California is on the Brink of Financial Ruin - Literature review Example

Topic: California is on the brink of financial ruin and collapse is imminent. There is much discussion about how to survive this period-from economic bailouts to increased taxes. Write an essay ARGUING for THREE things the state of California can do to save itself from the imminent collapse. California state is on the verge of financial collapse is evident from the analysis by the Center on Budget and Policy Priorities, forecasting a deficit of $14 billion within the next two years. The problem with California’s state financials is not the lack of income, as remarked by Senator Dick Ackerman, “Our problem is weve just been spending too much. Our income has gone up every year, but the rate of spending has gone up greater than the income,” as reported in News Blaze by Ward. Whether it is true or not, economic bailouts and increased taxes are not the solution to come out of the financial ruin. Depending all-in-all on government initiative for coming out of the crisis will blur the financial screen and is ethically risky too. Should the Wall Street be given a blank check without taking a guarantee; after all it is democracy. Why the tax-payers should be penalized by paying high prices for lousy assets. Pretensions for economic bailout plan are false. Buying bad loans by the administration just because private bankers have no idea on how to measure their worth, may keep the banks alive but wouldn’t clean the market infection. Capitalism need not be that naked to restore the confidence in the market; it needs to be rescued from the financiers who are ready to undermine the functioning of free market for their interests through economic bailouts and increased taxes. For the state of California to come out of the crisis, there are ways – better options than economic bailouts and increased taxes that should be tried (Zenilman, 2008). Economic bailouts would permit the treasury to buy such assets that are not easy to be valued in the current shaky environment. The number of such institutional assets that would cost the treasury hundreds of billions of dollars would have long term repercussions. There is doubt on the wisdom of following such a policy that would bailout financial institutions from the crisis. According to Luigi Zingales, a Professor at the University of Chicago School of Business, such a move “might achieve the final outcome, but it will do so at an enormous cost.” Government doesn’t have an equity stake in the financial institutions and the Wall Street is not promising anything in return. Moreover public opinion is against any such bailout. According to Paul Krugman, the Princeton University economist and liberal columnist for The New York Times, the new plan would deprive the tax payers their money by deceit. The treasury should explain why it will materialize. It will create a wrong image of the US in the outside world. In stead, the government should think of such a plan that seems reasonable enough to make the best possible use of tax payer’s and lender’s money. Reforms should be such that prove the far-sightedness of the financial firms. Giving a free pass to the Wall Street may impact negatively in the eyes of foreign investors. Sebastian Mallaby, the center-right economic columnist for The Washington Post and scholar of the modern financial system, has rejected its comparison to the Resolution Trust Corporation that was formed by the government to resolve the savings and loan crisis so that bad loans made by bankrupted thrifts could be bought and sold off because the current bailouts and increased taxes plan stands on wrong grounds (Zenilman, 2008). The government should not repeat the past mistakes of unfulfilled promises. In the proceedings of the Senate Banking Committee, Senator Shelby has warned against the bad impact due to lack of transparency, accountability and oversight of TARP funds. Secretary Geithner’s policy snatches from the taxpayers’ their right to know how their money would be spent. Preferred stock has been promoted the resource to be invested the taxpayers’ money with. Actually, preferred stocks have no voting rights and are named such for receiving preference in the payment of dividends. As such American taxpayers won’t have any say in the decision making process of the sick financial organizations. Before making recuperating efforts, the government should strive hard to find out the reasons behind the economic crisis. Through the Taxpayer Protection Act, the government should establish a Financial Market Investigation and Reform Commission on the lines of 9/11 Commission to find out the reasons of the financial market collapse and take precautionary measures first so that history doesn’t repeat itself. Some magical thinking is required; ideas that click. Our banking system needs to be rescued by making it profitable for people to invest in. Banks provide loans and ensure its guarantee with the capital of the borrower. Government should declare interest earned on saving accounts tax free. It will encourage the people to put their earned money in saving accounts. Banks would be flooded with deposits. There would be no need to resuscitate the ailing banking industry as it will be having sufficient funds (Scott, June 14, 2008). On the serious and higher platform, the state of California should find new ways of bringing the recession hit economy on the safer platform. The hole in real estate bubble of California can be filled by providing a tax credit to home buyers, stopping bank failures, and increasing industrial production (Ponzi, 2009). Tax Credit to Homebuyers: Home buying should be discouraged as it eats up a good chunk of Californian income. Economy is suffering because there remains a limited amount to be spent on buying goods and services because people think they can earn huge in housing, which has become a fiasco. Housing in itself is not a productive activity as is financial trading. A reduction in home prices will boost consumer spending (Ponzi, 2009). It is sad to acknowledge that American people are missing on creative activities. It is like believing in the Cargo Cult that yearns for the old and believes in the saying ‘Old is Gold’. There is no need to go in the past of cargo planes and the riches associated with those times. There is a misconception that our economists know the pulse of economy and can feel it better than business people. For the last 20 years, home owners have been reaping the benefits of higher home prices, such a tendency has been felt and acknowledged by government as well. People could borrow money against their houses and that money in turn helped in the growth of the economy. That time home prices saw