Ok so we all of aware of the government’s $700 billion bailout plan for Corporate America. As I search the internet, there are hundreds (if not thousands) of blogs, articles, email blasts, etc. from people that are in disagreement with the bailout. Now don’t get me wrong some of their reasoning is legitimate - however it amazes me how selfish some people can be. Yes, many people made mistakes – including buyers, sellers, realtors, mortgage brokers, bankers, lenders, appraisers, attorneys, and the list goes on and on. Everyone is the blame and at some point we all have to accept that. Now we could go on pointing fingers here and there - but the fact of the matter is that this unfortunate situation is affecting our entire economy. That means it is impacting everyone (including you), independent of status, in some form of fashion whether it is your retirement monies, your stock/real estate investments, your job, your home, etc. In the midst of what is happening, something has got to be done.

As things currently stand, I’m reminded of my study of the causes of the 1929-1941 Great Depression. Many people assumed that the Great Depression was the direct result of the stock market crash of October 1929, but that is not totally true. Yes it did greatly impact it, but there were several other factors that also contributed.

So Let’s Paint the Picture…

“… there was an underlying economic problem. Income was distributed very unevenly, and the portion going to the wealthiest Americans grew larger as the decade proceeded. This was due largely to two factors: while businesses showed remarkable gains in productivity during the 1920s, workers got a relatively small share of the wealth this produced. At the same time, huge cuts were made in the top income-tax rates. Between 1923 and 1929, manufacturing output per person-hour increased by 32 percent, but workers’ wages grew by only 8 percent. Corporate profits shot up by 65 percent in the same period, and the government let the wealthy keep more of those profits. The Revenue Act of 1926 cut the taxes of those making $1 million or more by more than two-thirds.

As a result of these trends, in 1929 the top 0.1 percent of American families had a total income equal to that of the bottom 42 percent. This meant that many people who were willing to listen to the advertisers and purchase new products did not have enough money to do so. To get around this difficulty, the 1920s produced another innovation—“credit,” an attractive name for consumer debt. People were allowed to “buy now, pay later.” But this only put off the day when consumers accumulated so much debt that they could not keep buying up all the products coming off assembly lines. That day came in 1929.

The rising incomes of the wealthiest Americans fueled rapid growth in the stock market, especially between 1927 and 1929. Soon the prices of stocks were rising far beyond the worth of the shares of the companies they represented. People were willing to pay inflated prices because they believed the stock prices would continue to rise and they could soon sell their stocks at a profit. But the stock boom could not last. The great bull market of the late 1920s was a classic example of a speculative “bubble” scheme, so called because it expands until it bursts. On October 29, known as Black Tuesday, stocks lost $10 billion to $15 billion in value. By mid-November almost all of the gains of the previous two years had been wiped out, with losses estimated at $30 billion.” ⁽¹⁾

Let’s Look at Today’s Story…

“The increase in incomes of the top 1 percent of Americans from 2003 to 2005 exceeded the total income of the poorest 20 percent of Americans, data in a new report by the Congressional Budget Office shows. The poorest fifth of households had total income of $383.4 billion in 2005, while just the increase in income for the top 1 percent came to $524.8 billion, a figure 37 percent higher.

The total income of the top 1.1 million households was $1.8 trillion, or 18.1 percent of the total income of all Americans, up from 14.3 percent of all income in 2003. The total 2005 income of the three million individual Americans at the top was roughly equal to that of the bottom 166 million Americans, analysis of the report showed. ⁽²⁾

Total U.S. consumer debt (which includes credit-card debt and non-credit-card debt but not mortgage debt) reached $2.55 trillion at the end of 2007, up from $2.42 trillion at the end of 2006. ⁽³⁾

28 percent of those surveyed say their ability to pay off their credit card balance has become more difficult. ⁽⁴⁾

National foreclosure rates are at an all time high and still rising. In contrast to the stock market boom mentioned above, we have experienced a real estate boom. It is no secret that the US economy is fueled by the real estate market. Therefore as the demand increased, so did the prices resulting in a booming economy. Everything was wonderful!

