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Did The Bank Bailout Work?

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By Marquis Codjia

A few months ago, the crumbling global economy was atop the agenda of many G20 leaders. Social unrest, banking sector meltdown, global growth conundrum, and stock market yo-yos were the main discussion topics among the planetary leadership.

Governments the world over addressed the most imperative issue, the banking pandemonium, with massive cash inflows into a sector that hitherto epitomized capitalism at its best (and worst), with a modus operandi more akin to central intervention in communist economies.

The global tab ranges from 4 to 5 trillion US dollars according to the most optimistic estimates, but the overall costs may run higher in the future.

The financial rescue of the ailing banking sector, in principle, was the right course of action and various experts across the political spectrum saw eye to eye on its criticality, including the staunchest free-market theorizers who routinely treat as leftist energumens out of the antediluvian era those who dare buck conventional wisdom regarding the role of government in social economics.

It was flummoxing, however, to observe how lenient authorities were vis-à-vis banks throughout the bailout process on top of the very favorable terms under which funds were disbursed. Hence, financial institutions that benefited from state largesse were able to quickly use monies received to regain profitability and reimburse their respective governments.

Other parts of the economy didn’t experience so swift a recovery. Unemployment is still high; the mortgage sector is still in a shambles. Banks have been reluctant to lend, creating an underperforming productive sector and a lethargic private consumption. The stock market may be up but, debatably, the “real economy” is still down.

Banks played a crucial role in the current economic malaise, but anti-bailout commentators were wrong to vilify them and to affirm that such guilt should have precluded public rescue. Financial intermediaries are an epochal pillar of our post-modern economies, and it would have been socio-economically ruinous and politically unpalatable to let them sink.

Admittedly, a majority of banks are today more cash awash and profitable than a year ago albeit some pockets of the industry are still comatose owing to the liquidity hemorrhage that has devastated them since the recession erupted.

Regrettably, nothing has changed. These institutions are resorting again to the erstwhile practices that wrought havoc to the economy in the first place, under the aegis of a regulatory body eerily blind, deaf and tongue-tied.

Banks, evidently, should be encouraged to pursue and make profits as any private concern. But when such a financial quest comes at the expense of an entire system or poses a systemic threat to the productive sector of the economy, the argument in favor of tougher regulation becomes of preeminent import.

Companies need to utilize hedging for exposure control; yet, speculators lately seem to use derivatives to bet against their very benefactors. Although outrageous to vast swaths of the populace, such practices are explicable if one considers that the speculating camp only furthers private interests of elites (their investors) who seldom factor morality into the profitability equation.

Case in point: Greece. The Hellenic government bailed out its banking sector with billions of dollars only to see their country downgraded a few months later because of a perceived default risk.

At this moment, elected officials and central bankers should ponder the following question: did the bailout work? Or, stated differently, did the mammoth cash infusion into banks and the associated supplemental initiatives reach the initial goals?

Seasoned economists and social scientists will grapple amply with issues regarding program effectiveness and efficiency in the future, but prominent experts currently believe the answers to such interrogations are negative. George Mason University economist Peter Boettke posited that bank bailouts have created a “cycle of debt, deficits and government expansion” that in the end “will be economically crippling” to major economies, whereas Barry Ritholtz, famed author of Bailout Nation and CEO of research firm FusionIQ, thinks the rescue programs could have been conducted better.

It can be argued that the initial rescue phase of the bailout program was effectual in that it helped avert a domestic and global banking hubbub. But, contrary to popular credence, that was the easiest part. The courageous headship of political leaders and regulators cannot be underrated in the process, but it is indisputably far facile for a powerful central bank, like the US Federal Reserve, to make journal entries to the credit of targeted institutions and replenish their corporate coffers via the much celebrated “quantitative easing”.

The Fed, just like other G8 central banks, is in an enviable position because it can create money ‘out of nothing’ by increasing the credit in its own bank account. Ask current Greek Central Bank governor George Provopoulous whether he’d like to have such latitude.

Regulation is where actual political bravery need be shown from authorities, and so far the lack of sweeping reforms in the financial sector may obliterate the latter’s plodding recovery.

At present, there are five distinct reasons explicating the mediocre results obtained so far from the bailout scheme.

First, the much needed financial overhaul is taking longer to move up the legislative ladder and reach US President Barack Obama’s desk because not only financial lobbies – such as the über-powerful American Bankers Association – are exerting strong pressure,  the political agenda is also crowded out with the pressing healthcare reform and the geostrategic concerns linked to conflicts in Afghanistan and Iraq.

