Tuesday, September 30, 2008

Mandatory thoughts on the bailout situation

I don't have a firm opinion or grasp of the situation yet, so this will be brief.

There's one aspect of the debate that has struck me as conspicuous for its absence: the trade-off between present and future comfort.

The current crisis exists because a lot of people made a lot of mistakes. Some of these mistakes involved investors taking on more risk than they should have.

If nothing is done, the consequences will be bad for the US (and possibly other countries) in the short run. There's no question about that. At the very least, lenders will be skittish and only the most sure-fire or well-connected of projects will obtain funding. This would lead to a slowdown in job creation, output growth and industrial innovation. (Rather like a more widely spread version of the dot-com bubble crash, come to think of it.)

In the worst-case scenario, the economic slowdown could be serious and last for years. Certainly through the next administration's first term.

Suppose instead that a true bailout takes place, in that the government uses taxpayers' money to pay for the private sector's miscalculations.

There's a chance such a bailout will work flawlessly, and bring the US economy back to its usual state in record time.

This is its own problem. Institutions that are bailed out may have difficulty learning from the mistakes of the past. There is nothing to stop the crisis from happening again, in exactly the same manner, with exactly the same consequences. After all, some people made out like bandits during the mortgage bubble, and those that would have lost money were bailed out.

If lousy investors lose their shirts over this, the usual market instincts will kick in and make it less likely that this will happen again for at least a few decades.

There's a tradeoff between what is convenient for the present, and what is best for the future.

Bailout: smoother sailing today, increased likelihood of a repeat tomorrow.
No bailout: harder times today, less risk of a repeat tomorrow.

What's 'right'? That's up to the US as a whole.

There are many other possibilities between these two extremes, of course. I've ignored and oversimplified a great many relevant factors for the purpose of this brief note.

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