08.27.2010 0

Economy Caught In a Web

The U.S. economy is caught in a web — of artificially low interest rates, easy money, fiscal “stimulus”, and expansive government control over whole sectors of the economy. And government has no intention of changing course.

The ostensible purpose of turning the money spigot on at full force in 2008 was to create a soft landing for the economy. Particularly, policymakers appeared desperate to keep deflationary forces at bay in the housing market, and to prevent prices from crashing rapidly. At best, they claimed to be saving the nation from another depression.

Unfortunately, housing prices have declined anyway by about one-third from their 2006 peaks, resulting in some $800 billion of negative equity for homeowners. Making matters worse, they may fall another 20 percent should the economy remain weak.

The home price declines were as inevitable as the housing bubble was avoidable. As you will recall, loose underwriting standards, low down payments, and low interest rates — all induced by government policies — led to the bubble’s rise. When it popped, as all bubbles do, the only question posed in 2008 was how quickly prices should be allowed to fall.

Regrettably, all the easing, spending, bailouts, and government takeovers have done is to prevent the market from finding its natural bottom. The Federal Reserve has kept its benchmark interest rate at near-zero percent since December 2008. This has only prolonged the economic misery, as the path to the bottom has slowed, creating a deflationary trap. The bottom has still not been reached.

In contrast, a more rapid fall in prices would have been desirable, since new buyers would have been encouraged to more rapidly enter the marketplace. Therefore, prices would already be recovering if not for the government intervention, because the bottom would have been hit some time ago.

2008 presented the greatest opportunity to liquidate Fannie Mae and Freddie Mac in a generation. Losses in the companies, and to its bondholders, should have been the necessary consequence of the widespread defaults that occurred. Instead, implicit government guarantees of the securities were honored. Now, the Government Sponsored Enterprises (GSEs) have an unlimited credit line from the Treasury until the end of 2012. After that they will be entitled to another $275 billion — all without any appropriation votes in Congress.

Some pretended that the financial crisis could have somehow been averted if Lehman Brothers had been bailed out, or if easing had been even more rapidly engaged in. Others imagined that seizing Fannie and Freddie, along with implementing the $700 billion Troubled Asset Relief Program (TARP) plus actions by the Federal Reserve to purchase $1.25 trillion of mortgage-backed securities and to give trillions of dollars in emergency loans, all combined to save the economy from a depression.

Still others made believe that further “stimulus” on the fiscal side: the $862 billion legislation that passed in early 2009, tens of billions of dollars of unemployment extensions, and another $26 billion states bailout in early August, was all that was needed afterward to set the Ship of State back on course.

These, we will note, are the same thinkers who assured the American people that ObamaCare would keep insurance premiums down (it hasn’t), that capping carbon emissions and other energy use restrictions will not drive energy prices higher (it will), that the financial takeover would end bailouts (it actually institutionalizes them), and that perpetual deficit-spending is risk-free (it isn’t, just ask the European Union).

In fact, the economic recovery, as indicated by Gross Domestic Product growth, is slowing, unemployment remains at a towering 9.5 percent, and foreclosures remain at all time highs. Despite all of the extra money the government has put into the system and the robust regime of bailouts, home prices are still falling, albeit more slowly than they would have.

Policymakers wanted a “soft” landing, so here it is. But are we there yet?

To date, new homebuyers have been waiting for the bottom of the market. Unfortunately, since the bubble popped in 2007, they are still waiting, even with mortgage interest rates at record lows. Plus, with high unemployment, prospective buyers are nervous about purchasing because they do not feel secure with their jobs. They require confidence — something the government is not inspiring.

Unfortunately, the way out of this web will be agonizingly slow. The nation’s central bank is unwilling to remove the newly-printed money and the near-zero percent interest rates, while Barack Obama and Congress are unwilling to end the bailouts and government takeovers. Also, despite the fact that government manipulation of the housing market caused the crisis — all to advance a social policy of low-income home ownership — Washington is loath to cede any of its control over mortgage markets.

