Topic: Finance, Banking & Monetary Policy

Bailout Nation

The four top business headlines in the Washington Post the other day were:

More Homeowners Getting Aid, but Demand Keeps Rising

AIG Could Repay U.S. in 3 to 5 Years, Chief Tells Congress

Treasury Clarifying Rules for Bailed-Out Firms

Small Auto Suppliers Seek Help in Wake of Giants’ Woes

It’s certainly true, as BBC and other journalists have noted, that the center of American business and finance is now Washington, not New York.  The headlines above (in the paper edition, but some of them can be found here) indicate that all sorts of businesses and individuals are looking to the Obama administration for bailouts and loans and “capital injections.” And one could find similar stories about federal money for states, cities, big insurance companies, and more. Money and credit were once allocated by owners of capital, who stood to gain or lose on the strength of their decisions. Now capital is being allocated by politicians and bureaucrats, who have none of their own money at risk and who may well see their own power enhanced by an economy that remains slow.

Back in September, as the bailout of Fannie Mae and Freddie Mac ushered in a new era of federal help for failing companies, I wrote a blog post titled “Bailout Nation.” I didn’t know the half of it; still to come were the AIG bailout, TARP, federal subsidies to banks and automobile companies, and more. But I warned then:

Capitalism is a system of profit and loss. It works because each person and each company, in seeking its own interest, is led “as if by an invisible hand” to supply goods and services that others want. Companies that satisfy consumers prosper. Companies that can’t produce goods that consumers want–like Chrysler, repeatedly–suffer and sometimes go out of business. The failures are often painful. But as Dwight Lee and Richard McKenzie wrote in their book Failure and Progress (or at least in this column based on the book), “Economic failure is to the economy what physical pain is to the body. No one enjoys pain, but without it the body would lack the information needed to maintain its health.” Government subsidies to prevent business failure simply keep pouring money into businesses that are relatively unsuccessful at satisfying consumer desires. They are, among other things, censorship of vitally needed information. Employees, entrepreneurs, and investors need to know where their money and talent are most valuable. Profits and losses are key indicators of that.

Turns out that David Ignatius had warned of a “Bailout Nation” in a column a few months before that:

As every parent knows, the danger of cutting a special break for one child is that all the other children will demand the same thing. “It’s not fair,” goes the inevitable refrain. “You said Susie could eat ice cream and watch TV until midnight, so why can’t I?” The parents start caving, and family discipline is shot.

We’re now in a comparable cycle of bestowing special economic favors on members of the national family who have been hurt by the credit market crisis. “It’s not fair,” argue the housing interests and consumer advocacy groups. “Bear Stearns got a financial bailout, so why shouldn’t we?” And they’re right, by the simplest schoolyard definition of fairness.

So the line grows of people demanding breaks on financial obligations they can’t afford.

Neither of us is very happy about being so prescient. And what no one seems to discuss is, Where is all this bailout money coming from? Much of it is just being created on the balance sheets of the Federal Reserve, which portends rising inflation. Certainly it’s too much to be paid for in taxes, even in the fondest dreams of Barack Obama and Nancy Pelosi.  Is Bernie Madoff advising the Treasury these days?

How much money is it? CNNMoney estimates that the federal government has now committed $10.5 trillion. Christopher Barker at the Motley Fool concludes that ”the combined total of existing, announced, and potential outlays from the Federal Reserve and U.S. government agencies that are directly attributable to the financial crisis will breach $13 trillion!”

This is nuts. Would Paulson and Bernanke have acted differently last April if they’d known where we would be in a year? They’d have known if they’d read David Ignatius’s column. Or if they’d read some history; when governments start handing out money to troubled institutions, there will be no limit to the number of troubled institutions. And in barely a year, you get small auto parts companies coming to Washington saying that if automakers and large suppliers are getting government help, they should too. President Bush and his Treasury secretary started this process, but Obama and the Democrats own it now. Do they have a plan that doesn’t end in inflation and bankruptcy?

Congress “Helps” Credit Card Customers

One of the best laugh lines always has been “I’m from the government and I’m here to help you.”  Certainly that’s true when it comes to consumer protection.

