[DEBATE] : The Hidden Costs of the Bailout

[Riaz K Tayob]

The Hidden Costs of the Bailout

Isn't 100% annual interest usurious?

How The $700 Billion Bailout Could Cost $700 Billion Every Year

In their rush to show voters they are proactively doing something to 
solve the financial crisis crushing Wall Street, the House, the Senate, 
and the Bush Administration have put together a bailout -- one which not 
only may actually worsen the situation, but whose true costs could 
stagger the American Economy. And these costs could rise to an annual 
total equal to the bailout itself. Hence, Americans would be paying an 
effective interest rate of 100% on the original cost of the bailout?

Not only are the politicians overspending and wasting taxpayer dollars, 
they are creating conditions which are highly likely to severely worsen 
every American's financial position. And, on top of this, they not only 
are intentionally are hiding the potential costs which could destroy the 
U.S. Economy -- all for the sake of a photo opportunity prior to the 
General Election -- but are giving taxpayer dollars to entities who are 
likely to invest them outside of the U.S.

Specifically, the $700 billion bailout is likely to initially hit 
taxpayers with $200 to $400 billion in losses after the Federal 
Government tries to sell the bad assets it purchased at prices far above 
the market value of what they will pay.

Does Anyone Really Believe Wall Street Is Looking Out For America's Best 
Interests?

The claims by Wall Street leaders and politicians that taxpayers will 
make money on the toxic assets being purchased are disingenuous. If 
purchasing these assets were such a great bargain today, investors would 
be snapping them up instead of heading for the hills. So, unless you 
believe Washington politicians are financially more astute than the 
traders on Wall Street, it's easy to see who is getting conned and who 
is doing the conning.

Mistake #1 is not buying assets at market value and, instead, paying an 
artificially high value to those who need the money the least. These 
sharp investors will put the funds where they can find the greatest 
return -- and that likely will be investments overseas, not in the 
United States.

Mistake #2 is borrowing the $700 million plus the prior funds already 
used for a bailout total of more than $1 trillion (this is a more 
accurate estimate of the initial cost of the bailout). This means adding 
$1 trillion to our already high $10 trillion National Debt -- a debt 
level almost everyone agrees already is excessive. There are a number of 
costs associated with these actions which are not being discussed.

Increasing Our Debt By $1 Trillion Will Increase Interest Rates

First, the additional borrowing will increase interest rates across the 
board, especially given the relative lack of desire on the part of 
investors when it comes to U.S. Government borrowing. Some of our 
largest creditors are looking for ways to get rid of dollars -- not 
accumulate more. If this impact on interest rates ultimately is as high 
as just two percentage points, the costs are enormous. And it could be 
far more than just two points given the fact interest rates are at 
superficially low today.

Second, we will have to pay interest on the $1 trillion bailout. At 5% 
annually, that is an extra $50 billion in taxpayer dollars which does 
nothing constructive. All it does is drain the U.S. Treasury -- with 
many of those dollars going out of the country. At 10% annually, the 
amount rises to $100 billion -- just to carry the debt and not even pay 
it back. That's $100 billion wasted every year possibly for decades.

Third, and more importantly, the additional borrowing likely will 
increase the average rate of interest paid on the entire national debt 
as well as on U.S. consumer and corporate debt. Shifting the focus from 
the new $1 trillion in debt to the entire $11 trillion National Debt 
potentially increases that segment of the cost tenfold.

Small Interest Rate Increases Mean Big Dollars

Again, even if this increase is only two points (2%) -- which may be an 
overly conservative assumption -- it means adding $100 billion a year in 
interest payments for the $10 trillion National Debt (this nets out 
additional interest Americans would receive from higher interest rates 
because foreigners own about half the National Debt). U.S. consumer debt 
totals over $2½ trillion so just a two-point rise could mean an extra 
$50 billion Americans would have to pay directly out of their pockets 
each year -- and get nothing in return. And given the lack of 
restrictions on consumer interest rate increases, this number could 
easily reach $100 billion annually.

If home mortgage rates increase by an average of just two points, that 
could add even more to the total. American home mortgage debt totals $11 
trillion but much of that is not subject to changing rates which do 
affect new mortgages and adjustable rate mortgages. The likely impact of 
a two-point interest rate increase could be on the order of $100 billion 
annually and could increase over time to $200 billion annually as new 
mortgages replace old ones.

An interest rate increase also would impact commercial and other 
business-related debt which currently totals approximately $29 trillion. 
Much of this debt is very sensitive to short-term interest rate changes 
so a two-point change easily could result in a $350 billion increase in 
business and financial sector interest obligations. This increase also 
would have to be passed on to consumers and other business customers.

Don't Forget The Penalty Americans Will Pay For A Depressed Dollar

Even worse, spending $1 trillion we do not have also will put further 
downward pressure on the dollar. If that pressure results in just a 5% 
decline in the value of the dollar, Americans' standard of living will 
fall as goods made outside the country become more expensive.

Such a change would mean U.S. consumers could pay an extra $100 billion 
annually on the $2 trillion they purchase from other countries -- with 
no net gain in actual goods and services purchased. Hence, we would pay 
an extra $100 billion for the same products we are purchasing today. 
Given potential fluctuations in currency rates, this number could easily 
double or triple in a period of time measured in months, not years.

Washington's Cure Could Kill The Patient

So, before the bailout is done, the politicians should realize their 
efforts to save the American Economy may only serve to make it far 
worse. While we may "feel good" when we experience the rush of $700 
billion being injected into the Economy (and even then, we're putting 
those funds into the wrong hands -- they should go to consumers who will 
spend the money right here in America and help pump prime the Economy 
rather than to sophisticated investors who will send the money out of 
the country), in just a matter of months -- not years -- we may find the 
decision was a terrible mistake.

As the preceding analysis demonstrates, it is possible the bailout 
ultimately will cost Americans the equivalent of an interest rate of 
100% -- i.e., annually adding the same amount ($700 billion or more) 
every year to our total financial obligations. At that point, the 
bailout -- instead of saving us -- could put us in a financial death spiral.

Aaron Harber hosts "The Aaron Harber Show," seen Tuesdays at 8:00 pm and 
Wednesdays at 5:00 pm on KBDI-TV Channel 12 (Colorado Public 
Television). He previously was certified by the Securities & Exchange 
Commission as an Investment Advisor. Please go to www.HarberTV.com for 
more information. Send e-mail to Aaron at HarberTV.com. (C) Copyright 2008 
by Aaron Harber and USA Talk Network, Inc. All rights reserved.

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