More on the Disguised Subsidy

Becker and Posner elaborate on what’s increasingly looking like the real purpose of the Geithner public-private investment plan — disguised subsidy.

Meanwhile, Tyler Cowen explains why creditors (specifically AIG’s creditors) should be feeling more pain.

It would be bad precedent, and mind-bogglingly expensive, to promise to pick up all future obligations to major creditors. At the same time, any remarks that threaten to leave creditors hanging could panic the markets. So silence reigns, the Fed and Mr. Geithner receive bad publicity over the bailouts, and we are all laying the groundwork for a future financial crisis.

Moral hazard caused this mess; the administration’s answer is . . . more moral hazard! Those who originated bad loans knew that they wouldn’t bear any losses. Instead, those were supposed to fall further up the chain. Fannie, Freddie and financial intermediaries such as AIG, would (supposedly) absorb the risk. In the case of Fannie and Freddie, the government indemnification was widely relied upon, if officially denied. Now we’re in the process of creating the same sort of moral hazard for the entire financial sector (and, for that matter, the automobile industry). Bet big! Gambling losses won’t be collected.

It’s fashionable to portray those who are in favor of free markets as solicitous of “greed.” But defending the right of those who take risks to profit has an essential corollary — insisting that those who lose their wagers make good on their losses. Part of one’s risk is in the choice of one’s counterparties. Right now, it’s the Obama administration that’s playing the role of the worst sort of apologist for Wall Street and big business.

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