Avalon Post

• Published:October 2nd, 2008
• Comments:1 Comment
• Section:Business, Politics, United States

This evening the Senate passed a revised bailout plan, with questionable new riders attached to it.  These new provisions aim to help entice more House members to support the bill, hopefully pushing it to pass within the week.  Whether or not this strategy for gaining approval will work remains to be seen, as some of the newer additions, while possibly bringing some new Representatives on board, may alienate others that already approved the initial version of the bill.  Yet, despite the changes, perhaps the biggest problem still facing the bailout plan is how the general public perceives it–as a bailout for Wall Street fatcats at the expense of Joe Taxpayer.

This gut reaction is leading many Americans to strongly oppose the plan.  It is a natural feeling, the banks and related firms were put into this situation through their own greed, and now the middle class is being asked to bail them out.  Is giving them more money a really good idea?  Our money?  It’s easy to have a strong negative reaction to this, and some have even been driven to call up their local Representatives in Congress, which surely helped fuel Nay votes on both sides of the aisle earlier this week.

Opposition to the bailout is not only natural.  In this case, it’s also entirely correct.  For its stated purposes, the bailout is ridiculous.  Yet, if a strong American economy is desired, then a bailout simply must be passed.  This appears to be contradiction, but it is a result of the stakes of the current crisis being ill-defined.  The issue has been framed in terms of fixing the problems on Wall Street, and while the bailout does have a possibility of doing that, it is really more about restoring trust into the American economic system.

There are quite simply too many reasons to list as to why this bailout may or may not work in “fixing” the situation on Wall Street.  Many question why a bill that is aiming to remedy the biggest crisis that has hit the American economy since the Great Depression is being rushed–doesn’t a big problem require a solution that has been deeply thought out, debated, revised, and so on?  Is giving essentially a blank check to the people who are responsible for breaking the system in the first place really a wise course of action?  Why not more regulation?  The price tag is certainly one of the most bitter parts of the bill to swallow, especially given its dubious nature, since the $700 billion number was reached simply through the Treasury’s desire “to choose a really large number,” not any real data.

Ultimately, the bailout’s intention of fixing troubled institutions rings as un-American to much of the public.  ”Let failing banks fail.”  Many Americans are not feeling any direct ramifications of the crisis (yet), and as long as they haven’t lost anything of theirs, why should they be responsible for the bad business  practices of others (especially if those others are rich Wall Street-types).  In a society that espouses the ideas of entrepreneurialism and capitalism, it certainly doesn’t seem like the government’s responsibility to step in here.

But it is not just about saving these companies.  David Leonhardt wrote an excellent piece for the New York Times yesterday that explains what this crisis (and thus, the bailout) is really about: trust.  The world’s supposedly strongest economy is being struck with failures, and these failures are really shaking the system down to its core.

The practice that got the economy into this mess was that credit was being given out to essentially everyone, which was a short-sighted method of making money, but led to it all crashing down as has now been witnessed, when people could not make good on their debts.  This has lead to a lack of liquidity in the market, and this, along with the problem of having been overly-trusting when giving out loans to those that did not have the means to repay them, has led to an almost exact opposite situation: it is now getting increasingly difficult to obtain any credit.

This is the crux of how this crisis will effect the economy.  Creditors do not have adequate trust in debtor’s ability to pay back their debts, because nothing is seen as certain in these uncertain times.  The fact that many of these institutions have already taken large hits to their actual assets in reserve makes them even more unlikely to extend credit to someone in need.

This inability to create new lines of credit is where the largest slowdown to the American economy will come from if nothing is done to help the crisis, and it will also be the way that the public will most strongly feel the effects of what is happening now.  Unfortunately for those trying to pass legislation now, it won’t be felt immediately, as Leonhardt states, “since most companies and households don’t take out big new loans every day.”  As he points out, it has already been seen to be strongly hurting the automotive industry.  Continued high gas prices, coupled with the inability to obtain financing for new vehicles, has lead to an overall 27% drop in auto sales in September.  Trends like these are likely to continue if nothing is done.

So why does the proposed bailout work to counteract this problem?  It is basically reassurance.  Reassurance to the banking system that the Federal Government will act–and act quickly–to keep the system running.  The enormous cash injection should go to improving the liquidity of the market, making banks less squeamish to extend loans, and act less like hoarders.  But ultimately, it is a sign to Wall Street to make credit available.

The bailout won’t solve the crisis.  What it will do is stop the economy from grinding to a halt, as the effects begin to be felt as they reverberate through the system.  Obviously, there will need to be revisions to the regulations, to keep the market from repeating the same mistakes that put us into the current situation.  The point is to ensure that those actually deserving of credit receive it.

Thus the contradiction.  This bailout is exactly what people fear–it is the taxpayer paying for the greed of some of those on Wall Street.  Unfortunately, it is necessary because a loss of confidence in these sectors will have extremely far-reaching negative effects, and trust needs to be restored now, or the problem will only be exacerbated.

The “solution” of letting the system simply fail is far worse of an option, even if the alternative seems much worse in the short term.   The effects of failure like this takes time to be felt, much like it took time during the Great Depression, which is why the public reaction is so strongly opposed to the bailout.  If nothing is done, in several months’ time, people will be looking back, ruing the lost opportunity to truncate the bleeding, rather than just letting it all fail.  Surely, these institutions need reform and change, but it is impossible to begin therapy when the patient is still in critcal condition on the operating table.  We must first ensure that these vital systems remain alive before we attempt to rehabilitate them.

The one-day losses totaling near 800 points on the Dow, and the effects already felt in the automotive industry show how quickly a failure to pass a bailout can effect the system, and if the situation remains unchanged, it will simply get worse.   A bailout, for all its flaws, is needed to prevent a complete collapse, and the longer the wait, the more trust will be shaken, and the more damage that will be done.