It is somewhat understandable that consumers would spend beyond their means when evidence of unlimited prosperity was all around and real estate brokers and financial snake-oil salesmen were providing the means to do it. It seemed as if every American had found the end of the rainbow and discovered the proverbial pot of gold. When the drug store is giving away free candy, it is hard for those who dream of the good life to say no thanks. Consequently, homebuyers at the lower end of the income and educational scale who bought homes for their families to live in with non-standard adjustable rate, balloon payment or interest only mortgages should be cut some slack. The terms of their mortgage loans should be modified to allow them to maintain their homes and eventually fulfill their obligations. But those who definitely should have known better must be held accountable and suffer the consequences.
In a capitalistic society of private property, contracts and explicit laws covering commercial and financial transactions, people and businesses need to be held accountable for their actions in order for the system to function properly. Otherwise, economic activity will stagnate as transactions involving credit, the lifeblood of the American economy, would vanish since no one would trust the counterparties to fulfill their obligations. And that is exactly what is happening today. The credit bomb has exploded, and too many borrowers are insolvent and unable to pay their debts. The American economic system built on trust has been severely damaged.
Efforts are now underway from the same folks who brought this situation upon us to fix the system by bailing out those they consider "too big to fail." The "too big to fail" classification could be defined as those who contributed the most money to the "honorable" elected representatives entrusted with making these decisions. In an amazing display of disregard for what caused the crisis in the first place, they propose to fix the problem of too much debt by pouring more gasoline on the fire. They plan to confiscate more money from taxpayers (driving them deeper into debt to pay for basic necessities) and borrow more money from foreigners to give to the same brilliant captains of Wall Street and corrupt agencies in Washington that created the meltdown in the first place. Only college professors, investment bankers and congressmen could possibly believe the solution to a problem of too much debt is to create more debt.
Perhaps a good question to ask is "Who is really being bailed out?" Is it the average guy on Main Street who goes to work each day, diligently does his job, pays his taxes, provides for his family and doesn't risk their future by speculating in high risk, overleveraged, derivative financial gimmicks that no one really understands? No. He is the guy that gets to pay for the bailout.
Truth is, the folks being bailed out are the mega-rich hedge funds, private equity groups, institutional fund managers, investment bankers and brokers who gained immense wealth by fueling the debt orgy. Now these people, with their mansions in the Hamptons, elegant apartments in New York City and London, luxurious retreats in Aspen and on the French Riviera, 200 foot yachts, memberships in exclusive country clubs, box seats at the professional sports arena's, and magnificent $50 million private jets to whisk them away to enjoy all these immorally gained privileges, want the government to bail them out of their stupid investment mistakes. They proclaim the implosion of debt could not have been foreseen and was not their fault. WRONG!!! Everyone with any common sense and prudence saw it coming.
Everyone who ever learned anything about investing and corporate finance should know that the capital structure of a business is normally comprised of both equity and debt, and each type of capital has different risks and rewards. The holders of corporate debt have a higher claim to the company's assets than do the shareholders. If a company finds itself in a position where it has more debt than assets, the company is insolvent, or bankrupt. The value of the company to shareholders at that point is zero. The more debt a company piles on its balance sheet, the greater the risk of the equity becoming worthless if the company cannot earn a return on assets greater than the cost of its liabilities. This is not rocket science. Anyone who bought shares in a company with lots of debt on its balance sheet should have known they were investing with a greater risk of losing their money, and they don't deserve to be bailed out.
The same goes for commercial banks and government agencies that lend money to people or businesses they know can't pay it back, and for investors who buy securities backed by a package of mortgages they should know will go bust if housing prices stop going up. And it goes for insurance companies (read AIG) that insure buyers of the mortgage backed securities against the default of those securities. Investors that take high risks must suffer the consequences, or there will never be any incentive to stop taking risks that can lead to catastrophic meltdowns.
Furthermore, the current course of action pursued by government authorities to fight the economic meltdown makes absolutely no sense. What good does it do to inject more government money into financial institutions and auto companies, or lowering interest rates to zero? The problem is that consumers are over-extended with too much debt now. They don't want to borrow more. That is why they are not buying anything on credit.
Instead of giving $700 billion to banks, $100 billion to AIG and who knows how much to car makers, which solves nothing and just postpones the inevitable, how about putting the money in the pockets of consumers, preferably through permanent tax cuts. $1 trillion divided by 300 million people is $3,333 for every man, woman and child in America - $13,333 for a family of four. If that money was in the hands of consumers perhaps they would spend it, and get the economy moving again. Giving money to the perpetrators of the crime instead of the folks who can productively use it is utterly absurd.
