Where the Bailout Money is Really Going

Pity the rich. Pity the CEOs. Pity the capitalists.

Poor Warren. He’s down to his last $25 billion. And Bill Gates can barely hold his head up; his pile has shrunk to barely $18 billion.

And do a Google search of “AIG outrage” and you will get 621,000 hits.

Alas, being rich isn’t as easy or as much fun as it used to be.

The rally paused yesterday. The Dow lost 7 points. It could be over. More likely, it will run for a few months. Gradually, people will come to think that this is the real thing. They’ll begin to imagine that it is 2003 all over again. Of course, it’s not…this market has nothing in common with the Great Rebound of 2003-2007. (More below…)

Oil traded at $47 yesterday; it is slipping toward the $50 level. And the dollar is slipping around too – it is losing ground against the euro, now trading at $1.29/$. But it is mostly steady against gold, which seems to like the $900-$950 range…for now.

AIG is today’s main story. Everyone is appalled, outraged…or apoplectic about it. First, we under-reported the amount in bonuses paid out. The real amount is $450 million, says the Wall Street Journal…and one member of Congress charges that many bonuses were disguised as other things…and that the real total is more like $1 billion.

The average lumpenvoter has no idea how bailouts work. He was willing to believe that giving Wall Street hundreds of billions in taxpayer money would somehow make his house go up in price, but now that he sees how it really operates, he is ticked off about it. He may not understand macroeconomics, but he knows chicanery when he sees it.

Under pressure, AIG revealed what it did with the bailout money. It came as no shock to us to discover Goldman Sachs at the top of the list of recipients. Goldman’s main man was in the room with the feds – the only representative of Wall Street – when the decision was made to rescue AIG. What’s more, the feds’ main man at the time – Hank Paulson – also used to be the top honcho at Goldman. So the fix was in. The government gave money to AIG and AIG gave it to a long list of speculators – including Goldman.

This seems perfectly natural to us. If we’d been in on the fix we would have steered some of the loot our way. But the politicians are feigning shock and horror. Senator Grassley even said AIG management should “resign or commit suicide.” He later calmed down and said he didn’t mean it.

But we would have simply edited his remarks, giving the schmucks at AIG a last chance to exit with honor: “Resign AND commit suicide, in that order.”

Barney Frank added that “maybe it’s time to fire some people.” Why not? The feds own 80% of the insurance giant now. Go ahead; fire all the people you want. That’s about the only pleasure a real capitalist has left to him. Reach out…and fire someone today!

Elsewhere in the news, the economy continues to deteriorate. Industrial production fell 1.4% in February. And credit card defaults are at a 20-year high.

Misters Smoot and Hawley seem to still be on the federal payroll. The news this morning is that they began a trade war with Mexico and the Mexicans have already retaliated. That’s all we know about it…

But back to the tribulations of the rich…

First, Mr. Market is downsizing fortunes – fast. In the last 12 months, the average rich person has probably lost half his wealth. Not only did he own millions worth of stocks and real estate…he was also among the privileged few to get into good deals on derivatives, SIVs, hedge funds and private equity. Many of those complicated and conflicted assets have been wiped out completely. Or, maybe he was unlucky enough to count Bernie Madoff as a friend.

Second, what Mr. Market doesn’t take, Mr. Politician is looking at. All over the world, plans are afoot to increase his taxes…and close down his tax havens. President Obama has already revealed his plans to soak the rich. Every other group will come out even…or better…from Obama’s tax proposals. But the rich are going to be saturated…marinated…soaked to the bone.

And third, the poor rich guy has become a pariah. He doesn’t get invited to charity events anymore – or even to join the guys after work for a beer. Europeans have always distrusted rich people. But in America, a rich man used to be respected – just because he was rich. People asked his opinion on politics…on fashion…on art. He was presumed to be an authority on all things and was generally treated with respect…even deference.

But now rich are seen as chumps, losers, incompetents and malefactors. Even Americans look at rich people and think they must be either stupid or corrupt.

“Le secret des grandes fortunes sans cause apparente est un crime oubli , parce qu’ il a t proprement fait.” said Balzac. Which has been paraphrased to “Behind every great fortune lies a great crime.” Of course, he was referring to France, where it is has probably always been true. Money is dirty in France. But in America, money was supposed to be clean…innocent…honest and forthright. The richest man in town always sat in the front pew in church and stood for election to local office.

