Once Again, Tim Geithner Gets It Exactly Wrong

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The Dow Jones Industrial Average rallied 6 percent on Monday after the announcement of Treasury secretary Tim Geithner’s latest bank relief plan. The stock surge might point to significant positives within his initiative, but then going back to the fall, shares have regularly rallied on the news of government help, only to decline once the harsher realities of government aid set in.

Indeed, stocks rallied for weeks in 1971 after President Nixon announced the dollar’s de-link from gold, combined with price controls, but eventually markets caught up to the major economic negatives that would result from Nixon’s flawed attempts to revitalize the U.S. economy. It seems the same applies here.

Geithner began by blaming Americans in total for the nation's economic difficulties. He wrote in the Wall Street Journal that, “as a nation we borrowed too much and let our financial system take on too much risk.” No, some Americans borrowed too much, and some banks acted in risky ways that were inimical to their health.

Geithner’s desire to foist collective guilt on all Americans in many ways strikes at the heart of our problems today. That's the case because in analyzing how we got here, we should make no mistake about the causes. This financial crisis we’re experiencing is a failure of collectivism rather than a failure of capitalism as so many assume.

Within a capitalist system there would never have been the dollar debasement that drove the rush into property, but that was imposed on the American economy as a way of helping failing manufacturers. Similarly within a capitalist system, loans would have been issued solely based on the borrower’s presumed ability to pay them back. And banks would have lent with the certain knowledge that a failure to lend with profit in mind would be an economic decision that could result in bankruptcy.

But thanks to the collectivist thinking that got us here, government subsidy of the Fannie/Freddie variety made mortgages accessible to those who could not pay them, while some banks chased risky returns based on a belief that any failure would be backstopped by a political class that irrespective of party thinks home ownership is a public good that should be subsidized. The Constitution be damned.

And while Geithner argued in one sentence that “every policy we take be held to the most serious test,” he soon contradicted himself with his line about government initiatives meant “to stabilize the housing market by encouraging lower mortgage rates.” Simplified, lots of Americans bought houses they couldn’t afford and that are presently millstones around their necks, so now we’ll subsidize more of the bad choices that helped get us here.

What remains to be explained is how government subsidies that create even greater incentives to consume property can help the economy. Indeed, with credit tight as is, will it be easier or harder for future Googles and Microsofts to sprout up if government intrusion in the marketplace means more capital will be shifted into the proverbial ground? More to the point, where are the Adam Smith disciples in politics or the commentariat who might innocently suggest that housing is the consumptive reward for productive economic activity, not the driver of same. Basically, Geithner gets what drives economies exactly backward.

Some say a better housing situation will aid the gasping banks, but the very assumption is contradictory in nature. It was the vibrant housing market that made banks comfortable lending to bad credit risks to begin with. That being the case, how will we improve the economy if banks repeat the very mistakes that have them on their backs? Wouldn’t the true economic boost result from banks learning the lessons of the past such that they make less in the way of home loans in the future? Geithner doesn’t seem to think so.

To help ailing financial institutions, Geithner noted that “we established a new capital program to provide banks with a safeguard against a deeper recession.” Translated, we’re going to prop up the banks that should have gone bankrupt, and in doing so, we’ll weaken the many responsible institutions that didn’t need government help, but that will have to compete against banks using money not their own.

A real-world example of the faulty nature of the above was actually revealed in the Wall Street Journal just this week. AIG, now serving federal investors who want said investment to be profitable, is now undercutting its competitors with non-economic prices made economic by federal loans. In the future we should expect the same from the supposed beneficiaries of TARP, who will undercut their competition with full federal approval in the name of “getting taxpayers their money back.” Won’t mergers handled by TARP-funded banks get less scrutiny than those overseen by firms not on the federal dole?

And with banks “still burdened by bad lending decisions”, Geithner, rather than let those same banks pay for their mistakes, is forming a “Public-Private Investment Program” that “will purchase real-estate related loans from banks.” The message here is for banks to lend in non-economic ways given the certainty that their mistakes will be absolved. The government response to today’s crisis is authoring future ones.

Once we’ve established the obvious moral hazard here, we can then point out what a sham the notion of “Public-Private” is. Geithner is of course including private sector investors to attach credibility to a plan that lacks it, but no one should be fooled. Taxpayers will largely fund these “private” purchases of bank securities which means that private sector investors will not “establish the value” of loans and securities weighing on bank balance sheets. Instead, the market for “toxic” bank assets will become even more uncertain thanks to private investors playing with money not their own.

Geithner concluded by saying that we must “start the process of ensuring a crisis like this never happens again.” So despite the fact that regulators have always proven unequal to the regulated, Geithner will take his own whack at creating what he presumes will be a foolproof system.

Sadly, it is there that he showed the greatest naivete in a piece that spoke to a Treasury Secretary not up to the job. Indeed, the failure of companies big and small means that capitalism is working. It is only when governments feel the need to act that we actually experience what he deems crises. Geithner’s inability to comprehend these basic truths foretells an austere future where he will seek to outlaw failure, and in doing so, he’ll blunt the essential market lessons that tell us how to achieve.

John Tamny is editor of RealClearMarkets, Political Economy editor at Forbes, a Senior Fellow in Economics at Reason Foundation, and a senior economic adviser to Toreador Research and Trading (www.trtadvisors.com). He's the author of Who Needs the Fed?: What Taylor Swift, Uber and Robots Tell Us About Money, Credit, and Why We Should Abolish America's Central Bank (Encounter Books, 2016), along with Popular Economics: What the Rolling Stones, Downton Abbey, and LeBron James Can Teach You About Economics (Regnery, 2015). 

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