A Government Bailout that Is No Joking Matter

September 6, 2008

Will Rogers once said, “I don’t make jokes, I just watch the government and report the facts.”  Spoken in the 1920s, his words are still true today.  Indications out of Washington this week are that Uncle Sam is about to do something that if it weren’t so serious would be an absolutely hilarious joke.  Of course, I am referring to the planned taxpayer bailout of Fannie Mae and Freddie Mac.

First of all, in a related story, Federal Reserve Chairman Ben Bernanke should be investigated for perjuring himself before Congress.  In testimony given before the House Financial Services Committee on July 16 Bernanke confidently told members of Congress that the beleaguered mortgage giants Fannie Mae and Freddie Mac were in “no danger of failing”.  His testimony was instrumental in getting Congress to approve Treasury Department and Federal Reserve proposals to make sweeping changes to the relationship between the two institutions and the government.  The changes included making funds available to the firms to ease the credit crunch and allowing the government to purchase shares of stock in both firms.  Just seven weeks later, news breaks that the government is moving in to take control of both institutions to save them from collapse.  With the data available to Bernanke, he either lied to Congress to get his way or he doesn’t know what he is doing. 

In any event, the point is that now the American taxpayer is going to be left holding the tab for these federal boondoggles.  The problem is that no one knows how big the tab is going to be? Combined, both institutions own or have guaranteed $5.1 trillion in mortgage debt.  Perhaps Treasury Secretary Henry Paulson’s request to Congress in July for essentially a blank check to help Fannie and Freddie was prophetic?  Only time will tell.   

But, besides the direct cost of the bailout, greater dangers exist in two other areas.  The first is the harm it could do to the government’s credit rating.  What if the economy experiences a prolonged recession?  What kind of pressure will an unknown debt amount for Fannie and Freddie coupled with customary Keynesian spending put on the credit rating of the U.S. government?  In other words, how much longer will lenders be willing to loan us money in the future for debts that essentially have no end.  Secondly, the Fed always could and will print the money needed to pay the bills.  With current debt levels and future obligations (e.g. Medicare) projected to be in the trillions of dollars, how much money would have to be printed and how much inflation would result?

Of course, Washington believes that without Fannie and Freddie the mortgage market would be left with a deficiency of funds to conduct business hurting the ability of millions of Americans to own their own homes.  Therefore, the politicians are going to do whatever it takes to save them, apparently even if it means bankrupting the country.  In fact, it is because of Fannie and Freddie that we are in this mess in the first place.  They have interfered with the free market’s mechanism of sifting out unworthy borrowers by purchasing bad loans from smaller banks and guaranteeing them with taxpayer money.  Both firms knew all along that they would not have to suffer the consequences of their risky actions.  Ironic how the very institutions Washington wants to save in order to prevent a credit crunch in the mortgage market are the ones that caused the credit crunch in the mortgage market in the first place.  If Will Rogers were around today he could use that line in one of his monologues.

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