The fact that Senate Banking chief Chris Dodd, D-Conn., wants to introduce reform in the sector will probably change little in the short-term.

Second, President Obama’s own senior level financial staff is composed of former Wall Street alumni and lobbyists, and many skeptics are incredulous that a clique so tied to financial interests can spearhead true reforms in an industry that was previously munificent to them.

The next two factors are endogenous to the banking industry. One is the past experience of regulation and deregulation cycles that usually make laws dissipate over time, and the other stems from the idiosyncratic ability of financial engineers and investment bankers to design new products and techniques to counter existing laws.

Finally, the regulatory endeavor should be global in scope, and the present lack of geographic cooperation and the practical difficulty to track systemic risk within the industry are currently handicapping further advances.

  1. EconProf
    March 18, 2010 at 3:50 pm

    This is one brilliant analysis and thank you for putting it up. I think banks know they won’t pay, in fine, all the costs associated to the bailouts and that will be done by taxpayers. Classic tale.
    Economics Prof

  2. Chan J
    March 18, 2010 at 3:53 pm

    Banks are not guilty of anything. They are in business to make money and that’s all they’re doing.

  3. Peter P
    March 18, 2010 at 3:53 pm

    Great article sir.

  4. CrisisGuru
    March 18, 2010 at 3:54 pm

    Wouldn’t it be nice if we just let those banks sink in the first place? And then rebuild newer institutions out of them that will be more solid? Just thinking…

  5. John1970
    • John1970
      March 18, 2010 at 3:58 pm

      Dec 29 2009
      The guts of the $700 billion bank bailout bill is the same as the three page document submitted on September 21 by Treasury Secretary Henry Paulson. Paulson had asked Congress to approve a $700 billion bailout to buy mortgage-backed securities that are in danger of defaulting. By doing so, Paulson wants to take these debts off the books of the banks, hedge funds and pension funds that hold them. The bill establishes the Troubled Assets Recovery Program (TARP) which originally gave troubled banks the right to submit a bid price to sell their assets to TARP as part of a reverse auction. Each auction was to be for a certain asset class. TARP administrators would select the lowest price for each asset class, which was to help assure that the government didn’t pay too much for distressed assets. However, it took too long to develop the auction program, so instead Treasury lent $115 billion to banks by purchasing preferred stock.(Source: WSJ, Historic Bailout Passes as Economy Slips Further, October 4, 2008)
      The bill also also includes much-needed oversights attached by Congress. It provides helps for homeowners facing foreclosure by requiring Treasury to both guarantee their loans and help them adjust terms through HOPE NOW. It increases FDIC insurance for bank deposits to $250,000, and allows the agency to tap as much federal funds as needed through 2009, allaying any fears that FDIC itself might go bankrupt.

      It allows the SEC to suspend the mark-to-market rule. This law forced banks to continually write down the value of their mortgages to present-day levels. This meant that bad loans, which could not be resold in the current panic-stricken climate, had to be valued at less than their probable true worth. (Source: Bloomberg, Bank-Rescue Plan Wins Approval as House Reverses Vote, October 3, 2008)

      The bill contains an additional $150 billion in tax breaks, to be phased in over 10 years. These include an extension of the AMT patch, tax credits for research and development, and relief for hurricane survivors. For more of the tax breaks, see WSJ, Senate Vote Gives Bailout Plan New Life, October 1, 2008.

      By October 3, the Senate had re-introduced the proposal by attaching it to a bill that was already under consideration. This side-stepped the House, which usually must introduce any funding bills. The Senate’s tactic resulted in successful passage of the bill by the House, and President Bush signed it into law.

      It also keeps many of the provisions added by the House of Representatives:

      An oversight committee that will review Treasury’s purchase and sale of mortgages. The committee is comprised of Federal Reserve Chair Ben Bernanke, and the leaders of the SEC, the Federal Home Finance Agency and HUD.
      Bailout installments, starting with $250 billion.
      The ability for Treasury to negotiate a government equity stake in companies that receive bailout assistance.
      Limits on executive compensation of rescued firms. Specifically, companies will not be able to deduct the expense of executive compensation above $500,000.
      Government-sponsored insurance of assets in troubled firms.
      A requirement that the president propose legislation to recoup losses from the financial industry if any still exist after five years. (Source: Senate Banking Committee, Bailout Bill Summary pdf; CNNMoney, Rescue Bill Released, September 28, 2008.)
      The proposal had been defeated by House Representatives who were opposed to a taxpayer bailout of bad banking decisions. However, this caused the Dow to drop 770 points, and global markets to plummet. Therefore, the Senate created an amendment to an existing bill, and the House finally approved that version on October 3, 2008. (For more, read Bank Bailout Bill Implodes)

      The bailout was triggered by a record $140 billion being pulled out of money-market accounts, usually considered the safest of investments. That’s because investors were moving the funds to U.S. Treasuries, causing yields to drop to zero. To stem the panic, the Treasury agreed to insure these funds for a year. In addition the SEC banned short-selling of financial stocks until October 2 to reduce volatility in the stock market. (For more, see What Triggered the Bank Bailout Bill?)

