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I remember his talking about Roosevelt closing all the banks in the early 30's. Since he had the only printing press in town, the powers that be called upon him to print scrip money for people to use.
Warren Buffet has confidence that now that the banks have been bailed out, the economy will recover. I, on the other hand, am still a bit pessimistic.
As I will get into a little later in this post, the bank bailout HAD to happen.
However, we've got to take it further than just bailing out the banks with no accountability. We need to reinstate the controls Roosevelt put on the banks when he allowed them to reopen.
We live in a Capitalistic society where many opposed the bailout, stating that we should have let the strongest survive and the rest could go to hell in a haystack.
Well, here are a couple of things these people might not know. And here's the biggest of all! According to Richard Gibbons in the investment and entertainment column, "The Motley Fool", the Bank Insurance Fund (BIF) -- which provides deposit insurance -- has less than $100 billion, enough to cover only 1.01% of outstanding deposits. Citigroup alone has over $600 billion in deposits. By itself, Washington Mutual would have drained the BIF if the Federal Deposit Insurance Corp. hadn't used sleight of hand to transfer WaMu's operations to JPMorgan (NYSE: JPM).
With widespread bank failures, deposit insurance would falter, and the taxpayers would be footing the bill regardless. That's why we see all these acquisitions -- because the banking system can't handle the failures. It's cheaper for the country to just save the banks.
If we do let the banks go under, there will be huge problems, because our whole economic system runs on credit. How many small companies use lines of credits to handle seasonality in their businesses? How many large companies rely on sales of commercial paper? If that money is unavailable, many completely viable businesses will go under because of liquidity issues. Many small companies already have.
Any company that uses debt is vulnerable. Procter & Gamble (NYSE: PG) is practically invincible in any normal situation. But it has $35 billion in net debt. What happens when its lenders ask for some of that money back, and it has to borrow at 15% to get the cash? Wal-Mart (NYSE: WMT) has $41 billion in net debt. When nobody wants to lend, how do you borrow $41 billion?
What happens when the farmers, truckers, and other businesses making up the backbone of our infrastructure, fail? Will there still be food on the supermarket shelves? I don't know, but I'm not eager to find out.
Capitalism's blind spot
Capitalism works well, generally allocating resources efficiently. It's the reason why there's usually food on the supermarket shelves, while there often wasn't in the U.S.S.R.
But capitalism has its blind spots, too. In a capitalist system, it's rational for bank executives to take huge risks in order to pad bonuses based on short-term metrics. Bank executives don't care about systemic risks -- often they barely care about their own shareholders. So, regulation is necessary to reduce systemic risk.
A New Deal
In fact, the history of the Great Depression shows what happens when you start killing the banking system. Between 1929 and 1933, about one in five banks went under. As you'd expect, these bank failures took a massive toll on the economy, with real GDP falling by 29% and unemployment hitting 25%.
At that point, President Franklin Roosevelt stepped in with a plan called the "New Deal." He shut down the banks and allowed only sound banks to reopen. He passed the Emergency Banking Act, which made federal loans available to banks. Then, he enacted the Glass-Steagall Act, establishing deposit insurance and preventing depository banks from being investment banks, reducing the risk of banks blowing up because of bad investments. (Unfortunately, Glass-Steagall was repealed in 1999, which is one reason why banks were able to trade asset-backed securities (ABS) and blow up the system nine years later.) We need to reinstate Glass-Steagall and the sooner the better.
After these actions restored confidence in the banking system, Roosevelt focused on employment through numerous public works projects and agricultural programs.
The results of this government intervention were impressive. GDP skyrocketed from 1933 to 1937, posting real growth of 9.4% annually -- a huge rate for a developed country. Unemployment fell to 14.3%.
Reasons for optimism
Warren Buffett knows this history, and that's probably why he said that the bank bailout was "absolutely necessary to avoid going over the precipice." Now he's confident that America will bounce back.
The government's actions have helped to restore confidence in the banking system -- a TED spread down from 5 to 1 indicates that banks are more willing to lend to each other now than any time since September. Now, President Obama, like Roosevelt, is working on programs to help Americans get back to work.
Source: https://www.fool.com/investing/value/2009/01/30/this-bailout-is-great.aspx
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