The economic stimulus as proposed by President Obama has passed both the House and Senate last Friday. He will soon sign it into law. The big question is will it work? That is, will it create jobs and get consumers back buying material things? My view is that in concept and in theory it should work. In practice this stimulus bill will not work.
Let me explain. First in order to fix the issue the trouble must be defined. Do you really think our President know what is truly the trouble. I submit that he does in part. While I do not profess I know any more then the next person – perhaps that is why I can see things clearer from the spectator stand.
Yes, it is true the trouble did come from the housing sector fueled my irresponsible lenders combined with unprecedented speculation by real estate speculators. I would not tell you that all investors and lenders are speculators but you have to entertain the fact that there must have been enough to make a real mess of things, as it is now.
And, this in turn created a bigger escalated mess in the lending circle. We had in the last nine months of troubling times – where lenders do not trust each other. Our banking and monetary system is based primarily on trust.
When real estate speculators brought more real estate then they can afford, they over leverage themselves. Speculators typically would borrow over 100 percent to purchase a property in the height of speculation just a few years ago. This was not acceptable but understandable because the price of real estate was seen as ever increasing.
Here’s how it started out. You purchased a property for $100,000. In the old days you need to put a down payment. The banks would access your credit and ability to pay. Let’s say you needed to put down 10 percent as the down payment. After an exhaustive process the bank would lend and finance your purchase. The down payment of 10 percent would protect the bank if you decide not to pay the mortgage.
What happens with escalating prices? Shortly after you, the buyer brought your property for $100,000 another speculator comes by and offers you $110,000. Your property is now worth 10% more. You would go to the bank to refinance or cash out with a line of credit secure by the home. Let’s say you were able to get conservative $9,000 line of credit (10% in equity). You are now flush with cash. You, who have only started with $10,000, now, have purchased a property (ever increasing in value) and $9,000 burning in your pocket.
If one property is good two would be better. A few months later your property increased yet again. Fuel with confident that you cannot lose. The speculator makes an offer, sometime over biding each other for the prime locations. Let say the same type of house you have purchased is now $120,000. Again, you are willing to put down 10 percent.
However, this time you have a relationship with the bank. They know you have an eye for success. It has been proven. The bank’s logic is: why demand such a high down payment and risk losing your business? And perhaps in a few months later the value of the property will go up anyway. Why fight with other lenders? The banks would do away with their strict guideline or risk sitting aside and watch others take over their business.
What evolved over a few short years in the center of the escalating crises would turn out to be a race for profit. Many would agree this simplified situation accord many years ago. Greed ultimately won. And for a time everyone had it good. The lenders made money and the speculators were rich. Once the race reaches the end and the value of property is beyond believe. Where, even if you had a good job, you and I could not afford to buy real estate. It didn’t happen overnight but eventually even the speculator can’t afford to buy.
The price began to fall. The speculator who committed not a dime of his own money walks away from the property. No one pays the banks and the banks can’t pay their lenders. The bank’s lenders don’t trust the banks and banks don’t trust each others. As more and more speculators walk away from their responsibilities the banks finds it hard to make the payment they were obligated to pay to their lenders. The house of cards come tumbling down.
What I submit to you is this economic problem is not a housing crisis nor is it the banking crisis BUT that of a crisis of trust. Had we identify the problem much earlier perhaps we would not be in this mess? Don’t get me wrong we would be in trouble, perhaps, but in much better shape. Not knowing the real issue the Bush administration set out to prove beyond a reasonable doubt the economy were at death’s door unless we all acknowledge and push the Senate to accept and pass the TARP.
The message was heard loud and clear. The consumers of the world decided that if we were indeed in such bad shape, we should all try to save for a rainy day. All at once, buyers stop buying and seller has nowhere to go – businesses stop making money. So business decides to cut their work force by firing people. The new truth is realized. More unemployment and the economy got sicker. The problem became self fulfilling.
It is now an issue of confidence. It started in the housing market what affected only about 4 percent of the total housing market. It escalated to a banking crisis. Now, the President is trying to continue the dialog of convincing us the consumer of the world, the worst is yet to come. President Obama will sign the bill into law and the government will spend massively. Meanwhile, consumers will continue to save. And when consumers save who will spend? Unless consumers believe the worst is behind us. No legislation spending bills will help get us out of this mess. Isn’t there a better way to pass a bill without having to make matters worse?
Original Post Date: Feb 22, 2009
Copyright 2009 by fartingcamel.com