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Washington, Wall Street and camels

Kevin McDonald
Summit Daily/Kristin Skvorc
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As I write, politicians in Washington are trying to pull off the ultimate double play: rescue our financial markets and retain enough votes to get re-elected. It reminds me of an old parable about trying to fit a camel through the eye of a needle. Allow me to clarify a few issues and dispel a myth or two without taking a stand.

1) Will Wall Street’s problems trickle down to Main Street? Quite the opposite has already happened. Defaults on mortgage loans at the household level have increased dramatically. As of June 30, 6.35 percent of U.S. residential mortgages were delinquent, including almost one in five subprime loans. That is a lot of bad loans. Aggressive lenders should take their share of the blame for this mess, but many borrowers have, involuntarily in most cases, already initiated their own bailout plan. Many securities are backed by these mortgages, and even if the default does not result in foreclosure the value of these drops. Firms that own these assets are confused (more than usual, I mean) because nobody can predict with any confidence how many borrowers will make their next mortgage payment.

2) Why throw $700 billion away? I think the media and politicians have used words like “bailout” and “meltdown” too freely (“change” and “Britney” became old, apparently). The Treasury’s money will be invested in hard, earning assets. When you purchase a home you are not bailing out the seller; rather you are simply buying something at a price that has been negotiated. The challenge in this case is that nobody knows what these debt instruments are worth. The Treasury wants to start bidding on these assets to establish some measure of value (listen for the phrase “price discovery” in the media) and hopes the private sector will follow suit.

3) OK, so how much will this cost us? Ummm, nobody knows. Once the government resells these securities, I confidently predict they will either lose money or make money. Under any scenario, they will not “lose” $700 billion, thanks to those borrowers who are keeping their loans current (and I am grateful to every one of you) and the foreclosable real estate collateral of those who are not. And consider this: speculative investors (the government, in this case) historically achieve better results when they buy something in a depressed, anxiety-filled market instead of a boom … which does this feel like?

4) Why let Wall Street off the hook? Firms are already losing money by the billions. There will be plenty of pain dished out, tighter regulation is certain and no one will want to go through this again ” ask any banker whose business failed in the 1980s. And if you are a high-ranking executive at a firm whose stock price plunged because you bought these assets in the first place, it sure doesn’t look good on your resume.

5) Let the free market prevail! I am a free-market guy, but the government was designed to step in periodically. It provides liquidity, manages inflation, dampens fluctuations in our economy and occasionally jails crooks. We’ve never had a purely “free” economy, but ours is closer than most. Think of the Federal Reserve/Treasury Department team as an expansion tank on your boiler: it serves no active heating purpose and costs money, but it relieves pressure to prevent your pipes from bursting. Those who disagree with this intervention have valid arguments: unfair accounting rules force companies to write these investments down artificially, private investors will swoop in and buy these assets if nobody else wants them and less government equals better government in good times or bad.

The silver lining may be that this crisis erupted on the eve of an election. Now we can see our incumbent candidates in action: Do they grandstand, blame the other party, sound ignorant … or do they really want to address this issue?

Now if you will excuse me, I’m off to find a camel and a needle.

Kevin McDonald is a former local bank president and is currently a financial advisor with the independent investment firm New Path Capital Advisors in Silverthorne. He also serves on Silverthorne Town Council. Kevin can be contacted at kevinm@newpathadvisors.com.


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