17.3 trillion dollars is the current debt of the United States of America. Insurance groups, banks, and mortgage giants have fallen, with Wall Street coming so close to collapse that the federal government had to step in and take control of these pivotal financial institutions. If not, America’s economy may have completely collapsed.
The current state of the American economy is the greatest financial crisis Americans have had to face since the Great Depression; never before has the economy been so close to the verge of complete collapse. Everyone is affected, from the corporate bigwigs on Wall Street, to retailers on Main Street in Buffalo, and even the average American consumer. How did this happen? What is being done to reverse the effects of this recession?
According to the Economic Recession Library, a recession is defined as a lengthy period of time in which a nation’s economy is contracting. There are several trends to be found during a recession: people buy less, there is a growing unemployment rate, a slump in personal income, and an unhealthy stock market. All of these trends have been occurring all year long, some even longer. Add this to the credit crisis that is gripping our economy, and it is apparent that Wall Street and Main Street are both deeply suffering.
Consumer spending has been down all year. A generation ago, ten percent of income went into savings. Now it is closer to zero. With people buying less, retailers are also being hit hard. The holiday season is fast approaching, and it is the most profitable time of the year for retail stores. Retailers are typically running their businesses through a fund of short-term lines of credit, and borrowing against money due from customers, or borrowing against their inventory. But without customers to buy their goods, these loans are not being paid back, making banks wary of lending them money. This causes a “ripple effect as to how banks think about how much credit they are willing to give based on the strength of the individual retailer,” said Michael Dart, a strategist for consulting firm Kurt Salmon Associates.
Several retailers have already run into trouble this year, including Sears, Talbots, and GE Capital Solutions. The credit lines for these companies have run dry. When Sears asked Bank of America for help in financing to build a one billion dollar facility, Bank of America thumbed their nose at Sears and gave them five million dollars, only five percent of what was asked. This kind of crunch can lead to layoffs and the rising unemployment rate in the country, as well as New York State.
As of September 1, 2008, the unemployment rate in the United States was 6.1 percent. In New York State, the rate was 5.8, which can be attributed to the massive layoffs that have been occurring in the financial center. Nationwide, since January 2008, 605,000 jobs have been lost this year, according to a recent USA Today/Gallup poll. Numerous economists have repeatedly told USA Today that Wall Street could lose as many as 40,000 jobs as a result of the current crisis.
Out of all of the factors that led to the recession, the credit crisis stands at the forefront. It has taken money both from the poorest of the poor and the billion-dollar executive. Steve Fraser, a columnist for AlterNet, believes the blame can lie with either. Regular middle class citizens have up to ten credit cards, maxed out all the time, or sign on to mortgages they can’t afford, on which they eventually default. Wall Street downplayed risks, and lived only for the present moment, buying up all of this debt, and then spending millions on security for that debt. America practices a market economy, where consumers can go to buy things from producers, and producers can sell things to consumers.
A USA Today editorial showed that the bank bailout was “not just a solution—it’s also a warning.” Sometimes it seems America runs its economy on debt—consumer debt, government debt, and foreign debt, found in trade deficits. The recent crisis on Wall Street, and the recession in general, shows that this debt economy does not work.
Wall Street has a habit of binging on risky investments using borrowed money. The total losses so far this year as a result of these investments is $500 billion, and could lead to over $1 trillion if this financial crisis is not averted. All of this borrowing and lending can lead credit rating companies to downgrade a company’s debt. This forces an institution into bankruptcy, such as what happened to global investment bank Lehman Brothers, after 150 years in the stock market, according to Patrick McGeehan of the New York Times.
As companies continued to receive lower credit ratings, consumer confidence diminishef. In an interview with the Washington Post, Bob Barbera, chief economist at ITG said, “This is pure and simple a crisis of confidence.” What investors really want to know is that when they put a dollar in one day, they will be able to at least get a dollar out tomorrow. That is why when investors kept pulling money out of Wall Street, they put it into safe investments, such as the extremely safe US government debt, gold, and crude oil.
With bankrupt companies and money being pulled out of Wall Street, the hole kept on getting deeper and deeper, with short sellers not exactly helping the crisis either. Short sellers are people who place aggressive bets on stocks, spread rumors, and spread fear, which they are quite effective at, especially at this time of low consumer and investor confidence. With short sellers, they make more money when stock prices fall. The Securities and Exchange Commission (SEC) actually had to go and prohibit this practice, one of its first steps into the domain of Wall Street
These practices, as well as “tremendous amount of denial over the past two years, three years” can be added up by Barry Rithsiz, chief executive of Fusion IQ investment firm, to why the economy is in a recession.
Lehman Brothers was the fourth-largest investment firm in the nation. When the firm filed for bankruptcy, it marked the beginning of a tumultuous week on Wall Street Investment banker Merrill Lynch was purchased by Bank of America, and American International Group (AIG) collapsed, causing the government to invest $85 billion into the company, and essentially running AIG. Fannie Mae and Freddie Mac were also taken over by the government.
To try to regain some consumer confidence, AIG has even been placing whole page ads in the major daily newspapers, with remarks made by Bruce Abrams, chief executive of AIG. “We understand that people have their life savings with us, and we take that very seriously. What policy holders need to understand is we are the same company we were one week ago, one month ago, one year ago.”
These businesses were a major part of Wall Street, and their collapse led the Federal Reserve to become what economists are calling an “Investor of Last Resort.” This is a first in the history of America. “If you go all the way back to 1921, when farms were failing and Congress was leaning on the Federal Reserve to bail them out, the Federal Reserve always said ‘It’s not our business.’ It never regarded itself as an all-purpose agency,” said Allan Meltzer, a professor of economics at Carnegie-Melon University. With majority control of Fannie Mae, Freddie Mac, and AIG, some see the Federal Reserve as become a borderline socialist institution. Former White House economist Nouriel Roubini stated that the USA is turning into “the United Socialist State Republic of America.” The government has never been so involved in the private sector, and more change is still to come.
