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The Bailouts to Coming

This kind of statement actually makes me nervous:

Federal Reserve Chairman Ben S. Bernanke said government bailouts of large financial firms are “unconscionable” and must be ended as part of a regulatory overhaul following the worst financial crisis since the 1930s.

“It is unconscionable that the fate of the world economy should be so closely tied to the fortunes of a relatively small number of giant financial firms,” Bernanke said today in a speech in Orlando, Florida. “If we achieve nothing else in the wake of the crisis, we must ensure that we never again face such a situation.”

Why nervous? Well clearly for some value of “bailouts” the existence of bailouts needs to be done away with. That said, if you had a checking account at the First Lowndes Bank in Alabama, you just got yourself a nice bailout from the Federal Deposit Insurance Corporation. We didn’t bail out the bank, but we did bail out the account-holders which is akin to bailing out the creditors of some other kind of firm. This is structurally identical to what took place with the much-criticized “backdoor bailout” of Goldman Sachs and others via the nationalization of AIG. AIG owed people money, but didn’t have the money to pay them. So tons of taxpayer dollars were given to AIG’s creditors, just as a much smaller amount of taxpayer money is now available to those to whom First Lowndes owes money.

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The difference between the situations isn’t that one is a bailout and the other isn’t. The difference is that the FDIC process is a reasonable well-understood, reasonably transparent, reasonably “normal” part of American economic life whereas the AIG bailout was ad hoc and shifty. It’s hard to devise a resolution mechanism for large, complicated financial firms that will actually work. But it’s quite important to get it done. And I worry that simply screwing up our faces and “cross your heart hope to die” promises about “never again” will crowd out the reality that, in fact, there will be bailouts and so we’d best think about how to do them. After all, the ideal scenario from the point of view of large financial firms is precisely to have government officials just promise not to ever bail them out again. If the firms aren’t going to bailed-out, they don’t need to be regulated. And if there’s no need for bailouts, then the firms don’t need to be taxed. And all the promising in the world won’t do anything to change the fact that when these firms fail, there actually will be bailouts.