Are Bernanke and Paulson Bankrupting America?

Pop quiz: Which of these headlines, all published on the same day, doesn't fit with the others?

  • Freight Haulers Slam On the Brakes
  • Oil Demand Down; 1st Time Since '83
  • Cummins [ (NYSE: CMI  ) ] Cuts 2008 Outlook on 4Q Demand Slump
  • Jobless Claims at 26-Year High
  • Crude Futures End Up 10% As Dollar Sinks

Seems easy enough, and I wanted Federal Reserve Chairman Ben Bernanke and Treasury Secretary Henry Paulson, the Harvard-educated architects of most of these financial rescue plans, to pass it. No matter how pristine their intentions, the end results of their interventions are turning into ever more economic pain and suffering for ordinary Americans.

That '70s show
There's no clearer sign of the economic troubles we're in than the first four headlines on that list. Oil use is falling, transportation companies are in a world of hurt, and jobless claims are higher than they've been in decades. We're in the middle of a nasty recession, yet in many respects, these rescue efforts are simply prolonging the agony rather than helping to reverse it.

For instance, one of the benefits of a recession is that prices tend to drop. Those lower prices entice consumers to spend again, and spending is what ultimately allows the economy to recover. Yet thanks to Bernanke's attempts to reinflate the bursting housing bubble, the dollar is showing signs of once again weakening versus oil, the fifth headline on that list. If oil once again leaps, that would reignite the nasty inflation that caused us so much pain this summer.

That doesn't bode well for consumer confidence, which sank like a rock as gas prices soared this summer and only started to improve as gas prices dropped. People aren't willing to spend discretionary money if they're scared that they'll need more cash just to keep food on the table. It should be obvious to anyone who didn't graduate from Harvard that lower prices are key to an economic recovery. For instance, consider how well discount retailer Wal-Mart's (NYSE: WMT  ) sales are holding up amid the general slump.

Yet as long as Bernanke operates as though lower prices are a larger evil than winding up like Zimbabwe or the Roman Empire, that economic recovery will be delayed. Higher prices? Slower growth? We have a word for that: stagflation.

Expectations drive decisions
In fact, housing might be among the last places to recover. After all, people almost never have to buy a house. They can rent, move back in with their families, find someone looking for a roommate, and so on. As long as people are worried about rising prices on "gotta have" items, buying a house will simply be a less attractive option.

In other words, Bernanke's quixotic quest to re-inflate the housing bubble may perversely be slowing housing's recovery by forcing people to allocate their limited resources elsewhere. Unlike him, the rest of us don't have a printing press with which to turn out legal currency, and we must choose where to put what little cash we have.

Throwing good money after bad
There's also the little matter of the trillions of dollars Paulson and Bernanke have thrown at failing banks and other overleveraged financial institutions. Although there's no reason to believe that the U.S. can throw money at a problem any better than Japan could, they apparently felt obligated to try.

Yet even the direct recipients of all that pork still don't exactly look like paragons of financial strength:

Company

Continuing crisis

Bank  of America (NYSE: BAC  ) /

Merrill Lynch

35,000 job cuts; may need to raise billions; dividend at risk

Wells Fargo (NYSE: WFC  ) /

Wachovia

Raising an additional $6 billion and may need more; risks a dividend cut

American International Group

(NYSE: AIG  )

Still hemorrhaging billions; begging for more bailouts

Even after seeing things stay bad or even get worse after their interventions, Paulson and Bernanke don't seem to believe that their actions could be contributing to the carnage. In fact, they're trying to do more.

Bernanke now apparently thinks it's prudent to solve the financial problems initially caused by excessive debt by having the Federal Reserve issue debt of its own. Apparently, all the dollars he can print still aren't enough. Likewise, Paulson is trying to figure out how to use TARP funds to help struggling automakers General Motors (NYSE: GM  ) , Ford (NYSE: F  ) , and Chrysler. Since all the previous TARP interventions haven't helped the debt market become rational, why would this one work so much better at rescuing its intended target?

It is beyond time to stop and ask why all of this help is better than letting failures fail. Because right now, the cure feels significantly more painful and expensive than the disease it professes to treat.