      The government is buying these bad mortgages because banks have become afraid to lend to each other. This fear is what is caused LIBOR rates to be unnaturally higher than the Fed Funds rate, stock prices to plummet, and financial firms unable to sell their debt. Without the ability to raise capital, these firms are in danger of going bankrupt, just as Lehman Brothers did, and AIG and Bear Stearns would have without Federal intervention.

      As it should, Congress debated the pro’s and con’s of such a massive intervention. Political leaders wanted to protect the taxpayer and not let businesses off the hook for making bad decisions. Most in Congress recognized the need to act swiftly to avoid further meltdown. It has become a case of fear feeding on fear, with banks afraid to disclose their bad debt, which would lead to a downgrade in their debt rating, which would lead to a decline in their stock price, which wouls lead to their inability to raise capital, which would lead to bankruptcy. This fear of disclosure has led to an overall panic, fed by rumor, which has locked up the credit markets.

      Will the taxpayer be out $700 billion? Probably not, since the government will be buying when the prices are depressed and selling later, when prices have returned to normal. Furthermore, the bill requires the President to develop a plan to recoup losses from the financial industry.

  6. KL
    March 18, 2010 at 4:01 pm

    Bankers don’t care abt politicians or regular folks. Only ka-ching counts.

  7. Lehman Man
    March 18, 2010 at 4:02 pm

    Thanks for this post, you’re right on so many points. I only wish politicians will look at the situation differently.

  8. TP1978
    March 18, 2010 at 4:02 pm

    Awesome, sharp analysis as always. Thanks dude.😀

  9. Fed Watch
    March 18, 2010 at 4:04 pm

    The Fed is the main culprit in all this chaos, they print electronic money to bankers with no collateral.

  10. Patel
    March 18, 2010 at 4:04 pm

    Great😀😀

  11. Lady O
    March 18, 2010 at 4:08 pm

    The government should have let these big banks fail. We’re seeing a large number of small banks go under and it’s because not only do they not get a bailout, but they have to complete with these big banks that should be out of business. Oh, and where’s my bailout?

  12. Josh
    March 18, 2010 at 4:08 pm

    Thanks for the excellent article. Right on!

  13. Agent Non
    March 18, 2010 at 4:10 pm

    Where are those lunatics who used to scream “No Corporate Welfare”? Well of course because in this case it was them that gave us the largest payout of corporate welfare in history.

  14. Cherry
    March 18, 2010 at 4:10 pm

    This administration doesn’t give a damn about you or anyone’s Constitution rights.

  15. Harry Little
    March 18, 2010 at 4:11 pm

    They gave the banks “bailout money” so they could give their ceos some nice big bonuses. I guess they have to pay the banks to be quiet though, since they know about all the illegal crap the politicians are doing.

  16. Scene
    March 18, 2010 at 4:12 pm

    Plutocrates, where are u?

  17. Pyros
    March 18, 2010 at 4:12 pm

    Don’t blame bankers, blame Bush and Obama.

  18. Ali
    March 18, 2010 at 4:16 pm

    We shldn’t blame only banks. Other companies that got federal money also are culprit.
    GM files for Chapter 11 bankruptcy, what happened to the $25 billion in bailout money that we gave them? What the hell was the point of all the bailouts?

    • Lynette
      March 18, 2010 at 4:17 pm

      That was part of Obama’s plan to make sure that GM makes a smooth transition into bankruptcy creating a higher chance of a successful reorganization. Oh wait.. I mean that’s Obama’s new plan. His original plan was to prevent them from going into bankruptcy because bankruptcy for the automakers simple “could not” be allowed to happen. That’s why giving them billions was critical.. it was because the money would prevent bankruptcy.

      • Bordelo
        March 18, 2010 at 4:18 pm

        The money was used to keep Americans working and to keep people driving American cars. Do people want Americans supporting foreign automakers? Bush and Obama wanted American auto workers to have a job and a future. It may cost us up front but I think It will come back to the US in the long run. It take more than 100 days to turn this economy around. It took Reagan almost two years to turn it around in the 80’s. Would the conservative want the American automakers to fail?

