The Biggest Bailout Ever

Like the proverbial thief in the night, the US federal government snuck in Friday night and bailed out Fannie Mae and Freddie Mac. I hate to say I told you so, but I wasn't surprised. They didn't really have a choice:

The Ministry of Finance and the Federal Reserve had no choice but to intervene due to one single reason: The collapse of Fannie Mae and Freddie Mac could have precipitated a core meltdown of the American bank and stock market systems, dragging the rest of the world with it into the abyss.

That is because these two banks are responsible for $5.3 billion (3.7 billion euros) of America's $12 billion (8.4 billion euro) total mortgage debt. That corresponds to one third of America's gross domestic product.

But never fear, the CEOs of the collapsing companies are safe:

Under the terms of his employment contract, Daniel H. Mudd, the departing head of Fannie Mae, stands to collect $9.3 million in severance pay, retirement benefits and deferred compensation, provided his dismissal is deemed to be "without cause," according to an analysis by the consulting firm James F. Reda & Associates. Mr. Mudd has already taken home $12.4 million in cash compensation and stock option gains since becoming chief executive in 2004, according to an analysis by Equilar, an executive pay research firm.

Richard F. Syron, the departing chief executive of Freddie Mac, could receive an exit package of at least $14.1 million, largely because of a clause added to his employment contract in mid-July as his company's troubles deepened. He has taken home $17.1 million in pay and stock option gains since becoming chief executive in 2003.

Meanwhile more than one half of the state governments in the U.S. are running massive deficits too, but no bailout is in store for them.

As I've been posting for a while, the money being spent on bail outs for financial entities is larger than the combined deficit of all the states. This report from the Center on Budget & Policy Priorities shows that the states are now being hit hard by the same hard economic times that dropped Bear Sterns and now Fannie and Freddie:

At least twenty-seven states, including several of the nation's largest, face budget shortfalls in fiscal year 2009. Of these 27 states, specific estimates are available for 22 states and the District of Columbia; the combined deficits of these 22 states plus the District of Columbia are expected to total at least $39 billion for fiscal 2009 -- which begins July 2008 in most states. Another 3 states expect budget problems in fiscal year 2010, although some of those gaps may occur earlier than expected.

...

The 22 states in which revenues are expected to fall short of the amount needed to support current services in fiscal year 2009 are Alabama, Arizona, California, Florida, Illinois, Iowa, Kentucky, Maine, Maryland, Massachusetts, Minnesota, Nevada, New Hampshire, New Jersey, New York, Ohio, Oklahoma, Rhode Island, South Carolina, Vermont, Virginia, and Wisconsin. In addition, the District of Columbia is expecting a shortfall in fiscal year 2009. The budget gaps total $39.1 to $40.8 billion, averaging 8.9 - 9.3 percent of these states' general fund budgets.

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Schwarzenegger Makes Recession Worse

The Governator has hit a new low and shown an even lower understanding of how to weather a recession. Schwarzenegger says he will sign what could be one of the most asinine and ill fated executive order I've ever seen. Juliet Williams of the AP has the story and the Governor's plan:

...eliminate about 22,000 temporary, part-time and contract workers and impose a hiring freeze because of the state budget impasse.

The order also would stop most overtime and allow him to roll back salaries for nearly 200,000 state workers to the federal minimum wage of $6.55 an hour.

Wow AAhnald, that's your answer to a stalled budget process? Threatening 200,000 hard working state employees and killing student and seasonal jobs just because you're frustrated with lawmakers being unable to reach a budget deal? I'm sure the newly made minimum wage workers are pretty upset as well, unfortunately they don't have people to use as bargaining chips like the Governator in his poker game with the legislature.

Let's take a look at the situation. Democrats have proposed a way to close California's $15.2 billion deficit:

They want to raise $8.2 billion by boosting taxes on the wealthiest Californians and corporations, and say another $1.5 billion can come to the state through an amnesty on tax scofflaws.

Seems reasonable to me. One would think the best thing to do if you disagree with something is to offer an alternative. That doesn't seem to be the case for California republicans:

Republicans oppose any new taxes but have yet to offer their own budget proposal, said Assembly Budget Committee Chairman John Laird, a Democrat. "It's time for the legislative Republicans to tell the public how they would balance the budget," he said.

Exactly right. Instead California Republicans have fallen into line with their leader in the governors mansion; disagree, complain, argue, kick and scream, but refuse to offer any alternative.

The Governor's plan does nothing but hurt even more Californians facing a bad economy and an even worse housing crisis. Playing with the lives of state employees to score cheap political points, its no wonder the Government is having such a difficult time trying to get a budget deal in place. But what should we expect from a Governor who has enjoyed yucking it up in front of the cameras more than being engaged in the budget process.

