October 28, 2008
Economics Department
You Know Your Economic Recovery Plan Sucks When...
A few days ago, Treasury Secretary Paulson was using heavy-handed tactics to make banks take billions of tax dollars. Now there's this:
WASHINGTON - An impatient White House served notice Tuesday on banks and other financial companies receiving billions of dollars in federal help to quit hoarding the money and start making more loans.
"What we're trying to do is get banks to do what they are supposed to do, which is support the system that we have in America. And banks exist to lend money," White House press secretary Dana Perino said.
Though there are limits on how much Washington can pressure banks, she noted that banks are regulated by the federal government.
"They will be watching very closely, and they're working with the banks," she said.
This is what I was talking about in my earlier lengthy post that no one commented on (not that I'm bitter). In a situation this complicated, it's hard to predict what will really happen when you make a change. The economy is a complex system and the players think for themselves.
This is why we can give these banks a few billion dollars only to discover they don't want to loan it out again. I think I understand why.
My favorite analogy to explain why failing banks needed to be bailed to relieve the credit crunch was that it was like a huge traffic jam where some of the cars were idling so long that they ran out of gas and were now blocking the rest of the traffic. You have to give some of the cars more gas, but it won't help to give gas to the drivers that wisely planned ahead for traffic and still have plenty of gas. You have to give the gas to the cars driven by people who have run out.
But if you're one of the drivers who just got a few gallons of gas, your thinking might go like this: I thought I was doomed, but now I have enough gas that I just might be able to crawl through this traffic to reach the next exit. However, I notice that the government is giving gas to a lot of other drivers. That should clear up all this traffic, so if I wait here and do nothing until everyone else has driven away, I should be able to reach the next exit at high speed, using very little of my precious gas. Then I'll have some left over for other things.
Of course, if every bailed-out driver thinks that way, giving them free gas won't do a thing to get traffic moving.
In other words, banks don't want to lend out the government money because they've just used it to plug a huge hole in their balance sheet. If they loan it out, they'll be right back where they started, but with even more outstanding loans. Better to let the other banks make the loans and get the economy moving, then make your loans into a safer market.
Here's another telling note:
Treasury Secretary Henry Paulson has said the money was aimed at rebuilding banks' reserves so that they would resume more normal lending practices. But reports then surfaced that bankers might instead use the money to buy other banks. Indeed, the government approved PNC Financial Services Group Inc. to receive $7.7 billion in return for company stock and, at the same time, PNC said it was acquiring National City Corp. for $5.58 billion.
Great, huh?
You know...the government doesn't actually have this money sitting around somewhere. They have to borrow it first in order to give it to the banks. How long until one of the bailed-out banks closes the loop by investing in U.S. Treasury notes?
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