Make Them Pay?...I wish we could

The Emergency Economic Stabilization Act of 2008 was signed into law on October the 3rd in an attempt to shore up failing banking institutions by relieving them of their “toxic debt.” This was the second attempt by Congress to pass a stabilization act after the first failed, in part, due to overwhelming popular opposition. It seems that the average American taxpayer found it unconscionable to spend their tax dollars bailing out private institutions whose poor judgment, greed and often illegal activities led to the problems that they were experiencing. Would this not reward the bad behavior that led to the crisis to begin with? How could banking institutions and their leaders be held accountable when their failed policies aren’t allowed to naturally lead to the institution’s demise? In his article Make Them Pay, which appeared in the Newsweek web edition on Oct.16, Michael Hirsh, Newsweek’s Washington web editor, argues that with the bailout such accountability will be difficult to attain.

It has been generally accepted by economists and lawmakers that the bailout was necessary to instill confidence in the markets and allow the exchange of credit to begin again. Hirsh does not dispute this, in fact he agrees with the Fed chairman’s favorable assessment of the current government’s action when compared to the pitfalls of the late 1920’s and early 1930’s that lead to the Great Depression, stating the “we may have saved ourselves from a devastating downturn because of these moves.” Hirsh does not argue the necessity of the package but instead laments the unintended consequences that such a large government-sponsored rescue plan would entail.

According to Mr. Hirsh, the central obstacle in holding groups accountable for their improper or illegal fiscal activities is that some institutions are simply too big or are too “systemically critical” (to use Chairman Bernanke’s term) to fail. And in an environment of very large banking firms teetering on the brink of failure, the government is hesitant to investigate mortgage and securities fraud for fear that more of these institutions would fail. The concern that fraud would be uncovered in major banking institutions, should they be investigated, is not difficult to imagine given some of the statistics provided by the author. Mr. Hirsh notes that by some estimates up to half of all sub-prime loans that were repackaged as securities were fraudulently created. While Wall Street has no say in the formation of these mortgages, including the terms on which they were created, many on Wall Street did not fully disclose their volatility when they were traded as securities. This deception, the author notes, is tantamount to securities fraud.

According to the author, assigning accountability is made more difficult given the diffusion of responsibility seen in current political policy. For instance, Chairman Bernanke encouraged all nine of the nation’s top banks to sign on to the government’s plan in an effort to prevent “retalia[tion] against the ones that took the government funds, viewing them as weak sisters.” Mr. Hirsh argues that with this action, financially solvent institutions that did not endanger themselves (or their shareholders) with risky investments will experience a guilt by association with other less reputable banks, further complicating the picture of who really is to blame and who should be reprimanded. The author illustrates this point when he describes the chairman of Wells Fargo’s reluctance to “sign [his company’s] freedom (and his compensation) away to the U.S. Treasury” when they did not participate in these reckless investments.

Hopefully with the unlimited resources at the disposal of the governments of the world, this current crisis will not go the way of the Great Depression. The author’s final argument is that all the money that can be thrown at this problem will be a waste if it exonerates and perpetuates the culture and judgments that resulted in this mess. This message will most assuredly resonate with the average American, and if we’re lucky, it will resonate with our lawmakers too.