The US government has abandoned plans to buy up the toxic mortgage assets at the heart of the global financial crisis, a reversal that helped send ailing world markets spiraling even lower.
Investor sentiment took another hit as Germany yesterday announced its economy, Europe’s biggest, had fallen into recession in the third quarter.
Dropping the centerpiece of a US$700 billion bailout plan, US Treasury Secretary Henry Paulson said on Wednesday the money would be better spent on cash injections for struggling banks and help to shore up consumer credit markets.
Paulson said the crisis had deepened since the controversial rescue plan was approved by the US Congress early last month.
“The facts changed and the situation worsened,” he said.
The plan to purchase the bad assets that triggered the current crisis was at the heart of the bailout and many analysts questioned the abrupt about-face, which triggered another massive sell-off on world stock markets.
The Dow Jones Industrial Average shed 4.7 percent after the announcement and the gloom spilled over into Asia.
“It is shocking to see the US government deciding not to use any of the US$700 billion on buying mortgage-related assets,” said Dariusz Kowalczyk at CFC Seymour in Hong Kong.
“Declining house prices and falling values of mortgage-related securities are the primary reason for the current crisis,” he said.
The crisis is rooted in the so-called subprime loans in the US — mortgages to buy houses and other forms of credit extended to underqualified consumers with less than solid credit histories. The loans were often repackaged and sold to banks and investors around the world.
Paulson’s original plan was for the US government to buy up the bad debts, allowing cash-strapped banks to again make the consumer loans that are essential to driving the economy.
But on Wednesday he said the money earmarked to buy those debts would be better spent injecting cash directly into struggling banks and shoring up the market for consumer debt such as from credit cards and car loans.
“This market, which is vital for lending and growth, has for all practical purposes ground to a halt,” he said.
An unusual joint statement by bank regulators, the Treasury Department and the US Federal Reserve issued on Wednesday urged banks to keep lending in the face of the downturn, saying it was needed for a sound economy.
“If underwriting standards tighten excessively or banking organizations retreat from making sound credit decisions, the current market conditions may be exacerbated, leading to slower growth and potential damage to the economy as well,” it said.
Meanwhile, watchdog positions to oversee the US$700 billion plan remain unfilled, the Washington Post reported yesterday.
The independent oversight posts set up by Congress to prevent corruption and government waste remain vacant, and the deadline has passed for the first monitoring report required by the legislators, the Post reported.
“It’s a mess,” US Treasury Department Inspector General Eric Thorson, who is temporarily overseeing the program along with his other responsibilities, told the paper.
“I don’t think anyone understands right now how we’re going to do proper oversight of this thing,” he said.
Thorson told the Post that he had “a few dozen” people working part-time on the program, and said he believed the new special inspector general’s office should have at least 100 people in it.
The Post said the top candidate to head the new office was New York federal prosecutor Neil Barofsky, the lead prosecutor in the US$2.4 billion accounting-fraud case against former executives of the collapsed financial firm Refco.
But there is a turf war between two Senate committees over who has jurisdiction over confirming the candidate, the Post said, which could delay the confirmation well into next year.
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