Fool contributor Chuck Saletta would like to know why his county auditor thinks the value of Chuck's home went up over the past three years. At the time of publication, Chuck owned shares of Bank of America and General Motors. Bank of America is a Motley Fool Income Investor pick. Wal-Mart Stores is a Motley Fool Inside Value recommendation. Try any of our Foolish newsletter services free for 30 days. The Fool's disclosure policy is pinching every penny it can find these days.


Read/Post Comments (23) | Recommend This Article (57)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On December 15, 2008, at 2:34 PM, ByrneShill wrote:

    The bailout has even more perverse effects. By letting the failures live, you keep the strongs from tearing the weak aparts and take whatever's still good in there. Some of these companies (mostly I'm talking about Citigroup) should be buried by now, and whatever is still fundamental profitable should have been bought out by those who managed their money well over the last 5-10 years.

  • Report this Comment On December 15, 2008, at 3:07 PM, lessismore1 wrote:

    Thank the government for the mess we are in. Why isn't anyone holding our government accountable. I don't care if it's republican or democrat what has been happening is unacceptable for elected officials. They must live by a higher standard, yet we allow them not to and then we re-lect them.

  • Report this Comment On December 15, 2008, at 5:47 PM, Gerry0324 wrote:

    We people who are making a small salery and trying to make ends meet have learned to cut back on spending. The people that are printing all this extra money should take a pay cut to help balance what they are spending instead. This debt they are creating is the mess they created they should be accountable for at least part of it.

  • Report this Comment On December 15, 2008, at 6:15 PM, XMFSinchiruna wrote:

    Great article, Chuck!! I agree 100% :)

  • Report this Comment On December 15, 2008, at 6:19 PM, afamiii wrote:

    Its not there money mate, so they got to spend it.

    If you hadn't noticed, a crime has been committed. Zillions of dollars of bonuses paid for supposed performance, zillions of dollarslost by investors/savers, zillion dollar mortgage taken to keep the music playing

  • Report this Comment On December 15, 2008, at 6:57 PM, knighttof3 wrote:

    Hey Chuck,

    I too agree with you 100%. Now what? We have no power to bring Bernanke and Paulson to justice.

  • Report this Comment On December 15, 2008, at 7:38 PM, hsvhughes wrote:

    Classical investors did not cause the current stock market turmoil. Traders, speculators, and dishonest "managers" selling risky derivatives dressed up in AAA costume to did it all on their own. The typical 401K investor, like me, has a full-time job and does not have time to "play the market". Capitalism is getting a bad name around the world because of greedy crooks wanting money for noth'n and chicks for free. We need a remedy that none of the "players" want. For just a moment, take off your "player" hat and think logically about what got us in this mess, and you will realize what must be done. Think about what the stock market was originally set up for and you will get a clue.

  • Report this Comment On December 15, 2008, at 8:10 PM, anuvaka wrote:

    Chuck Saletta what are your suggestions for turning the economy about?

    I can see giving the bailout money to banks that remain successful, or allowing the CDOs and mortgage backed bonds to fail, after all a bad investment should fail.

    But even that does not jump start an economy. Nor does it create trust between banks and commercial lenders.

    Without the Movement of money the economy will get slower. I don't have a clue how to cure that.

    jC

  • Report this Comment On December 15, 2008, at 9:50 PM, TMFBigFrog wrote:

    Hi anuvaka,

    The first thing I'd do is reassert the concept of "absolute priority" in bankruptcy, with the potential caveat that insured depositors (up to the pre-catastrophe limits) take priority. There are well established and recognized rules that these bailouts have circumvented (see http://www.fool.com/investing/dividends-income/2008/10/02/qu... for details). Those circumventions have done more to destroy the corporate lending market than anything else. Historically, lenders have had claims on bankrupt companies' assets, and that claim is what enabled low rate lending. With the way these bailouts have run roughshod over the bankruptcy priority, it's no wonder why the lending markets remain frozen.

