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Paying for the bailout

As most every­one who reads TNL.net knows, the US is cur­rently going through a pretty tough dis­cus­sion about a $700 bil­lion bailout for the finan­cial sys­tem. There is much said around how the money ought to be used and what kind of con­trols should be put around it but one part of the dis­cus­sion that seems to have been miss­ing is how we’re going to pay for this.

$700 bil­lion is a pretty large fig­ure (Tech­Pres­i­dent has a good post that puts it in per­spec­tive) and it’s one that will only increase the national deficit.

But inter­est­ingly, there’s a way to cover the $700 bil­lion. If we are in a time of cri­sis, we all have to tighten up our belts: the pres­i­dent has said that the alter­na­tive is a really bad econ­omy so I’d assume we are all in this together and we all need to pull in. With the fig­ure of $700 bil­lion being rougly $2300 per per­son, there’s no way we can ask for every­one to chip in that exact amount. But what if we decided to spread pay­ing it back over sev­eral years.

So I started play­ing with the national bud­get sim­u­la­tor, a handy lit­tle tool which has older bud­get fig­ures but can give us some ideas.

The first thing I did was repeal the Bush tax cuts from 2001 and 2003. If we are in an eco­nomic cri­sis, we have to fig­ure out a way to get the coun­try back on track so repeal­ing tax cuts that were cre­at­ing when the econ­omy was arguably in a bet­ter state might do the job. Doing so against the 2006 Bud­get would have yielded $294.88 Bil­lion. That gets up about a third of the way through pay­ing for the bailout. So, if you repeal the 2001 and 2003 tax cuts over a 3 year period, you pay for the bailout. In times of cri­sis, that might work.

But that was the easy part. What if we need to pay for this in one shot. If that’s the case, we’d need to find another $400 bil­lion in the budget:

But those are all small cuts and other cuts could have neg­a­tive impact on the econ­omy so, look­ing at most of the bud­get, the only way to get any­where near the $700 bil­lion mark would be to repeal those tax cuts from 2001 and 2003. They were expen­sive then but are now down­right unaf­ford­able and one could argue that it would be our patri­otic duty to cut them.

Ideas, com­ments, sug­ges­tions as to how to raise the $700 bil­lion are wel­comed in the com­ment thread.

Originally published on September 24, 2008 in Politics . You may find related thoughts pieces under the following terms: , ,

  • drucev

    I have to be blunt. There are some peo­ple who are all for free­dom, up until the point where some­one makes a choice they don’t agree with. Then Some­thing Must Be Done ™. Sim­i­larly, there are peo­ple who are all for free mar­kets, until the mar­ket tanks. When the mar­ket is irra­tional on the upside, every­one finds all kinds of ways to jus­tify it. When it tanks, then Some­thing Must Be Done.

    Here are some things that need to get cleaned up before we start talk­ing bailout:

    - Large mar­kets with­out dis­clo­sure and cen­tral clear­ing. So when there are big moves, nobody knows who might go belly-up and the mar­ket stops functioning.

    - Rat­ing agen­cies — you accept high fees to rate garbage bonds AAA so banks can buy them, you lose your nation­ally rec­og­nized report­ing agency

    - Toxic lend­ing struc­tures, like option ARMs. If a bro­ker puts a client in an unsuit­able invest­ment, they go to jail. If a mort­gage bro­ker puts some­one in a bor­der­line preda­tory loan, noth­ing happens.

    - Fraud sen­tences for peo­ple who orig­i­nated mort­gages that had no chance of get­ting repaid, and those who secu­ri­tized them

    - Revis­it­ing the ‘lender of last resort’ com­pact — the deal is, if you’re too big to fail and there­fore deserv­ing of a back­stop, whether GS or AIG, you have to pay for that back­stop, dis­close your risks, and take pru­dent risks

    Much as I would like to give Paul­son and Bernanke the ben­e­fit of the doubt, the $700b blank check is sim­ply the world’s biggest ear­mark, the bridge loan to nowhere. Wall Street is try­ing to rail­road through one last feed­ing frenzy at the trough, and après moi le déluge.