In the name of saving customers from the evil, rapacious credit card companies Congress plans on limiting access to credit.  It also is working to hike costs for people with good credit.

Reports the New York Times:

Now Congress is moving to limit the penalties on riskier borrowers, who have become a prime source of billions of dollars in fee revenue for the industry. And to make up for lost income, the card companies are going after those people with sterling credit.

Banks are expected to look at reviving annual fees, curtailing cash-back and other rewards programs and charging interest immediately on a purchase instead of allowing a grace period of weeks, according to bank officials and trade groups.

“It will be a different business,” said Edward L. Yingling, the chief executive of the American Bankers Association, which has been lobbying Congress for more lenient legislation on behalf of the nation’s biggest banks. “Those that manage their credit well will in some degree subsidize those that have credit problems.”

This makes a lot of sense.  We’re worried about bad debt, bad mortgages, and bad loans.  So Congress is going to penalize people with good credit who carefully manage their financial affairs.  Of course!

It has long been evident that Congress has the reverse Midas touch.  Everything congressmen touch turns to, well, this is a family-oriented blog.  You can fill in the blank.

If Congress wants to help consumers, the best thing it could do is take an extended recess.

What Caused Atlas Shrugged Sales to Soar?

Sales of Atlas Shrugged have risen sharply this year, and various observers from the Ayn Rand Institute to the Economist have attributed the jump to “uncanny similarities between the plot-line of the book and the events of our day,” in the words of ARI’s Yaron Brook. The Economist writes,

Whenever governments intervene in the market, in short, readers rush to buy Rand’s book. Why? The reason is explained by the name of a recently formed group on Facebook, the world’s biggest social-networking site: “Read the news today? It’s like ‘Atlas Shrugged’ is happening in real life”.

Brook told CNN:

“So many people see the parallels with actually what’s going on, with the government taking over the banks, with the government kind of taking over the automobile industry, a president who fires the CEO of a major American corporation. These are the kind of things that come out of ‘Atlas Shrugged.’ “

But is this story right? Do news headlines generate book sales? How did people who read about TARP or bank nationalizations know that those events were reminiscent of a novel published in 1957? Maybe their friends told them “It’s just like Atlas Shrugged,” and they ran out and bought the book.

Or maybe something more direct is required. One Atlas Shrugged fan suggested to me that the real boost came in January, with a Wall Street Journal article by my former colleague Stephen Moore. So I decided to investigate, using the sales figures in Nielsen’s Bookscan. And indeed those figures seem to point in a different direction. The boom in sales of Atlas Shrugged really took off in mid-January, after Steve Moore’s essay ”‘Atlas Shrugged’: From Fiction to Fact in 52 Years” appeared in the Journal on January 9. Steve wrote:

Many of us who know Rand’s work have noticed that with each passing week, and with each successive bailout plan and economic-stimulus scheme out of Washington, our current politicians are committing the very acts of economic lunacy that “Atlas Shrugged” parodied in 1957….

For the uninitiated, the moral of the story is simply this: Politicians invariably respond to crises – that in most cases they themselves created – by spawning new government programs, laws and regulations. These, in turn, generate more havoc and poverty, which inspires the politicians to create more programs … and the downward spiral repeats itself until the productive sectors of the economy collapse under the collective weight of taxes and other burdens imposed in the name of fairness, equality and do-goodism….

David Kelley, the president of the Atlas Society, which is dedicated to promoting Rand’s ideas, explains that “the older the book gets, the more timely its message.” He tells me that there are plans to make “Atlas Shrugged” into a major motion picture – it is the only classic novel of recent decades that was never made into a movie. “We don’t need to make a movie out of the book,” Mr. Kelley jokes. “We are living it right now.”

