Wednesday, December 3, 2008

Bailout Cost: $8.5 Trillion so far ... and Counting

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

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One analysis has calculated that so far the bailout efforts of the U.S. government are up to $8.5 trillion. This is almost as much as the U.S. National Debt was when the bailout efforts began. So basically in a year the U.S. government has managed to double a debt level than took well over 200 years to accumulate. Don't expect to see all of these bailout costs included in the official National Debt figures however since the U.S. government engages in more off-balance sheet accounting than Enron ever dreamed of.

While these figures would seem alarming to even a casual observer, many mainstream economists don't find them troubling. Recent Nobel winner Paul Krugman claims the U.S. National Debt could be twice GDP (which would be around $28 trillion if you believe the official overstated GDP figures). How this could be a sustainable debt load for the U.S is hard to fathom, especially since we have a huge stream of social security and medicaid payments coming due in the next couple of decades because of retiring Baby Boomers (there is no money in either of these trust funds by the way, all the funds are used to support current government spending the moment they are received). Economists are also not worrying because over 50% of the bailout costs so far have been structured in the form of a loan. Much of those loans are backed by the truly worthless assets though - apparently the hope that sub-prime borrowers (this time companies) will by some magic pay back their loans still lives on and on in the fantasy land of modern economic belief. While up to now over 95% of bailout costs have been in the form of corporate welfare, expect this to change starting next year with a shift toward more support for individuals.

Although the inflation implications of U.S. government bailout profligacy should be ratcheting government bond yields to record levels, this has not happened yet. A flight to safety among desperate investors had kept U.S. bond yields unusually low (corporate bond yields are at a record spread to treasuries however). The drop in yields combined with the plunge in U.S. stocks has actually caused S&P 500 yields to be greater than 10-year U.S. Treasuries for the first time since 1958. Before that date this relationship was the norm. Don't assume that norm is returning however as some pundits are claiming. Stock yields are being kept artificially high by the bailout programs, which have allowed some companies to fund their dividends with U.S. taxpayer money. Stock dividends are going to come down and U.S. bond yields will eventually go up when they adjust to the inflationary realities of government spending.

Meanwhile, the bailout programs are not nearly at an end yet. As we have said in the New York Investing meetup since the credit crisis began, there is no such thing as one bailout for an insolvent financial firm. No firm has been better than Citigroup in proving this point. After five private bailouts earlier in the year, Citi got $25 billion from TARP and only weeks later had to have a much bigger government cash infusion to stay afloat. The auto makers are in Washington hat in hand at the moment with a low entry level bailout request - expect those costs to keep going up next year as well. And of course, their are more bailouts waiting in the wings.

NEXT: Economic Predictions for 2009

Daryl Montgomery
Organizer, New York Investing meetup

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.


Anonymous said...


I should add that, unlike what Mr. Paulson says, falling house prices are not the problem. It is the huge leverage that is the problem. If your house is 100% self-financed (no mortgage outstanding) a rise or a decline in the value of your house has no direct economic or financial impact. In short, my view is that the bail-out plan is not addressing the cause of the problem, which is excessive leverage. Moreover, it is unlikely to help struggling homeowners but is designed to encourage even more speculation by financial companies. Peter Boockvar of Millar Tabak is furthermore concerned that it will lead to further bailouts.

According to him,

the Paulson bailout plan is a government bailout of the previously failed government bailout which was a bailout of the previously failed government bailout etc… Each bailout had its own unintended consequences which the next bailout tried to address. Greenspan bailed out the economy after the stock market bubble popped with 1% interest rates which sowed the seeds for thecredit bubble. In order to bail us out, Bernanke slashed interest rates to 2% and a dramatic rise in commodity prices ensued. When that bailout didn’t work, he instituted a bailout of the investment banks with the initiation of the TSLF and PDCF credit facilities for investment banks. That slowed down the deleveraging process as it gave the investment banks a false sense of security. I highlight Dick Fuld’s comments soon after it began where he said it takes the liquidity issue off the table. The lack of dramatic deleveraging brought us to last week’s panic in GS and MS, a failed LEH and a shotgun wedding for MER which led us to the Paulson bailout. The unintended consequence of this bailout will be a much lower US$ and selloff in the US bond market which will leave us with higher interest rates and higher mortgage rates throw’s the intentions of the Paulson plan out the window. Who will bailout this bailout”?'s a plan for Washington DC, tell the banks to stop paying dividends to their shareholders. I went back and looked at just 20 of the top banks, including GS, MS and MER and saw that they are paying out $40 Billion per year out in dividends. The lending rule of thumb is $1 of capital can service $10 of lending. That is $400 Billion in lending capacity that can get freed up. That is more than half of the Paulson bailout plan and it costs the taxpayer ZERO.

Anonymous said...

It's easy to predict that good will become great or bad will become worse, but where is the chain of reasoning that led to these conclusions?

Doctor Of Ghetto said...

$8.5 Trillion Bailout? While the media is still saying $700 Billion? It should be a $700 Trillion bailout. Might as well have the government bail me out in $30,000 for my overall debts and earnings. LOL

"Debt As Money" video showed very foreshadowing events.

CJ said...

The Enron reference sent chills down my spine. It's hard to forget these videos of Lay & Skilling assuring their employees that everything's all right, as they themselves, basically the same day, had begun selling off their stocks. They taught us that when you begin lying, you can't stop. So that when a cliff comes, no one will know before they're in mid-air.

Hence, it's hard not to fear that similar things are taking place right now (and perhaps have begun to unfold) behind all the secrecy and padded numbers, but in a far greater scale. Lies are very ominous.

New York Investing meetup said...

Thanks to everyone that commmented.

In response to Anonymous #2 about where is the reasoning. New York Investing documents its predictions and we have a very large number that have proven to be correct. Our record is better than anyone on or off Wall Street, bar none.
I note that you don't even reveal who you are - and I am sure you have a good reason for not doing so.


Excellent commentary.