With Washington Paralyzed, Wall Street Gets the Shakes

Wall Street isn't feeling much love from Washington these days.

With the lame-duck Congress and the Bush administration unable to agree on any action to boost the economy or ease the financial crisis, the markets have nosedived. The Dow Jones Industrial Average alone has plunged 2,000 points since Election Day.

"It can't get much worse,” says Christopher Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi. “We're discounting they're going to rise to the rescue.”

Analysts say the problem goes well beyond the normal lame-duck government issues.

“They are working against confidence building,’ says David Resler, chief economist at Nomura International. “We're in a world where we need to deliver.”

The examples of paralysis are everywhere—from Treasury Secretary Henry Paulson’s frequent policy surprises to Congress’ inability to forge an auto bailout or second stimulus package.

President-elect Barack Obama’s delay in naming a Treasury Secretary had been a factor, as well, until the announcement late Friday that he had nominated Tim Geithner, president of the Federal Reserve Bank of New York and a key player in the government's rescue efforts, who was widely seen as a solid pick.

For Investors

• S&P 500 Falling to 660 'Within Days'
• A Few Investors 'Sniff' Capitulation
• Four Stocks That Are 'Relatively Safe'
• Peter Schiff: Dollar Will 'Fall Like a Stone'
• Credit Spreads and Libor

“Right now, it's almost too big for people to comprehend,” says Donald W. Riegle Jr., who chaired the Senate Banking Committee during the savings and loan crisis nearly 20 years ago. “You have divided government and a form of paralysis. And the main leadership force—the President—is sort of missing in action.”

Paulson In Focus

The stock of the administration’s man of action—Paulson—seems to have fallen as sharply as the market lately. Critics cite his stunning reversal on how the Wall Street bailout fund should be used, as well as signs this week that he's becoming disengaged from the whole crisis.

“I'm really at a loss to understand what he is doing,” says Dean Baker, co-director of the Center for Economic and Policy Research. “He's made a lot of big mistakes.”

Video: Watch a discussion of the markets and the gridlock in Washington

Paulson’s announcement a week ago to abandon using the TARP fund to buy troubled mortgage assets in favor of injecting capital directly into banks is still reverberating in financial circles—as well as Washington.

“The abrupt change caught us by shock because that was not part of the debate,” Sen. Charles Grassley (R.-Iowa), told CNBC.

“Secretary Paulson is not getting the phone calls we're getting,” adds Sen. Claire McCaskill (D.-Missouri), who—along with Grassley—is cosponsoring legislation to strengthen the oversight board of the TARP. “It is uncomfortable to rationalize that what we voted for is not what they're going to do. He has to understand in this climate, it’s very frustrating for the average American to understand what we're doing.”

Days after that policy move, Paulson surprised many again in saying he would not seek authorization for the second $350 billion of the TRAP program, leaving that to the Obama administration.

That raised questions about how Paulson viewed the urgency of the current situation, given that he had rushed to Capital Hill in late September and urged swift passage of the $700 billion package. It also emboldened Congressional Democrats to consider using the rescue fund for non-depository institutions.

"It’s not big enough and it’s not going in the right direction," Christian Thwaites, CEO of Sentinel Asset Management, told CNBC, echoing a common criticism. "It’s a disaster from a PR point of view and a confidence point of view. He keeps making these opaque speeches. He's completely lost the thread of his communication."

Thwaites thinks the market can fall another 5-10 percent before the Jan. 20 inauguration, in what appears to be a new stage of the financial crisis, which has been particularly brutal on bank stocks, such as Citigroup .

Even more surprising, Paulson made public comments twice this week that the government’s efforts had succeeded in stabilizing the financial system.

On Thursday, he made that point in a major speech at the very moment Congressional leaders were holding a news conference to say there was no compromise agreement to bail out the nation’s automakers.

“It’s not clear to me that we’ve stabilized the financial system—the markets don’t think that,” says Lawrence White, a former white house economist and regulator, now with NYU’s Stern School of Business. “I'm really surprised that Paulson has thrown in the towel.”

CONTINUED : The Impact of Paulson's Lame-Duck Status

---

1 | 2 | Next >