    Soros is on the right track (Google ft soros paul­son blank cheque). Just offer the Buf­fett deal to any bank that wants it — all the money they need at 10%, in a pre­ferred stock that gets paid off before stock­hold­ers, and con­vert­ible into equity at Friday’s price if the bank recov­ers and the stock goes up.

    This will pre­vent wide­spread bank col­lapses. It won’t make every­one start lend­ing again or pre­vent the nat­ural course of the busi­ness cycle and the hous­ing bust — what goes up must come down.

    But the $700b ‘splurge’ won’t do that either — attempts to repeal the busi­ness cycle are futile, and we’ll just pay for it through higher taxes, higher infla­tion, less growth for much longer.

  • http://www.tnl.net/blog/ Tris­tan Louis

    The ques­tion, though, is how many such big investors exist in the mar­ket and, even if you were to offer such deal, where would the money come from.

    In the 90s, when Democ­rats entered the White House, all of a sud­den, bud­gets HAD to be bal­anced. So assum­ing that that’s the case (and it’s really not a bad idea to think of bal­anc­ing bud­gets) and going beyond the details of whether a bill is good or not (once again mak­ing an assump­tion as to some­thing being needed), how do we pay for it. So the point I was try­ing to make in this post is that, if such bill is required, a par­al­lel should be to repeal the pre­vi­ous large tax cuts to cover some of those costs. After all, that money is needed to deal with the cri­sis and repeal­ing those cuts would be the quick­est way to raise it with­out increase the national debt as much.

    $700 bil­lion (or $250 bil­lion right now, if you believe the lat­est deals) is a lot of money and few peo­ple seem to be talk­ing about how to pay for it…

  • http://clevershark.com clever­shark

    I think the more inter­est­ing ques­tion is “where is this money going to come from”, and the answer to this is a bit scary. Plainly put, there isn’t $700B just sit­ting around under Wash­ing­ton couch cush­ions that can be thrown at this issue. If the Sec­re­tary will need $700B he will have to expand the money sup­ply by ini­ti­at­ing a mas­sive issue of T-bills. Now M2 (since 2006, the most inclu­sive offi­cial mea­sure of the US money sup­ply) stands at only $7.7 tril­lion. So the plan, just to start, will require M2 to expand by over 9%.

    This is likely to cre­ate a whole new slate of prob­lems. For a start, in a mar­ket where credit is already nigh-impossible to obtain, could any­one actu­ally sell $700B of new secu­ri­ties, no mat­ter how “safe” these secu­ri­ties are? and what about the issue’s dilu­tory effects on the value of the USD?

    Maybe I’m being naïve here but I’m fairly sure that money doesn’t just appear because either the admin­is­tra­tion or Con­gress affirms that it will.

  • http://www.tnl.net/blog/ Tris­tan Louis

    Actu­ally, the money “can” appear by just print­ing more (ie. deflat­ing the dol­lar) but as you point out, just dump­ing $700B into the mar­ket doesn’t mean it’s a good idea. Basi­cally, in one shot we’re going to increase the national debt by 7 per­cent. So that’s why I was won­der­ing about WHERE we should go in terms of find­ing some way to lower that impact. And that’s what got me think­ing of ways to get to the $700 bil­lion mark.

    Ini­tially, I was think­ing about things like enti­tle­ment cuts but unfor­tu­nately, some­thing like that would not only be unpop­u­lar, it could also have the impact of push­ing more peo­ple into pos­si­ble default on their mort­gages… So the ques­tion then was where do we go: short-chaing infra­struc­ture didn’t seem like a good idea, and touch­ing the mil­i­tary bud­get, while pos­si­bly a smart move, prob­a­bly wouldn’t sell in a time of war.

