This past Monday, the Dow Jones Industrial Average (DJIA) fell close to 300 points mainly on the fear that Treasury Secretary, Tim Geithner, would not allow banks to repay loans borrowed from the Troubled Asset Relief Program (TARP) who wish to do so. His testimony on Tuesday did little to reassure the banks that he would change his position. After being in the “hot seat” for much of his testimony, one could basically conclude that the repayment of TARP loans will depend on the credit needs of the overall economy. The question that we are faced with is what factors determine the economy’s credit needs? Furthermore, why is the government suited to do this in a so called free market enterprise system? Even more to the point, how the government going to be at the helm when it caused the problem in the first place?
Geither’s testimony is disturbing for two key reasons: 1) the threat exists for the current non-voting preferred shares that the government owns to be converted in to common stock with voting rights; and 2) the current legislation brewing in Congress that would cap interest rates on credit cards.
If the government opts to convert their preferred shares in to common stock with voting rights, then it will effectively be part owner of the banks. This would give the Obama Administration major control over their operations and would effectively nationalize the banking system. Some may argue that our banking system has already been nationalized through the creation and expansion of the powers of the Federal Reserve. However, government ownership in the banks would effectively seal the deal since it can now control both sides: a) monetary policy and b) how funds are distributed.
Banks who borrowed TARP money now have to rely on government stress tests by regulators that will determine the institutions’ overall financial health. Mind you, these are the very same “regulators” that oversaw erroneous lending practices that brought about the financial meltdown. The parameters of the stress tests are unknown and will not be released to the public until April 24th. (1) Once the government sinks its teeth into something, it is very difficult for it to relinquish its hold. The history of government involvement in the market since the Great Depression illustrates this concept.
Ever since the “financial meltdown” came about last year, we have heard repeatedly about “frozen credit markets.” The entire purpose of TARP was to give banks money to lend in order to “unfreeze” the credit market. The reasoning was that if consumers and businesses couldn’t get access to credit, then America and the rest of the world would sink into a recession and possibly another Great Depression. If the government is so concerned about frozen credit markets, then why is Congress currently trying to pass legislation that would cap interest rates on credit cards, which would ultimately restrict the flow of credit?
Congressmen Bernie Sanders (I-VT) and Dick Durbin (D-IL) have proposed legislation that would cap credit card interest rates at 15 percent. (2) On the surface, this may seem like a good idea as it is a natural reaction to initially embrace the populist view of people struggling in a sluggish economy being forced to pay very high interest rates on credit cards. However, caps on interest rates mean rationed credit. If credit card companies cannot tailor interest rates to one’s credit risk, then only the wealthy and those who have spotless credit will be able to obtain a credit card. This is a classic example of the government having its foot on the both the gas and break pedals at the same time.
High interest rates indicate a market correction. The government is talking about frozen credit markets; however the action taken by credit companies indicates otherwise. Interest rates rise as a result of the growing number of people who are unable to repay what they have borrowed. Banks through the coercion of the government have overextended credit to people for a very long time. As a result, the oil shock that came about last year has squeezed people into bankruptcy. Now it is time for the market to correct past wrongdoings.
From the perspective of the credit card companies, the money that is loaned out to consumers by way of a credit card is unsecured debt, meaning no collateral is offered. When people buy a house or an automobile, the loan is secured by the asset itself. In the event of a default, the bank can recoup the loss by repossessing the house or the automobile. Credit card companies do not have that option. Therefore, credit card companies must assess individual risk and systemic risk when determining interest rates.
The other factor that is being left out of the populist talk in Washington is individual responsibility. Does any of the blame rest on the consumer? Isn’t it fair to say that people abuse credit? What is not being discussed here is that people have the option not to pay interest if they own a credit card. How many people take advantage of borrowing money interest free for the duration of the grace period? High interest rates do not affect people who pay their bill on a monthly basis. The bottom line is people have a choice when it comes to paying credit card interest, and the terms and conditions are spelled out to the credit card holder in advance. Rather than cap interest rates, perhaps some consumers need to rethink how they use credit. Otherwise, credit cards will no longer be accessible to a great number of people.
It is possible that a hidden agenda exists to nationalize the financial sector. The government has the power to use talk of reckless lending practices, “loan shark” interest rates and instability in the market as a means for it to step in and correct said “injustices.” The Obama team has blamed free market capitalism. However, if one takes the time to examine the situation closer, it will reveal that the government’s hands in the financial sector have caused much of the agony that the world has experienced over the past year. A free market is a market free of government interference. That hasn’t been the case since inception of the FED in 1913 and the stricter government regulation and control that has followed in the ensuing decades. Higher taxes, government ownership in major banks and interest rate caps will only stifle the growth of capital needed to lead America into a healthy, prosperous economy.
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