Treasury Secretary Henry Paulson is once again trying to pull off a sleight of hand in his execution of the financial crisis, but he’s a lousy magician. His first trick—trying to depict the existing rescue plan as a success—fell flat. While Paulson tried to take credit yesterday for a “major accomplishment,” there is growing consensus that Treasury’s use of some $300 billion in federal funds to invest in a variety of banks has done little to achieve its intended purpose of stimulating home mortgage and business lending.
The ineffectiveness of the plan may be traced in part to a lack of oversight. As the Washington Post points out today, Treasury has so far taken no formal action to implement the safeguards that Congress included in the legislation authorizing the original bailout plan. Absent those provisions, Paulson found it easy to completely transform the plan that had been steamrolled through Congress—the federal purchase of toxic securities from banks. Yesterday, Paulson formally acknowledged what had become apparent in recent weeks: that he had abandoned the asset-purchase scheme in favor of a complete focus on capital infusions.
For his next trick, the Great Paulson is applying that same technique to the consumer finance sector. Using language similar to his scare talk in September about the housing and business finance sectors, Paulson yesterday warned that consumer finance “is currently in distress, costs of funding have skyrocketed and new issue activity has come to a halt. Today, the illiquidity in this sector is raising the cost and reducing the availability of car loans, student loans and credit cards.”
No doubt that is all true, but Paulson’s apparent plan to address the crisis is more of the same. Rather than helping consumers directly, he intends to provide capital infusions to the corporations that are supposed to provide those loans. In other words, he is applying the same dubious logic as with the bank investments: Prop up the balance sheets of the lenders and the loans will start flowing again.
Keep in mind that the consumer finance industry followed the same path as home lending in recent years. Shaky and often predatory loans were pushed on struggling borrowers and then repackaged as asset-backed securities that are now in precarious condition. Paulson’s infusions will go to the same companies that perpetuated that abusive system.
And even if we are willing to forgive the consumer finance companies for their transgressions, why should we expect that they will respond any differently to the Treasury investments than the commercial banks did? Given Paulson’s aversion to putting any significant strings on the federal investments, it’s likely that the consumer finance firms will follow banks in using the money to fund acquisitions and dividends rather than opening up the spigot for consumers.
What Paulson can’t seem to understand is that lenders of all kinds are spooked by the weakness of the economy. Credit is based on the faith that the borrower can repay the loan, and for now almost no one looks trustworthy. Until significant steps are taken to boost employment and household income, all the federal investments in the financial sector serve as nothing more than corporate handouts. Maybe that’s Paulson’s real sleight of hand.