The lessons of recent days in the financial markets: If you steal peoples’ title to their houses, raid their pension plans, or empty their nest eggs, you better do so on a very big scale. Stealing on a national level is fine, but on the global level is best. Only small-time crooks may end up in jail; occasionally even a crook of the Tyco caliber gets into trouble; but the real big ones get bailed out by one government or another.
In the savings and loan financial crisis of the 1980s, investors and managers made irresponsible loans, manipulated their books, and misled those who invested in them. They made out like bandits. When they were caught red-handed (most financial criminals are not), the scale of their shenanigans was so large that millions of law-abiding citizens stood to lose their life savings, homes, and retirement funds. There was even a danger that the crooks would undermine the American economy with their manipulations. Hence the government bailed out the saving and loans banks at the tune of a least 175 billion dollars, which in the ‘80s was really a lot of money.
The new Ponzi scheme concocted by Wall Street is particularly far-reaching. Government regulations limited the scope of risky loans that any one bank can make. So banks packaged their high-risk mortgages and sold pieces of these packages to assorted buyers who usually would not touch such loans. These buyers included the managers of pension funds, mutual fund, and university endowments. The sky was the limit.
As soon as the scheme begun to unravel, attempts were made to shift the consequences of irresponsible loans and extremely risky investments from those who were enriched by them to the government. Various bills were introduced in Congress to prevent houses from being sold out from under people who purchased them by taking out mortgages they could not possibly afford. (Many of these home-owners assumed they could make a quick buck in a hot real estate market by reselling their house at a higher price than they paid for it before higher mortgage rates set in). Although those involved should have known to avoid deals that sound too good to be true, the fact that thousands of people are being evicted from their homes is something that none of us can readily accept. Hence the wide popular support for a housing bailout. Yet because the number of endangered houses was not gigantic, and because the crisis seemed initially to endanger only those directly involved, these bailout laws did not win wide support in Congress.
But then came the financial tsunami, in which Wall Street hedge funds, investment houses, and even banks in the United States and overseas were found out to rest on shaky grounds, which in turn led to a downturn in the stock markets. (Actually, these markets merely dropped a few percentage points after very substantial growth for several years.) There was now a danger that unsteady financial markets will unsettle the economies of many countries as businesses found it difficult to obtain the credits essential for their uninterrupted operation. This concern over liquidity caused a whole bunch of governments to rush to hand out multi-billion dollar bailouts.
One may argue that, like the 1.5 billion dollar loan the U.S. government made to Chrysler in 1979 when it was about to collapse and which Chrysler paid back in full, the billions just injected into the markets are cost free. The claim is that these bailouts will calm the markets and restore normal operating conditions, after which the government will mop up the extra liquidity, allowing everyone to live happily ever after or at least until the next financial crisis. However, these bailouts create a big loser: the libertarian fairy tale.
The tale libertarians love to repeat (albeit not lately) is that the market is supposed to be self-correcting and highly educating. People who take great risks are supposed to benefit when they bring off their high-flying schemes, but absorb the costs if they fail. In this way, we have been told a million times, people learn to live with the consequences of their acts, which reinforces their rational nature and reinvigorates their character. Instead, the bailouts create a world in which tails – you win, heads—the government bail you out.
The moral of all this is not that governments should let economies collapse in order to teach speculators a lesson. The risk to all of us is too great. Instead, the moral is that libertarian theory is just that, a theory. We need much tougher government regulations that will prevent the next financial crisis. These can be readily achieved if those who undermine the financial well-being of the markets will have to personally face the consequences of their actions even as the institutions involved are bailed out. Thus, the executives of pension funds who purchase bundles of unduly risky loans, in direct violation of their fiduciary duties, should pay back all the bonuses and raises they received as a result, and face fines, even if we do not let their pension fund go belly up. The same should be demanded of those who manage mutual funds and banks. These institutions may indeed be too important for us to allow them to fail, but surely their irresponsible executives are not.
Amitai Etzioni is University Professor at the George Washington University and, most recently, the author of Security First: For A Muscular, Moral Foreign Policy.
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