdom.
But a number of economists are questionioning the factual basis of the
credit crunch narrative. Columnist David Sirota recently looked at those
claims and concluded that Americans “had been punk’d” – that “the major
claims about a credit crisis that justified Congress cutting a
trillion-dollar blank check to Wall Street were demonstrably false”, and
the threat of a systemic banking crash was used by the Bush
administration to overcome popular resistance to the “bailout”.
It’s a reasonable conclusion; this is an administration that used the
threat of thousands of al-Qaida sleeper cells in the United States to
sell Congress on the Patriot Act, the specter of mushroom clouds rising
over American cities to push through the Iraq war resolution and the
supposedly imminent crash of the Social Security system to push for
privatizing Americans’ retirement savings.
But the question comes down to what they knew and when they knew it. The
analyses that suggest the whole credit crunch narrative is false are
based on data that lagged behind the numbers that policymakers had
available, in real time, back in September. So the question – probably
unanswerable at this point – comes down to whether or not they looked at
the situation and in good faith believed that pumping hundreds of
billions of dollars into the banking system would contain the damage and
save an economy teetering on the brink of collapse.
What Else Could Be Happening?
Of course, no one disputes the fact that as the economy has tanked, the
number of new loans being issued to American families and businesses has
plummeted. But is because credit has dried up for qualified borrowers?
Economist Dean Baker doesn’t think so. He explains the situation in
simple terms: The media, he argues, “are blaming the economic collapse
on a ‘credit crunch’ instead of the more obvious problem that consumers
just lost $6 trillion of housing wealth and another $8 trillion of stock
wealth”. It’s a commonsense argument: much of the economic growth of the
Bush era existed on paper only, built on the rise of a massive bubble in
real estate values rather than growth in productive industries. When all
that ephemeral wealth vaporized – and with the economy shedding jobs
like a dog with dermatitis – consumers stopped buying, and businesses,
anticipating a long slowdown, stopped seeking the loans that they might
have otherwise tapped to expand their operations.
Whether good borrowers can’t get credit from banks because the latter
are hoarding cash or lending has stopped because of a drop-off in demand
for new loans is not some wonky academic debate; it’s of crucial
significance. Because if lending to qualified parties has truly frozen,
then even if the specific implementation of the Paulson Plan was deeply
flawed, its broad approach – “recapitalizing” banks in various ways,
buying up some of their crappy paper and guaranteeing some of their
transactions – is fundamentally sound.
If, on the other hand, the primary problem is that people are broke and
maxed out on debt, and firms aren’t looking for money to expand, then
the kind of massive stimulus package being considered by the Obama
transition team and congressional Democrats – largely designed to
stimulate demand from the bottom up, with public works projects, tax
cuts for working families, aid to tapped-out state and municipal
governments and new money for unemployment and food stamps – is
obviously the best approach to take.
Broadly speaking, these are the parameters of the debate in Washington,
and that means that properly diagnosing the underlying problem is
crucially important.
Is the Credit Crunch a Big Lie?
There’s plenty of evidence that Baker’s right. He points out that even
though mortgage rates have plummeted, the number of applications for new
loans has dropped to very low levels and argues it’s “the most glaring
refutation of the claim that people are unable to get credit”. If
creditworthy applicants were being denied loans by banks unable or
unwilling to lend, Baker explains, “then the ratio of mortgage
applications to home sales should be soaring” as qualified homebuyers
apply to multiple banks for a loan. “Since there is no notable increase
in this ratio, access to credit is obviously not an issue”.
Again, this is common sense. Consumer spending drives about seventy
percent of the US economy, and in recent years, much of that spending
was financed by people taking chunks of home equity out of their
properties – people might have been eating in fancy restaurants, but
they were essentially eating their living rooms to do so.
That the American people don’t have the appetite to go deeper into debt
than they already are in order to make new purchases is hard to dispute.