But come the depression and even the rich suffer. And unlike the starving urchins, unlucky widows and innocent orphans, no one cries a tear for the rich. Here at The Daily Reckoning we always take the side of the underdog…and always support the lost cause. So when we think of the rich…those darling people with their Italian suits…German cars…and Swiss bank accounts…our cheek gets a little moist. For we – and we alone – still admire and respect the rich. Of course, the rich are human beings too – just like the rest of us. And yes, dear reader…we still despise them as much as anyone else. When it comes to intelligence or moral rectitude, they are probably no better than the lower classes, though probably no worse. But we still admire and respect their money. Their money is no better either – but they have more of it.

Now over to Baltimore, where Addison at The 5 Min. Forecast gives a St. Patty’s Day look at the Emerald Isle:

“What’s the difference between Iceland and Ireland? ‘one letter and six months,’ or so goes a joke making its way around the Internet,” writes Addison.

“Aye, on this St. Patty’s day the Emerald Isle is suffering the mother of all hangovers; the embodiment of a boom gone bust.

“With official unemployment now over 10%, GDP shrinking at a 6.5% clip, a proper housing crash and a 10% federal budget shortfall, Ireland has seen it’s glory days crumble into one of the Eurozone’s most beaten down economies.

“Ratings agencies are on the verge of downgrading Ireland’s sovereign debt, which will assuredly make the whole matter even grimmer.

“The opening joke is so pointed,” Addison continues, “Irish Finance Minister Brian Lenihan is now on a global PR tour to help rekindle the world’s love of shamrocks and Guinness. Despite Lenihan’s denials, many expect the IMF to swoop in and become Ireland’s banker of last resort.”

Back to Bill in Paris…

It’s NOT 2003. Just in case you had any doubts.

You remember 2003? After a phony recession in ’01-’02 came a phony boom in ’03-’07. Stocks had driven into a ditch following the crash of the NASDAQ. The Dow had fallen down to about 7500. And then, when it looked like they were going nowhere for a long time…along came Alan Greenspan’s friendly towing service. In a jiffy, he winched the economy back onto the road…and it was soon flying along at the fastest speeds every recorded. The Dow went all the way to 14,000 and beyond…before crashing into a stone wall.

And now the financial media is on “bottom watch.” No, we’re not talking about the kind of bottom watching you do on a Brazilian beach…we’re talking about looking for the end of this bear market.

“Are stocks and oil bottoming,” asks a headline at Seeking Alpha.

“How will we know…” when we hit the bottom? Asks the New York Times.

The answer: we will know when we no longer want to know.

For the moment, we believe we are beginning a classic rebound. The news seems to have turned positive…along with the weather. It’s sunny and warm in Europe this morning. And investors are focusing on the positive.

“IMF poised to print billions in global quantitative easing,” says a headline in London’s Telegraph.

All over the world, the feds are working the pumps. And investors are watching their little boats begin to rock. If history is any guide, this rebound will recover 20% to 50% of what was lost. Then, the bottom – so recently spotted and revered – will fall out.

This is not 2003. In 2003, there was no collapse of the financial sector…banks didn’t fail…major companies didn’t face bankruptcy…consumer spending didn’t fall…house prices didn’t collapse…savings rates didn’t go up…capitalism wasn’t called into question…there were no tax rebates…there were no bailouts…not even a stimulus plan (though the feds did spend much more money…and the Fed did cut rates to 1%).

This time it’s different. This is not a recession. Not even a phony recession. It’s a very real Depression with a capital D…and all that goes with it – including whole industries that go broke, a credit crunch, a big drop in consumer spending, a huge political shift toward socialism, interest rates at zero, falling prices, and widespread bankruptcies – both of households and companies.

In 2003, a quick cut in interest rates – along with a boost in federal spending – produced a fast turnaround. Within months, prices were rising again. Consumers didn’t even pause…they kept spending and borrowing all the time. This time, the world has never seen stimulus efforts of such huge magnitude – and still no real uptick. This time, consumers are running scared…they’re losing their jobs and closing their wallets. This is the real thing. It won’t end quickly…or easily.

Here’s a calculation for you. The amount of excess debt in the United States is about $20 trillion. That’s the difference between the usual level debt – about 150% of GDP – and today’s level – about 350%. That $20 trillion in surplus debt probably has to disappear before a true growth cycle can begin again. The best way is simply to let nature take her course. Much of it would be written off in a few months. But the feds won’t let that happen. They’re doing all they can to prevent assets from getting marked down…and to prevent debt from getting written off. So far, they’ve committed $11.7 trillion to the fight against debt deflation.

So instead of writing it off, it will have to paid off…or ultimately, inflated off.

Currently savings rates have risen from zero to about 3% of GDP. That’s about $420 billion per year put to paying down the debt. Let’s see, at that rate, how long will it take to erase the $20 trillion in excess debt? Hmm….about 47 years!

Until tomorrow,

Bill Bonner
The Daily Reckoning