Taxpayer beware – the bailout will hurt

Ransom note?  Robbery note?  Hold-up note?  I’ve heard it refrred to by all those terms, but according to a one page “research note” by Joseph LaVorgna of Deutsche Bank, the US taxpayer is hosed no matter what the government does.

I heard about it on NPR – of all places – on Friday this week, and bookmarked it so I could comment on it when I had time.  NPR actually had a very good discussion about it on Friday morning, and the text of the discussion is here.  You can listen to the discussion here.   It’s pretty good.  But back to the ransom note.

In the note, Mr. LaVorgna says We have consistently argued the financial plumbing will remain broken and the economy will grossly under-perform as long as troubled assets reside on bank balance sheets. Moreover, the longer authorities wait to fix the problem, the bigger it will become because collapsing activity will turn good assets into bad ones.

Hey, I’ve got no problem with that.  I’ve been saying basically the same thing for the past year.  My disagreement comes in when Mr. LaVorgna goes on to give his prescription to fix the problem.  He wants the government (me and you) to pay up.  He basically says that you can pay me now or pay me later – but you’re gonna pay me no matter what.

In regards to the government buying up toxic assets, he says:  One main stumbling block to the purchasing of troubled assets has been pricing, specifically how does the government price a diverse set of assets in a way that does not put the taxpayer on the hook.  However, this should not be the standard by which we judge the efficacy of the plan, because a more prolonged deterioration in the economy will result in a higher terminal unemployment rate and a greater deterioration of the tax base.

As such, the decline in tax revenues will crimp many of the essential services provided by the government. Ultimately, the taxpayer will pay one way or another, either through greatly diminished job prospects and/or significantly higher taxes down the line to pay for the massive debt issuance required to fund current and prospective fiscal spending initiatives.

I agree that taxpayers will pay something no matter what (I don’t have to like it, but it’s true) but I think he over-estimates the damage that letting these mismanaged banks fail would do to the economy. Yes, the current recession would be worse – but I think we’d already be rebounding if the government wouldn’t have intervened.  And the institutions that we’re dumping trillions of dollars into would be gone.

Others would have purchased the assets of these badly managed companies – like Bank of America, CitiGroup, and GM.  Investors in those companies would have taken massive losses, and the insurers of their bonds such as AMBAC and MBIA would also be wiped out.  So what?  A fool and his money should be soon parted.

Other institutions would have bought up the good assets at fire sale prices, and investors in those companies would be richly rewarded.  Which is how a free market economy works.

My biggest issue with the note is his suggested remedy to the problem:  We think the government should do the following: estimate the highest price it can pay for the various toxic assets residing on financial institution balance sheets which would still return the principal to taxpayers.

In other words, he wants the bailouts to continue, no matter what the cost.  I added no matter what the cost because the US government is also broke.  We don’t have the money to buy “toxic assets”.  We’re borrowing money right now to pay for the normal (grossly bloated) budget.  And you can’t pay down debt – which is what needs to happen – by borrowing more money.

Robbing Peter to pay Paul doesn’t work – no matter who does the robbing.  The last line of the NPR story I referenced above is something I can agree with: While they might disagree on who will bear the brunt of that pain, all the experts interviewed for this report say the longer the U.S. waits, the worse it will be for everyone.

Stop the bailouts now.  Quit trying to pretend there’s an easy way out.  Take your medicine and pay down the debt.  That will fix this problem.

gk

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