Anatomy of a Government Bailout

"Sentiment can change when there's money on the line, even in an industry [referring to Wall Street] that up to now has been doctrinally opposed to government having a role in the markets,'' said Thomas Schelling, a Nobel laureate in economics who taught at Harvard University for 30 years.

This stunningly misleading observation was quoted in a Bloomberg article on Friday.

Professor Schelling no doubt meant to say:

Wall Street spent millions of dollars in lobbying efforts to insure that there would be no government regulation of their packaging and selling of mortgage backed securities. They are indeed doctrinally opposed to that.

After generating billions of dollars in fees and commissions for themselves through the unregulated peddling of these MBOs etc. the same Wall Street players are now giving more millions of dollars to the same lobbyists to convince the public and politicians that they need to be bailed out or ‘the economy will implode.’ They are not doctrinally opposed to bailouts. They never have been.

One might ask why a economics Nobel laureate did not point out that over the past twenty years Wall Street has engineered two massive bailouts to “save the economy.” Not exactly an industry adverse to government handouts. We are now at the beginning of the third bailout campaign.

One cornerstone to building the case for a government bailout is the “we tried to get the private sector to do it…but they just couldn’t agree” gambit. It was used during the previous two crises and for those of you who missed it you can watch it in action now.

Bailout V 3.0 began in October when Secretary Paulson jumped in front of a lesser government official who originally proposed a freezing of teaser mortgage rates and a ‘work-through’ of potential mortgage foreclosures on an individual basis. He took the lead on this initiative. He must have known that it would never work as he was around when then Secretary of the Treasury James Baker attempted the same “work through” between banks and debtor nations during the Third World Debt “crisis” of the 80s.

Then a few months ago the banks floated the Super Fund idea. They claimed they were going to buy the toxic debt and hold it until “conditions improved.” To any reasonable observer that was DOA…. as was acknowledged a short time later.

Last week the markets reacted favorably to a proposed Ambac (ABK)-MBIA (MBI) bailout by still another international banking consortium.

This too will never happen. It is in nobody’s interest. It is as simple as that. Any litigator would counsel the banking industry to go after the deep pockets…….and that would be the US government. Not their own.

These well publicized attempts for private sector remedies are merely part of the “we tried everything” ruse. No, I am not a conspiracy theorist. I was fortunate enough to be involved with Spanish media documentaries examining the transparent Wall Street Third World Debt scam of the 80s. With unexpected access to lobbyists and Latin American bankers it became quite clear that the focus at that time was never for U.S. money center banks to do their own bailing out or for “letting the system wring out the excesses,” but rather to give substance to the “we tried but can’t do it ourselves and the economy is in grave danger” smokescreen.

I pointed out in a previous article on this subject that Fidel Castro and the National Review provided always cynical, often amusing, commentary on these intense banking lobby campaigns for Federal funds throughout the 80s.

The same Bloomberg article quotes the CEO of Lehman Bros Holdings, Inc (LEH) Vice Chairman, Thomas Russo :

"The direction we are heading in isn't a good one,'' Russo said in an interview. "We need significant fiscal and monetary intervention.''

About $550 billion of subprime loans will reset before 2009, Russo said. Most of those borrowers will have no option except to walk away from their properties because the drop in home prices and an increase in lending standards will prevent them from refinancing or selling, he said.

Russo proposes giving government-backed loans to homeowners with adjustable-rate mortgages, whether prime or subprime, in danger of default. He also supports a tax credit for people who buy homes in 2008 that would roughly triple the current tax benefits given to mortgage holders.

What Russo meant to say is:

Let’s put the government on the hook for the loans, and make the banks whole. Then in a year or two or five years when the defaults and foreclosures happen anyway, the government can be the foreclosers of the homes. Better them than us. After all it is making us look really bad now getting dragged into courts by poor people contesting the foreclosures.

There is also a tremendous problem in sight for the banks. Every sleepy little school board across the country duped by Wall Street bankers will be suing the banks in Federal and state courts. Have the government guarantee the loans. Then interest will continue to flow into the account of the Little School House On The Prairie and all the potential lawsuits and negative publicity will go away.