The chart below paints the picture of how high and quick the prices rose and then changed: ⁽⁵⁾

As more and more people looked to ride the real estate wagon, credit guidelines loosened to the point just above non-existence, creating the Sub-prime market. Many people were able to obtained financing using these creative options, assuming prices would continue to rise and they could refinance out of these products at a later date. In addition, as property values rose, people began using the equity like ATM cards. So we had a increase in cashout refinances and home equity line of credits (HELOCs). Then overnight everything changed and the real estate boom came to a halt. People who had obtained financing utilizing the 2 -3 year ARMs reached the time for rate adjustments. At the same time, banks/lenders began to tighten credit guidelines, interest rates rose and the promises/hopes to refinance out of the sub-prime products diminished. This resulted in leaving many people with no choice but to accept the increase in monthly payments. In most instances, they were able to comfortably afford the payments with the teaser rates, however the adjusted rate increases were too much. Then the amount of mortgage defaults increased exponentially, leaving the market saturated with bank-owned (REO) properties. Banks/investors begin to see revenue/profits dwindle and all sectors were impacted – mortgage conduits (Fannie Mae & Freddie Mac), insurance companies (AIG), banks, real estate companies, investment firms, stock market, corporate executives, management, workers, etc. Therein lies the domino effect!

Not to mention the spike in gas prices, which are not only impacting people’s finances, but has directly impacted the automotive and aviation industries that employed hundreds of thousands of people. Add to that the higher than usual unemployment rates. And then there is the baby boomer generation entering retirement coupled with scrupulous businesses that caused the retirement/pension plans to be depleted. And I could go on and on, but I think you get the point. Like a well known Chicago poet, Brenda Matthews, stated – “somebody better say something, somebody better do something.” If not, what happened in the 1920’s could potentially resurface again.

The Proposal

Now with all of that being said, no I don’t totally agree with Bush’s plan to only help (bailout) Corporate America. In fact, I think a better, more efficient approach is feasible here. (I’m not going to even go into where the $700 billion is coming from, we will talk about that in a later article.) So I propose, why not use the monies to help homeowners refinance their properties back to sensible rates that they were able to afford before the ARM adjustments. And when I say sensible, I mean a rate that’s beneficial to both the homeowner and the investors. For those properties that exceed value, the government could put a lien on the property for repayment in the event of future gain. After all the government owns Fannie Mae & Freddie Mac, which essentially means the government would insure the mortgages, minimizing the risk for the mortgage backed securities (MBS) investors. I believe this will not only help qualified homeowners to keep their properties, but also eliminate a large percentage of the “bad debt” that these companies are holding. As far as the Corporate executives are concerned, I’m not for them obtaining a free pass, they too should take a hit. I’m not suggesting bankrupt them, but definitely reduce income levels, stock, dividends, etc., while monitoring termination and unemployment rates of these companies that benefit from the bailout. In addition, real/relevant tax incentives could be introduced for homebuyers and investors that help to deplete the oversaturated real estate market. After all, people that have and are losing their homes must have somewhere to stay. And last, but not least, rule/regulations regarding the real estate financing industry need to be reviewed and adjusted as needed to prevent similar occurrences in the future.

In conclusion, under normal circumstances, I’m totally against the government getting involved financially with private sectors. But no one can deny the fact that these are not normal circumstances. And like I stated earlier, something has to be done to slow down and hopefully stop the plunge. Now I want to make it clear that I’m no economist, however it just makes common sense to me that since the American people are going to be on the line for the $700 billion, that it should not only benefit Corporate America, but also the masses of people that are losing their homes. However, day in and day out, I’m constantly reminded that common sense is not so common. So I guess we all have to stay tuned to see how this all unfolds.

_____________________________

(2) http://www.nytimes.com/2007/12/15/business/15rich.html

(3) The Nilson Report

(4) Javelin Strategy & Research, “Credit Card Issuer Profitability in a Difficult Economy,” July 2008

(5) S&P/Case-Schiller Home Price Indices – Karl Case, Robert Shiller, & Allen Weiss.

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