    The second thing I'd do is very similar... Reassert banks' rights to foreclose on non-paying mortgages. It's no coincidence that delinquencies have been rising as the government has stopped foreclosures, first with IndyMac, and now with Freddie Mac and Fannie Mae ( http://www.fool.com/investing/general/2008/12/03/the-wholesa... ). While banks would likely continue to take a bath on foreclosed properties, foreclosures do provide the benefit of establishing a price floor. Assuming the right of foreclosure is in place and active, nothing reignites mortgage lending more quickly than knowing that the property is worth more than the loan on it. Plus, with the threat of foreclosure taken off the table, how many people stopped paying because it was merely "difficult", rather than "impossible" to make the payments? Banks (well -- at least the ones that aren't themselves insolvent), aren't stupid. They know that their risks increase dramatically if they lose the right to repossess the property that secures the loan.

    The third thing I'd do -- and the only "bailout" money I'd even consider as anywhere near prudent -- is assure all deposits up to the FDIC limits that were in place before this fiasco were guaranteed. It is not fair for Joe Depositor to be robbed of his life savings because the FDIC failed in its primary duty of assuring its insurance fund was adequately capitalized. Even then, I'd wouldn't expect there to be much in the way of a net-draw on the bailout fund, since so many of the failed banks actually had sufficient capital or liquidatable assets to cover their insured deposits.

    The fourth thing I would do is get the Federal Reserve to stop undercutting private lending. Bagehot's rules ( http://www.fool.com/investing/value/2008/02/27/bernankes-mis... ) for Lenders of Last Resort dictate that those lenders need to charge penalty rates, not rates that are lower than any rational private lender would charge. Central banks that lend at too low rates (like the US Federal Reserve right now) crowd out private capital and make lending and borrowing more expensive for those not in the privelaged class that is able to borrow from the bank.

    Those four steps would cost taxpayers almost nothing and would go a long way towards solving this crisis.

    Best regards,

    Chuck Saletta

  • Report this Comment On December 15, 2008, at 11:04 PM, 4manicow wrote:

    Great article. Summarizes what Austrian economists, Congressman Ron Paul and Peter Schiff have been saying for years.

    We need to end the Federal Reserve System. It should be obvious by now that our money is backed by nothing but the governement's ability to tax future generations. Having the Fed allows politicians to spend endlessly, as money is created out of nothing. Thus politicians dont need to listen to their electorate, they don't need to ask for tax revenue. We still pay the taxon excess money creation, which is called "inflation" Meanwhile the bankers get to charge interest on money which cost them NOTHING.

    We need to return to an asset based financial system. Get started with silver Liberty dollars. And support Ron Paul's bill to audit and end the Fed, HR 2755

  • Report this Comment On December 15, 2008, at 11:52 PM, HA65MPH wrote:

    WHERE IS THE IRS IN THIS MESS , ALL THE CONGRESS AND SENATE NEED INVESTIGATING !..I DID NOT VOTE FOR THE 'BAIL OUTS , I WROTE NO TO THEM ALL ,...WE THE ELECTORET , ARE NOT LISTENED TO ,...THEY DID IT ANYWAY ..NOW WE HAVE EVEN WORSE TO FACE , THEY ALL NEED TO BE UNEMPLOYED ...NO MEDICAL , NO PENSIONS, NO NOTHING !...REVOLT !

  • Report this Comment On December 16, 2008, at 5:17 AM, steven107 wrote:

    I applaud your using an actual article and an actual title. Please don't do any of the other Sales Title Crap, like 'How I made a fortune out of a shoestring and a piece of bubblegum, and turned it into a 827trillion dollars'.

    I also agree with the direction of the article. I don't like that 2 guys, unelected, and cannot be stopped by the congress, have the ability to promise 8 trillion in dollars, loans, and guarantees, which is quite a bit of power. The congress appeared to have some controll of the process in that they supposedly had to OK the hand over of 700billion; but the Fed and Treasury spent or promised so far 10 times that without asking permission from anyone, accountable to noone.

  • Report this Comment On December 16, 2008, at 7:40 AM, learningTim wrote:

    Read Schiff and you'll 'get it' - trying to build an economy on spend, spend and more spending isn't going to work. There has to be savings, and there has to be a manufacturing base.

    We can't outsource everything, continue to run up massive debt, and discourage personal savings by keeping the interest rates low.

    It's a foolish path.