Here’s a chart taken from Bookscan’s data on weekly sales of the mass-market paperback edition of Atlas Shrugged:

The sales in late 2008 are very similar to those in 2007, with a Christmas bump that was higher in 2008. But sales started to diverge after January 9, suggesting that it was in fact the Wall Street Journal essay that kicked them into high gear. Then they slowly fell, and then there was an even bigger peak in early March. Why? That’s not so clear. Perhaps it’s a case of self-fulfilling prophecy and the accumulating effects of media buzz. ARI put out its press release about soaring sales on February 23, and the Economist picked up the idea five days later, as did many bloggers. Then on March 2 and 5 the popular blogger Michelle Malkin talked about the idea of “Going Galt” – pulling back on work and investment in response to projected tax increases and regulations – in her blog and syndicated column, and the New York Times picked that up. Both Malkin and the Times’s Opinionator blog linked to the original ARI story about soaring sales, giving the idea further legs, and the Freakonomics blog picked up the Economist’s story. On March 14 the Wall Street Journal ran another op-ed on the contemporary relevance of Atlas Shrugged, this one by Yaron Brook. There’s a reason that publishers put “bestseller” on their book covers – people like to read what other people are reading. And there’s no question that once this media buzz got started, the sales have remained much higher than last year.

It seems that Greenspan, Bernanke, Fannie, Freddie, Barney Frank, Bush, Paulson, Geithner, and Obama all created the objective conditions for an Atlas Shrugged sales bump, but it took Steve Moore and subsequent commentators to create the “subjective conditions” – actually talking about the relationship of Atlas Shrugged to political and economic events – to set off the actual boom.

Two other minor points: The weekly sales in late 2007 were somewhat higher than in late 2006. So if you think, as the Economist suggests, that sales of Atlas Shrugged in the United States were pushed up by the British bailout of Northern Rock and the U.S. Treasury’s pressure on banks to assist subprime borrowers, then maybe the 2007 sales figures were already reflecting the impact of economic policy events. But the total sales in 2007 were barely ahead of 2006, and obviously the real jump has come this year.

Second, the bestselling edition of Atlas Shrugged is the mass-market paperback, which is of course the cheapest. That’s the edition whose sales are tracked in the chart. But the bestselling edition on Amazon is the more expensive trade paperback, which is the one whose sales the Economist analyzes. Why? Are Amazon customers older and more affluent, so that they prefer the larger book even at a higher cost? Do many local bookstores carry only the mass-market edition?

Thanks to C. Alexander Evans and Tom Firey for help in compiling and presenting these data.

Old Enough to Die for Your Country, Too Young for a Credit Card

While much of the debate around the so-called “Credit Cardholders’ Bill of Rights” has been on ending various card policies aimed at disguising different credit risks, one group of cardholders is certain to lose their right to credit under this bill: adults between the ages of 18 and 21.

Under the current Senate bill, the only way for someone under the age of 21 to get a credit card would be either:

1) they have a co-signer, such as their parent, sign for it, or

2) they maintain a job with sufficient income to cover any obligations arising from the credit card.

By contrast, neither of these requirements is put in place for student loans; there is the clear expectation that you pay those loans back in the future from your increased future income that results from going to college. While the purpose of a student loan is to offer one the means to get a higher education, the purpose of any form of credit is to borrow against your future earnings in order to enjoy some consumption today. Whether that consumption is in the form of textbooks or beer and pizza should be left up to the individual—we are talking about adults here—and not the state.

As with any legislation, there are likely to be substantial unintended consequences. Of the approximately 18 million students enrolled in U.S. colleges, some number of those will not want to give up their credit cards (maybe they value their beer and pizza) and will accordingly take what may be their only option to maintain that consumption: a job in addition to their studies. As with any choice in lift, this one comes with a trade-off. One of the primary factors related to whether one graduates from college is if one is holding a job while in college—the relationship being that the more hours a student works unrelated to classes, the less likely they are to finish college. Some students are going to take that trade-off. That means one impact of this bill will be that slightly fewer students will finish college. If we are ever to expect college students to start behaving as adults, we should start treating them as such, including allowing them to make their own credit decisions.

Of Course, It Is the Banks’ Fault!

Congress is off on another crusade, to save Americans from credit cards.  People get into debt, run up big fees, generally feel abused, and complain to their elected officials.  Never mind the obvious convenience, which is why credit cards have become an indispensable part of American commerce.  Legislators plan on micro-managing the credit terms which may be offered across America.

Reports the New York Times:

“We like credit cards — they are valuable vehicles for many people,” said Senator Christopher J. Dodd, Democrat of Connecticut, the chairman of the Senate banking committee and author of the measure now being considered by the Senate. “It’s when these vehicles are being abused by the card issuers at the expense of the consumers that we must step in and change the rules.”