      • Dude
        March 18, 2010 at 10:18 pm

        We don’t have government run health care because until very recently, America had a good understanding that capitalism is the best way to advance the standard of living for all its citizens. Our healthcare system evolved as a component of our capitalist economy. This profit-driven system created most of the innovative drugs and medical procedures we now take for granted.

        You also answered your own question before you asked it! We don’t have government-run healthcare in this country because Americans used to realize “HUNDREDS of billions of dollars are wasted every year on Government Fraud and waste and abuse of agency management and employees serving the best interest of themselves before the country. America is the country that throws money like it’s water on the most wasteful useless programs.”

        Isn’t healthcare too important for our lives to entrust to that government? Those countries that have tried government run healthcare have those cancer patients coming HERE because their governments denied care!

        Our healthcare isn’t failing. Most people have access to it. You just need to work at a place that offers it. Or give up cable tv and a new truck payment to afford it.

        No highly specialized, technical service is free or cheap. Why do you expect it to be? If the government runs it, we will pay the same or more, and get less, plus forget about any medical innovations from now on. There just won’t be any profit in it.

  19. Velio
    March 18, 2010 at 4:19 pm

    All CEOs at those bailed out firms receive big paychecks.

    • Yann
      March 18, 2010 at 4:20 pm

      Bonus money for the great job their execs did.

  20. Mary
    March 18, 2010 at 4:21 pm

    Of course taxpayers of our great country will take it up the rectal canal.🙂

  21. Koolio
    March 18, 2010 at 4:22 pm

    huh, bailout money? Taxpayers? Social “redistribute the wealth” liberals? oh c’mon!

  22. Adhna Ahmed
    March 18, 2010 at 4:22 pm

    Bailout of banks was a con-job…plain and simple..

  23. Bougquet
    March 18, 2010 at 4:23 pm

    The bailouts were stupid and they still are stupid

  24. Rosemary
    March 18, 2010 at 4:45 pm

    So far, the government hasn’t done much bailing out except for poorly manage multi-billion dollar financial institutions. The only “bail out” for working/middle class people has been a $400 a year tax cut. This tax cut kicked in with this week’s paycheck; Things like extending unemployment benefits are to help works who have lost their jobs due to layoffs and business closings. These were working folks who lost their jobs through no fault of their own. Even the plans to rescue homeowners in risk of foreclosure are aimed at people who can afford to make their payments but have gotten behind due to a bad mortgage deal or who can’t pay their mortgage because they don’t have a job anymore. Keeping these people in their homes is not only good for them, but it helps maintain the property values of other homes in the neighborhood.

  25. Levin
    March 18, 2010 at 4:45 pm

    A few billion to the poor, 500 billion to AIG & the rest of Wall Street. Funny how the right has an uncanny ability to shift the focus to the 2 billion and away from the 500 billion….

    • navy
      March 18, 2010 at 10:12 pm

      Because greedy capitalist pigs who run the corporation’s would not get as many profits, bonus’s and bailouts.

  26. Eric
    March 18, 2010 at 10:09 pm

    Why doesn’t USA have affordable healthcare?
    Here’s what I do not understand. Americans are concerned about how our tax money is spent.

    This is the way we have spent it thus far.

    1) Trillions of Dollars on Iraq, killing innocent people, our own people, and totally RUINING our world image. That’s thanks to the last 8 years of corrupt government. The money went to private contractors like Blackwater USA and Halliburton.

    2) Billions of dollars were handed over to fraudulent private companies who were believed to be rebuilding New Orleans post-Katrina but they hoarded the money.

    3) Billions of dollars are wasted every year on health care costs for illegal immigrants who come in mainly from Mexico and as non-citizens get unlimited free healthcare instead of our own citizens. Meanwhile 7 Million of our own citizens have no healthcare policies.

    4) 800 Billion Dollars is wasted on auto and bank bailouts which are completely failing and bankruptcy bailouts. If we really have 800 Billion dollars to throw around, lets spend it on NEW things that actually WORK! Not things that are failing.

    5) Billions of education dollars were WASTED on Charter Schools instead of being used to improve community public elementary, middle school, and high schools.

    6) HUNDREDS of billions of dollars are wasted every year on Government Fraud and waste and abuse of agency management and employees serving the best interest of themselves before the country.

    America is the country that throws money like it’s water on the most wasteful useless programs.

    SO if we fixed these 7 things above and didn’t WASTE this money, we could easily have put it into a national healthcare plan so NOBODY who has cancer or a tumor or is gonna die should go untreated.

