The GOP’s New Litmus Test

Liz | 10/14 at 09:59 AM

To their credit, they resisted the easy sound bite. Libertarian Ron Paul was quick to attack TARP; he sincerely believes that the economy would be better off with virtually no interference from the federal government, and certainly without a Federal Reserve. Romney and Cain take the more moderate line that the bail-outs were necessary but badly managed. They are right, on both counts.

Romney said “we could have had a complete meltdown of our financial system, wiping out the savings of the American people.” Skeptics might dismiss such dramatic statements as corporate hooey; they should read last week’s statement from Mervyn King. The Bank of England Governor described the situation today as “the most serious financial crisis we’ve seen, at least since the 1930s, if not ever.” Chilling words, but even that gloomy assessment could fail to impress; thankfully, Americans have not witnessed a full-out bank panic since the Great Depression and can have no real sense of what it might mean.

They could not envision the paralysis, the failures of cash-short businesses, the terror of people unable to withdraw their savings, the slowed motion of everyday life that could stem from widespread bank failures. 

The run on money market funds that started on September 16, the day after Lehman Brothers fell, was a frightening indication of how quickly our financial system could unravel. Investors pulled hundreds of billions of dollars out of these short-term investment vehicles – so necessary to providing liquidity—in a matter of days; it was only when the Treasury stepped in to guarantee the accounts that the huge withdrawals ceased.

Today, Bank of America alone does business with 58 million businesses and households in the U.S. – fully half of our households. The company holds deposits exceeding $1,038 billion. Richard Bove, analyst with Rochdale Securities, reports that the FDIC insures on average some 79%  of U.S. bank deposits. Thus, that agency would have to make good on about $900 billion in the unlikely event that Bank of America failed.  The FDIC, Bove points out, has reserves today of $3.9 billion. Where would it get the balance? From Congress, of course. Good luck with that.  Millions would go for months without access to their savings; lending to businesses would cease, credit cards would not function.

That’s just one bank. When Lehman failed, it became immediately clear that our banking regulators had vastly underestimated the interconnectedness of global financial markets. The crisis of confidence spread rapidly, threatening one institution after another. It was TARP that saved the banking system, and with it any chance at a return to normalcy.

These are complex issues. No one likes to imagine that our “free”  markets cannot function without government intervention. In truth,  though, our markets are far from free.

Our government long ago set out to spur home ownership by guaranteeing mortgages through its implicit backing of Fannie Mae and Freddie Mac. As Michele Bachmann rightly pointed during the debate, it was Massachusetts Rep. Barney Frank and others in Congress who directed those GSEs to weaken mortgage lending standards, in order to advance home-buying by people in lower income brackets. Without their efforts, the world might never have heard of subprime mortgages.

Whoever emerges as the Republican candidate needs to have a well-honed defense of this proposition. 

President Obama wants to paint the GOP as the Fairy Godmother of Greedy Bankers, even though Dems, too, receive considerable backing from Wall Street. (During the last presidential campaign, financial firms gave more money to Democrats than Republicans, according to OpenSecrets.org.) President Obama taps into anti-bank fever with his “tax the Fat Cats” plank of his platform; in the simplifying language of campaign soundbites, all the millionaires and billionaires not paying “their fair share” work on Wall Street.

The GOP candidate can argue not only that TARP was mandatory, he can also remind voters that 99% of the TARP funds finally distributed to hundreds of banks has been repaid. The CBO last spring estimated the final cost of TARP at less than $20 billion. Compared to the $800 billion Recovery Act, TARP was not only successful – it was a bargain.

This is an important message because, given the banking turmoil in the Eurozone today, we could face another financial crisis in the next few months. 

Do not think for a moment that the flimsy protections of Dodd-Frank will protect our banks or our economy. In the event of a collapse, the FDIC is instructed to oversee an “orderly” resolution; most people who have dealt with the FDIC cannot imagine that agency to be up to the task.

Disavowing TARP may attract votes, but to deny that it was essential or that it worked is misleading.

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