Wednesday, September 10, 2008

US opts for nationalisation!

Nationalisation and government ownership may be dirty words in the US but this is not time to fuss about ideology- the crisis in the financial markets required drastic action. So the two secondary mortgage institutions - Fannie Mae and Freddie Mac- will go under "conservatorship" which, for all practical purposes, means government owernship.

The government will infuse equity as required and it will also provide debt finance by subscribing to the mortgage backed securities floated by the two institutions. Banks and financial institutions are holding paper issued by the two, so a collapse would have had serious consequences for the already troubled financial sector. The housing market would have seen another fall. Hence the government is stepping in.

FT estimates the cost of the rescue at around $200 bn - or nearly 1.5% of GDP. S& P places the cost at 2.5% of GDP. That's smaller than the $300 bn (in today's terms) that it cost to save savings and loans institutions in the US in the eighties. Still, the amount is not exactly small change. In India, the government has spent a total of $7.5 bn to recapitalise the banking system- or under 2% of GDP. But this was roundly condemned at the time. The same editorial writers (in India) are lauding the US government for its rescue act today- what's good for the US is evidently not good enough for us Indians.

The rescue should calm frayed nerves in the US banking system and elsewhere. It should also help put a floor on housing prices for the US. So it's good news for the world economy. The US economy has grown against all odds in the first two quarters and it increasingly appears that it's the UK economy that stands to suffer most in the present crisis, not the US.

3 comments:

Sandeep said...

It is also a massive bailout of shareholders - only 80% as opposed to 100% equity is getting wiped out - so shareholders who have got all the upside are only getting 80% of the downside.
spparekh.blogspot.com

Adorable Bad Guy said...

I think all these bailouts will finally be funded by China and India, just like the Iraq war. As additional tax collections and revenue bounce needed to fund these bailouts is unlikely, the only way these will be funded will be by borrowing. US institutions hardly have the money to meet their short term liabilities and so are unlikely to subscribe to these bonds. Finally, it would be upon the third world to rescue US from itself.

The only country that has such leverage in the world is US. So while US companies may take rash and damned decisions, the entire world pays for its sins.

Anonymous said...

Could not understand the logic of the last sentence. How is UK likely suffer more than US . Request you to throw some light on this.