George Skelton wrote about this in the Los Angeles Times:

"I am a governor that does not believe that the action is in Sacramento and sitting around an office. That is not going to do anyone any good."

This may be true as it relates to dousing wildfires. But unfortunately, that's the Schwarzenegger governing style for virtually every problem -- whether healthcare, education or budgeting: Hit the road, stage the "town halls," perform for the cameras. Showboat.

Now yes, the Dems asked in June that he stay out of it, but he should have known better. Smart Governors know better:

"Getting the legislators to finish the budget without pressure from the corner office is like getting teenagers to come home early without a curfew," says Dan Schnur, former communications director for Gov. Pete Wilson and the new director of the Jesse M. Unruh Institute of Politics at USC.

Pressure from the Governor, or some shred of true leadership probably would have saved California from a lot of the turmoil they find themselves in today. Instead Californians got politicking in front of the camera, a failure to engage in negotiations until the situation was out of control, and now an embarrassing executive order launched as a scare tactic. Governor Schwarzenegger still doesn't understand. George Skelton does though:

All this compromising should have been concluded weeks ago -- at least by the July 1 start of the new fiscal year. No excuses.

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So The Taxpayers Don't Need to Worry About Fannie and Freddie?

Not to cause too much panic and alarm, but I couldn't help but get a sense of deja vu when the New York Times wrote on Wednesday that the cost of a loan bailout for taxpayers could be $25 billion. David M. Herszenhorn had the story:

The budget office said there was a better than even chance that the rescue package would not be needed before the end of 2009 and would not cost taxpayers any money. But the office also estimated a 5 percent chance that the mortgage companies, Fannie Mae and Freddie Mac, could lose $100 billion, which would cost taxpayers far more than $25 billion.

The likelihood that a Bear Stearns like bailout will be necessary this time around is much lower than it was when we went through this ordeal in March. That being said, it certainly wasn't the plan to spend $30 billion in taxpayer dollars to bail out the Bear Stearns investors either. That's why the  deal was closed in such a panicked rush.

The fact of the matter is no one, not even Director of the Budget Office Peter R. Orzag, knows whether or not a bailout will be necessary, and if so, what the exact cost of it will be:

Mr. Orszag, at a briefing with reporters, acknowledged that pinpointing the eventual cost of the package was impossible. "There is very significant uncertainty involved here," he said.

The uncertainty runs in both directions, with some government officials and market analysts suggesting that Fannie Mae and Freddie Mac are fundamentally sound and will perform well over the long-term. Others, including some private equity managers, are pessimistic and predict heavy losses.

We better hope that they are fundamentally sound, because it certainly doesn't take long for corporations deemed "too big to fail" to collapse. For Bear Stearns, the worst of the situation came to a head in less than a week:

This has been a remarkably fast fall for a titan of Wall Street. It took 85 years to build Bear Stearns and four days for it to dissolve.

The similarities are striking. A large corporation considered to be a prop holding up the economy turn out to be far less stable than originally thought. Rather than admitting it, the companies go to the brink until the government is "forced" to step in.

What makes this even worse? The combined $55 billion price tag of bailing out Bear Stearns and Fannie Mae/Freddie Mac would more than cover the $48 billion budget shortfall the states are facing.

We know the President loves to bail out the corporations. Let's hope he has a similar moment of clarity when the second stimulus package hits his desk later this year.

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Slow Motion Recession Catching Up With the States

The NY Times ran a story last week on the unique circumstances of the current recession, particularly in unemployment:

Joblessness has accelerated, and employers have slashed working hours even for those on their payrolls, shrinking the size of paychecks just as workers need them the most.

That's not the unique part, but still a stark reminder of how much trouble the everyday citizen is in. What's got economists scratching their heads is the timeline:

"It's a slow-motion recession," said Ethan Harris, chief United States economist for Lehman Brothers. “In a normal recession, things kind of collapse and get so weak that you have nowhere to go but up. But we’re not getting the classic two or three negative quarters. Instead, we’re expecting two years of sub-par growth. Growth that’s not enough to generate jobs. It’s kind of a chronic rather than an acute pain.”

Great, so the US economy has arthritis, not a minor sprain or pull. Even worse is what this will mean in the future:

Goldman Sachs forecasts that the unemployment rate will peak at 6.4 percent late in 2009 before the picture improves, meaning that the painful process of shedding jobs may be only half-way complete.

Yet the President threw a temper tantrum when the idea of extending unemployment insurance was brought up. While that ended up getting passed and approved by the President, it seems as though Congress is lagging a bit in addressing the larger issues associated with the recession.

