Harvard economist Jeffrey Miron differs with the conventional wisdom on the recently tubed bailout plan:
The obvious alternative to a bailout is letting troubled financial institutions declare bankruptcy. Bankruptcy means that shareholders typically get wiped out and the creditors own the company.
Bankruptcy does not mean the company disappears; it is just owned by someone new (as has occurred with several airlines). Bankruptcy punishes those who took excessive risks while preserving those aspects of a businesses that remain profitable.
In contrast, a bailout transfers enormous wealth from taxpayers to those who knowingly engaged in risky subprime lending. Thus, the bailout encourages companies to take large, imprudent risks and count on getting bailed out by government. This “moral hazard” generates enormous distortions in an economy’s allocation of its financial resources.
Thoughtful advocates of the bailout might concede this perspective, but they argue that a bailout is necessary to prevent economic collapse. According to this view, lenders are not making loans, even for worthy projects, because they cannot get capital. This view has a grain of truth; if the bailout does not occur, more bankruptcies are possible and credit conditions may worsen for a time.
Talk of Armageddon, however, is ridiculous scare-mongering. If financial institutions cannot make productive loans, a profit opportunity exists for someone else. This might not happen instantly, but it will happen.
The Wall Street Journal begs to differ, telling congressional Republicans that if they didn’t like a compromise bill that could only garner two-thirds support from Nancy Pelosi’s Democratic Party, they’ll really be unhappy with a passed bill that gets 100% of the team on side – enough to pass without any votes from the right.
Some have decided that the current mess proves that conservative and libertarian confidence in the power of markets to make the right choices over time has now been shattered. That’d be plausible if it weren’t for the fact that Fannie Mae, Freddie Mac, and yes, a deliberate government policy to harass banks into providing loans to those who almost certainly couldn’t afford them had so distorted fair market processes.
Yesterday the stock market stamped its feet in outrage at the political class, while credit markets continue to hold out for a better deal, banking on taxpayer money to rescue them from their missteps. A trillion dollars of market capitalization was supposedly lost, but the only ones really losing any money were those having to move at fire sale prices, or those fleeing for the exits.
The markets will eventually correct, because that’s what markets do: Banks have to lend and invest to make a profit, and they will when they are reasonably certain that the downside risk is less than the upside potential. That will come about in one of two ways: A cash injection equivalent to the cost of another Iraq War – on top of the one we’ve already got – that may, or may not solve the problem in the long term, or a shakeout of bad business practices and poor personal decisions.
Mostly this is just infuriating: Wall Street colluded with the political class to take on enormous risk at taxpayer expense, socializing the downside generally while keeping the profits all to themselves. When the whole thing tanked, the same folks come around to those of us busting our butts to pay the mortgage and send the kids to school while trying to salt enough away to stay out of the pet food aisles come the “salad days” – fully knowing that the Social Security Ponzi scheme will by then have played out – and then they have the gall to ask for even more money.
Nancy Pelosi will do nothing without Republican cover. We might actually end up with something other than a mutual suicide pact out of this.
What Jeff said. If Pelosi is willing to “share the credit” across the aisle, I get suspicious.
She sniped at Republicans for years, made many promises of drained swamps and better leadership, and when presented with an opportunity to do both at the same time, punted. Why would anyone get in line to help her out now?
Amen brother.
My prediction at my site today is that this fiasco seals the deal for Nancy Pelosi to return to the ranks of the great unwashed. The Speakership is Hoyer’s for the taking after the election.
This is slightly tangential to this discussion, but connected in a way in that the article I am linking to by Adam Yoshida of the Western Standard, CA, a Canadian rag, is a simultaneously humorous yet serious take on what a truly conservative Government should do if it ever achieves undiluted power and, as such, serves as a rough guide to us down here
should we “fascists” and “Yankee Air Pirates” ever seize power in order to undo forty years of increasingly entrenched (the bureaucracy, the courts, etc.) “progressive” left-wing government.
