Thursday, September 25, 2008

A Little Bit More on the State of the Financial System

I'm sorry for the last couple of posts, which have very little to do with medicine. We're in the midst of one of the most crazy reform periods in modern business, and I feel compelled to document what is wrong, what will go wrong, and why it will happen.

As of right now, the republican (supposedly conservative) plan to deal with the economic "crisis" is a 700 billion dollar bailout package. This package in perspective, is greater than $2,000 for every man, woman, and child in the US. It is more money than the entire cost of the war in Iraq. One might say that this would be a logical point for the democrats to crack down on corporate welfare, which is one of the few places that I tend to agree with democrat economic philosophy. Forget it. The democratic plan seems to be, "OK, we'll give $700 billion to corporations that we don't have, but only if we make even more fake money and give it to people who took out stupid loans over the last 5 years to buy houses that they couldn't afford." As I said at the end of my last post, I'm not optimistic.

There are three highly irresponsible parties in this mess. Number one is the government, who created that housing bubble with fake money and cheap credit from the federal reserve. Number two is the individual running the companies on Wall Street that used the fake money to make bad loans. Number three is the individuals who took the bad loans and used them to overpay for housing. Everyone agrees that this failure is largely secondary to the housing market failures. The solution seems to be to bail out parties #2 and #3 with party number one, using money from people who are not responsible. Brilliant.

However, this is becoming far more sinister. Rather than letting companies fail, the government is instead buying them with taxpayer money. At first, Fannie Mae and Freddie Mac were nationalized. Because they started as nationalized institutions that were later privatized, I wasn't sure what the effect would be. However, we have now effectively nationalized AIG, and as part of the bailout plan, we may look at a significant amount of nationalization on Wall Street, primarily in the insurance and financial sectors. This puts the government in charge of the majority of home mortgages and the largest insurer in the country. As opposed to allowing for a short term shake-up in the market, with some firms going under, we are going to insure that the government will compete within the private sector, using taxpayer money to prop itself up. In other words, this is the end of anything resembling true free market capitalism in the financial markets.

For those of you who think that this is a good thing. I will point out that the two periods with the greatest amount of new government intrusion into the market were the Great Depression and the Stagflation Seventies. To rescue the market the first time took a world war. The second time took deregulation.

What we are witnessing is an Atlas Shrugged style takeover of the financial markets, with Henry Paulson playing the role of Wesley Mouch (a reference to my objectavist readers). As the inevitable slide continues, we will continue to do things to "fix it" that will infact promote future slides. The right thing to do is let the insolvent firms fail. This will lead to short term chaos but long term stability. It will also make people much less likely to engage in this sort of behavior in the future, because every who does it now expects a bailout (we seem to never disappoint). It will also prevent the government from destroying the future of the financial system by nationalizing companies and then competing with an unfair advantage against private firms (causing greater distortions in the market). As I said before, I'm not optimistic, and nothing in the last week has done anything to change my feelings on the matter.

You know, as much as I really detest both major political parties, I never thought that the first steps towards true nationalization of the economy would be undertaken by the republicans.

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