High bank profits

Mark Thoma has good links and good discussion.  I don't know the "inside scoop" on the bank books, but in purely theoretical terms a bit of chicanery may be socially optimal now.  In general, bank moral hazard-induced-risk-taking may move closer to socially optimal, the closer banks are to insolvency.  Let's say that banks are generating high profits now by, one way or the other, pursuing short run profits and "going short" on market volatility.  In the long run this investment strategy will bite them, sooner or later but probably later.  In the meantime they likely will become solvent.  If insolvency has a high fixed cost this can be a good risk, even from the taxpayer or social point of view.

Of course one does not want for this game to continue forever and it is hard to stop once it gets rolling.  But on a period-by-period basis, now is not the ideal time to stop.  Now may be the time to allow such opportunistic behavior to get banks out of the range of possible insolvency.  Tolerance is a kind of invisible subsidy that costs us something only stochastically or in the more distant future.


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