The Real Bailout Needed is a Consumer Bailout

http://www.opednews.com/articles/The-Real-Bailout-Needed-is-by-Steven-Leser-081227-715.html
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By Steven Leser

The economic disaster that I predicted back in April of 2008 in these articles http://www.opednews.com/articles/opedne_steven_l_080402_it_s_not_a_recession.htm and http://www.opednews.com/articles/opedne_steven_l_080406_stagflationary_abyss.htm is here. What enabled me to predict what was coming was my evaluation of five key areas of the economy. They are:

1. Consumer savings and spending/ability to spend
2. Corporate income, health and spending/ability to spend
3. Government financial health and ability to spend
4. The lending and banking (and financial) system and its ability to extend credit
5. Inflation & scarcity of resources

I made the point that for the first time in American history, all five of these areas were problematic.

Looking at the same indicators now, eight months later, there are some real and some apparent changes. Number 4 - The lending, banking and financial system has been bailed out, but it is still reeling from the Lehman brothers’ bankruptcy, several bank failures, and the threatened failures or near failures of several more institutions. On the surface, Number 5, Inflation & scarcity of resources seems have improved. Indeed several news reports have suggested that Deflation is what is now the concern. This is an illusion.

The two main commodities driving up prices were energy and food, both because of supply fears. Both have come down in price/cost somewhat, energy in particular, but WHY have they come down in price. Is there suddenly more supply? No, there is no more supply. They are down due to a temporary decrease in demand. As soon as there is the beginning of a return to economic normalcy, and people start to use the additional income to consume, the price increases in both food and energy will return. The governments of the world should take NO action to try to deal with the apparent but temporary deflationary conditions.

Having stabilized the financial system and the auto industry with bailouts, the government should turn to the most critical economic issue, the one that really is threatening to make this a prolonged downturn and that is consumer savings, huge consumer debt and resulting inability for consumers and households to spend and buy goods and services. Businesses cannot survive without the consumer and yet the average household is completely broke and drowning in debt.

I conceived the idea for this article about a week ago and was dreading having to perform the requisite research into the actual numbers supporting my positions. Thankfully, another author on OpEdNews, James Quinn, wrote an excellent article that completely outlines just how terribly in debt the American Household now finds itself titled “The Great Consumer Crash of 2009” http://www.opednews.com/articles/The-Great-Consumer-Crash-o-by-Jim-Quinn-081220-824.html . Among his research, he found that "Household debt reached $13.8 trillion in 2007, with $10.5 trillion of that mortgage debt." He also had a chart that showed that the average household debt per person in 2007 was $47,000. As staggering as those numbers are, that was a year ago. It is likely that total household debt is now up to $15 Trillion Dollars.

This suggests several conclusions. First, as I said earlier, the consumer is too deep in debt to be the engine that this country needs to drive the country out of the recession/depression. Second, without intervention, consumer debt will stifle the country's productivity and economic growth for the next 5-10 years. Third, if the consumer is the main force that drives the economy and affects whether the economy grows or contracts (recession), but the consumer cannot power the economy because they are in debt, something has to be done to fix that. It's a slight alteration of the old Sherlock Holmes quote, "when you have eliminated the impossible, whatever remains, however improbable, must be the truth?”. Turning the economy around with a broke consumer is impossible, so what remains? Bail out the consumer.

What would a Government Bailout of the Consumer Look Like?

The government bailout of the consumer that I am proposing dwarfs all other government bailouts to date. It probably is the largest government spending initiative by any measurement in the history of humankind. It involves the government offering to each consumer and household to pay all of their debt. In exchange, the consumers who agree to be bailed out will pay the government .125% more of their income in taxes each year for three years for every unit of debt that corresponds to one percent of their annual income up to a maximum of 12.5%. Let me illustrate:

Joe and Sally have a combined income of $100,000 per year. They have $60,000 in debt. They opt for a complete bailout of their debt. In return, they will pay an additional (60 x .125)% or an additional 7% in taxes for three years. So, the Government pays out $60,000, the government gets back $21,000 over three years (7% of Joe and Sally's $100,000 a year income or $7000 for three years), and Joe and Sally are debt free.

Another example is John. John makes $60,000 per year and has a mortgage of $150,000 and other debt of $8,000 of which $6,000 is taxes and $2000 is credit cards. John opts for the total bailout. The Government pays $158,000 and wipes out John's debt. John owes the government $7,500 additional in taxes each year for three years, or $22,500. Even though the Government paid more to bail John out, the payback is capped at 12.5% in additional taxes per year for three years.

