Wednesday, October 01, 2008

The Credit Time Bomb

As Washington struggles to react to the financial crisis now humbling Wall Street's financial titans, it is useful to remember that there is plenty of blame to go around. As George Will points out, the Wall Street fat cats and the DC politicians weren't alone in building the house of cards that is now unraveling.

We are waist deep in evasions because one cannot talk sense about the cultural roots of the financial crisis without transgressing this cardinal principle of politics: Never shall be heard a discouraging word about the public.

Concerning which, a timeless political trope is: Government should budget the way households supposedly do, conforming outlays to income. But the crisis came partly because so many households decided that it would be jolly fun to budget the way government does, hitching outlays to appetites.

Beneath Americans' perfunctory disapproval of government deficits lurks an inconvenient truth: They enjoy deficits, by which they are charged less than a dollar for a dollar's worth of government. Conservatives participate in this, even though deficits fuel government's growth by obscuring its cost.

The people can emulate the government because credit has been democratized. Democratization of everything is supposedly an unquestionable good, but a blizzard of credit cards (1.5 billion of them, nine per cardholder), subsidized loans and cheap money has separated the pleasure of purchasing from the pain of paying. Furthermore, the entitlement mentality fostered by the welfare state includes a felt entitlement to a standard of living untethered from savings.

As the mortgage meltdown is still reverberating through global financial markets, many analysts are warning that the next wave of financial panic is on the horizon: the inevitable consumer credit card debt collapse.

According to Innovest StrategicValue Advisors, banks will charge off $18.6 billion in delinquent credit-card accounts in the first quarter of 2009 and $96 billion in all of 2009, more than double the research firm's forecast for all of this year.

Innovest projects that amount would be high enough to damage some of the biggest card issuers.

Credit-card charge-offs are "defying gravity" when compared with the problems in the mortgage market, according to Gregory Larkin, senior banking analyst for Innovest. But that will change as they catch up with mortgage charge-offs, which have spiked eightfold since the third quarter of 2007.

"If history is any indicator, there should be an equivalent surge of credit-card charge-offs very soon," he said, though he concedes that an eightfold increase would be very aggressive.

Comparatively, charge-offs reached $4.2 billion in the first quarter of this year and $3.2 billion in the same period a year before, according to the Federal Reserve, which only reports non-securitized debt. Innovest's projections include all credit-card debt, which the firm believes is double what the Federal Reserve reports. For all of 2007, charge-offs tallied $26.6 billion, according to Innovest's calculations, and the firm estimates they will reach $41.5 billion at the end of this year.

Federal regulators have turned a blind eye to the soaring levels of credit card debt (and the predatory practices of credit card issuers) for years, because so long as the credit was flowing, the economy was "prospering" and who wanted to rock the boat? The public, foolishly, was all too happy to use credit like bottled water, sinking families and individuals into high-interest debt that many will never be able to pay off. Now the bloated credit bubble is ready to pop and those who stood by and watched it happen are shrieking hysterically: "Save us! Save us!" And their solution? Borrow $700 billion from anyone dumb enough to lend it to us.

For all the gloating by the Left, one thing should be clear however. This is not a failure of the free market. We do not now, and have never had a particularly free market, and certainly not Laissez Faire, in the U.S. What now unfolds is the direct result of government attempts to manipulate the marketplace in order to produce social goals (like greater home ownership for minorities - see posts below). George Will notes:

Suppose there had never been implicit government backing of Fannie Mae and Freddie Mac. Better yet, suppose those two had never existed -- there was homeownership before them, just not at a level that the government thought proper. Absent Fannie and Freddie -- absent government manipulation of the housing market -- would there have developed the excessive diversion of capital into the housing stock?

The answer, clearly, is no. Absent government intervention, there would simply not have been a subprime meltdown, because the subprime market would have remained shunned by reputable lenders. Absent government bailouts, the automobile industry would have witnessed Chrysler's failure in 1981, and might have learned something (Congress has just rewarded their foolishness with $25 billion in fresh loans, which will only drag out their decline). If government regulators had encouraged prudence instead of profligacy, the taxpayers wouldn't be facing a $700 billion bill.

But prudence and responsibility aren't popular in a populist age when Democrats and Republicans vie to outdo the other in promising more free stuff if the people elect them. And the American public has eagerly bought into these fantasies for the better part of a century. The politicians promise more because the people uncritically believe them, and give no thought to the real costs of all the government programs they like so much. Once, Americans produced wealth; now we borrow it, individually and collectively, because we have surrendered the means of making wealth, borrowed to live a lifestyle we can't afford, and close our eyes to our responsibilities and reality.

America's greatest enemy is, as usual, itself.


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