Potholes Ahead for Main Street

November 1, 2008

Congress, the Administration, and Federal Reserve Chairman have repeatedly told us that they are working hard to fix the economy for the American people.  They claim that every action they have taken has been done with the best interests of Main Street not Wall Street in mind.  Whether their intentions can be believed is questionable.  After all they are politicians.  One thing is certain; the ramifications of their actions at least in the short term have not benefited Main Street.

As we all know by now, the goal of Washington’s gross intervention in the economy is to unfreeze the credit markets with injections of massive amounts of liquidity.  This unfreezing will allow financial institutions to resume regular lending thereby putting us on the road to recovery.  In other words, the same device (debt) that got us into this mess will get us out of it.  That argument aside, as was reported in this column a couple of weeks ago, the best laid plans of Washington are once again going astray.  In that column, I reported that instead of unfreezing the credit markets allowing for a freer flow of capital and lower lending rates, the government’s actions so far have actually resulted in higher mortgage rates and consequently less borrowing.  This is a result of more government debt pushing up the yields on Treasury notes which in turn raises mortgage rates.  Additionally, because Uncle Sam is guaranteeing bank debt, it is becoming more attractive for investors and creating more competition for his own firms – Fannie and Freddie, when they seek to sell their securities.  To compete for investors, the nationalized companies must raise their own yields and then charge borrowers higher rates for mortgages.  As a matter of fact, mortgage rates are higher now than they were before the Fannie/Freddie bailout was launched. 

Higher mortgage rates are an old problem, as this week two other concerns were voiced from Washington over the effectiveness of government measures to fix the economy.  It seems that nine Wall Street banks have been asked by Congress to justify billions of dollars in pay and bonuses after they accepted nearly $125 billion of taxpayer funded bailout money.  The nine banks include the usual suspects:   Bank of America, Bank of New York, Mellon, JPMorgan, Chase & Co., Merrill Lynch & Co., Morgan Stanley, Goldman Sachs Group, and Wells Fargo & Co.

Then there was the revelation from the White House this week that banks receiving taxpayer money were “hoarding” the funds and not making new loans.  Apparently, the London Interbank Offered Rate (LIBOR), a key indicator of international lending, remains at elevated levels.  Not good.  But in all fairness to the banks, at least one of them will not be hoarding their federal largess.  It has been reported that the government has approved PNC Financial Services Group Inc. to receive $7.7 billion of taxpayer funds and to use $5.58 billion of it to purchase National City Corp – so much for the funds being used to unclog the markets.  The problem ultimately is that the government should not be doing what it is doing in the first place.  But beyond that, the capital infusion program has very few strings attached to it.  It was felt that too many strings would discourage bank participation.  Undoubtedly, too few strings are allowing the banks to take full advantage of the taxpayer.  The bottom line is that we are giving hundreds of billions if not trillions of dollars of our money to banks that got us into this mess in the first place with virtually no restrictions with the hope that they won’t do it to us again?  How stupid or corrupt is that?  Here’s hoping that the banks continue to hoard our money.

Beyond the reported ill effects on Main Street of the government’s actions to fix the economy, there are other hidden bad consequences as well.  Because the Federal Reserve has decreased interest rates to artificially low levels over the last nine months to stimulate lending (by the way this hasn’t worked either) the earnings of many small community banks have been adversely affected.  Many of these banks were responsible and took no part in subprime lending.  These institutions are important to millions of Americans on Main Street who rely on them for loans and savings accounts.  One of the last things we need is a crisis in the community banking industry.  Current government policy is already making it hard for these institutions to succeed.

Lastly, another hidden bad consequence of the government’s actions is a lowering of the yields on money market and savings accounts.  Again, as the Fed lowers interest rates artificially, savings and money market rates also decline.  Go online or check your next bank statement to notice that your savings rate has gone done.  With more people on Main Street hurting, especially pensioners and those on fixed incomes, the last thing they need is for their last safe haven to be upended by government policy.  But that is what is happening.

We could take Washington at its word that it is doing its best to help Main Street through this crisis.  The consequences of its actions speak otherwise.  Then again, maybe Washington is doing its best; because when it does its best, we are at our worst.

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