Catering to the bailout nation

Walk this way

Actions by "the state" often have unintended consequences. Is it any wonder, with all the talk of bailouts and debt forgiveness, that more Americans than ever have decided to just walk away from their mortgages? (There is even a Web site, You Walk Away, to take folks through the steps.) For many, accepting responsibility seems to have become an antiquated notion. Even the government seems to think that advocating the abrogation of certain real-estate contracts is sound policy.

Where will all this stop? Can those who behaved prudently afford to bail out those who behaved imprudently? Why should they have to? And is that what we really want? After all, this country's median income of roughly $49,000 can hardly be expected to service the debt of the median home price of $234,000, up from approximately $160,000 in 2000.

Let's do a little math. Forty-nine thousand dollars in yearly income leaves approximately $35,000 in after-tax dollars. Call it $3,000 a month. A 30-year, fixed-rate mortgage would cost approximately $1,500 per month. That leaves only $1,500 a month for a family to pay for everything else! (Of course, in many communities the math is even less tenable.) This is the crux of the problem, and the government cannot fix it.

Housing prices, thanks to the bubble and inflation, have risen well past the point where the median (or typical middle-class) family can afford them. Either income must rise -- which seems unlikely on an inflated-adjusted basis -- or home prices must come down.

The housing bubble was the enemy, and we should cheer its bursting. We should not attempt to re-create it. It was the bubble that caused the bust. The bust was not caused by the failure of the government to pull the right levers. That is a fallacy shared by too many.

Let the markets work

A more prudent course of action would be to take the pain and let markets clear, which would set the base for a sound recovery.

When then-Fed Chairman Paul Volcker jacked up interest rates in 1979-82, no one liked it at the time. But it was the right policy to break the back of inflation. Some entities didn't survive that ordeal. However, the pain taken then set the stage for two decades of gains. (Volcker's thoughts on our current problem: "Too many bubbles have been going on far too long.")

The post-Volcker Fed has changed all that. Ever since it bailed out Wall Street during the Long-Term Capital Management crisis in 1998, the financial system has become more leveraged and less transparent. In the ensuing 10 years, not only were interest rates not tightened to prevent a recurrence, the rules were loosened as the Glass-Steagall Act, which had regulated banks since 1935, was repealed.

The Alan Greenspan-led Fed fomented a bubble in stocks, then chose to shortcut the aftermath by creating a housing bubble. That has left us far, far worse off today, and I suspect there are no bubbles left with which to temporarily bail us out.

Why not demand that the regulators do their job and stop reckless behavior before it gets too far out of control? Let's demand that the authorities cure the disease, not just react to the symptoms.

At the time of publication, Bill Fleckenstein did not own or control shares of any of the equities mentioned in this column.

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