Freezing Foreclosures and the False Flag of Moral Hazard

In my view the probabilities for the economy are these: 1 in 3 there is no recession, 1 in 3 there is a mild recession, and 1 in 3 there is a very severe recession that imposes long-term hardships in an economy cycling downward.

For many months I have been championing a freeze in foreclosures, in an attempt to halt the wave of foreclosures, the spread of the crisis to credit cards and the potentially severe recession that is now coming into view with some chance of occurring.

Most likely next Tuesday, in a column that will appear in The Hill newspaper, I will push even harder for the foreclosure freeze and for an economic stimulus significantly larger than the package currently under discussion.

My reason is, in the event of either a mild or severe recession, the current size of the stimulus package is far too modest compared to the size of the economy and does not materially lower the dangers of a very severe downward economic spiral.

In that proposal I will also suggest a specific means of raising the money to finance it. Stay tuned.

No doubt, any proposal of substance that would dramatically help middle-income and poor Americans will be met with the argument that is commonly called “moral hazard,” from those mostly on the right who advocate what I now call “laissez-unfair.”

Moral hazard means that those who made mistakes should pay for those mistakes and not be helped by government, and that if they are, it sends a signal that mistaken behavior would be encouraged if continued.

This is a false flag, for two reasons.

First, many of those who have been hurt in the current credit debacle were victims not of their mistakes, but predatory practices, or deceptive practices, which are now under criminal and civil investigations in multiple jurisdictions.

Also, many of those who are hurting suffered unexpected hardships such as outsourcing of their jobs, layoffs, or very hard medical emergencies, sometimes accompanied by inadequate insurance or attempts by their insurance companies to avoid making good on terms of their policies.

There is a second problem with moral hazard, from the “laissez-unfair” advocates, which is this:

Major mistakes were made by Alan Greenspan at the Federal Reserve Board. Where is the moral hazard for Mr. Greenspan reaping huge compensation from a company named Paulson and Co., which made billions of dollars of profits by betting on the side of more foreclosures and more defaults and the failure of the Greenspan policies?

Nothing illegal or wrong with Paulson’s bets that foreclosures and defaults would rise. He was right. That makes a market a market. But for Mr. Greenspan to profit millions of dollars, paid by a new boss that made billions of dollars betting that the Greenspan policies would harm our economy – now if anything is a moral hazard, it is this.

The now-fired or -removed failed CEOs of Merrill Lynch, Citicorps, and Countrywide Financial (among others) made disastrous and catastrophically failed business decisions that caused and profited from these failures.

Yet these CEOs, at the heart of complicity for creating this mess, were compensated and rewarded hundreds of millions of dollars of personal wealth to create the mess and then for being fired for creating the mess.

If it is moral hazard to help middle- and lower middle-income Americans who made mistakes, is it not an exponentially greater moral hazard, by a factor of many millions, to reward those at the highest level of corporate leadership who caused and made money from this failure?

This is a double standard, hypocrisy on a grand scale, and laissez-unfair at its purist.

We could go on. The failures of the president and Treasury secretary who only months ago were publicly denying the crisis. The failures of regulators who failed disastrously in their mission to police the market and protect the public. The failures of congressional oversight, the failures of the major media to report what obviously was a dangerous and growing problem.

Why is it that when we want to help average Americans, it is a moral hazard to help them, but when titans of industry make trillion-dollar mistakes, they receive hundred million dollar rewards, and even the former chairman of the Federal Reserve is making presumably millions of dollars of wealth, from a fund that made billions of dollars of profit by betting that the new employee, of his new boss, was disastrously wrong, which he was?

Let’s sum it up. “Houston, we have a problem.” There is grave danger to our economy today and in my view, neither the president, nor the Treasury secretary, nor the current Federal Reserve Board, nor the stimulus now being discussed, is nearly enough to deal with the problem and avoid a potentially extreme problem in our national economy.

There must be a freeze on foreclosures for at least six months. There must be a stimulus package more significant than what is on the table today. There must be an end to the laissez-
unfair fallacy of moral hazard and a solution that is equal to the danger, which I will detail further in my column next Tuesday.

Be careful, and stay tuned.