California asks the Federal Government for emergency loan

cnyexpat: California asks the Federal Government for emergency loan

The credit crisis is spreading. If you read this article you will see that for the first time ever, the State of California needs to ask the Federal Government for a $ 7 Billion loan to be able to make payments to schools, payroll, and also pay unemployment benefits. The need to borrow money is normal because cash collections from taxes are uneven relative to the time payments have to be made.

Normally, state governments and municipalities borrow money in the form of short term loans from the credit markets. But the credit markets have been shutting down, no one wants to take the risk of lending money to someone else and risk not getting paid back. The interest rates on the loans that are available are sky high. Lenders are worried that California's economy may collapse and they won't get paid back. Other states are canceling plans for infrastructure projects as they can't borrow funds.

The government bailout is desperately needed to calm down the markets.

What started the rush for a bailout?

People don’t understand or remember that just 2 weeks ago, two money market funds announced that the value of investor’s principal dropped below $1 a share. Money market funds are supposed to pay interest on a fixed principal amount that is deposited. They are supposed to be the safest place to put cash besides a T-Bill or a bank savings account.

Guess what, when the news came out that the principal amount that people had invested dropped below their original amount at these two money market funds, the funds suddenly looked very risky - like a stock mutual fund. Why did this happen? - its because the government allowed Lehman Bros to fail due to bad mortgages. Those two money market funds had substantial investments in Lehman Bros loan portfolio.

A panic run started where individuals and institutions started pulling money out of what they thought were “safe” money market funds. Those money markets had to sell a lot of bonds to raise the cash for redemptions, further driving down prices of everything.

This event is the one thing that caused Secretary Paulson to put together an emergency plan overnight. To stop worldwide investors from pulling out of everything, including money market funds. Money markets are very important as they provide short term loans (30 to 270 days) of their deposits to businesses.

Folks - Forget about the fat cats. This is all about you and your financial security or lack of it.

Congress blew it on the bailout

Congratulations to you taxpayers who who were adamantly opposed to the $ 700 billion bailout. Today - the House of Reps voted against it. Immediately the stock market plunged to its biggest point loss in history (777 points on the DOW). International markets are plunging around the world. The U.S stock market has lost $1.4 TRILLION in value today - that 2X the $ 700 billion plan. If we had completed the $ 700 billion bailout, most or all of it would have been recovered and there may have even been a taxpayer profit made of up to $ 2 Trillion.

Everyone is way over-exaggerating the bailout at $700 Billion. What people don’t understand is that this money is not being spent - it is being invested in assets (loans) at fire-sale prices. These loans will be restructured and re-sold over time and taxpayers will make a profit.

We are collectively $ 1.4 Trillion poorer today. This number will increase if panic ensues. Be prepared to watch your Pension Plan fold up and not pay any benefits, your IRAs and 401Ks go to half of what they were. Be prepared for many of your insurance providers to fold up and not pay you a dime. Be prepared for your employer to stop giving you a paycheck because they can't get the short term loans and cash they need to make payroll.

The taxpayers have just shot each other in the foot. Why - because of a complete misunderstanding of how our economy works and because the media has fueled the fire of populist emotion without clearly explaining the logical conclusion of these bailouts - which are not nearly that bad. Lets just hope its not a fatal wound.

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The Truth about the $ 700 billion bailout

In my opinion people are greatly over-reacting to the proposed $ 700 billion "bailout" that Congress is reviewing to save both Wall Street and Main Street. The over-reaction is largely the fault of the media which loves to hype negative headlines while not fully explaining the situation.

It is understandable for American taxpayers to be angry over what has happened on Wall Street. Make no mistake - both parties are to blame. Since the time of the Clinton administration, the Democratically controlled Congress greatly pressured institutions to enable home ownership for everyone and put significant pressure on Fannie Mae, Freddie Mac, and the financial system to accept low credit quality applicants, on the premise that rising housing prices and an improving economy would make it affordable to the homeowner. Meanwhile, the Republican controlled Congress prevented regulation from being put in place (on things such as credit default swaps) to make sure that things didn't get out of control. You definitely cannot blame this mess on just the Bush administration.

Getting on to the $ 700 billion. Folks, this is not a situation where taxpayers spend $ 700 billion and never get it back. The media makes it sounds like the money is flushed down the toilet. This is completely untrue. In fact, the government is likely to book an enormous profit on this transaction which will go a long way toward reducing our deficit.

The $ 700 billion is being used to purchase mortgage loans at a deep discount to their original value. The government may buy loans at 30 - 50 cents on the dollar and the banks that sell them to the government will take huge losses in exchange for the cash from the government. Most of these loans are actually being repaid. The government will restructure the mortgage payments of those who are unable to make the payments. They can easily do this and not lose money because they did not pay full price for the loan. Another factor in its favor is time, the government does not have the quarterly earnings pressure that banks have. As the economy improves and housing stabilizes and increases in value, and as more borrowers consistently make payments, the value of these mortgages will soar. As other institutions see that the government bought these assets at a deep discount, and that many of the loans have been restructured to be payable, there will be a great demand to buy them from the government. The Feds will sell the loans to these buyers at a tremendous profit, with estimates that the taxpayer will profit in the range of $ 700 billion to $ 2 trillion. Yes- thats right - $ 2 Trillion. We could use that right about now.

And the worst case scenario is that the government doesn't make a profit. How much of a loss do you think it would take? Since they bought these assets at a steep discount, probably no more than $ 50 - 70 billion. Thats much less than we spend in Iraq in one year.

The one thing that is extremely uncomfortable is that according to capitalist theory, governments should not interfere with markets - they shouldn't invest in them or take over businesses. Normally this is true, but in the case of a crisis that has the potential to impoverish virtually all Americans, radical action is necessary.

There is huge upside and negligible downside here. Yet taxpayers are deceived into thinking that they are spending $ 700 B. Stupid, irresponsible media. They are not spending it, they are investing it! And if they don't do it they will see all of their investments, including money market funds, head towards zero really fast. Implications - no spending money, no retirement, and also no more work...