As the fate of Secretary Paulson’s plan is debated by Congress, we offer a few bullets for contemplation:
- If we believe what we are told, this extraordinary increase in the use of federal credit is needed to keep the United States from a modern version of the Great Depression. There are many who don’t believe the need and are justifiably cynical. Others would alter the form and/or substance of the package. Still others would be willing to risk a depression. No one knows with certainty what view is correct.
- The economic situation in the United States continues to deteriorate rapidly. We see this validated in one data release after another. Line up the measures and the story is the same: unemployment rising, retail sales and housing prices falling, commercial real estate and autos troubled, the list goes on and on. “Main Street” is sinking.
- Examine the financial issues and the appearance is the same as the economic issues. Credit spreads wide, corporate bond issuance costly, bank failures continuing and financial market turmoil spreading. It is clear we are witnessing a contagion and the post Lehman failure damage has accelerated its spreading. Wall Street is sinking.
We are now asked to support a $700 billion federal credit expansion. Our leadership says “trust me.” Should we do this? The answer is no. Should we authorize the $700 billion? The answer is yes.
Here’s a perspective on $700 billion. For this purpose we will assume the entire $700 billion will be deployed in acquiring and liquidating damaged or toxic financial paper and any recovered monies will be redeployed doing the same. We further assume that the ultimate recovery will be zero. The U.S. economy is $14 trillion in size. $700 billion is 5% of one year’s output. The entire amount can be financed with U.S. Treasury bonds at an interest rate of under 5%. Assuming the $700 billion never gets repaid and is refinanced indefinitely, the cost is $35 billion in interest for each of the next 30 years.