John Galt Plan Might Save U.S. Financial System: Caroline Baum
Commentary by Caroline Baum
March 10 (Bloomberg) -- Let's face it: The Federal Reserve must be
scared to death as it watches the financial system unravel.
Unravel would appear to be the operative word as leverage proves to be
as toxic on the way down as it was intoxicating on the way up.
By late last week, events seemed to be spinning out of control. Credit
spreads were blowing out, with tax-exempt municipal bonds out-yielding
Treasuries by a record and the spread between Fannie Mae mortgage-backed
securities and government bonds hitting a 22-year high. Treasury bill
yields were collapsing (further). The U.S. dollar
<http://www.bloomberg.com/apps/quote?ticker=USTW%24%3AIND> was sinking
like a stone. And commodity prices
<http://www.bloomberg.com/apps/quote?ticker=CRY%3AIND> , in their lofty
ascent, had all the makings of a market unhinged from the fundamentals,
which, after all, is the definition of a bubble.
<http://www.bloomberg.com/apps/quote?ticker=FORLTOST%3AIND> hit an
all-time high in the fourth quarter of last year while homeowners'
equity <http://www.bloomberg.com/apps/quote?ticker=NWOROWNR%3AIND> , or
the value of a home less the outstanding mortgage, sank to an all-time
low of 47.9 percent.
This measure of owners' equity has been declining since the Fed started
collecting data in 1945. (This isn't your father's housing market.) More
unusual was the drop in the value of household real estate in the fourth
quarter, one of a handful of declines in the half-century life of the
Margin calls are causing forced selling of assets (often what investors
can sell, not what they'd like to sell), which makes them cheaper, which
triggers additional margin calls and more forced selling. No wonder the
Fed announced two initiatives early Friday before the New York Stock
Exchange opened to address ``heightened liquidity pressures.''
The Fed said it was increasing the amount banks could borrow at the Term
Auction Facility (TAF) to $100 billion this month compared with $60
billion in January and February. ``The Federal Reserve will increase
these auction sizes further if conditions warrant,'' the central bank
said in its press release
In addition, the Fed will make $100 billion available through term
repurchase agreements, collateralized loans to Wall Street primary
Fifteen minutes after the Fed's announcement, the Labor Department
reminded us that the economy's problems aren't strictly financial.
Non-farm payrolls fell 63,000 in February, following a revised 22,000
drop in January. Employment has always been the most visible, and
perhaps the most important, of coincident economic indicators. Your
average Joe doesn't know, and probably doesn't care, if industrial
production is expanding or contracting in any given month.
Waiting for a Plan
Jobs are a different story. Statistically there isn't much difference
between a decline of 63,000 and a similar-sized increase. It's the sign,
and the trend, that matter. Private payrolls fell 101,000 last month,
the third consecutive monthly decline.
What is to be done? The Fed has lowered its benchmark rate
<http://www.bloomberg.com/apps/quote?ticker=FDTR%3AIND> by 225 basis
points since September, with another 75 basis points expected on March
18, based on the prices of fed funds futures. It introduced, and now
enhanced, the TAF to address liquidity needs.
President George W. Bush
getfields=wnnis&sort=date:D:S:d1> and Congress worked together to pass
a $168 billion fiscal stimulus package, including tax rebates for
savings-short households and tax breaks for business. The pace of
mortgage delinquencies and foreclosures is outpacing Treasury Secretary
tfields=wnnis&sort=date:D:S:d1> 's ability to keep up with them.
Paulson said last week that the administration was looking at the
mortgage-origination and securitization process, disclosure, regulatory
and capital issues, and the rating companies. We can expect new
proposals ``in the weeks ahead,'' he said.
The following day, Fed Chairman Ben Bernanke
tfields=wnnis&sort=date:D:S:d1> encouraged mortgage servicers to write
down a portion of the principal on home loans, which would give owners
some equity and discourage foreclosure. He advocated a bigger role for
the Federal Housing Administration, a Depression-era agency that insures
mortgages. Congress envisions an even larger role for the federal
Any day, I expect some government official to unveil the John Galt plan
to save the economy.
Galt, the hero of Ayn Rand
lds=wnnis&sort=date:D:S:d1> 's magnum opus ``Atlas Shrugged,'' stops the
world by going on strike. He and the ``men of the mind'' literally
withdraw from the world after watching their wealth confiscated by the
looters (the government).
Toward the end of Rand's 1,000-plus page novel
polemic), the economy is in shambles. Desperate, the looters kidnap Galt
and prod him to ``tell us what to do.''
Galt refuses, or rather tells them ``to get out of the way.''
Road Is Cleared
You probably can sense where I'm going. Today's economic and financial
crisis would resolve itself more quickly and efficiently if the
government got out of the way. Yes, there would be pain. Some banks
would fail. Others would clamp down on credit to atone for the years of
lax lending standards. Homeowners-in-name-only would become renters.
Housing prices would fall until speculators found value.
That's not going to happen. The bigger the mess, the more urgent the
calls for a government solution, the more willing government is to
We want laissez-faire capitalism in good times and a government backstop
against losses in bad times. It's a tough way to run an economy.
etfields=wnnis&sort=date:D:S:d1> , author of ``Just What I Said,'' is a
Bloomberg News columnist. The opinions expressed are her own.)
To contact the writer of this column: Caroline Baum in New York at