Backlash Against Bailouts Grows on Capitol Hill, Wall Street

By Matthew Benjamin and Brian Faler

Sept. 19 (Bloomberg) -- Amid calls for the government to take stronger measures to stabilize financial markets, some former Federal Reserve officials, lawmakers and Wall Street executives are saying too much has already been done.

``Every time they intervene, they do more harm than good,'' said Peter Schiff, president of Euro Pacific Capital in Darien, Connecticut, a brokerage that manages $1 billion.

Critics of the rescues agree that government actions, such as those that prevented the failures of Fannie Mae, Freddie Mac and American International Group Inc., can't postpone the inevitable worsening of housing and financial markets. They say the bailouts by the Fed and Treasury also encourage future reckless risk-taking by investors.

``If we don't stop now, there will be no end,'' said Gerald O'Driscoll, a former vice president of the Dallas Fed and now a scholar at the Cato Institute in Washington. He joins Vince Reinhart, former director of the Fed's monetary affairs division, and Marvin Goodfriend, a former official at the Richmond Fed in questioning the market interventions.

They're getting support from Republican lawmakers, who are stepping up their efforts to put a halt to further rescues. Yesterday a group of 100 lawmakers released a letter asking Fed Chairman Ben S. Bernanke and Treasury Secretary Henry Paulson to ``refrain from conducting any additional government-financed bailouts for large financial firms.''

`Let the Markets Work'

``We may just be prolonging the housing slump,'' said Congressman Scott Garrett, a New Jersey Republican. ``We should let the markets work.''

The Fed or Treasury first stepped in to rescue investment bank Bear Stearns Cos. in March, followed by the takeover of mortgage companies Fannie Mae and Freddie Mac in September. This week the Fed put up $85 billion to keep insurance giant AIG afloat, and Congress is mulling tens of billions of dollars in loans to Detroit automakers.

The ranking Republican on the Senate Banking Committee, Richard Shelby of Alabama, said he wants the Fed to let markets work rather than opt for bailouts, even if the consequences are ``brutal.''

``Where do we stop, where do we draw the line?'' Shelby said in a Bloomberg Television interview. ``I don't know what road'' the Fed ``is going down,'' he said. ``If they don't watch what they are doing, they are going down a path of no return.''

Minority View

To be sure, only a minority of lawmakers, financial professionals and former government officials have voiced opposition to further rescues. Prominent figures -- ranging from former Fed chief Alan Greenspan and his predecessor at the central bank Paul Volcker to presidential candidates Barack Obama and John McCain -- have called the Treasury and Fed actions necessary.

And rather than scaling back its involvement, the government is now considering a wider plan to ease the crisis, New York Senator Charles Schumer said.

Paulson and Bernanke pledged last night to work on a plan to require legislation aimed at alleviating the credit crisis. The two, who met with lawmakers, are seeking to help banks remove illiquid mortgage-related assets from their balance sheets. Congressional leaders said they intend to pass legislation within days.

New Realization

``The Federal Reserve and the Treasury are realizing that we need a more comprehensive solution,'' Schumer, a Democrat who chairs the congressional Joint Economic Committee, told reporters in Washington.

House Financial Services Committee Chairman Barney Frank said the market turmoil is likely to force Congress and the administration to consider creating an agency to buy distressed debt and mortgages.

``The private market screwed itself up and they need the government to come and help them unscrew it,'' Frank, a Massachusetts Democrat, said Sept. 17.

That would be a major mistake, said Doug Elmendorf, a former economist at both the Fed and Treasury who argues that the government shouldn't buy bad financial assets or make equity investments in financial companies.

``Structuring either of those in a way that doesn't reward mistaken private investments is very difficult,'' said Elmendorf, now a senior fellow at the Brookings Institution.

Peter Boockvar, an equity strategist at Miller Tabak & Co in New York, agreed. Bailing out Bear Stearns and creating lending facilities for investment banks, he said, ``gave financial companies a false sense of security that they had time to de-lever at their leisure.''

Unless the central bank stops interfering with market discipline, Wall Street's problems will continue, he said. ``The market can get to the right price on its own,'' Boockvar said. ``Anything that prevents it from happening is just prolonging the inevitable.''

To contact the reporter on this story: Matthew Benjamin in Washington at mbenjamin2@bloomberg.net.