A failed bailout and the after effects

The gnawing sensation I feel in the pit of my stomach is not hunger, I know. It’s dread – of the immediate future, of what’s going to happen next, and the frightening realization that those who are best placed to avoid this crisis are doing nothing to help, but may in fact be worsening it.

I wish they had bailed out Lehman. I still do not understand why they chose to play God and let Lehman fail. Why was Lehman different from Bear Stearns, or Fannie Mae or Freddie Mac? Or AIG or Merrill Lynch or any of the others who followed? Why Lehman alone?

Simple – they thought they could get away with letting Lehman fail.

They didn’t realize, you see, that it would cause money market fund RPF to “break the buck” (NAV go below $1) and cause chaos in the money market. They didn’t realize, you see, that it would start a liquidity crisis. Or cause investors to completely lose faith in the government and start wondering which Institution would fail next.

They didn’t realize, you see, that by committing a few tens of billions to Lehman, they would avoid having to spend $700 billion on a bailout.

(For a detailed analysis of the effects of the fall of Lehman, read this WSJ article. It is interesting and it’s free (no subscription required, that is), though it’s a bit involved, and more importantly, it only addresses the immediate aftermath of Lehman. The ripples are still being felt.)

What happens if Institutions start collapsing one after another like sand castles after a wave? People panic, that’s what happens. If you think people are panicking now, well, they are panicking only in Wall Street. Main Street is yet to feel the panic, which is why it it sitting around arguing on why Wall Street doesn’t deserve any pity.

Main Street doesn’t understand why we need a bailout. Yes, $700 billion is a lot of money, more than the sum total of the lifetime earnings of all the readers of this blog. It does seem unfair as Wall Street clearly shares some of the blame for this mess. But not bailing out Wall Street now is not going to help Main Street – it would instead, hurt. It would be like cutting one’s nose to spite one’s face.

Now, banks are disappearing one after the other. IndyMac, Washington Mutual, Wachovia. Here one day, gone the next. People have NatCity and Sovereign on their crosshairs now – their stock fell more than 60% on Monday. Each one of this is a really large Institution, most of them are among the top ten banks in the country. Where will all this end?

And don’t even get me started on the inconsistency of regulatory policy. When the government seized WaMu, it wiped out the senior credit holders, but the benefit was not passed on to the taxpayers, it only benefited J P Morgan. Wiping out senior credit holders will obviously also make institutions more and more unwilling to lend money to any bank, for it’s obvious that even the biggest banks are not safe.

But in case of Wachovia, the deal was structured differently and creditors were not wiped out. Why have one rule for WaMu and another for Wachovia? The markets are fearful because there is no consistency, no transparency and no rationale for how Institutions are treated.

When banks start failing like that, credit dries up. No institutional investor will lend money to banks, or any other financial institution. Main Street will not get any loans – no credit cards, no student loans, no car loans..given that Main Street is largely a credit card driven economy, I hate to think of the repercussions.

Meanwhile, what do our lawmakers do? Well, they cannot go against the wishes of Main Street in an election year, however misguided or misinformed Main Street is.? So what happens is a classic re-enactment of the “Prisoner’s Dilemma”.? They vote against the Bill, hoping that the other representatives will vote for the Bill. This way, the bailout bill will pass, but the representatives get to go home to their constituents and brag about how they spoke up in the interests of Main Street.

The trouble with this is, if enough representatives think this way and vote against the Bill, it will never be passed. Which is exactly what happened today. Yes, you cannot have your cake and eat it too. Too bad some people keep forgetting this.

By the way, for all those who say $700 billion is a lot of money – yes, it is, but the stock market lost $1.2 trillion today alone, when the bailout plan failed. Doesn’t that loss come out of Main Street’s pockets too?

I can understand that Main Street will not understand all the implications. What I don’t understand is when people who should know better, choose to act extremely short-sightedly.

Did I mention – I am terrified? I am also very angry. And that gnawing sensation ? It’s here to stay.

P.S. These opinions are all mine, and don’t represent any one else’s opinions. But then you know that.


10 thoughts on “A failed bailout and the after effects

  1. Don’t feel bad, Lekhni, but I am afraid you’ll scare your readers away!
    But then, they need to know all this. I understand. Though it sounds good but not true, I hope all this is an imagined universe.

    Lekhni: I wish, too, that it was all a bad dream and I could just wish it away 😦 Unfortunately, people do need to understand and be worried. I wouldn’t want them to go to the other extreme and panic, though.

