The government is banking on the American consumer to rescue the economy. But debt-ridden households have had enough, says Andrew Gordon. He says the government’s massive bailout are benefiting very few in the short-term. But the long-term consequences will be felt by all.

This from Investor’s Daily Edge:

The government’s latest bailout moves have me scratching my head. It’s throwing $200 billion worth of guarantees at recent and current loans tied to consumer and small-business spending.

Hank and Ben want the consumer to bail out the economy. And they want to do it by putting consumers deeper into debt.

They don’t get it.

They don’t get that consumers are tapped out.

What do they think when they see numbers that show that American households are in deeper debt than ever before? Or when they see that consumer spending in October fell the most in seven years?

Is it really because credit card rates are too high?

So let’s get this straight. Some 1.2 million jobs have been lost so far this year and millions more fear that their jobs are in jeopardy.

This isn’t paranoia on the part of workers either. Companies really are experiencing declining revenues … tightening their belts … and laying off workers. Even companies that have the money are reluctant to spend it as we sink deeper into recession.

But for those companies that don’t have the money and would like to jack up spending, banks are reluctant to lend them money (regardless of the interest rate, and can you blame them?).

By the way, isn’t’ that how we got into this economic mess in the first place? The government allowed and even encouraged banks to lend to home buyers who couldn’t afford the loans. It led to a rash of defaults which triggered the current banking crisis which has spilled over to the entire economy.

Asking debt-ridden consumers to take on more debt when they have actually begun to save more is just wrong.

Lower rates have already triggered a mad rush by home owners to refinance. Presumably, the government thinks that Americans tapping their home equity for extra cash to spend is a good thing for the economy.

And initial reports indicate that stores did better than last year on Black Friday.

But, once again, spending more than we earn is a big part of how we got into this economic mess in the first place.

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There is a better way to get out of this mess than relying on a consumer-led recovery. The government should let (even encourage) consumers to put more of what they earn into their savings accounts and for banks to use this money for infrastructure and capital equipment investments.

The U.S. economy would grow on the back of bigger and more factories rather than bigger and more cars, TVs, X-boxes, etc.  Most of these items benefit Asian countries more so than the U.S.

Other parts of the government’s bailout plans also don’t make much sense. For example, the government doesn’t have enough money to cover banks’ exposure to rancid debt.

The collateral debt swap (CDS) market alone is north of $50 trillion. These swaps are essentially insurance contracts on corporate debt. If just one of the big three auto makers fails, for example, it would trigger underwriting and losses of around $1.2 trillion for banks with exposure to this market.

By the way, a trillion dollars is about the size of the entire economy of Mexico or India.

The fact is, default rates for all kinds of collateral will rise over the next 2-3 years. Mortgage-backed securities, junk bonds, triple-A rated corporate bonds, Alt-A mortgages, car loans, credit-card loans, and loans made to the governments and companies of dozens of countries.  Countries in central Europe plus Turkey and Russia stand out. They will all be experiencing rising rates of default.

Pumping up consumer lending and doling out tens of billions of dollars to banks (and over $100 billion to insurance giant AIG alone) won’t stem the massive tide of failures and buy-outs in the financial sector.

It will, however, help create the conditions for the next round of economic crises: a precipitous drop in the dollar, a massive national debt, and down the road a $100 trillion bailout of our social security system.

Our bailouts are getting bigger and more destructive with the passage of time.

Government intervention usually helps in the short-term, but brings unexpected and harmful consequences in the longer-term. This time around, we’re not even getting the short-term benefits but we will be getting the longer-term consequences which will prove to be bigger, more harmful and more difficult to fix than what we have now.

Source: Why This Bailout Isn’t Working