Thursday, March 12, 2009

You Can't Inflate a Burst Bubble

on the state of the economy:

Perhaps some of these steps were necessary. But taken as a whole, these extraordinary measures point to a bipartisan Washington culture that's unwilling to let go of the past.

Peter Schiff of Euro Pacific Capital put it well last Friday: "Jobs must be lost in the service sector so that labor can be reallocated towards goods production. Asset prices, for both stocks and real estate, must decline to levels appropriate for current circumstances ... By postponing these adjustments we merely assure an even more painful transition in the future."

Now that the housing bubble, stock market bubble and commodities bubble have popped, the market is trying to adjust to non-bubbly conditions. Laws and regulations that interfere with that process can delay that adjustment and prolong the recession. (If a failing business is artificially propped up, valuable resources are being wasted rather than being used for productive purposes.)

Plus, the money for these bailouts has to come from somewhere. Last month Bloomberg News put the tab so far at $9.7 trillion, enough to hand each U.S. household a check for around $92,000, or pay off 90 percent of home mortgages in the country.

That money, of course, will come from taxes. We'll borrow some from China, the largest foreign holder of Treasury debt, with the promise of paying it back with interest. Some will come from the Federal Reserve printing it, a move that devalues the greenback and leads to taxation through inflation.

At some point, though, the bailout costs will simply become too immense. George Mason University economics professor Russ Roberts wrote this week: "We can't keep GM and AIG and Fannie and Freddie and every insolvent bank and every mortgage afloat. It can't be done. It's not a strategy. It's just desperation to avoid pain. We're going to have to start letting them fail. Sooner is better than later. Otherwise, we continue to throw good money after bad."

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