  • Report this Comment On December 16, 2008, at 9:12 AM, carjjc wrote:

    I do not agree. I believe that the government had to add liquidity to the banks and have to save the auto companies by providing a bridge loan. I do not know if the TARP is the correct approach but it can work and has already provided stability to the banking industry.

    The cause of this problem was a combination of greed, not enough regulation (or inforcement) and poor government intentions (neither of these are against the law). Some did brake the law but there is no indication that this was a cause.

    The pushing of home loans to people that cannot afford the payments is the poor implementation by the government. Providing interest only loans or 125% of value loans is a significant sign of greed. The greed comes from banks and companies thinking that this was alright and they could like their pockets with cash. They also thought the could get out before it got bad. A classic sign of a future problem.

    It appears to me that a lesson learned. When asked if this is a bubble or high risk. And the answer is I can get out before others, IT IS TIME TO GET OUT.

    jc (not from above)

  • Report this Comment On December 16, 2008, at 10:28 AM, rominosj wrote:

    As far as I understand, Bernanke is trying to lower rates so people can refinance their mortgages. That way way these people avoid foreclosures which will hurt banks with more toxic assets, and again make banks unwilling to borrow to other banks with new toxic assets.

    Dollar is falling cause of the printing press, and oil is rising cause OPEC will reduce production.

    However, I still have to see someone go to jail because of this mess, someone from the government for not overseen this mess, someone from real estates for making consumers buy houses with fake rates, and someone from banking for actually allowing these deals to go through just so they could take home a piece of the cake.

  • Report this Comment On December 16, 2008, at 11:18 AM, keddie1 wrote:

    Interesting material... including the comments... lots to think about...

    How about.... congress repealing the law that allows Credit Default Swaps.... unless the CDS is on the primary "REAL" asset... and then it is ensured for no more than 90% of its "Asset base Value"... so that the entity with the asset retains "Skin in the Game"...

    Speculation (gambling) CDSs should be banded retroactively back to 2000 .... that is.. declare them invalid instruments....

    And these speculating folks who have reaped billions should be offered the opportunity to return the money... or..... well that's probably imposible to do... but at a minimum any CDS that is not on the primary asset should be null and void...

    Just a thought..

  • Report this Comment On December 16, 2008, at 12:09 PM, jrj90620 wrote:

    Most Americans are wimps and fools(not the good kind) and that is the problem.They will go on voting Dems and Reps in office forever while the Titanic continues to sink.Got GOLD?

  • Report this Comment On December 16, 2008, at 4:01 PM, dancinglight wrote:

    Excellent article and comments! Every member of Congress should read it to learn why their actions continue to fail. They have no clue or perhaps they do and just don't care. If you want to voice your displeasure with their policies and continued undermining of American business, go to www.congress.org. You can contact your representatives and tell them what you think.

  • Report this Comment On December 16, 2008, at 4:18 PM, ghostrider63 wrote:

    I have to wonder, does anyone from our government, our financial industry, banking industry read these articles or the comments that follow them.

    The Fool community comes together to share ideas and exchange information to the betterment of us all. I see the same thing going on here with ideas for resolving our current crisis. Is there anyone out there listening?

    My two cents,

  • Report this Comment On December 16, 2008, at 4:23 PM, journeywithme wrote:

    I've never seen an economy like this in my short lifetime. I hear so much talk about not bailing out these companies.. allowing them to hit rock bottom... and letting the "system" work out all the kinks on its own. But briefly, can someone help me to understand the full impact on the economy if nothing was done? No bailout... no nothing. What would happen and would we be much worse off than we are now?

    Be well.

    http://www.ourstockmarketjourney.blogspot.com/

  • Report this Comment On December 23, 2008, at 4:35 PM, AJAQ007 wrote:

    A better question is why someone with a law degree/Political Science degree is making economical decisions?

  • Report this Comment On January 16, 2009, at 8:05 PM, maysday wrote:

    i have an idea lets do like the romans did and assasinate the bastards

  • Report this Comment On February 24, 2009, at 2:14 AM, steven107 wrote:

    If we had such a thing as free speech, you might get away with that comment, above, but i'm curious 'in real life' what has become of it, on your side of the computer screen?

Add your comment.

DocumentId: 794766, ~/Articles/ArticleHandler.aspx, 4/19/2014 6:14:22 PM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement