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Thomas Sowell on the Bailout

Posted By Don Boudreaux On September 30, 2008 @ 12:00 pm In Current Affairs,Financial Markets,Government Intervention,Politics,Reality Is Not Optional,Regulation,Seen and Unseen | Comments Disabled

Thomas Sowell’s latest is spot-on [1].

Here’s an excerpt:

N. Gregory Mankiw, his {Pres. George W. Bush’s] Chairman of the Council of Economic
Advisers, warned in February 2004 that expecting a government bailout
if things go wrong "creates an incentive for a company to take on risk
and enjoy the associated increase in return."

Since risky investments usually pay more than safer
investments, the incentive is for a government-supported enterprise to
take bigger risks, since they get more profit if the risks pay off and
the taxpayers get stuck with the losses if not.

The government does not guarantee Fannie Mae or Freddie Mac,
but the widespread assumption has been that the government would step
in with a bailout to prevent chaos in financial markets.

Alan Greenspan, then head of the Federal Reserve System, made
the same point in testifying before Congress in February 2004. He said:
"The Federal Reserve is concerned" that Fannie Mae and Freddie Mac were
using this implicit reliance on a government bailout in a crisis to
take more risks, in order to "multiply the profitability of subsidized
debt."

(HT Walter Williams)

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[1] Thomas Sowell’s latest is spot-on: http://townhall.com/Columnists/ThomasSowell/2008/09/30/bailout_politics

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