The Great Bailout Debate.

The great bailout debate.

Tim Geithner, claims that bank bailouts were a critical part of getting the economy running again, while Neil Barofsky, says the Obama administration should have spent more time bailing out underwater homeowners who were crushed by the housing bust. Who’s right?

Well, like it or not, the banks had to be bailed out, the same way you’d bail out electrical utilities rather than let everyone go without electricity. They’re just too important to the rest of the economy. They clearly should have been more punitive but frankly, given the speed at which the tide rose back in the closing chapter of the Bush administration, there wasn’t time to structure anything. Morally right or wrong, we needed to spend a ton of money to rescue the banks, and stop the bleeding. Did they do what anyone would do if someone handed over a bag of money? Of course they did.

On the other hand, Mr. Barofsky makes a good point: consumer debt overhang has been hobbling the recovery ever since 2008, and it’s outrageous that so little money was spent rescuing consumers right along with the bankers. Obama should have pushed a lot harder for “cram down” legislation; Fannie and Freddie should have been enlisted to rewrite mortgages; money should have been airlifted into consumer pockets, either to spend or to pay down debt; and schemes should have been set up for homeowners who were too far gone, that allowed them to rent their homes back from the banks that foreclosed on them. In fact, my earlier proposal was and still is, force the banks to re-finance all mortgages at current assessed market values without owner qualification.

So, they are both right, but neither of them can get us out of this mess. The only way we are going to start this thing up again is for the US Government to force banks to open their credit spigots, ignore strategic mortgage defaults, start loaning money to sub-700’s again, and re-write all of the existing mortgages, essentially marking them to market (lovely irony here).

And we need to do this before Europe crashes and burns next year. How? We have leverage. What do the banks want more than anything? Where is their greatest source of potential profit? Investment banking. We make a devil’s bargain. The banks come to the credit and mortgage table, and the Government lets them continue to operate as a single entity, with commercial and investment combined.

We stop talking about Glass-Steagall, and we stop threatening to regulate derivatives. The banks open their checkbooks to small business, and they re-write all of the underwater mortgages. That stops the bleeding in housing, jump-starts the small-ball economy, and boosts consumer confidence.

Short of such a drastic measure, we head into 2013, sailing a doomed ship following a doomed course on a fatal journey into the abyss. 

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About Steve King

iPeopleFINANCE™ Chief Operating Officer. Former CEO of Endymion Systems, Inc. a $36m Information Systems Services company. Co-founder of the Cambridge Systems Group, the creator of ACF2, the leading IBM Mainframe Data Center Security product; acquired by Computer Associates. IBM, seeCommerce, marchFIRST, Connectandsell alumni. UC Berkeley alumni. View all posts by Steve King

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