“Abused by the card issuers.”  Of course.  The very same card issuers who kidnapped people, forced consumers to apply for cards at gunpoint, and convinced merchants to refuse to accept checks or cash in order to force everyone to pull out “plastic.”  The poor helpless consumers who had nothing to do with the fact that they wandered amidst America’s cathedrals of consumption buying wiz-bang electronic goods, furniture, CDs, clothes, and more.  The stuff just magically showed up in their homes, with a charge being entered against them against their will.  It’s all the card issuers’ fault!

But then, Sen. Dodd’s assumption that consumers are not responsible for their actions fits his legislative style: no one is ever responsible for anything.  Least of all the residents of Capitol Hill.

National ID Mission Creep

It’s a given that, once in place, a national ID would be used for additional purposes.

In case you needed proof, on Wednesday, Senator David Vitter (R-LA) offered an amendment to H.R. 627, the Credit Cardholders’ Bill of Rights Act of 2009, requiring the Federal Reserve to impose federal identification standards on the opening of new credit accounts. Among the limited forms of ID credit issuers could accept are REAL ID cards, produced under the moribund national ID law. (Vitter may not realize that REAL ID is in collapse.)

To compound things, his amendment would require credit issuers to run new credit card applicants past terrorist watch-lists. The sense of normalcy, efficiency, and common sense that makes airports so pleasurable to visit today would infect our financial services system. Oh joy.

“Gangster Government” at Work

With the Obama administration preferring to rely on politics rather than the law to “fix” the auto industry, bondholders have discovered that the new politics of this administration is quite a bit more brutal than the old politics practiced by the Bush administration.

Henry Payne and Richard Burr write of “gangster government” using not just demagogic public attacks on greedy bondholders but apparent threats of regulatory sanction to get its way in bankruptcy court.  They explain:

The holdout debtholders sought the refuge of the courts, where decades of bankruptcy law promised that secured lenders would receive just compensation for their investment. But then Obama called in his fixers.

In his April 30 news conference, Obama singled out Chrysler’s self-described “non TARP lenders” as “speculators” who sought to imperil Chrysler’s future for their own benefit. “I do not stand with them,” Obama thundered. “I stand with Chrysler’s employees and their families and communities… . (not) those who held out when everybody else is making sacrifices.” Michigan Democratic allies like Sen. Debbie Stabenow and Rep. John Dingell piled on, calling the lenders “vultures.”

Then, on Detroit radio host Frank Beckmann’s show May 1, a lawyer for the lenders, Tom Lauria, chillingly revealed how “one of my clients was directly threatened by the White House and in essence compelled to withdraw its opposition to the deal under threat that the full force of the White House press corps would destroy its reputation if it continued to fight.”

Lauria later confirmed the threats came from Rattner and that the target was Perella Weinberg, which had suddenly withdrawn its opposition after the president’s April 30 press conference.

The White House denied the threats, but Business Insider subsequently reported that “sources familiar with the matter say that other firms felt they were threatened as well. None of the sources would agree to speak except on the condition of anonymity, citing fear of political repercussions.”

“The sources, who represent creditors to Chrysler,” continued the Insider story, “say they were taken aback by the hardball tactics that the Obama administration employed to cajole them into acquiescing to plans to restructure Chrysler. One person described the administration as the most shocking ‘end justifies the means’ group they have ever encountered… . Both were voters for Obama in the last election.”

The idea of the White House–with the IRS and SEC at its disposal–threatening investment firms should have sent off alarm bells in America’s newsrooms. Inexcusably, the media establishment largely ignored the hardball tactics. This is the same media that has doggedly reported on President Bush’s U.S. attorney firings and the post-9/11 interrogations of terrorist suspects.

I have no opinion on who should get what as part of Chrysler’s bankruptcy – other than that the taxpayers shouldn’t be paying for America’s version of lemon socialism so common around the world.  But crude political interference by the political authorities in Washington in a bankruptcy case erode the rule of law and administration of justice.  If Obama and company believe that the end justifies the end when it comes to handing the auto companies over to favored interests, who among us is safe from similar action by this or another administration in the future?