The Not-So-Great Bailout Of 2008

Final agreement concerning bailout legislation for the financial sector has been reached. The details are spelled out here:

Top U.S. policymakers emerged from hours of tense negotiations just after midnight with a tentative agreement on a deal to bail out U.S. financial markets and began working Sunday morning to commit the legislation to paper.

Treasury Secretary Henry Paulson, House Speaker Nancy Pelosi, (D., Calif.) and Senate Majority Leader Harry Reid (D. Nev.) were flanked by key negotiators in the Capitol as they announced that a $700 billion plan to have Treasury buy up toxic assets had been all but finalized after days of exhausting negotiations involving members, staff and representatives from the Bush administration.

“I think we’re there,” an obviously tired Mr. Paulson said, a sentiment echoed in the statements of negotiators such as House Financial Services Chairman Barney Frank (D., Mass.) and Senate Banking Committee head Christopher Dodd (D., Conn.).

Those present said the bailout plan still needs to be drafted in its final form, a process staff members were expected to continue throughout the night in what one aide called a “marathon drafting session” in Speaker Pelosi’s office just off the rotunda in the Capitol building. A formal announcement is scheduled for some time Sunday, though an exact time and location was not immediately available.

The distribution of the $700 billion that may be allocated for this bailout is as follows:

The $700 billion would be available in phases. The first $250 billion will be “immediately available” to the Treasury Secretary, and $100 billion available “upon report to Congress,” and $350 billion “available only upon Congressional action,” according to a summary from the office of House Minority Whip Roy Blunt (R., Mo.), the No. 2 House Republican who was at negotiations.

Of course, the bill has changed substantially since it was first introduced as the Paulson-Bernanke bailout plan. A good side-by-side of the changes can be found here.

I am under no illusions that this bailout plan will pass. But it is wrong and I am against it.

There are, of course, a lot of people who tell us that our financial system is this close (put your thumb and your forefinger about a quarter-inch apart here) to collapse. But there are just as many people who are telling us that there is no impending collapse. Arnold Kling makes good points on this score. Congressman John Shadegg points out that if markets do indeed fall precipitously in the absence of a bailout plan, much of the reason behind that fall will be due to the fact that policymakers have been using apocalyptic rhetoric to tell us what would happen in the event that a bailout plan is not passed. And as Congressman Shadegg further states, the banks that he has been in touch with are liquid and are competing with other banks to make loans–as ever. Economists and businesspeople are reinforcing this point and telling us that there is no crisis save in the world of high-risk finance. This bailout bill is aimed at the world of high-risk finance and could very well end up harming well-run companies.

What is most galling about all of this, however, is the degree to which free market principles are being put to the side in crafting this bailout plan. Professor Robert Shimer’s e-mail on this point is eloquent and informed. So is Governor Mark Sanford:

An ever-expanding scope of federal commitment and power is not what made this country great. Expanded power in one place comes at a cost in other places. American cornerstones such as individual initiative and an entrepreneurial spirit — born in free and open societies with private property rights and the rule of law — have never fit particularly well within the context of an ever-growing federal government.

For 200 years, the “business model” in our country has rested on a simple fact: that while one may reap rewards from taking risks, one should also be prepared to face the consequences of those risks. Some of the proposed actions with regard to the credit market turn that business model on its head — absolving those who took too much risk, or bought too much house, from the weight of their own choices. If Congress passes the proposed bailout, we will be destined to have far greater problems in time, leaving those who are prudent in their finances to foot the bill for those who are not.

Many of the “cures” that are soon to be offered will have one thing in common — telling us what others did wrong. Instead of listening to these, each of us as taxpayers must admonish those in Washington to get their own financial house in order. Washington is the master of creative and unsustainable finance, with $50 trillion in unfunded promises.

We will be told of bailouts that “won’t cost anything.” We should caution policymakers that this has never been the history of bailouts, and remind them of Milton Friedman’s suggestion that the capitalist system never works without loss. Investment titans recently featured in Vanity Fair trading $60 million beach homes should never be sheltered from this old-fashioned concept.

We will be told of “temporary” funds and programs. We should remind our leaders of Ronald Reagan’s words that the closest thing to eternal life is a government program.

Governor Sanford properly invokes the name of Edward Gibbon and the possibility that a new, Gibbonesque history of the United States might find a number of parallels between this moment and the key moments in the fall of Rome. I don’t wish to exaggerate matters; the United States is still tremendously powerful and as Adam Smith has said, “there is a great deal of ruin in a nation.” But at some point, even great nations do run the risk of fatally undermining themselves, do they not? Does no one in Washington fear that with the events of the past week, we might be legislatively speeding ourselves towards that point with this bailout legislation?

There may well be very serious problems afoot but where was it written that we could not at least take two weeks to try to solve those problems? Are we worried about a market crash? The market has crashed before and the crash of a market doesn’t necessarily mean a Great Depression–depressions are brought about by policies in the wake of market crashes that augment and lengthen financial difficulties. And even if the stock market rebounds tremendously in the wake of the passage of bailout legislation, that doesn’t necessarily grant the legislation the imprimatur of approval from the denizens of Economics 101. As many have pointed out, the market reacted favorably to the imposition of wage and price controls by the Nixon Administration. How did those policies turn out?

“But there is a crisis and now is the time for pragmatism, not philosophy,” you cry. Well, what use is one’s philosophy except to see us through a crisis? Beliefs and well-reasoned positions are not things to be thrown to the side when there is a crisis. Quite the contrary; it is more important than ever to enter a policy debate with a coherent philosophy underlining one’s presence in that debate. One does not ditch a clearly successful belief in free markets, free enterprise, private property rights and the rule of law in a crisis. Those beliefs are not merely there to see us through good times. They are there to help provide solutions for us in bad times as well. Our philosophical leanings are supposed to help us and to define us in fat and lean years and because capitalism, free enterprise and a healthy and humble appreciation in the power of markets are the most tested and successful ways to make people and nations prosperous, the worst possible thing that we could do is to abandon those beliefs now.

And yet, in a significant sense, that is precisely what we are doing. And we will pay for it. Make no mistake, the bailouts have only just begun. They will continue. We will be back debating a new or revised bailout for the financial sector once we have a new Congress and a new President. On the upside, the mistakes we appear to be prepared to make may finally cause people to appreciate small government and free markets.

But what a price to pay in the meantime.