So what is a fair and equitable solution to the financial crisis America now finds itself in? My plan is as follows -
1. Immediately eliminate the Troubled Asset Relief Plan (TARP), and prohibit any more expenditures to financial institutions or the automobile industry. The only rational solution for these beneficiaries of government (i.e., taxpayer) handouts is Chapter 11 bankruptcy, which allows them to restructure and stay in business if they are viable going concerns.
2. For homeowners, those who bought homes priced under $300,000 should have their mortgage restructured to reflect current, conventional mortgage rates with the principal amount reset to the current market value of the home. Any loss in the restructuring is assumed by the initial lender. If the lender is out of business, the loss is covered by the Financial Disaster Trust Fund discussed below. Owners of homes costing more than $300,000 and anyone who bought them as investment property are SOL, and not eligible for any relief.
3. For lenders, they absorb the losses on the restructurings described in #2 above, and 100% of the loss on defaults on loans still on their books on homes priced over $300,000. If the lender is insolvent as a result of these losses, they enter Chapter 11 bankruptcy and re-organize if viable. As a result of declaring bankruptcy, top management of the lender (everyone making over $250,000 per year) is terminated and not allowed back into the mortgage business for 3 years. Lower level workers compensation is reduced by 20% until the company returns to solvency.
4. All other financial obligations and assets (including but not limited to CDO's, CLO's, CMO's, ETN's, SIV's, credit default swaps, auction rate securities, covered bonds, junk bonds and complex synthetic investment vehicles comprised of leveraged derivatives) are not eligible for relief and left to work themselves out in the marketplace. That is what capitalism and free markets are all about.
5. All financial institutions and over-leveraged corporations that become insolvent as a result of the financial crisis are not eligible for government relief and suffer the consequences of their operating decisions. They declare whichever form of bankruptcy fits their condition, their shares of stock become worthless and bondholders receive the residual payout from the marketable assets. If a more favorable re-organization can be worked out to keep the company going while restructuring the balance sheet, so much the better.
6. Replace all federal regulatory agency executives and bureaucrats who were responsible for monitoring activity in the financial markets and enforcing compliance with applicable laws. This would include the Federal Reserve and SEC, and also quasi-governmental entities such as Fannie Mae and Freddie Mac. Place a maximum annual compensation of $250,000 for these public servants, and ensure that no employee of any regulatory agency maintains a social, financial, or other relationship with regulated parties.
7. Create a Financial Disaster Trust Fund to provide funding for the losses incurred in restructurings pursuant to #2 above. The fund would also be used to augment unemployment payments to all Americans who lost their jobs in the last year, with payments extended for a period of a maximum of five years. It is to be funded by a retroactive tax on all individuals working in the financial services industry as mortgage lenders, residential real estate brokers, investment bankers who packaged mortgages, securities salesmen who sold them, investors who bought them, and executives of the firms that employed them who reported gross income (no credits, deductions or other loopholes that allow them to report low taxable income) over $500,000 in any year between 2001 and 2007, and any government employee and registered government lobbyist with gross income over $250,000 during that same period. The tax would be 80% of the gross income over the designated limit in each and every year it applies. These are generally the folks who caused the problem, and they should be required to pay for the solution. If any funds remain in the Financial Disaster Trust Fund after five years, it is kept by the government and used to reduce the national debt.
8. Make permanent tax cuts across the board now to put more money in the hands of consumers to stimulate spending, and by all means eliminate the expiration of the 2001 and 2003 tax cuts scheduled to occur on January 1, 2011. Offset any increase in the budget deficit with cutbacks in the bloated federal bureaucracy. In three to five years (2012 - 2014), assuming sustainable economic growth has resumed, implement a transition from the current income based tax structure to a consumption based tax system containing no tax preferences of any kind. The consumption based tax is the most fair and equitable to all taxpayers and serves to encourage savings and investment.
These are the basics of the plan. Under no circumstances should those who profited from the mega-leveraging of the financial system be bailed out. The only people the plan doesn't provide fair and equitable treatment for are the sensible and prudent Americans who have been caught up in the collapse, suffering significant losses of jobs and financial resources due to the greed of Wall Street and corruption of Washington, D.C.
