Bailout Is Underway

Despite what the Republicans are saying, a bailout for the parties involved in the subprime mortgage crisis is already under way. The Fed Funds rate has been slashed. The discount rate has been lowered. The Fed also issued term repurchase agreements, totaling 100 billion dollars. It could be argued that these were all necessary to maintain liquidity in a market that is seizing up.

There is no excuse for the $100 Billion Term Auction Facility that the Fed has set up. One hundred billion dollars at 3.5% is a vast sum of money for cheap. To compare, the Abu Dhabi investment authority is getting 11% annually for investing in Citigroup convertibles. At the end, they will get a 4.9% stake in Citigroup which hopes to keep paying out a 6% yield.

I’d like to point out another absurdity. I am surprised that the sovereign funds bailing out Citigroup did not require them to eliminate the dividend. I guess someone figured that it would destroy the stock’s value. The stock is already worth half of what it was a year ago. In my opinion, there is a significant possibility of either a failure, breakup or a bailout.

Unfortunately, the Fed still isn’t able to instill confidence in the market. Perhaps the only remaining step is to drop the veil and start directly bailing out lenders. In fact, in this speech by Ben Bernanke, he seems to advocate principal write-offs backed by a reorganized FHA.

The market is expecting a big bailout. As a taxpayer, and someone who is fiscally responsible, I object to the government-funded bailout. If the government bails out the irresponsible borrowers and lenders, it will create the environment for another bout of rampant speculation.