In November, consumer prices across the board fell at a record rate for
the second month in a row. And even with mortgage rates plummeting, so
many homeowners are “underwater” – owing more on their homes than
they’re worth – that they’re unable to refinance because the equity
isn’t there. Paul Schuster, a vice president at Marketplace Home
Mortgage, told the Saint Paul Pioneer Press, “What I’m really concerned
about is the job picture … If (people) don’t feel good about their
jobs, rates aren’t going to matter”.
The National Federal [sic] of Independent Business’ November survey of
small-business owners found no evidence of a credit crunch to date,
concluding that if “credit is going untapped, it’s largely because
company operators are not choosing to pursue the credit. It’s not that
companies can’t get the extra money, it’s that they don’t want or need
it because of the broader slowdown in economic activity.”
The credit crunch narrative – and the justification for creating
Paulson’s $700 billion TARP honeypot – is built on three related
assertions: 1) banks, fearing that they’ll be unable to meet their own
financial obligations, aren’t lending money to one another; 2) they’re
also not lending to the public at large – neither to firms nor
individuals; and 3) businesses are further unable to raise money through
ordinary channels because investors aren’t eager to buy up corporate
debt, including commercial paper issued by companies with decent balance
sheets.
Economists at the Federal Reserve Bank of Minnesota’s research
department – V V Chari and Patrick Kehoe of the University of Minnesota,
and Northwestern University’s Lawrence Christiano – crunched the Fed’s
numbers in an examination of these bits of conventional wisdom (PDF),
and concluded that all three claims are myths.
The researchers found that “interbank lending is healthy” and “bank
credit has not declined during the financial crisis”; that they’ve seen
“no evidence that the financial crisis has affected lending to
non-financial businesses” and that “while commercial paper issued by
financial institutions has declined, commercial paper issued by
non-financial institutions is essentially unchanged during the financial
crisis”. The researchers called on lawmakers to “articulate the precise
nature of the market failure they see, [and] to present hard evidence
that differentiates their view of the data from other views”.
That finding was backed up by a study issued by Celent Financial
Services, a consulting firm, again using the Treasury Department’s own
data. According to a story on the report by Reuters, Celent’s
researchers concluded that the “data actually suggest world credit
markets are functioning remarkably well”. Rather than a widespread
banking problem, Celent found that the rot was limited to “a few big,
vocal banks and industries such as car manufacturing, which would be in
difficulty anyway”.
There are also some important caveats. Economists at the Boston Federal
Reserve responded to the Minnesota Fed’s research (PDF), arguing that
the use of aggregate data doesn’t fully reflect the dysfunction in
specific subsectors of the economy, nor does it adequately reflect the
decline in new loans.
It’s also the case that single-cause explanations for complex crises
usually fail to hit the mark. Banks, having fueled the housing bubble
(and similar bubbles before that) with the creation of ever-shadier
“exotic” securities, are probably erring on the side of caution in
writing new loans. They’re looking at their balance sheets as quarterly
reports approach, and the number of foreign investment dollars coming
into the US has declined, meaning that some qualified firms may, indeed,
have trouble raising cash in the near future.
Dean Baker, while arguing that “the main story is that people don’t have
money and therefore want to spend”, acknowledged that “some banks are
undoubtedly anticipating more write-offs from other loans going bad, so
they will hang on to their capital now rather than make new loans”. And,
as Sirota notes, some of the institutions that are relatively healthy
are reportedly holding cash in anticipation of picking up weaker banks
on the cheap.
But one thing is clear: the economic crisis may have woken up
Washington’s political class when it hit the banks, but it remains a
product of long-term imbalances in the economy, and the idea that it’s
primarily a pathology of the banking system in isolation is a
misdiagnosis that, if uncorrected, can only result in a longer, deeper
and more painful recession than might otherwise be the case.
Links:
The original version of this article at the URL below contains several
links to other sources of information.
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Joshua Holland is an AlterNet staff writer.
(c) 2009 Independent Media Institute. All rights reserved.
http://www.alternet.org/story/115768/