America’s Economic Outlook: Bad policy beget bad results

We are unfortunately in a downward spiral (no different than in the Great Depression). What was seen in the Great Depression is now being witnessed:
Negative GDP, increasing unemployment, increasing corporate bankruptcies, increasing personal bankruptcies, falling real estate values, bank failures, etc.

Unlike past recessions, this economic downturn strikes at the very heart of America's economic growth: the availability of credit (and too much of it).

America was able to grow at the pace it did because the availability of credit allowed Americans to buy more than they could afford. This large-scale purchasing led to greater consumption, greater sales, greater profits, more opportunities for expansion, more jobs, more income, more investment, and the cycle just kept feeding upon itself.

Unlike diamonds, which DeBeers advertises as being forever, "easy" credit is apparently not forever. Getting a mortgage with no money-down and no income check made no economic sense and when the situation became unsustainable, the amount of easy credit disappeared. A ceiling on rising home prices began to develop. However, those already with homes could no longer afford to pay their mortgages especially if they received teaser mortgages rates (generally adjustable rate mortgages (ARMs)) and the new interest rate made monthly payments impossible. Inevitable foreclosures led housing prices to drop and a downward spiral began to develop.

Bank losses and drops in new home construction led to job losses, which led to a decrease in demand for all goods and services, which led to a decline in manufacturing output, which led to more job losses, more foreclosures and further declines in property values. The middle-class could no longer rely on home equity loans and/or refinancing as real estate values declined. Disposable personal income dropped, drastic attempts to save money further decreased spending, and the result was more unemployment. Simultaneously, corporate profits fell, corporate spending dropped, more jobs were lost, the stock market crashed, investment income investment losses rose, personal disposable income dropped, bankruptcies increased, and this dynamic cycle continued its destructive force. As banks faced mounting loan and investment losses, America's driving force for economic expansion, credit, diminished.

Thus far, I have seen nothing in terms of policy that would turn this vicious downward spiral around.

1) Bank bailouts have no direct effect on unemployment and declining consumption. Instead, bailouts only encourage moral hazard and dramatically increase the national debt.
Moral hazard example: Citibank can take on risky investments for gain. If the bank succeeds, the CEO and company are rich. If they fail, the government cannot let it collapse because it is too big to fail. There is no loss. Bank bailouts encourage bad behavior and bad investments that would otherwise have never been made.

While working at the International Monetary Fund, Timothy Geithner criticized Japan's banking bailout of the 1990s. Yet, he is the mastermind behind the present bailouts. This contradiction is disturbing. I am beginning to believe that the present administration is not working in the best interests of the country. The immense costs of the banking bailout will be passed to future generations of taxpayers.

The bank bailout is also very unfair. The trillions of government money is going to the pockets of the very people responsible for this financial disaster: bankers who were greedy and unscrupulous, scheming hedge fund managers, and an unknown elite group of wealthy speculators.

2) Obama's stimulus package spends money ineffectively. The key to a successful stimulus plan is to create enough jobs to reverse a downward economic spiral. The $45.2 billion to be spent on infrastructure construction will not create enough jobs to reverse the over half-million jobs lost each month. The tax breaks and subsidies do little in the way of job creation.

3) There is little need for American labor, so even with a global economic recovery, unemployment in America may be high. American labor is expensive and far from the best. As globalization continues, corporations who outsource jobs have little incentive to hire Americans for the jobs they outsourced, especially when the outsourced labor is cheaper and better.

4) Education priorities are ignored. States immediately cut school budgets with any loss of tax revenue. What can make the American labor force be in demand is a talented pool of workers. Without easy access to quality education, we will have no competitive advantage. In the arena of higher education, tuition costs are staggering and are only going to increase. Federal Stafford loan rates for graduate students are fixed at 6.8% even though the Federal Reserve funds rate is at 0%. Why does the government disregard the importance of education and, in one case, profit off of student indebtedness?

5) Obama’s mortgage stabilization plan is ineffective in halting the slide in real estate prices if the employment situation continues to deteriorate. No loan modification, except complete loan forgiveness, can help a borrower who becomes unemployed in a few months due to the economy and has no savings.

6) America is burdened by trade deficits, budget deficits, and trillions in debt. The end result will be more taxes to pay. With increasing unemployment, the tax burden on those who do have jobs will be enormous. This tax burden will greatly hinder future economic growth as valuable capital is diverted away from investment and spent on public debt repayment.

The current administration, which was given a mandate in the 2008 election to bring hope and change, is not sowing the seeds for a better tomorrow. In fact, it is exacerbating the situation. With such poor economic policy, I do not expect the American stock market or economy to perform well.