Hit:
http://westernstandard.blogs.com/shotgun/2008/09/this-campaign-i.html?cid=132837413##comment-132837413
I couldn’t pass it up.
Adeo- I pray you are right. A more incompetent leader, rabid partisan weasel could not be found. I hope come next year we can’t see her ass for dust. Maybe she should look for a job working for the US Conference of Catholic Bishops (USCCB). Along with Joe Biden.
BTW,
You might note that in the comments section to the article I stated that when I become El Cid two things were clear to me: (1) I wanted Yoshida as my spiritual advisor, and(2) lefties have no sense of humor as indicated by some of the comments.
There was a comment made in another thread around here that it was a good idea to take a breath, wind the clock, and actually think seriously about what needs to be done. I agree with that sentiment. I was never comfortable with Paulson’s 3-page plan for $700B – 3 pages??? for $700B??? Are you kidding me?
I think the House Repubs need to tell Paulson to go back to the drawing board and come up with a better plan, ’cause this dog ain’t gonna hunt. They’d sound a lot better than they do saying Nacy Pelosi hurt their feelings. That just sounds stupid and petulant.
Then there needs to be a new spokesman who can come out and explain this whole mess to the American people – someone with a Bill Clinton-like gift for communicating complex issues to the masses. No, I don’t want him to be president again, but we need someone with that kind of communication talent to get the basic ideas across. Like it or not, Bush has no credibility for this, Paulson has little more, and there’s no one in Congress who does either.
So who’s going to do it?
*crickets*
The longer we wait the more fixed it gets. Markets work best if left alone. Injections of neo-marxism/socialism are sand in the vasoline.
PS: did anyone buy today?
Nope. No plan. Leave it.
I am not an economist, nor am I a financial expert. Just a simple engineer.
I do know that the longer the Congress bickers, the sooner that Wall Street will correct itself because it can’t afford to wait. They have to make a living, after all.
I will say it again: vote against the incumbent…
Today the stocks are on the rise according to the latest quotes (Dow up ~ 3.48%, NASDAQ up 4.33%). Let’s watch what happens.
Agree with Bullnav. Then again, I is an engineer, too.
There are no sacred cows on Wall St. You’ve been in business 200 years? Well, you had a good run.
Trust me, if we really need the services and goods these companies provide, someone else will step up. Someone who isn’t trying to take it from us from both ends.
When Pelosi gets turfed out she’ll be offered the job of running Fannie Mae as a consolation prize.
Some old economist, I believe Schumpeter, explained free enterprise as “creative destruction”. For us simple-minded folks, “out with the old, in with the new”. I kind of like that. I sure am glad my new car doesn’t get the same gas mileage my dad’s new car did. Likewise, I sure am glad Congress has tied itself in knots while Wall Street folks are making their moves and the financial lemons are being turned into lemonade.
And to be honest, in my mid 50s with kids myself, I’m not too worried about Social Security either. I just figure the most sane way to solve the problem is raise the retirement age to match life expectancy, the way they did when SS started. I’d rather work a few more years than dump a load on the next generation, so what’s the problem?
I bought today. Not a lot but I took the little extra we had in savings and put it toward some extra shares of our mutual funds. We’ll do the same next pay period as well.
Though I’ve thought a lot about buying some gold as well. Gold’s value has never been $0 and the gold market has never needed a ‘bailout’…
Bullnav:
“vote against the incumbent….”
Lazarus Long gave the same advice only without the “incumbent” part.
No one is bailing or helping me out in my business. And it’s tough as hell right now.
Best idea I’ve heard is to take that 850 billion and split it evenly among all those who paid taxes last year. then mortgages get paid off, cars get bought and economy gets going. And banks will have money to lend.
Oh, and do away with the requirement for banks to make loans to people who can’t afford them and to value their holdings based on the cheapest valuation. It would be a start
At one day in my young life, I said I never wanted to speak of millions of dollars like pocket change. Near the end of my voluntary indentured service, I became one of “them” with $34M floating about the paperwork.