    Why don’t we have this in America?

    • Seth40
      March 18, 2010 at 10:10 pm

      Because a significant portion of americans believe that only certain people deserve to be treated like humans. They are the type of people that throw their children out or have a coworker fired if they get pregnant outside of marriage. Both of which are amazingly common yet today.

  27. ALRAB
    March 18, 2010 at 10:11 pm

    If you think are health care is bad now , just wait till the new socialized health care plan is foisted on the country . Why do you think so many people come to America for their health care treatment now ?

  28. Tyrn
    March 18, 2010 at 10:13 pm

    The sad answer in all this is selfishness, greed and ignorance.

  29. Family
    March 18, 2010 at 10:15 pm

    We need to cut our expenses altogether to survive in this crisis. Btw, why do we need to go to the moon when we can’t even eat on earth?

  30. 24Hro
    March 18, 2010 at 10:17 pm

    Excellent post.

  31. Lao
    March 18, 2010 at 10:21 pm

    awesome post here.

  32. Nath
    March 19, 2010 at 6:23 pm

    Weldone Brother, this is analysis is simply awesome. RAS!!!

  33. March 23, 2010 at 7:49 pm

    great article

  34. March 23, 2010 at 7:54 pm

    Thanks for sharing your views here, i came across your blog randomly but i love what I read so far.

  35. March 23, 2010 at 7:55 pm

    Great

  36. March 23, 2010 at 7:58 pm

    wonderful essay mate, keep up

  37. March 23, 2010 at 8:00 pm

    I just came across ur blog, thx for the great work

  38. PAUL45
    March 24, 2010 at 10:29 am

    Wonderful analysis. Banks need to be more accountable for all the cash taxpayers are giving them.

  39. John Z
    March 24, 2010 at 10:31 am

    Thanks for the post dude

  40. PrincessLover
    March 24, 2010 at 10:32 am

    Keep it up mate, i like all ur banking and finance articles.

  41. CNOK Yu
    March 24, 2010 at 9:50 pm

    Great analysis my friend, I think banks are getting larger than ever and the notion of too big to fail is just so crazy. I can’t wrap my mind around why any bank should even be allowed to be too big to fail.

  42. Stocrah
    March 24, 2010 at 9:53 pm

    excellent, sharp!

  43. Smart23
    March 24, 2010 at 9:55 pm

    Banks are nowhere really ready to help the real economy otherwise they’d be doing the right thing; if our politicians cannot do the right thing by requiring tougher regulation, then we are in a pretty big hole.

  44. Debt Guru
    March 24, 2010 at 9:58 pm

    Banks and politicians = same team

  45. Karekhaa Nair
    March 25, 2010 at 1:55 am

    Hey, I’m volunteering for the united nations development program. Since your blog focuses on social development, we need your help! We are hoping that you can post up your comments/view on the upcoming summit by the united nations called IBSA(India-Brazil-South Africa) summit on 15th april 2010. Do you think they are capable enough to reduce social problems in their respective society and will it benefit the country? It is a very general issue. You can comment on in based on various aspects you wish, example, environment,etc. Also, on the importance of cash transfer, health programs, excess to essential drugs and employment programs/policies. will it benefit them? If you write this article, it will be featured in the united nations upcoming academic hot site forum with other bloggers. If youre interested in doing this please email me, karekhaa.nair@gmail.com Thank you.
    Website for referral: http://ipc-undp.org

  46. Daenro
    March 26, 2010 at 12:00 pm

    Banks can’t disappear just like that, we need them.

  47. Apero
    March 26, 2010 at 12:02 pm

    Great article🙂🙂

  48. PR
    March 26, 2010 at 12:21 pm

    luv ur article

  49. ChanceLov
    March 26, 2010 at 12:23 pm

    Sign me up to ur blog!

  50. NYPF
    March 26, 2010 at 12:28 pm

    Thx for posting this.

  51. Desiderata
    March 26, 2010 at 12:36 pm

    Banks are not grateful, that’s their nature; greed, greed and greed

  52. RDV1967
    March 26, 2010 at 12:38 pm

    What a shame with all those banks, making money but firing folks in the process.

  53. Joey
    March 26, 2010 at 12:41 pm

    awesome, hopefully banks will be required to post higher reserve ratios in the future

  54. SethSteve
    March 26, 2010 at 12:44 pm

    only banks can pull this out.

  55. Dreamday
    March 26, 2010 at 12:51 pm

    Thanks for the post

  56. SCHool
    March 26, 2010 at 12:53 pm

    GREAT WORK MY FRIEND

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