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Closet socialism: The US’ concealed leanings

Closet socialism: The US’ concealed leanings
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First Published: Thu, Jul 31 2008. 12 30 AM IST

Updated: Thu, Jul 31 2008. 09 05 AM IST
India’s socialist roots—Licence Raj, cryptic import restrictions, complete disregard for foreign investment and the resulting Hindu rate of growth in the 1970s and 1980s—are well known. On the other hand, the US has always been a bastion of free market capitalism—or has it?
Let’s not castigate ourselves for the extreme government interference that stifled Indian industry for so long. America’s socialistic leanings, though better concealed, do exist. And disturbingly enough, due to the sheer size of its indebtedness, it can create problems for countries all over the world.
Let’s start with an issue that’s received wide publicity: the crisis at Fannie Mae and Freddie Mac. Few people knew what these acronyms stand for or that these are arguably the largest financial institutions in the world, because these institutions serve no real economic purpose.
Fannie and Freddie were started and have kept growing in the name of promoting home ownership among the underprivileged in the US. As it is, more than two-thirds of the US population owns a home. This is one of the highest home ownership rates in the developed world—25 percentage points above Germany—and unlike India, these countries have a developed rental market.
What does a higher home ownership rate really achieve? Besides greasing the wheels for many financial institutions, ordinary people feel it’s their right to own a home whose price only goes up—for there’s always a buyer to push up the home ownership rate further with the blessings of Uncle Sam. And, in this state of secure bliss, “Joe Six-Pack” takes out a second mortgage to build a swimming pool or to move on to his third SUV.
Homeowner’s equity—the market value of the property less the mortgage owed—kept declining through even the hay days of housing, so it can be said that Freddie and Fannie did not even serve the purpose of forced saving on the part of the American people!
A catch term made popular by US politicians during the current credit crisis is “socialising risk, privatizing reward”, and many prominent publications have endorsed the phrase. In Fannie and Freddie’s case, the US government’s efforts to keep these stocks from becoming worthless are immaterial, as the return, whether “privatized or socialized”, was a pittance!
Even before the November 2007 market slide, for the past 10 years, Fannie and Freddie shareholders have earned an annual return of 3.2% and 4.8%, respectively, including dividends, hardly a return worthy of equity market risk.
On the other hand, these institutions are threatening to come good on the “implicit” US government guarantee that backs the mountains of debt they have created. That, or the current capital support plan to these institutions, is nothing but a hit to the taxpayer—not exactly what we would call a great capitalist situation.
Calling on the government guarantee would have grave repercussions for countries all over the world—both debtor and creditor nations. More than a quarter of the debt is held by foreigners, and the creditworthiness of Fannie and Freddie is in effect a reflection on the credit rating of the US. We can’t help wonder if this situation wouldn’t be worse for capital-deficient countries such as India. In any case, the consequences are dire.
More along the socialist vein, suggestions to help troubled homeowners have ranged from the ridiculous to the bizarre. “Keep it at the starter rate,” said Sheila Bair, chairperson of the Federal Deposit Insurance Corporation, the commercial bank regulator. “Convert it into a fixed rate, and get on with it,” she advised.
Bair was referring to “teaser rate” mortgages that reset to higher rates, thereby bailing out irresponsible homebuyers, who willingly signed off on mortgage products with little thought given to affordability. Whatever be the suggestion, the end message to the common American remains: It doesn’t matter if the cheque book balances, Uncle Sam will always be there to do the math.
While endorsing deregulation during economic prosperity and regulation during troubled times is socialist enough, these socialist tendencies aren’t new. Medicare and Medicaid—the state-funded health insurance programmes for the elderly, disabled and lower income families—are a fiscal nightmare waiting to unfold.
The onerous pensions and retirement benefits that workers had got used to in the US have destroyed industrial competitiveness as also have in effect bankrupted the agency that guarantees these pension benefits. Farm subsidies and other issues also exist.
The list is long; whatever be the manifestation, the end result stays the same. America sinks further into debt and its creditworthiness further deteriorates.
We seem to have really trained our guns on the US, but if we turned towards Europe or the UK, we’d have had enough material for a book!
Let’s be proud of what Indian industry has achieved in a short time since the lost years of regulation. Economic cycles will always exist, but gradual deregulation has worked quite well irrespective of the different political ideologies in power.
Rajeshree Varangaonkar and Bharat Indurkar have day jobs with US-based hedge funds. They will write every other Thursday. Send your comments to globalbeat@livemint.com
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First Published: Thu, Jul 31 2008. 12 30 AM IST