It is bad enough that the current administration thinks the 3rd quarter GDP numbers were something to celebrate. But it is even worse if one sees what people like Timothy Geithner think about the current situation in the banking sector.

“The big risk we face now is that banks are going to overcorrect and not take enough risk,” Geithner said.[link to article at the bottom of this page]

What? How can a Treasury Secretary say something like this? Americans (and Europeans alike) have borrowed themselves into insolvency and the best (and only) thing that is going to cure that is if they start paying back debt. Fortunately for them, that is exactly what they are doing, at least as a whole. The most recent Flow of Funds report issued by the Federal Reserve proves just that. To say that Americans need more debt to cure their balance sheet is the most reckless type of advice anyone could give. Interestingly enough, that is just what Keynes thought should be done. According to Keynes you don’t ever need to stop borrowing, because if you stop borrowing and start saving, aggregate demand is going to fall and this will have bad effects on the overall economy. This fallacious argumentation is exactly what politicians prescribe to even though it has failed miserably in the past and is bound to fail again.

But this is not all. The article goes on to cite Obama:

President Barack Obama said on Oct. 24 that the nation’s lenders, supported by taxpayers in the crisis, need to “fulfill their responsibility” by lending to small businesses still struggling to get credit.

Now wait minute! The banks need to ‘fulfill their responsibility’? Where have I hear this kind of talk before? Ah, yes. China. If the Chinese government, or in other words, the Communist Party utters something about the need for banks to lend money, guess what? The banks are going to lend money. But that’s because China is not a capitalist, market economy. It’s run by decree, it is a planned economy just like North Korea is today or the Soviet Union was back when it still existed. Small businesses are having a hard time borrowing money, in many cases regardless of their future outlook, but that’s not a reason why the government should start running the banking sector or issuing statements about the banks’ having to ‘fulfill their responsibility’. By not lending, the banks are acting responsibly for the first time in over ten years. If the bailouts were tied to a lending agreement of some sort, Obama would have the right to demand renewed lending, but no such agreements were signed.

The next quote was especially surprising, given that it came from Joseph Stiglitz who I have great respect for, mainly for his work in the field of exposing the World Bank’s and IMF’s policies in his book titled Globalization and Its Discontents. Here’s what he said:

“We have this very strange situation today in America where we have given banks hundreds of billions of dollars and the president has to beg the banks to lend and they refuse,” Stiglitz said. “What we did was the wrong thing. It has weakened the economy and has increased our deficit, making it more difficult for the future.”

No! The banks should not have been nationalized. They should not have been bailed out either. Insolvent banks should have been allowed to fail. This bailout driven economic policy has done nothing to rid the banks’ balance sheets of toxic assets, off balance sheet derivatives or dubious and outright fraudulent activities. Bailing out banks only reinforces their conviction that next time around they are going to do just fine – the government will take care of them. The worst part of it is that once banks get used to being bailed out, they become more and more prone to crisis, inflicting more and more damage to the system. This brings us to a grim paradox – the more you hand out bailouts, the harder it becomes to stop giving bailouts. The failure of Lehman Brothers proves just that. The worsening of the crisis could have been avoided only if Lehman had known in advance that it is not going to be bailed out. The government track record for bailouts gave them enough reason to believe they were going to be bailed out, but they weren’t. Sadly the US government doesn’t have a choice anymore – it can either hand out more bailouts or face the daunting task of ending generous handouts with all the pain involved. Given that politicians only care about the upcoming elections, I have a feeling that they are going to continue ‘limiting the downside risk’.

Source: Bloomberg: Stiglitz Says U.S. Is Paying for Failure to Nationalize Banks

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