The truth is, the government has fired every bullet in its arsenal to no avail. Where to go from here? Print another trillion dollars? Keep the federal funds rate at near-zero for another two years? Increase the national debt by over $1.06 trillion every year over the next ten years?

All those appear very likely outcomes if one were to observe the bureaucracy and Congress in their present compositions. Moreover, Barack Obama cannot admit the “stimulus” hasn’t worked at this stage, or begin making huge cuts in spending. Doing so would undermine the entire premise for his presidency, and is repugnant to what he believes. It would most certainly cede the terms of the debate to Republicans in 2012, making him a one-term failure.

Fortunately, other forces are now acting to force government’s hand. The failed “stimulus” programs, both monetary and fiscal, and the spiraling $13.3 trillion national debt, have become politically untenable to the American people. They rightly fear the sovereign debt crisis, and want government reined in before a complete collapse occurs. As recently reported by Morgan Stanley, it’s not a matter of if governments will default on their debts, but how.

This is already having effects on how politicians run for reelection in 2010. Some are now even running and arguing against themselves. Democrat Senator Michael Bennet of Colorado recently made a speech arguing against the tremendous run-up in debt he voted for: “We have managed to acquire $13 trillion of debt on our balance sheet. In my view we have nothing to show for it.” Meanwhile, Congressman Glenn Nye of Virginia is branding himself as an “independent voice” and bashing the $700 billion TARP bailout.

These symbolic gestures, however, do not change the fact that the Democrats are the party of the special interest establishment. They have bailed out public sector unions in bankrupt states like New York and California that refuse to accept any cuts in state spending. Luddite environmentalist radicals coalesce under the party banner to restrict carbon energy use and to undo the advancements of the Industrial Revolution. Trial attorneys want them to keep tort laws lax so they can continue to press junk lawsuits and sue for the most spurious of reasons.

The banks and investment firms like the easy access the party provides to unlimited, low-interest rate financing, not to mention the bailouts. Agriculture likes the subsidies. The community organizers like low down payment loans. It goes on and on.

But there is another way. It is time for the American people to take a clear-eyed the structure that has been built by the establishment — especially now that it is collapsing before their eyes.

It is time to lift restrictions on energy production, open up the Bakken formation for shale oil extraction, repeal the EPA endangerment finding that carbon dioxide is a harmful “pollutant,” and to finally build new nuclear plants.

The tax code needs to be flattened and rates lowered permanently. Businesses need incentives to grow so that jobs can be created. Faith-based and community organizations should be incentivized to engage in charity without fear of onerous regulations. The people can take care of their own.

On the budget side of the equation, government needs to be cut to the bone. The national debt must be paid down and retired, silly spending removed, and public sector employees laid off. States needs to bring their own unsustainable budgets under control and into accordance with revenue levels as they actually are, not as they wish them to be.

The bailouts need to be ended, interest rates manipulation eliminated, and the Federal Reserve’s easy money policies reined in. Fannie and Freddie need to be unwound over time, and the risky low-income lending that led to the crisis must be permanently repealed.

These solutions will not be pain-free. They will, in the short-run, cause higher rates of unemployment among former government workers. But there is a way to transition away from government employment. For example, private education can be allowed to compete for the dollars currently devoted to public schools.

Also, private financing can replace government financing of housing. The same can be said for government-provided health care, where private insurance companies could provide cheaper products if government mandates requiring minimum levels of coverage were repealed.

In short, the government needs to drastically reduce its footprint in the economy. The nation needs an end to the welfare, an end to the perpetual income transfers, and an end to the central bank planning that finds the economy caught in a tangled web of stagnation.

The American people are presently faced with a choice — between a future of continued misery, which is all Barack Obama, the central planners, congressional Democrats and establishment Republicans offer. Or a future of smaller government and personal liberty. Now is the time for change.

As Ronald Reagan once said, “Government is not a solution to our problem, government is the problem.” Unless and until the government stops stealing the fruits of our labor, and instead gets out of the way, the nation will continue to sink, decline, and collapse. It will be a slow and painful death.

Bill Wilson is the President of Americans for Limited Government.

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