There is another component to my proposal. The Government will pass legislation limiting the amount of credit that can be granted to consumers by percentage of annual income and type of debt so that the country will not again find itself in a position where a huge percentage of consumers are over leveraged. The government would also make it illegal to charge the kinds of percentage rates on credit cards we have seen in the past. Also, for those opting for the bailout, any negative reports on their credit ratings would be wiped clean.

The total potential Government bailout outlay is the total of household debt or $15 Trillion Dollars. Actual bailout total will be lower because although many consumers would opt for this bailout, many others would not depending on each households circumstances, so the total amount that the Government would put out would be considerably less than $15 Trillion, but it would not surprise me to see the amount exceed $5-8 Trillion, financed by Government bonds. The Government would get a percentage of that back in the temporary additional taxes I proposed, probably between 20% and 30% over three years. So, assuming that the Government outlays $5 Trillion for the bailout, it would get back $1 to $1.5 Trillion.

What everyone should understand is that in exchange for the government spending that money, we would have an American consumer that was essentially out of debt and per the additional legislation would never again get in debt to the point that the indebtedness would endanger the whole country's economic health. Households would be able to spend money again, and all of those businesses that currently hold consumer debt accounts would receive a sudden and massive infusion of cash and would be paid for all of that debt. The totality of this program would result in a massive boost to the economy. Considering this, even the money that the Government would not receive back from consumers that it bailed out, it would likely receive back and more from the money that it injected into the economy generating business, income and retail taxes. Another great benefit of a consumer bailout is the mortgage crisis would be over. Households would own their homes free and clear and the banks would have been paid in full. Other organizations like Visa would be back in good financial health. Visa is currently hurting and requesting government assistance. Helping the consumer as I have outlined is the right way to help banks, business and the financial industry and the economy at large. Everyone wins this way.

I do not agree with a flat 12.5% rate cap for tax repayment. I think the repayment rates should be indexed to income, so that people with larger incomes (and more wealth) who are getting bailed out for ENORMOUS amounts of debt are also responsible for paying back a much, much larger share than people with (comparatively) little debt. Otherwise, the government is just handing more money to people who already own expensive homes and have lots and lots of expensive goods paid for via credit cards; it basically rewards horrific irresponsibility at a much higher rate than people who were only marginally (if at all) irresponsible.

Another consideration is medical debt; would this be included? What about student loans? I would argue that since lower-income people have the most medical debt and the most student loan debt, these should indeed be included. Another is child-support debt. While it's not fair to give deadbeat parents an "easy out" on the deliquent child support, nobody can deny that children are suffering because their absent parent is not contributing. I'd say that for child support, the government can pay the debt to the custodial parent and then recoup it from the parent who owes the money slowly as a part of their income tax bill every year.

Lets take an example of a person with higher income. Lets say Richard and Susan make $5 million per year. Despite that income, they have gotten themselves in over their heads. They have a mortgage of $3 million and another $2 million in credit card debt and tax debt. They opt for the total bailout.

The government would pay $4.5 million to bail them out. Their additional tax burden for 3 years would be 12.5% of their annual income per year for three years, or $625,000 per year totalling $1,875,000.

I reached this percentage after thinking through this for some time. You dont want to leave people with zero disposable income after taxes. That would defeat one of the purposes of the bailout which is to enable consumers to be able to spend again but with new limits thanks to legislation regarding debt.

All other debt that you mentioned is included, medical, etc.

Let's examine two potential bailout families.

John and Susan make $70,000 a year combined. They own a relatively modest home and owe about $70,000 on their mortgage. They have $2000 in credit card debt, and $15,000 in combined student loan debt, but nothing else, for a total of $117,000 in debt.

Bob and Nancy also make $70,000 a year, but they bought a $300,000 home that was far beyond their means, and owe $200,000 on their mortgage. They also owe $15,000 in credit card debt for the purchase of an expensive plasma TV, high-end furniture, and expensive jewelry. Nancy has no student loan debt, but Bob owes $10,000. Their debt total is $225,000.

Now, since both families make exactly the same amount of money per year, both will "pay back" exactly the same amount for their bailout--$25,250, spread out over three years. However, Bob and Nancy will end up with a home that's worth a LOT of money completely paid off, plus other re-sellables like the electronics, furniture, and jewelry. So in essence, they are benefiting FAR more than John and Susan from the bailout, even though they were FAR more irresponsible, and "deserve" to benefit less.