It is interesting that Lehman Bros. takes the lead in this bailout initiative. They have a potential unique–unto-themselves-liability…….. Jeb Bush. The Bush Family has a particular fondness for government bailouts. Both Jeb and Neil Bush were prominent players in the S&L Scam of the 80s. Neil’s Colorado bank imploded, with the US government guaranteeing over $1 billion in deposits that were in turn “lost” on real estate loans to very friendly borrowers.

In the 1980s Jeb Bush defaulted on a $4.56 million loan from Broward Federal Savings in Sunrise, Florida. After federal regulators closed the S&L, the office building that Jeb used the $4.56 million to finance was reappraised by the regulators at $500,000, which Bush and his partners paid. The taxpayers paid the remaining 4 million plus dollars.

Never one to be far from the action, Jeb Bush, immediately upon leaving office as Governor of Florida in 2005, was hired as a consultant by Lehman Brothers. His hiring coincided with a new phase in the Mortgage Scam; the Mortgage Peddlers were having difficulty selling the product to more sophisticated investors so they increasingly targeted local government school boards, small pension funds and anyone else who would buy into a “AAA” rated product without the means for greater due diligence.

Not surprisingly dozens of Florida government agencies found themselves holding worthless securities, much of it issued by Lehman Brothers! A few lawsuits, a few subpoenas, and this could get very ugly for Jeb & Lehman Brothers. And he won’t have family in the White House to make it go away this time.

Another sticky obstacle to a government bailout is the “moral hazard” argument. i.e. risky practices are encouraged when the risk taker knows there are no consequences. In this case government guarantees would make the fallout from these predatory loans and sales of securities disappear, encouraging the “risk taker” to do it all over again.

The lobbyists know a sure way to minimize this objection is to fence it off; give the bearers of this view a pejorative title. Call them ‘moral hazard fundamentalists” and imply that they don’t see The Bigger Picture. Castigate them for wanting to “punish” a few lenders and homeowners at the cost of a Dreaded Recession, or worse. Use that to trump the fact that this is the third time their clients have gone to the government trough in twenty years!

This worked so well for the Bush Administration; by labeling protesters to the Iraq War as supporting a “cut and run” policy, they dulled that opposition at a crucial time in the debate. Never underestimate the power of an easy-to-remember negative characterization.

Look for other Nobel laureates to give intellectual backing to this bailout initiative. It is tricky in an election year but the Wall Street folks have worked the system before and know that they can wear down any opposition. After all billions of dollars are there just for the taking.

Comments

[Sr. Pessimist:]

Makes sense to me. I do read into it, though. So sick and repulsively criminal, but yet the desperation and underlying concern must outweigh the sordidness for a USG bailout which only further promotes moral hazards in our broken social fabric here. My response is that people have more concern for themselves than they have for others. America is a very meistic slave society. Morals have been sold for cheap by most. I hope somebody understands what I'm predicting in the event of a government bailout, which is inevitable anyway.

Just the other day I spoke with a client I was training in the gym. Maybe it was just a friend or an acquaintance. He actually mentioned that the IMF is turning out to be a bad idea because of this same concept- "moral hazard." If these bankers know they can always get away with it, then the IMF is bad for society on the whole, because it actually promotes practices like we see in the Mortgage Scam.

2008 Feb 05 11:05 AM

[denverinthe...:]

All partisan politics aside there have definitely been cases where good people were duped into bad loans by bad mortgage brokers in the state of Colorado in specific. Being a CMPS Mortgage Planner in the up a state of Colorado I have heard all sorts of horror stories over the past three or four years and personally I think a government bailout through a corrected program is a valuable option for homeowners. The Federal housing administration or FHA is now offering programs that allow homeowners to make payments and stay in their homes where they would otherwise be foreclosed on. The bottom line is benefiting people that were lying in the first place is not a good thing to do, however helping clients make responsible decisions because they are in a rough situation is both helpful and necessary. I speak with clients every day that are in legitimate need for help that were duped into situations by bad mortgage brokerage firms, and they need legitimate help for homeowners in this situation I recommend going to governmentbailout.com where they can get honest help, which I might add, is a rare commodity in the mortgage industry these days

2008 Apr 30 10:01 PM