Billions? I can’t understand how anyone could be cavalier about 700 of them…but I have a science background.
We didn’t get here overnight, but we did with the institution that now garners about the lowest ratings of any group in the country (and has for at least a year now)…and they tell us they have to fix it overnight.
Sorry. Something this big need a serious, well considered battle plan, not a quick fix of massive socialism. Some quick action…most likely, but to stabilize it and do what the Surge did…give breathing room for the Govt to then get ti right. And besides…how often do government projections of this scale ever flush out in the taxpayers favor?
Sorry again…bad track record of “The Institution” who begs us to do as they say and to “trust them.”
Might I suggest Gen Patraeus may be a good one to consult at this moment…if he wasn’t busy helping another nation bail itself.
I really don’t know what’s the best thing to do. All of you (and everyone else I’ve read) sound so convincing. Maybe we should look for someone who stayed at a Holiday Inn Express last night.
Just sayin’…
OMG, i find myself agreeing with a Harvard economist!!
i shall now have to re-trench and more closely examine my feelings on this topic.
i’m not an engineer, but i played one for four years in college, so i’m just going with a thumbnail sketch of major competing stress factors at play here, but i’m still of the fixed opinion that market forces with align themselves in fairly short order. this ain’t no tulip bubble.
[...] more Pissed I get Posted on October 1, 2008 by grouchy I agree with Lex when he says: Mostly this is just infuriating: Wall Street colluded with the political class to [...]
Geez…like I said last night, the “While we have our hands in your bank accounts, you who elected us, you won’t miss us taking a bit more, will you?” crowd…SOBs….they will take as much as we are foolish enough to let them.
Leadership? Long gone at this point. And I don’t have to be an economist to know this ain’t cricket being played.
I agree with the WSJ article. The Harvard economist, not so much.
Jeff Miron needs to take a sabbatical. He needs to get occasionally out of his ivory tower and his adherence to Chicago/Austrian economics at all costs.
Bankruptcies as a solution, indeed! Gack!
Theoretically it is not so bad for our economy with airlines’ bankruptcies – as he uses as an example – but it is likely disastrous for the massive but now all failing financial linchpins integral to our economy to declare bankruptcies.
Miron must have overlooked the proud flag carrier PanAm that for over half a century circled the world, but is no more. As is Eastern. As is nearly 110 upstart airlines that appeared briefly after the airlines were deregulated in 1978, and quickly or eventually all went into oblivion. Lots of investor money lost. More importantly, lots of employees – office, maintenance, cabin, and flight crew – on the street. Has Miron ever been, “on the street?” Doubtful.
But I suppose if he hasn’t lost money or his job, it’s OK… as long as it happens to someone else.
(But airline bankruptcies are a very weak example of his, and not comparable to our current major macroeconomic credit crises.)
While he does not delineate between chapter 7 (liquidation – investors lose all, vendors lose a lot, and employees lose all) and chapter 11 (reorganization, common stock holder lose all, preferred and bond-holders lose some, and employees lose about half), neither is desirable. But chapter 11 has cheaply and fortuitously allowed several airlines recently to eradicate their long accrued employee promised pensions that were promised for decades. Now the taxpayer through the PBGC picks up the airline’s tab, but at only 25 –30cents on the dollar.
Miron also overlooks perhaps conveniently the massive bailout the government gave to failing airlines following 9-11. The rapidly established Air Transportation Stabilization Board (ATSB) under President Bush was designed to keep airlines solvent and out of bankruptcy with massive loan guarantees – not unlike our current credit/financial situation. It is what government does, and should do.
The ATSB “bailed out” a number of airlines following 9-11. They saved investment and jobs. Moreover, the Treasury through warrants tied with the loan guarantees actually made money.
Perhaps I should contact Harvard economist Miron and discuss this ….