Economists, experts skeptical of bailout

The Philadelphia Inquirer (MCT) - Fed Chairman Ben S. Bernanke made a compelling case Tuesday that the economy and the financial markets were in grave danger without a massive government bailout.

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But will the bailout erase that danger?

"Just because they buy these assets, that doesn't mean the economy is going to come back, and people are going buy houses again," said R. Brian Wenzinger, a partner and portfolio manager at Center City money manager Aronson, Johnson & Ortiz L.P.

Some economists and other experts are skeptical of the bailout because it does not address the root problem of mortgage foreclosures, sets the stage for even bigger bailouts in the future, and may have other consequences no one has imagined yet.

Moreover, they said, there is no certainty the bailout plan being negotiated in Washington this week will have the desired effect of giving banks the capacity to make more loans, because accounting rules will force many of them into the difficult position of needing to raise capital to stay in business.

And there is no guarantee they will get the money.

Critics were out in force Tuesday, arguing that the Wall Street bailout should be extended to homeowners facing foreclosure.

"The root of it isn't in the banks. It's in the housing market," said Robert Borosage, co-director of Campaign for America's Future, a liberal group in Washington. "If you're going to address the symptoms and not the cause, how do you prevent the cause from creating more symptoms?"

The Bush administration proposal had a "gaping hole" where the issue of foreclosures needed to be, Sen. Bob Casey, (D-Pa., told reporters Tuesday after the Senate Banking Committee hearing. Before the panel, Bernanke and Treasury Secretary Henry M. Paulson Jr. made their case for wide-ranging authority to buy toxic debt, including securities backed by delinquent mortgages.

Will the federal government seek foreclosures just as vigorously as banks and other investors do now? That is one of the many unanswered question about the Treasury plan.

For some economists, the scariest thing about the proposed bailout without a dramatic re-regulation of the financial system is the message being sent: The government will step in to clean up any mess created by poor risk management.

Doing so gives the impression that government will continue to step in, encouraging excess risk. This is known in financial jargon as "moral hazard."

The bailout "will create the mother of all moral hazards," said Robert Brusca of New York consulting firm Fact & Opinion Economics, an economist on Wall Street since 1977, "and you will never be able to regulate them enough to get rid of it."

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For now, though, because Wall Street firms botched risk management during the housing boom, Bernanke and Paulson have formed their own two-person risk-management committee convinced it could hold off imminent disaster.

Joseph R. Mason, a former U.S. Treasury Department economist and a senior fellow at the University of Pennsylvania's Wharton School, said those fears were overblown.

"We might have a recession on our hands," Mason said, "and we're using Great Depression strategies."

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© 2008, The Philadelphia Inquirer.