abnormal rise in prices, which provided a solution to sick consumption. Prices reached the maximum. The reversionary trend in California’s current policy means an upward trend where home prices are going up with additional 10 percent yearly hike. In many cities, pace of income increase has been lower than rising cost of home. Californians are spending a huge chunk of their income on home buying. What is required and should be done to increase consumer spending is a REDUCTION in the cost of homes so that people may spend some good part of their income on consumables. It is important for America to be competitive in global wage arbitrage, so an increase in the income of its people would not take them backward in global competition. Creating such a type of demand by increasing their income so that they could spend for the growth of the economy would have repercussions through global wage arbitrage. It’s not that we require opening more and more manufacturing units but economy should have other economic activities in balanced proportions to trading houses and debt distribution. As a nation, America is going to pay the price if it is not ready to accept that work, risk and honesty needs to be appreciated and rewarded. The concept of leisurely income should not be promoted, which comes as a premium to Americans only to the disadvantage of the rest of the world, as in the long run there is no such blockage for the other stakeholders to enter the market and reap the benefits of leisurely income. So, what is important is maintaining a competitive advantage globally so that economic picture remains rosy (Ponzi, 2009). Where from this income come? It needs to come by cutting spending on housing activity. There is no rationale in putting a good chunk of one’s income in buying homes or investing in homes. So, they need to cut consumption on housing so that they could feel the environment of 2007 when they used to spend indiscriminately on consumables, adding to the economic growth. People of California should desist from putting in their earned money in housing; in stead they should spend on consumer goods to bring life back from financial ruin and collapse (Ponzi, 2009). Stopping Bank Failures Government should stop banks from going bankrupt by declaring savings in banks tax free as stated before. Additionally, it should take stern action against the managers responsible for the financial ruin. Failure of banking reminds one of the 1930’s when panic entered the minds of people; they started filling their mattresses with dollars in stead of depositing them in banks. All monetary activity as a result came to a halt. Another repercussion of banking failure was that otherwise in good state of health banks could not maintain balance in reserve ratios and became insolvent. The banking crisis currently faced is quite different from the crisis of 1930’s. It is because a period of 80 years has to a great extent made the industry risk proof of such errors. Account holders know that due to the maintenance of reserve ratio by FDIC, their money is safe. Putting money in a number of banks can ensure safety, as is a tendency among accountholders. They are not putting money in mattresses. People will indulge in such activities only if they fear confiscation of money by the government. Increasing asset tax or cash tax is a foolish idea, which would definitely end movement and circulation of money. Banks as well as depositors would prefer to keep their dollars in their personal safe vaults. Problems today are different from the problems of 1930s. Today, assets value given to the depositors’ money has decreased due to accounting rules. Some of the assets were not worth buying at all. What FDIC used to do earlier was to take possession of the bank and sell its assets to safeguard creditors’ interests and letting the equity holders bear the brunt. In the current situation, there occurs no change in leadership by the banks, as a result errors committed by the previous bosses cannot be rectified and lessons are not learnt as should be the process of learning from mistakes. If banks follow a long term profit earning policy, they should not reward the shady characters of the fund managers. Guilty should be punished, not rewarded. Providing temporary breather to zombie banks won’t sustain the economy and financial organizations. Those responsible for the financial ruin and collapse should be replaced with creative brains (Ponzi, 2009). Big Industries Big industries are the backbone. They need government support not like the support given to Chrysler in the 80’s. Government should support big industries like America made cars by offering tax credits without any limit on income. Dropping sales would shot up if tax credits are bestowed upon. If the government can offer tax credit to housing market, why should it not offer tax credits to auto industry? Some industries like the auto industry are taken as “too big to fail”. Unlike banks, car maker GM for instance requires delicate handling. Tax credits could jump-start sales Instead of the government pouring money into the GM and Chrysler hole (with sales dropping), why dont offer tax credits, with no income limits, to people who buy American-made cars? In the private sector there exists no Debtor In Possession (DIP) financing. Progressing from Chapter 7 to Chapter 11 bankruptcy will shun away the customers. Bailing out the GM on the lines of Chrysler won’t solve the problem. Staff should not take retirement till they are 70. Getting secure retirement at the company’s cost should not be permitted, as it affects competitive market (Ponzi, 2009). Conclusion Government should not walk the trodden path fully knowing that it won’t provide a sustainable solution. It either lacks motivation or is unable to see the solution, which is very much possible within the provided framework. It has some previously tested solutions, which are always tried whatever, the circumstances. No more economic bailout and increased taxes are required; in stead government should provide tax credit to home buyers, tax relief to account holders and should protect the big industries and help them in becoming globally competitive. Works cited Dr. Housing Bubble. Comment by Scott. 14 June 2008 at 1:54 pm. 19 May 2009. . Edgar, Bob. “Congress should get in the game.” Common Cause: Common Blog. 10 February 2009 at 09:17:45 AM EST. 19 May 2009. . Ponzi, Chuck. “Southern California real estate bubble crash blog -- Financial crisis and magical thinking.” 23 February 2009. 19 May 2009. . Ward Jack. “California financial problems.” News Blaze. 24 January 2008. 19 May 2009. . Zenilman, A. “Many economists skeptical of bailout.” Updated 21 September 2008. 19 May 2009. . Read More