According to Congressional Daily (subscription only), Congressional leaders love the idea of a second stimulus package, they just don't have the same sense of urgency that many other folks have.

The Senate agreed to the deal on the war package after House and Senate Democratic leaders said publicly that a second supplemental was needed to take care of items that were not included in the war spending bill.

Reid reiterated those sentiments in his comments Tuesday and mentioned increasing food stamp benefits, as well as funding to improve the nation’s crumbling infrastructure as two worthy areas of investment.

“There are all kinds of problems dealing with infrastructure, food stamps, just many, many different things,” Reid said. “We have a lot of suffering going on in America today.”

Senator Reid's got it right, there is a lot of suffering going on in America today. So if we're going to take our time with a second stimulus package, let's make sure we do it right.

A great place to begin would be to listen to the National Governors Association when they meet later this week for their centennial meeting. Among other things, they will be discussing the effects of the recession on state economies.

29 of these Governors will be dealing with a combined $48 billion budget shortfall. The ones who chose to raid their rainy day funds may face even worse problems in FY 2010, and according to the previous New York Times piece, unemployment will almost certainly be a staple of the new fiscal year as well. They need help in the form of federal aid to states. Something that Senator Schumer cited as a must for the next stimulus package back in June:

"I'm speaking for myself, but I think I mirror the leadership here, to just do rebate checks again, without some more serious structural issues, to do it without, say, unemployment insurance, without infrastructure, without some help for the states, would not have the kind of punch it needs," Schumer said.

If its not included the following story will becoming all to familiar to families across the country.

With job losses growing and working hours shrinking, many paychecks are eroding, prompting millions of families to cut their spending. Soaring prices for food and gasoline are overwhelming modest wage gains for most workers, leaving households with even less money to spend. All of which deprives struggling businesses of sales, prompting them to shed more workers, sending the cycle down another turn.

The clock keeps ticking Senator Reid, we need to make sure we get this one right.

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Welcome to Fiscal Year 2009

Today's the day. July 1st is the day when 46 states begin Fiscal Year 2009 and 29 states and the District of Columbia will be facing a combined budget shortfall of $48 billion according to the Center on Budget and Policy Priorities. And because the federal government still hasn't gotten around to assembling a fiscal package to help the states, many economic dominoes are about to fall.

So what are some of the casualties of the FY 2009 budget balancing?

Tapping out the reserve fund. I wrote about it a month ago and it remains true today; states are being forced to raid their reserve funds. Business Week doesn't think this is a great idea:

But in many cases they're tapping out the reserve funds for the coming budgets and might need to make tougher choices when they put together their 2010 spending plans, especially if the economy worsens.

Massive health care costs Many states have been forced to consider slashing health care budgets. The Sacramento Bee paints the picture for California residents if the Governator and the state Senate's "compromise" on health care is passed:

To save $92 million in the budget, Schwarzenegger wants to reinstate a rule that families on Medi-Cal submit paperwork every three months to prove their eligibility, instead of every 12 months.

About 150,000 children are expected to lose coverage this year - and 470,000 eventually - because their families either fail to file the required forms or they can't meet the program's eligibility rules.

School budgets in a state of flux. Highly touted increases in education are in flux as states recognize the true weight of their budget shortfalls. State lawmakers in Illinois increased the minimum spending on each student by $225, but according to the Chicago Daily Herald the Governor may not be able to deliver on this promise:

The governor has already publicly threatened to slash $1.5 billion and order agencies to hold back another $500 million to balance spending unless lawmakers return to Springfield and come up with more money.

This would include a $110 million cut in education spending. Illinois is not alone. Nevada just passed a bill that cuts school textbook spending by $48 million.

More criminals on the street. Sky rocketing gas prices combined with a tightening of the budget belt has led to impossible decisions for law enforcement agencies. Not everyone can simply have officers walk their beats to save money. In places like sprawling El Paso County their only option is leaving more criminals on the streets:

(Sheriff) Maketa initially switched to two deputies per car. Then he forbade idling vehicles. Neither led to big enough savings. This month, he decided to end all patrols to save money, though he predicts his deputies will catch fewer drunken drivers and fewer suspects with outstanding warrants. The department will reassess the end of patrols if it finds there is a serious effect on public safety.

Today will not mark the date of some apocalyptic change in the American way of life. The average American citizen probably didn't wake up today with more criminals roaming the streets, no health care, and their kids attending a dilapidated run down school. Unless of course they are one of too many Americans who faced these conditions even before the economy began to sink.

Gradually though things will come into focus.I wrote last week that the deeper the economic hole, the more federal spending will be required to help us get out of it. Well today's the day we start stepping into that $48 billion hole.

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