Director of the Treasury Department, Henry Paulson, offered a bailout policy, where President George W. Bush has asked for 700 billion dollars, more than the yearly Pentagon budget. In the past, President Bush’s administration has strongly opposed bailouts, as well as any kind of regulation of the private sector. But the mortgage and credit calamities have caused him to change his tune, and Bush has become the most vocal supporter of the bailout.
The bailout would come about by the American government buying a vast number of mortgages that are in danger of, or have been, defaulted on, that are held by distressed financial institutions. Paulson called it “a comprehensive approach to deal with the illiquid assets on financial institutions’ balance sheets.” Federal Reserve Chairman Ben Bernanke, pleading to Congress to pass the bailout proposal quickly, said, “I believe if the credit markets are not functioning, that jobs will be lost, that our credit rate will rise, more houses will be foreclosed upon, GDP will contract, that the economy will just not be able to recover in a normal, healthy way.”
Bernanke’s apocalyptic financial analysis didn’t sway many in Congress, especially House Republicans, who had continually been adamant in their opposition to the bailout. Sen. Richard C. Shelby of Alabama said, “We have been given no credible assurances that this plan will work. We could very well spend $700 billion, or a trillion, and not resolve the crisis.” According to the Washington Post, the bailout plan is essentially the US Treasury buying the mortgages of struggling firms, and then selling off these assets in order to make the money back.
Congress was extremely wary of Paulson’s bailout plan, especially its price tag and lack of accountability. Nancy Pelosi, the Democratic House Speaker, said that the proposal made by Paulson and Bush did “not include the necessary safeguards. Democrats believe a responsible solution should include independent oversight, protections for homeowners, and restraints on excessive executive compensation,” according to the Washington Street.
Democrats were not the only Congressional opponents to the bailout proposal. Republicans, especially those in the House, required several changes before they approved the proposal, and some flat-out refused to support the bailout plan. Carl Husle of the New York Times reported that “Aides to senior House Republicans said that lawmakers would also insist on greater oversight of the program and were proposing a joint select committee, consisting of lawmakers of both parties and from both chambers of Congress.”
In response to Congressional backlash, Paulson warned Congress to move speedily, and that the bailout plan was essential to save the economy. With regards to comments that $700 billion dollars wouldn’t be enough, Paulson remarked on CBS’s Face the Nation, “That doesn’t mean we’ll go all the way there, or it doesn’t mean it will stop there and we won’t ask for more.” He continued, saying, “What we need is something that is big enough to get the job done. We’ll ask for what we think is a right amount to give us plenty of flexibility.”
The Washington Post also reported that even President Bush, who has recently been regarded with nothing but disdain by the media, the public, and even his own party, stepped up to the plate and supported the bailout plan. “This is a big package because it’s a big problem. The risk of doing nothing far outweighs the risk of the package.” Bush had always been an advocate of deregulation, and he even remarked upon this, and how serious the recession has become.
Indeed, Republicans were confounded by Bush’s proposal. Former House Speaker Newt Gingrich said, “I believe that the president is exhausted and the vice president has been marginalized, and what you now have is Washington interests…dominating the administration.” Gingrich continued, in a statement to the Washington Post, “We have now launched big-government Republicanism. If we saw France do this, Italy do this, we would have thought it was crazy. We would have had pious speeches about the folly of bureaucrats running business.”
As of Friday, September 26, a USA Today/Gallup poll showed that, even though many people wanted changes to the original plan, 78 percent of Americans wanted the bailout plan. On Monday, September 29, Congress failed to listen to those 78 percent of America. The bailout plan was defeated in the House, 228 to 205. According to The Buffalo News, the stock market fell a historic 777.68 points. Nancy Pelosi pledged to draft another plan, saying, “What happened today cannot stand. We must move forward, and I hope that the markets will take that message.” With a drop of 777.68 points, Wall Street lost that message in translation.
The bill remained at the forefront of the Congressional agenda. On Wednesday, October 1, in a surprising majority, the Senate passed the bailout plan, 74 to 25, and urged the House to pass the bill as well. The bill passed by the Senate had several amendments that made the legislation more attractive to legislators. When giving the proposal to Congress, Paulson’s original proposal was three pages long. The Senate passed one that is over 450 pages long.
According to USA Today, the new bill authorized the Federal Depository Insurance Corp. to insure bank deposits up to $250,000. Right now, the FDIC is only authorized to insure deposits up to $100,000. House Republicans originally proposed this when negotiations over the bailout plan were occurring. The bill also extended business tax breaks, that will protect middle-class wage-earners from getting clobbered by the alternative minimum tax. The total for these tax breaks comes to $150 billion, and even offers incentives for businesses that use renewable energy. The most alluring addition to the bill for legislators is the requirement of health insurers to offer mental health coverage alongside other medical benefits.
All of these additions, as well as clamorous constituents, have made the bill very agreeable to some House members that were originally against the bill. Senate Minority Leader Mitch McConnell said that he believed that Bush would be able to sign the bill and set it into action “by the end of this week.”
President Harry S. Truman popularized the phrase “The buck stops here,” meaning the Presidency. According to the Harry S. Truman Library & Museum, this plays on the phrase “passing the buck,” meaning passing off responsibility to someone else. In dealing with this recession, this is not the case. The buck stops with the American public.
