David Frum on bailouts

David Frum explains bailouts:

Senate Minority Leader Mitch McConnell has accused the Obama administration, Sen. Chris Dodd, and, by implication, most other Democrats of plotting for permanent bailouts of the financial system.  He’s right. But Democrats can rightly point out that McConnell, every other member of Congress, and, indeed, just about every American citizen, want the same thing.

A bailout, of course, is what happens when the government keeps an explicit or implicit promise to stop an institution from failing or a financial instrument from loosing its value.  And these guarantees are very common: many widely owned products—savings accounts, certificates of deposit, pensions, retail brokerage accounts, and admitted market homeowners insurance—all have attached guarantees.  In many cases, people even use different names for guaranteed and non-guaranteed products: a CD without a government guarantee is called a bond, property insurance without a guarantee is called an excess and surplus lines policy. One expects that these guarantees will eventually be needed: there wouldn’t be a point in offering them if they weren’t. So, as long as the government guarantees any financial instrument, in short, it will engage in bailouts. The only true “no more bailouts” policy would involve abolishing the Federal Deposit Insurance Corporation, the Securities Investor Protection Corporation, more than 50 state insurance guarantee funds, the Pension Benefit Guarantee Corporation, the National Credit Union Share Insurance Fund and at least a half dozen other entities.

Even if this were a good idea, it probably wouldn’t get a single vote in Congress.  Among other things, abolishing all public-sector guarantees would upend the business model of nearly every financial services firm in the country, lead some families to financial ruin, and end the sale of certain products. In short, while proposing an end to all guarantees may make good fodder for dorm-room bull sessions, it will never go anywhere.

Any practical look at policy towards bailouts should focus on how to limit them.

This means the government should get out of some guarantee businesses altogether, avoid entering new ones, and enforce regulations to minimize the need for those guarantees that can’t go away.

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