    And then, there was the tax cuts. With the open­ing of “these are tough eco­nomic times,” I started think­ing about what might hap­pen if you cut it at sev­eral lev­els. If we truly have an emer­gency on our hands, a tax cut sac­ri­fice might help…

  • under­taker

    So here is a ques­tion are we cre­at­ing a new prob­lem for our­selves if we can sell the bonds to get the money? what hap­pens when they are called in. Is taxes not going to be less since the unem­ploy­ment rate is going up which means less income taxes and more peo­ple get­ting the child tax credit. And on that note why are we giv­ing them more money back then they ever payed into taxes? These com­pa­nies that take the bailout money should be par­ti­tioned off and sold also to com­pa­nies that have been respon­si­ble with the com­pa­nies. Other wise what are we teach­ing them? that there is no con­se­quences for irresponsibility?

  • http://www.tnl.net/blog/ Tris­tan Louis

    Under­taker: if you were to take the approach you sug­gest (sell­ing bonds), you’d just dig a deeper hole so I’m not sure that would be the solution.

    My view is that we need to reassess our approach when it comes to credit and maybe start act­ing a lit­tle more respon­si­bly by bal­anc­ing bud­gets, or at least try­ing to…

  • Mer­lin

    If we do this right the bailout will pay for itself. The key unfor­tu­nately will land in the hands of the gov­ern­ment deal mak­ers (Paul­son et. al). If the $700 bil­lion is spent on assets at val­ues that are below their final mar­ket value then the gov­ern­ment will make money on the “bailout” (this hap­pened in the Great Depres­sion with the gov­ern­ment own­ing mort­gages them­selves as apposed to mort­gage backed secu­ri­ties). For exam­ple let’s say the gov­ern­ment spends $700 bil­lion on $1 tril­lion of face value MBS assets and then the recov­ery rate is around 75% (based on num­ber of foreclosures/amount of restruc­tur­ing to lower inter­est of the ini­tial mort­gages etc.) then your return on invest­ment will be 75% * $1 tril­lion = $750 bil­lion (over the course of decades). At which point the ques­tion is not the ini­tial $700 bil­lion (as men­tioned that will come from basi­cally print­ing money by sell­ing var­i­ous forms of U.S. debt), the ques­tion is did we have to pay out more than $50 bil­lion in inter­est on the $700 bil­lion dol­lar loan from China et. al. Or worse, what if the gov­ern­ment spends $700 bil­lion on assets that end up net­ting $500 bil­lion (fairly pes­simistic), even then the ques­tion is how do we pay for the $200 bil­lion (plus inter­est) rather than how do we pay for $700 bil­lion. Also, we’ll have the term of the loans sold (hope­fully the gov­ern­ment is wise enough to sell long term U.S. bonds) to pay for it. I agree with Tris­tan that repeal­ing recent tax cuts is a good first step towards com­ing up with the cash but I think it’s impor­tant for every­one to remem­ber that the raw $700 bil­lion just comes from our fiat cur­rency amount being increased and the long term finan­cial issue of how much we have to come up with to pay down our national debt will be deter­mined by the long term val­ues of the assets pur­chased with the $700 billion.

  • Mer­lin

    One other thing. In my sim­ple cal­cu­la­tions I ignored infla­tion. If we print an addi­tional $700 bil­lion dol­lars of the US fiat cur­rency then obvi­ously infla­tion will have to be taken into account. My point still holds I think (so long as the gov­ern­ment acts respon­si­bly and we don’t go into hyper­in­fla­tion). It really depends on the details though. If we have 10% infla­tion it only takes about 7 years for a dol­lar to lose half it’s value so…

    But again, I agree with Tris­tan that we really need to talk about how to pay for this and taxes is obvi­ously the right place to start as you don’t want to cut spend­ing too much dur­ing a slow­down in the economy.