  2. Aye to the gnawing sensation. It’s more frustrating to think that it’s not ignorance that’s driving all (in)decisions. I do think that a majority of Main Street, although rightfully pissed off at being asked to take a dip in the quicksand, did want to see some action being taken (even if that meant agreeing with ol’ Dubya). All that debating and zilch? It’s like there’s a profusely bleeding victim on the ER table, and the specialist recommends an amputation to save his life asap, but the none of the docs want to operate because he’s not going to be thrilled with the outcome. Ok, I’ll save the analogies for an economist and go get some ice-cream.

    Lekhni: I agree 😦 And the reason why the House didn’t pass the bill? They didn’t like someone’s speech 😮

    I’ve read a few economists’ blogs, and their analogies seem to involve (entirely unoriginally) burning houses and sprinkler systems. You may be doing better 😉

  3. Yes, you cannot have your cake and eat it too. Too bad some people keep forgetting this.

    Was this meant for those on the Wall St.? 😉 🙂

    Lekhni: Wall Street too, but also Main Street and the lawmakers 😦

  4. I am glad that you support the bail-out or whatever the euphemism for that is considered politically correct in right wing circles. But I don’t understand this unnecessary demonsing of the Main St John Doe and halo-ising of the Wall Street John Dow.

    Let me state my ideological stance and my assumptions upfront so we don’t go round and round in the comments later. I am a centrist who like you. going by this post, supports government intervention when necessary. As a corollary I have been an inconsistent, if I may say so, opportunistic opposer of the free market ideology.

    Now having stated that, I don’t understand why all and sundry are blaming the taxpayer about his/her opposition to the bail-out.

    This is what we on the Main Street were told time and again to oppose (a bail out). We were brainwashed, (if that seems a tad too harsh, try propagandised) by Wall Street good Samaritans to do exactly this when government tried to interfere to salvage any business. To illustrate this better, let’s take the example of a country like India. We are still suffering from a socialist hangover. We are a country where a government almost fell because onions started costing Rs22 a kg in 1998. Do you think a bail-out of Financial Institutions would have been opposed in India? There is no way to say this without sounding condescending or highlighting the ignorance (ignorance of free market ideology, that is) of the Indian voter but he/she simply wouldn’t know and simply wouldn’t care where the taxpayer’s money is being directed. I am not saying this situation is good. Just giving an example to illustrate a point I am trying to make.

    In contrast in this country you have a majority population that is center-right. This country has been built purportedly on free market ideology and the ideology has been sold, quite vigorously I might add, to the John Doe on Main Street by the John Dow’s on Wall Street. The John Dow’s have been hectoring the American populace about their misplaced sympathy for the flailing (alias failing) underdog in any business sector. They were ‘explaining’ capitalism to ‘folks’ out there so that these guys do not protest the mergers and acquisitions and the backroom deals the John Dows were making, supposedly on their behalf. These guys, who are now blaming the taxpayer’s ignorance and politician’s succumbing to their pressure were once, not so long ago, warning about the taxpayer’s ignorance and politician’s succumbing to pressure in an entirely opposite context. At the time had the affected workers from any industry located in States (as in Michigan, Ohio) represented by lawmakers demanded a bailout from the government to save their jobs, the ignorance of the voters and moral grandstanding of the politician concerned would have been panned and called things like a ‘moral hazard’, ‘socialism’. ‘robbing Peter to pay Paul,’ ‘four legs good two legs bad,’ etc.

    Use taxpayer’s money to pay for our healthcare: “Run! The communists are taking over!”

    Use taxpayer dollars to improve public education: “Have you ignoramuses ever heard of something called school vouchers.”

    Congress should tax windfall profits of oil companies: “Please! Do we ever lend them money when the demand supply equation/gap is skewed against them? (P.S. We just fight wars in the Middle East to ‘correct’ the demand/supply gap using YOUR money.) And oh by the way: if the Oil companies are reaping profits, blame the governments and the lobbyists who facilitate this. This has nothing whatsoever to do with free market ideology.”

    So in summation: if things go right, it is because the rich weren’t taxed and the markets were allowed to function ‘freely.’ But God forbid if the things go wrong, then the rich were taxed infinitely more compared to Ireland and it is government regulation/government oversight/ taxpayer ignorance/ socialist hangovers/ grandstanding politicians pandering to their lunatic and jealous constituency, union workers etc. to blame for our woes.

