Bailouts and the Future of the American Economy

Economic Analysis by Michael Deliz

The role of Fannie Mae and Freddy Mac in the present economic crisis is undeniably central to much of the problems faced by the financial markets. This is true. Remember however that Fannie Mae and Freddy Mac were only the tip of the iceberg. If all the blame could be placed on the failure of these two agencies then the bailout of the two would have sufficed to fix the crisis. Bear Stearns, Citybank, AIG, Merrill Lynch, Washington Mutual, Indymac, Lehman Brothers, and over a dozen regional banks have all failed, are failing, or are about to fail withing the coming weeks. The problem as easy and convinient as it may be to try to place upon a single factor, simply cannot be dismissed so easily. Other factors such as the credit-swap industry and the overall deregulation of the banking industry are equally blameworthy.

In short, what we are facing is a systematic failure. An economy-wide collapse which could very easily and quickly (if history is a guide) trickle down to the lowest denominators of the economy, ie. your job and your ability to pay your bills.

At the moment these banking/credit failures have all been contained within the framework of the FDIC (the insurance that protects your money if you bank happens to go bankrupt). Without the FDIC, all of these bank failures would have translated to the immediate wipeout of every individual and business whose money was kept in those banks. This would have prompted an unstoppable downward spiral of bankruns and loan recalls, followed by business failures, massive layoffs and unemployment. .. essentially 1929 all over again.

The saving grace of the FDIC framework however is limited and is not designed to accomodate large scale system wide failures. So as long as the collapse was gradual and fairly distributed in time, the FDIC would have been able to take care of much of the problem. But as so many economists, including Alan Greenspan, have argued, we are in uncharted waters. Simply put, the system as a whole is such a tangled web of financial institutions, one that now reaches far beyond the territorial boundaries of the United States, that predicting how this behemoth of the economy will react is impossible to decipher from our present vantage point.

All of this however is not happening in a vaccum, but instead during a record low for the value of the dollar, under record government debt, and the largest budgetary deficit since WWII. In other words, in the meantime, there will be no respite.

The bailout, all $700+ billion of it, may really be the only solution. But lets be clear about who and what is involved in this bailout. This is being presented by the Bush administration and championed by the Treasury Secretary, but this bailout propossal is NOT a creation of the Bush Administration. This bailout propossal was written BY and FOR the banks, not for you. By adding close to another trillion dollars into the national debt, which currently stands at a historic 9.7 trillion, and was expected to reach $11 trillion by the end of 2009, the national debt could easily at this rate hit $13 trillion by 2010-2011, as we are currently already amassing about $480 billion of new debt per year and increasing, without even factoring the bailout into the numbers.

This is not something that can be simply shrugged off.

In 2007, the public debt of the United States was 60% (over $8 trillion) of our GDP of $13.8 trillion. So given the current anemic rate of growth in the economy, and the unlikelyhood of any betterment of it in the near future, our national public debt will reach and overtake the 100% mark of our GDP by 2010 with this bailout added.

That 100% mark in debt to GDP is the point where international lending organization consider your country to be BANKRUPT. Were that to happen, the worth of the American dollar will be devalued to junk status and everything that is currently traded in dollar denomination will skyrocket in price. The price of oil already now fluctuates the most based on the day to day worth of the dollar, rather than on threats of war in the middle east.

This doom and gloom scenario, is actually the optimistic scenario.

The worst case scenario has a devalued dollar forcing OPEC to adopt the euro as its trade currency, forcing the selloff of American dollars from national reserve banks across the world, including the subsequent move by China (our largest creditor) to then freeze all lending and investment into the US. This of course still doesn't include the geopolitical pitfalls that could include an Israeli-Iranian conflict, an oil trade war with Venezuela, a growing possibility of involvement in a civil war in Pakistan, as well as increased tensions with trade sanctions and increased militarization against Russia. Then, take into account the seeming continuation of the neverending war on terror which is costing this country 10-16 billion dollars a month and the outlook is even more grim.

There is no easy solution, nor easy blame as the precursory events leading to this have been building for decades and will most likely be felt for many years to come.

We will eventually all feel this one, specially when we start paying for it.