Does the government have a duty to bail out failing financial institutions?
Why are foreign countries such as South Korea suddenly investing so heavily in America's top mortgage banks Freddie Mac and Fannie Mae in the middle of a downturn in the US economy?(1) Foreign governments suspected rightly that the US government would bail out Freddie Mac and Fannie Mae. Though the two banks have taken on an unprecedented amount of bad loans, the US government has stepped in to say that it is backing up the two banks. But this is a capitalistic economy. Is it right to bail out mismanaged businesses? In today's column we see the pros and cons of whether the government has a duty to bail out failing financial institutions.
* Laissez-faire? The government has the responsibility of protecting its citizens. To let banks simply dissolve is irresponsible. These are not sock manufacturers, but the holders of mortgages and retirement accounts. The government has a right to step in and protect its nation from dire economic situations. It already does this through altering interest rates. Saving banks is an extension that should only be applied when banks are failing.
* Ripple Effect. Banks are the anchors of the economy and if we let them fail they will sink the economy. Fannie Mae and Freddie Mac are excellent examples. "In the first quarter of 2008, the two firms accounted for nearly 70 percent of all new mortgages."(2) The collapse of such banks would ripple beyond American shores and around the globe.
* Nationalization. The bailout is the start of what should be a nationalization of major mortgage banks. CEOs and employees of faltering companies can still be prosecuted so there is no incentive to go bankrupt. Banks that do have these problems could be taken over in a way that allows the bank to operate as a strictly regulated credit union, where the focus is the customers, not shareholders and CEOs.
* Domino Effect. A large manufacturer could buy a bank and use its bank status to take broader risks, knowing that it could cash in on its bank status and be bailed out by taxpayers as it takes risks. As Robert Kiyosaki, author of Rich Dad, Poor Dad, pointed out, "Trouble brews when we steal from the poor and give to the rich."(3)
* Socializes Risk and Privatizes Profit. Banks can take great risks and alter their records to have excellent years, taking great profits, especially for CEOs. Then as banks begin to have problems, they can pass on all problems to taxpayers. Banks may continue to engage in behavior like offering mortgages to people who cannot realistically repay their loans. Then that risk will result in an additional cost for taxpayers.
* Focus on Consumers. The government should provide a certain amount of insurance to individuals. Through the Federal Deposit Insurance Corporation (FDIC) individual accounts in the US are insured up to $100,000 whether or not the bank succeeds. This provides peace of mind to bank patrons while blocking poor business practices.
Next week: Should unethically obtained data be banned from scientific research?
The author, Roger Hatridge will be assisting at a free seminar on All-Asians style debate August 2nd at Ewha University. To register, contact Peter Kipp at firstname.lastname@example.org.