    Wall Street promotes an atmosphere where all these things are deemed immoral. And now there is an expectation from these same people (American taxpayers) who have been fed this steady diet of free market ideology for years together to suddenly come around and allow further feeding of the fat cats on Wall Street from their own meager diet, that too with a condescending, “You fools! don’t you realise what will happen if you don’t share your wealth” message! They are, of course, supposed to gulp it down without any protest. If they do not, they they are the ones who are the culprits who bring upon their own ruin. The ones who cut the branch they are sitting on. Or as you so eloquently put it, ” cutting one?s nose to spite one?s face.”

    You see inconsistencies in saving Bear Stearns and not Lehman but do not ever reflect on the inconsistency in not saving the free press/ auto majors/ airlines, which many people would deem even more important to proper functioning of their lives, democracy and economy than Wall Street machinations. I am not blaming you. Just pointing out that many of the taxpayers might have been passionate and equally agitated about inconsistencies and at the time none of the Wall Street types paid any heed to their misgivings. In light of this, what makes you (Wall Street) special that your lamentations and prognostications about doom and gloom should be taken at face value by these voters when your own cheering and betting their money on failed assets has earned them misery of a lifetime.

    So let’s get this straight. You (Wall Street) blamed the politicians when things were going good about over’bearing’ regulations stopping the bullish markets from achieving their full potential. The politicians were supposedly doing this to pander to ignorant voters who did not understand the functioning of the market and wanted to reign in the fat cats because they were jealous of the earning of Wall Street without appreciation for what the Wall Street types were doing for them. But wait, when things go bad you still blame the politicians for pandering to voters who do not understand the functioning of the market and want to reign in the fat cats because they were jealous of the earning of Wall Street without appreciation what the Wall Street types were doing for them!

    What did I miss here! How can the same set of people be blamed for the exact same things when the going is good and also when the going is bad? Oh well, I am just a John Doe. Only John Dow’s are supposed to understand the logic of the market!

    Lekhni: Substitute “Wall Street” with “conservative ideology” and I agee with you. Conservatives are all about less regulation and government intervention, liberals are about more. I agree that it is ironical that a conservative government now has to behave in a quasi-socialist manner. Yes, that’s because there is no other option if you want to stop the wholesale panic.

    As I mentioned, I do understand where Main Street is coming from – whether it is ideology, ignorance or anger/ envy/irritation with Wall Street. (Main Street has never liked Wall Street anyway).

    But why don’t the people in charge explain to the people why a bailout is necessary, instead of playing games 😦

  5. The meltdown is having repercussions here in India too. I am no finance expert but don’t you think it is time the US public paused & reflected back on its udhaar ki zindagi a.k.a credit driven economy ?

    Lekhni: Hush, don’t blame the US public (aka Main Street)! They are completely above blame 😉 You will find scores of readers rising up and defending the public and telling you how Wall Street is the evil power behind this whole crisis 😛

  6. Not sure if you caught the interviews NPR did yesterday with some small-business owners. The credit crunch is a *very* scary problem and most people won’t feel it till probably the end of next quarter.

    Lekhni: No, I didn’t hear those. Today morning, NPR had some interviews with people – mixed bag, some were saying that they don’t want to risk a recession and unemployment rates rising to 8% etc, if no bailout, while others seemed to still harp on $700 billion being too large an amount.

    There is a school of thought which says – fine, if people don’t want the bailout, they should face the consequences. That seems a little harsh 😦

  7. “We want your cash and we want it now! if you don’t, we will sulk and not give you any more loans. (sounds of thunder and lightning in the background) Bad things are going to happen to you… give us your money and we will protect you.. if not, you will languish in your miserable ignorant Main street existence… no more debt for you.”

    A giant sucking sound can be heard around Wall Street as the bailout bill is eventually passed.

    Lekhni: 😀 Scriptwriter? Maybe you should try writing a movie based on this 😉

  8. Congress has been irresponsible trying to play politics with fire in the economy and I can’t believe they are off today and tomorrow for a Jewish festival. Can’t they call emergency voting sessions? Why wait till Thursday! The market is now speculating upwards hoping thursday will lead to voting for the bill. Too much of deregulations by the republicans caused this situation is one thing, but trying to blame someone rather than solve is another thing. Right now we need solutions, not blames!

    Lekhni: They didn’t like the Speaker’s speech so they decided to punish the public? What kind of logic is that? Right now, I am more impressed with the Senate.

  9. All I’ve been looking for in the news is, if not the bail-out why not put forth an alternative on the table. You can’t just say no and silently walk away ?! And if their reasoning was a speech, they have absolutely no right to be there!

  10. Pingback: Review of Henry Paulson's "On the Brink" | The Imagined Universe

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