Could the 700 Billion Bailout = No Change in the Housing Market?
The general arguments concerning the bailout have gone something along the lines of
Anti Bailout : "The taxpayers should not have to foot a 700 billion dollar bill to bail out Wall Street"
Pro Bailout : "But if taxpayers do not bail out Wall Street the economy will fall apart and those same taxpayers will be hurt"
If we could be sure the bailout would work the second argument has some merit. While the bailout will certainly help the banks, the problem is we
have almost no guarantee the bailout will help the real estate market and the general economy.
First let's look at some recent history of how the Fed has tried to help the troubled real estate market. The Fed usually attempts to lower mortgage
interest rates to help the real estate market. By lowering mortgage rates houses become more attractive to buyers. In addition, with lower mortgage
rates home buyers can buy more expensive houses with the same monthly payment. Therefore lower rates can help stop falling home prices. So it
was not surprising in early 2008 the Fed cut the Fed rate. In normal markets lowering the Fed rate helps banks and causes them to lower mortgage
interest rates. And following the Fed cut mortgage interest rates dropped to 5.5 for a period of time. If they had stayed down we might have averted
some of the problems with the current housing crisis. But instead a few weeks later rates had jumped backed up to 6.2. Basically banks said thanks
for the lower fed rates but we are not going to alter our mortgage rates. In fact, over the next few months mortgage rates rose all the way to 6.6. The
next big move was acquiring Freddie Mac and Fannie Mae. This was one of the largest government takeovers in US history. The move was risky
because the government was providing insurance for trillions in loans. And it initially had a positive effect on the housing market. But a few weeks
later AIG ran into financial problems. This dominated the news cycle. It