Summary: The 2008 Financial Crisis demonstrated that the global economy depends upon world governments propping up the banking system with “mythical money” (dollars by fiat) and turning a blind eye to unimaginable bailouts when bank speculation drives the system over the cliff. What did the 2008 bailout really cost the taxpayers? Is it possible to fix the system? Or do we have to live with banks who continue to have a license to make billions of dollars with no consequences when things run amuck?
The issue of government bailouts of financial institutions in 2008 continues to be hotly debated I’ve ten years later. One can find analysts on both sides of the question as to the wisdom in putting $700 Billion into these institutions.
One analyst argues that the taxpayer has actually profited from the bailout claiming that the government bailouts were actually investments. He assesses the cash flow of the bailout transactions, in summary, as follows:
Still, one thing seems clear: taxpayers came out ahead. In total, $623 billion in taxpayer money was dispersed via bailouts and roughly $698 billion has come back via dividend revenue, interest, fees and asset sales. It doesn’t take a math genius to see the bailouts ultimately earned taxpayers more than $75 billion in profit, and that number is still growing (Duggan, 2017).
He goes on to praise the value of the decision to bail out institutions by noting that out of the 25 “investments” made, only two of its largest bailouts (the operative word is largest) failed to make money for the U.S. government. He cites one expert who commented that to question the wisdom of the action of Congress and the Treasury is quibbling like a Monday morning quarterback.
The bulk of Duggan’s optimism is the economic conditions we are experiencing now: The highest stock market index prices ever, lowest unemployment (in 18 years as of 2019), and the creation of millions of new jobs. No doubt, these are all nice numbers.
Perhaps the chink in the armor of his position is admitting that the Trump administration will “peel back regulation” which could lead to another economic crisis which might not be concluded in such a positive way. “However, as the new administration gets to work peeling back regulations aimed at keeping corporations in check, it would be wise for legislators to consider the possibility that the next potential round of government bailouts might not be as successful” (Duggan, 2017). That is the politically correct way of saying the next crisis could put the world into an economic collapse and chaos.
In contrast, an article in Forbes Magazine challenges the bright picture Duggan paints. The real size of the bailout commitment was forty times what Duggan posits. “The Special Inspector General for TARP summary of the bailout says that the total commitment of government is $16.8 trillion dollars with the $4.6 trillion already paid out. Yes, it was trillions not billions and the banks are now larger and still too big to fail.” (Collins, 2015)
The moral hazard (Definition: taking big risks that someone else guarantees) seems endemic to the “brave new world” of banking. HSBC Bank laundered money for the drug cartels to the tune of $881 billion. After being called on the carpet, the firm paid only a $1.9 billion fine — a fraction of the profits they made on washing drug money.
But the behavior of Goldman Sachs and JP Morgan Chase was even worse. After creating the mortgage loan debacle by creating derivatives based on subprime mortgage loans, they then shorted the derivatives to profit on their collapse:
Both JP Morgan Chase and Goldman Sachs worked with hedge funds to bet against the toxic mortgages after the crash had started. They made money by selling short on the financial catastrophe they had created. JP Morgan was fined $296.9 million and Goldman Sachs was fined $550 million for their actions (Collins, 2015).
Hedge funds, the notorious mechanisms that profit on stocks that fall in price, were at center stage benefiting from insider trading by firms like Goldman Sachs. But the prosecution of such cases is going as slow as molasses (Collins, 2015). Collins cites information of Hank Paulson’s testimony before Congress, that if Congress didn’t approve $700 billion in three days (from September 18, 2008), $5.5 trillion (with a “t”) would disappear throwing the economy of the world into a tail spin. Apparently, Duggan’s $700 billion was only the first step. This seems obvious now with several more rounds of the Federal Reserve’s program with the innocuous euphemism “quantitative easing” (i.e., QE1, QE2, etc.) under our belts.
Collins chronicles the repeal of regulations that always led to financial disasters in a decade or less. One thinks of the 1982 Garn-St.Germaine Act which deregulated the Savings and Loan industry leading to a $200 billion dollar bailout. And of course, Phil Gramm led the process to free banks from the 1932 Glass-Steagall Act so they could become investment banks in addition to the core business of being Commercial and Retail banks. The net effect was to unloose banks to speculate with depositors money. It took less than nine years for the U.S. largest banks to enjoy a near-death experience at the taxpayers expense.
Collins puts forth a number of correctives that he believes might save banks from themselves and taxpayers from another bailout. He recommends that the credit-rating agencies like Standards and Poors be eliminated as they are mere surrogates for banks (i.e., “yes men” with almost no repercussions when they overstate the credit worthiness of an institution). Collins also suggests that some form of Glass-Steagall be reinstituted to separate retail banks and investment banks once more. And he believes that the five largest banks should be broken up as they are an oligopoly that holds over 50% of all deposits. Before they were too big to fail. Now they are even bigger. “Bail me out once, shame on me. Bail me out twice, shame on you!”
As many have opined before, big banks are one of our biggest problems. Surprisingly, Collins cites an adverse opinion aimed at the banking industry (as it is currently organized) from an analyst writing on behalf of the Dallas Branch of the Federal Reserve Bank, “The report goes on to say that the 5 largest banks –JP Morgan, Citigroup, Bank of America, Wells Fargo, and US Bancorp hold 52% of all US deposits and are an oligopoly that should be broken up.” And, for good measure, he calls for the elimination of derivatives. This would really send shockwaves through the system because without derivatives like “futures and forwards” there is no way that banks could maintain their ongoing capital requirements as regulated by the government.
In the final analysis, Collin’s views may seem extreme. However, if we correctly size-up the problem that continues to live among us today (after all there are still $12 trillion to “ease” away quietly), perhaps the government bailouts are the largest moral hazard of all. Banks that were too big to fail are now even bigger and their failure even less palatable. Indeed, the comparison between Duggan’s and Collin’s opinions is so stark it appears both are caught up in hard-core ideologies that are itself part of the problem. One sees no problem in the government’s past actions while the other bemoans how detrimental the actions were that rewarded reckless speculation along with draconian demands to turn the system inside out. Hopefully, over time, saner heads will prevail, the banks won’t fail, and some of the most egregious bad actors will, for the first time in several decades, go to jail.
Collins, M. (2015, July 14). The big bank bailout. Forbes.com. Retrieved April 8, 2019 from https://www.forbes.com/sites/mikecollins/2015/07/14/the-big-bank-bailout/#6fbf22ac2d83 (Links to an external site.)
Duggan, W. (2017, January 9). Financial crisis has earned taxpayers billions.Retrieved April 8, 2019, from https://money.usnews.com/investing/articles/2017-01-19/financial-crisis-bailouts-have-earned-taxpayers-billions (Links to an external site.)