Unless and until that innate unfairness can be reconciled and fixed, it simply is not going to work. Nobody would support rewarding irresponsibility at that level. Such a bailout, frankly, has no chance at all of passing--nor should it.

I would say that a better option would be for the government to pay all of certain kinds of debt--like medical debt, student loans, etc., things that have no direct resale value--and all other debt up to $100,000, with credit card debt paid first and then the remainder applied to mortgages. That gets the majority of American consumers out of debt enough to consume again, while not rewarding the most severe cases of consumer irresponsibility.

In the scenario I mentioned above, John and Susan would have their debt completely wiped clean (72k toward to mortgage and credit cards, and the student loans completely paid) while Bob and Nancy would get enough relief to function again as consumers without being completely bailed-out. They'll still owe $115,000 on their mortgage, but that is FAR more affordable, and the debt reduction would make selling that McMansion a more realistic option; without the reduction, they might have lost money on the sale, but with it, they should be able to break even. In the end, they'll be left with 70k in income, no credit card debt, and no student loan debt--but also no big, expensive house. Seems fair to me.

Your thoughts?

The point is that everyone who is in over their heads screwed up. If we are going to argue about whether one person or family screwed up more than the other, nothing will happen to fix this. Part of what has to happen is that the rules regarding how much credit you can extend someone with a given income stream have to be strengthened so that this doesnt happen again.

I think that the option of no rules on how much and what kind of debts can be bailed out is the way to go. I think we need to give the entire country a mulligan, at least all of the people that need it. Consumers screwed up, the people lending them money screwed up, the people buying the debt that was lent to the consumers screwed up and the government who was supposed to oversee all of this screwed up. I think we should acknowledge that and let everyone start over.

We are not dictators, with the power to issue edicts and have them obeyed. What I would or would not do is utterly irrelevant; what matters is what the American voters would do. We are not known for being a generous country to people who make mistakes; in fact, we are exactly the opposite. We are the kind of nation that rips food from the mouths of poor children in order to make sure that their "undeserving" parents do not somehow get an unearned nibble. To be blunt--there is no way in hell that your plan would ever be implemented, because nobody would support it. It's the ultimate welfare handout, and that is precisely how it would be portrayed in the media. We cannot even unclose our tight fists long enough to give a monthly pittance to hungry and cold single mothers and their children--there's no way we'd ever give away cash to this degree, not even to save the economy. I genuinely believe that most of the nation would rather see it all burn down around our heads than to see their neighbors getting "more" than they are. That is America, like it or not.

If your post is just an idle, dreamy wish sort of thing, I suppose that's fine. But if you're serious, and want to see something like this come to pass, then increasing the fairness aspect is the only way that it's going to happen. Unfortunately, America's most likely answer to your question ("For lack of fairness, you are willing to let the economy fail completely?") would be a resounding YES. So let's hash it out and make it more palatable and reasonable, because without public support, NO politician is going to stick his or her neck out over it.

... perhaps it is, perhaps it isnt. Perhaps it is true now, but may not be in a few months as the problems cause an ever deepening recession/depression. As far as the ultimate welfare handout, remember how social programs were ultimately first enacted in this country. Just a few years before the great depression, they would never have been considered.

If you have a better solution, I would like to hear it. A partial bailout of only debt we think is fair to bail out or was not what we think is the fault of bad decision making does not get us to where we want to be. And there is legislation that could be enacted, as I suggested, that means we are not reinforcing bad behavior.

How can a person/family stay out of debt if the person/family doesn't not have a living wage income? We need to get the living wage jobs back that were outsourced to prop up the next bottom line for the stock market and upper management bonuses.
That is the only way to sustain any consumer bail out. Anything else that doesn't include living wage jobs is doomed to failure.

Not having living wages are what started all of this in the first place, I agree completely with what you are saying. To the other responders point, many of us will promptly get in debt again without universal healthcare. I think these three concepts, the consumer bailout, living wages, and universal healthcare would be the cornerstones of putting the country back on its feet.

The consumers are the ones that spend, particularly the middle class. It's they who need the bailout, not the already-rich, who are doing better than they've ever done, and have had a free ride in every respect from Reagan to the present (and we'll have to pay attention what happens these next 4 years!)

long ago that if the first bailout had been targeted to Americans, it would have meant nearly every american would have been debt-free and had a house to live in.

Thank you for posting this. Any other kind of money-throwing makes no sense at all.

K&R

:kick:

That number is beyond comprehension and beyond the capacity of any government including ours.