The True Cost of Government Bailouts

The main justification for all the government bailouts seems to be that the economy cannot survive without them and, that if properly handled, the desired result can be achieved with minimal if any cost to the taxpayer.

The Example of the Resolution Trust Corporation (RTC)

Many use the Resolution Trust Corporation as an example and reference that, according to some estimates, the assets seized by the RTC were actually sold at a minimal profit. This may be true.

However, one must remember that the Savings & Loans that were the source of these assets first entered receivership. In addition, the banking system bore some of these costs in the form of higher FDIC insurance premiums.

A Short History of FHA Loans

The government has supported loans before. When I was in college, homeowners sought VA and FHA loans. VA loans were sponsored by the Veterans Administration as a way to compensate veterans for national service in the military. FHA loans were sponsored by the Federal Housing Administration and were designed for starter home buyers, but there were strict guidelines and the cost of the government insurance was paid by the homeowner. The guarantee was not free in either case.

What about Fannie Mae and Freddie Mac?

Fannie Mae and Freddie Mac were initially conceived as organizations designed to facilitate the origination of home mortgages. They would purchase the loans and then re-sell them. There was an implicit guarantee by the U.S. government on debt issued by these companies. However, this was considered to be almost like a working capital loan with minimal risk to the taxpayer. Sound familiar?

This changed as the Government Sponsored Entities (GSEs) held more mortgages and issued more debt. This implicit government guarantee became quite substantial. No one seemed concerned until the government guarantee became explicit and quite costly with the need for the government to assume the liabilities and inject capital.

Free Government Guarantees Create FreePassers!

Government guarantees may start out free, but they turn out to be quite costly. Why is this true? The FreePasser mentality! It is human nature to try to get what we can for free.

However, as Ihave mentioned, people assume more risk when the cost is borne by others. A free government guarantee changes behavior.

Recognize the True Cost of a Government Guarantee in Advance

For those who say that government guarantees in these bailouts have minimal if any cost, remember that we may be merely be postponing the bill into the future when it is substantially larger. It is much better to recognize what the true cost is in advance. Only then can we determine if it is worth the expense.

Nothing is free! The U.S. taxpayer eventually ends up paying the tab.

Tags: Bailouts, Fannie Mae, FDIC, FHA, Freddie Mac, Government, GSEs, loans, RTC, S&L, Taxpayer, VA

This entry was posted on Tuesday, March 31st, 2009 at 2:44 pm and is filed under Bailout, Banking, Economic Stimulus, FreePasser™, Government Regulation, Housing, Uncategorized. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.