The federal government is going for broke in an attempt to avert the type of calamitous financial collapse that led to the Great Depression. No one would fault the objective, but throwing money at the problem is becoming an end in itself.
Last week alone, while everyone was still arguing whether a $25 billion loan to the Big Three carmakers would be money down a sinkhole, the government committed more than $1 trillion to prop up Citigroup and to try to spur lending to consumers and home buyers. Moves to stabilize the system this year have put Americans in harm’s way from possible losses on nearly $8 trillion pledged in loans, guarantees and investments to financial firms. And the crisis is far from over.
This page has consistently held that the government must intervene in markets when failure to do so would cause even greater economic harm. The impending collapse of Citi or an unrelenting credit freeze demand intervention. But good crisis management also requires that the calamity of the moment not be allowed to overwhelm good governing. Unfortunately, that is not the case now.
Even, as the rescue tab rises, taxpayers are not being adequately informed or protected. There is as yet no effort to deal effectively with the underlying causes of the problem, especially mass mortgage defaults that feed bank losses. And officials seem to think urgency to act absolves them from considering the longer-term implications of the actions they take.
In the Citi bailout, as in the bailout of American International Group and other financial interventions, the government has taken shares in the rescued firm in exchange for its investment. That is sensible, as far as it goes. But the upside for taxpayers has been overstated, because the risk in many of the investments may well outweigh the potential return. These gambles are the reason the government should attach more strings to its help, including a say in how the money is used and in major investments and management decisions. But the Treasury and the Federal Reserve have balked at taking greater charge, leaving taxpayers more exposed to losses than they probably realize.
Last week’s plan from the Federal Reserve to jump-start mortgage lending also falls short. Even if it loosens credit, it will do little to stem foreclosures, because most of the defaults that are destabilizing the system do not result from the loans that the Fed has targeted. It is as if the Fed, fixated on the flames of a fire, is ignoring the fire’s fuel source.
Another danger is that in fighting today’s crises, the government is teeing up the next one. To finance the bailouts, the Treasury is borrowing money and the Fed is printing it. That bodes ill for a heavily indebted nation, presaging higher interest rates and higher prices — perhaps sharply higher. That is not an argument for inaction. But frank acknowledgment of the dangers would put a premium on getting the rescues right today. As it is, the reckoning is postponed.
Fed and Treasury officials are locked in full emergency mode, reacting and defending. And they probably have neither the inclination nor the time to improve their responses. By selecting Paul Volcker, the former Fed chairman, to head a team to oversee the financial crisis, President-elect Barack Obama seems committed to a different way, one that combines the ability to respond quickly with the resolve to act wisely.
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