Bailing out banks

Last week the US congress agreed to a US$7 billion bail-out for the banking sector. This Tuesday, the UK government followed suit with its own bail-out – though with some fairly serious strings attached. In the US case in particular, there was some strong public opposition to the bail-out, with many people claiming that bankers should be made to feel the consequences of their own bad decisions. In response, those who favoured the bail-out tended to make one or both of two main responses. First, they claimed that the bail-out would make everyone better off, and/or second, they implied that the feelings of resentment which many harbour towards bankers are not really the sort of consideration on which economic policy should be based.

It is obviously not literally true that these bail-outs will make everyone better off. Even if the US and UK governments make money from them in the long run, the bail-outs will cost them in the short run. Consequently, there will presumably be cuts to public spending on things like health care and education in the short run, and some people will be seriously harmed as a result of these cuts – harmed seriously enough that, whatever the economic benefits of the bail-outs, they’ll be left worse off.

What’s much more plausible, of course, is that the bail-outs will make people better off on average. Even this claim is susceptible to objections. Two economic arguments against it claim respectively that (1) the bail-outs will not succeed in averting the current financial crisis, and (2) even if they do succeed in averting the crisis, they will create perverse incentives for bankers in the future, as a result of which such crises will become more common. But let us suppose that the optimists are right and that the bail-outs will avert a crisis, and that they have been structured in such a way (or will be followed by regulation to ensure that) they do not create perverse incentives. It that case, there is surely a strong positive case for the bail-outs.

What I want to focus on here is instead the second response made by those who favour the bail-outs: the claim (implicit or explicit) that feelings of resentment towards bankers are not a legitimate consideration on which to base economic policy.

It could be argued that these feelings of resentment are based on on attitudes such as envy, or an excessive desire for retribution – attitudes which are, arguably, objectionable, and which should therefore not be pandered to. However, it also seems possible that attitudes of resentment reflect legitimate judgements about fairness. There are plausible conceptions of fairness according to which it is genuinely unfair that bankers are likely to benefit more than (or even at the expense of) some others from the bail-out packages. For example, on one conception of fairness, fairness requires the each person’s claim to some good is satisfied in proportion to its strength. Thus, if I have a weaker claim to career success than you (say, because I have worked less hard, am less able, or have made a smaller positive contribution to my profession) then fairness requires that I actually have a less successful career than you. Consider now the case of bail-out for banks. It seems plausible that many bankers have a very weak claim to the benefits that will be bestowed on banks by the bail-out package. After all, these bankers are already typically much better off than the average person, and some are presumably partly responsible for the current problems. However, bankers in fact stand to benefit more than most others from the bail-outs. Thus, it seems that they will do disproportionately well out of the bail-outs.

If resentment towards bankers can be grounded on considerations of fairness in this way, then it is not clear that economic policy should ignore them. After all, we don’t tolerate unfairness in many other areas of public policy (consider a criminal justice system that allocated the most severe prison sentences to the least culpable defendants, or an education system that assigned the greatest rewards to the least able and laziest students). Why should economic policy be any different? But of course, even if economic policy should take considerations of fairness into account, it wouldn’t follow that the US and UK bank bail-outs are unjustified. If these bail-outs really are necessary to avoid a major financial crisis, then their economic benefits would surely outweigh the fact that they will bring unfair benefits to a few bankers. Fairness is not the only thing the economic policy must track. What would follow, though, is that the negative public reaction to these bail-outs cannot be dismissed out of hand as irrational nonsense.

References:

Broome J, ‘Fairness‘, Proceedings of the Aristotelian Society, 1990; 91(1): 87-102.

Sky News, ‘Bush Signs Off US Bank Bail-Out‘, 3 October 2008

The Financial Times, ‘UK Banks Thrown £400bn Lifeline‘, 8 October 2008

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2 Responses to Bailing out banks

  • Kieran says:

    Hey Tom,

    Bailout or no bailout, I reckon as the real economy suffers the people are going to start metering out their own considerations of ‘fairness’. I wouldn’t sleep easy if I was a bankster!

    Kieran

  • wolf61 says:

    The bailout is a natural result of the western governments push or silent agreement of re-introduction in 1999 of high-yield financial instruments (short sales, banned since 1930’s and CDS)that generated unsustainable growth, al built on a mountain of bad debt. The governments and at a certain extent anyone in the G8 space + China & India enjoyed a period of prosperity of some 10-12 years.

    When the pyramidal scheme of ss’s and cds’s became unsustainable ($65 trillion+ or some 3 1/2 yrs of USA GDP), the cash drained and the inter-bank and business loans dried out. Monies didn’t have any support in the underlying goods and services in both OTC market and derivatives. Hence the speculation on gold, commodities and oil (talking of ethics, have a thought or two on the anal-ists (or catch-up consultants) projections of $200/barrel or $300/barrel that steamed speculation).

    Now the same governments that provided via the regulatory bodies the reinstatement of the doomsday financial instruments, have to support their financiers. Ethical or not, there was the only option the gov’s had, or else the whole world had no other option than to experience a nose dive to a world GDP close to the world GDP in 1973…Divide this by the actual population of the Blue Planet and you have a grimm answer.

    So, to curtail the whole bore, ethics applies to the weak and not to the powerful. Or as Orwell put it: ‘some animals are more equal than others’.

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