A free market bailout alternative?
It has been more than 3 years since the collapse of the investment bank Lehman Brothers and the beginning of the Troubled Asset Relief Program. Most recently, the sovereign debt crisis in Europe has led to the bailout of the governments of Ireland, Portugal and Greece. A main reason behind these bailouts is to support European banks loaded with government bonds on their balance sheet. In this article we analyze the detrimental consequences of the public bailout in 2008 and argue that a free market alternative existed. The alternative of a private bailout outlined in this article, consisting of the conversion of liabilities into equity and a private capital increase, largely avoids the problems of a public bailout. Similarly, a public bailout of governments of the Eurozone to sustain banks may be detrimental.
KeywordsFinancial crises Credit expansion Bailout Crowding-out Moral hazard
JEL ClassificationE32 E52 E65 G01 G33 G38 H81 K 10 K 20
- Adrian, T. & Shin, H. S. (2008). Financial intermediaries, financial stability and monetary policy. In Paper presented at Federal Reserve Bank of Kansas City Symposium at Jackson Hole, August 21–23. Available at: http://www.kc.frb.org/publicat/sympos/2008/Shin.08.06.08.pdf.
- Alonso, M. A., Bagus, P., & Rallo, J. R. (2012). The first global financial crisis of the 21st century: Origins and proposals of reform. An Austrian approach. Interdisciplinary Journal of Economics and Business Law, 2, 1.Google Scholar
- Bagus, P. (2010). Austrian business cycle theory: Are 100 percent reserves sufficient to prevent a business cycle? Libertarian Papers, 2(2), 1–18.Google Scholar
- Callelo, P. & Wilson, E. (2010). From bail-out to bail-in. The Economist, 28 January. Available at: http://www.economist.com/business-finance/economics-focus/displaystory.cfm?story_id=15392186.
- De Grauwe, P. (2008). Returning to narrow banking. In B. Eichengreen & R. Baldwin (Eds.), What G20 leaders must do to stabilize our economy and fix the financial system. London: Centre for Economic Policy Research.Google Scholar
- Dowd, K. (2010). The current financial crisis—And after. Mises.org daily article. Available at: http://mises.org/daily/4218.
- Freixas, X., & Rochet, J.-C. (2008). Microeconomics of banking (2nd ed.). Cambridge: MIT Press.Google Scholar
- Friedman, M., & Schwartz, A. J. (1971). A monetary history of the United States, 1867–1960. Princeton: Princeton University Press.Google Scholar
- Garrison, R. W. (1994). Hayekian triangles and beyond. In J. Birner & R. van Zijp (Eds.), Hayek, coordination and evolution: His legacy in philosophy, politics, economics, and the history of ideas. London: Routledge.Google Scholar
- Garrison, R. W. (2001). Time and money: The macroeconomics of capital structure. London: Routledge.Google Scholar
- Goodhart, C. E. (2010). Are CoCos from cloud cuckoo-land? Voxeu.org, June 10, http://www.voxeu.org/index.php?q=node/5159#fn.
- Heinen, N. (2011). A European transfer union. How large, how powerful, how expensive? EU Monitor 81, Deutsche Bank Research, August 2.Google Scholar
- Higgs, R. (1997). Regime uncertainty: Why the great depression lasted so long and why prosperity resumed after the war. The Independent Review, 1(4), 561–590.Google Scholar
- Higgs, R. (2010). Recession and recovery: Six fundamental errors of the current orthodoxy. The Independent Review, 14(3), 465–472.Google Scholar
- Hübner, O. (1853). Die Banken. Leipzig: Verlag von Heinrich Hübner.Google Scholar
- Huerta de Soto, J. (2009). Money, bank credit and economic cycles. Auburn: Ludwig von Mises Institute.Google Scholar
- Levy, A. (2009). Wells fargo assails TARP, calls stress test ‘asinine’ (update2). Bloomberg.com, March 16. Available at: http://www.bloomberg.com.
- Rothbard, M. N. (2000). America’s great depression (5th ed.). Auburn: Ludwig von Mises Institute.Google Scholar
- Rothbard, M. N. (2001). Man, economy and state. Auburn: Ludwig von Mises Institute.Google Scholar
- Taleb, N. N. & Spitznagel, M. (2009). Time to tackle the real evil: Too much debt. Financial Times. 13 July. Available at: http://www.ft.com/cms/s/0/4e02aeba-6fd8-11de-b835-00144feabdc0.html.
- Thune, J. (2009). Time for a TARP exit strategy. The World Street Journal, October 4. Available at: http://online.wsj.com/article/SB10001424052748704471504574447122027550500.html.
- von Hayek, F. A. (1929). Geldtheorie und Konjunkturtheorie. Vienna: Gustav Fischer.Google Scholar
- von Hayek, F. A. (1935). Prices and production (2nd ed.). London: Routledge.Google Scholar
- von Mises, L. (1998). Human action, (Scholar’s edn). Auburn: Ludwig von Mises Institute.Google Scholar
- Yandle, B. (2010). Lost trust: The real cause of the financial meltdown. The Independent Review, 14(3), 341–361.Google Scholar