  • http://www.tnl.net/blog/ Tris­tan Louis

    Mer­lin,

    As you pointed out, the $700 bil­lion would come from run­ning the print­ing press on cur­rency. This can have a cou­ple of unex­pected effects, though:

    1. By putting more cur­rency into play, wouldn’t we assume that this could cre­ate some extra pres­sure on the dol­lar. Granted, as a fiat cur­rency, that pres­sure would only be based on per­cep­tion, which brings me to the sec­ond point.

    2. By drop­ping an extra $700 bil­lion into the deficit, we’re going to approach a tril­lion dol­lar deficit. Will cur­rent hold­ers of gov­ern­ment debt and/or dol­lar cur­rency con­sider that OK or will they start apply­ing pres­sure on the dol­lar and other gov­ern­ment related finan­cial instruments.

    Last but not least, if we assume that this release of $700 bil­lion in extra dol­lars is hap­pen­ing, and we assume that this will put pres­sure on the dol­lar, we could find our­selves in a sit­u­a­tion where the cost of import into the US would increase. Since a lot of US prod­ucts are now man­u­fac­tured over­seas, this prob­a­bly would result in increased infla­tion, which could put some extra pres­sure on the economy.

  • http://clevershark.com clever­shark

    Well, right now even a “first step” of only $250B would result in a real annual deficit of about a tril­lion dol­lars (“offi­cial” deficit + this year’s bailouts + this year’s Iraq sup­ple­men­tals, etc.). I think the sort of grad­ual phase-in that’s made its way to the defeated-in-the-House pro­posal does some­what address the issue of the overnight influx of new money into the over­all market.

    To be hon­est I don’t think much of the idea that the coun­try will get its money back from the bailout or, as the Pres­i­dent has sug­gested, that the coun­try can *make* money from the plan (we’re all well aware of W.‘s exten­sive busi­ness acu­men, aren’t we). Sure it will get *some* money back, but if things were that sim­ple as the bull­ish imply there would be no need for a bailout in the first place, would there. The sit­u­a­tion would resolve itself with only a slight down­turn. Look­ing at the bailout as an invest­ment, it’s rem­i­nes­cent of some guy com­ing out of the blue and telling you that he can triple your money overnight, while con­stantly empha­siz­ing that he needs to get the ball rolling NOW. The only thing you can be sure of when faced with such a sit­u­a­tion is that you’re being scammed.

    I’m a lit­tle ambiva­lent on this whole deal. On the one hand I think it’s a ter­ri­ble idea in the long run. On the other hand I hope it passes this week so I can sell already-held US stock at a profit. The mar­ket is in for a seri­ous cor­rec­tion whether there’s a bailout or not. The bailout will only move that big cor­rec­tion into Obama’s Pres­i­dency (or, God for­bid, McCain’s). The whole point is that Bush and Paul­son are des­per­ately try­ing to avoid the crash being imputed directly to them. As for Con­gress, well, they’re happy when they spend money, and spend they prob­a­bly will, what with all the pork that’s been added to the bill in the past week. The Bill, which started as a 3-page draft last week, was about 120 pages on Mon­day and has grown to some 450 pages by now so there’s some­thing in there for every­one to like — except the tax­payer maybe…

    The thing is that I don’t quite know what exactly will be achieved by spend­ing all this money. Peo­ple who are upside-down in their mort­gages, for instance, will con­tinue owing more than the prop­erty is worth. A man who makes $50k/yr will still not be able to afford to repay a $500,000 loan. You can give all sorts of exten­sions but that doesn’t change the fun­da­men­tals. Addi­tion­ally the credit mar­ket will never get back to the insane highs of the early 2000s, just as a mat­ter of com­mon sense and lessons-learned. So, that $700B, what’s it going to buy?

  • http://clevershark.com clever­shark

    bradblog.comBrad Blog came up with an inno­v­a­tive way to off­set at least part of the costs of a bailout. It’s prob­a­bly too rev­o­lu­tion­ary to be con­sid­ered, though…