A second-best theory of libertarian bailouts

Pete Boettke cannot bring himself to utter those few little words.

Let me nudge him (and others) again and try to make things easier for him.  General pro-market or anti-government arguments don't rule out the recent bailouts.  Let's take the hardest, least Friedman-friendly case, the insolvent banks.  For insolvent banks (and for some of the illiquid banks, which might have failed without bailouts), the alternative to those bailouts is calling in deposit insurance and the bankruptcy courts, both of which are, for better or worse, forms of government intervention.  In particular today's bankruptcy procedures are ill-suited for disposing of a large financial institution in a timely manner and this can be considered a form of gross government failure.

Note that even when the Fed "bails out" a large investment bank, or insurance company, they are checking a chain reaction which would likely spread to some commercial banks, thus bringing in deposit insurance as well, not to mention further bankruptcies.  And that's not even considering that Congress probably would have stepped in, I'm just looking at laws already on the books.

So if you're "opposed to financial bailouts," as a libertarian, you're not for the market.  You're saying that one scheme for governmental disposition is better than another.  Of course you are entitled to that opinion but the sheer force of libertarian doctrine is not necessarily on your side.  The general pro-market and anti-government arguments are not necessarily on your side.  I think it is quite plausible for a libertarian to believe that the Fed is "less bad" than the bankruptcy courts and the FDIC.

Now, all things considered, I don't see why this "libertarian two-step" move should be needed.  I think it's enough to simply ask whether the bailouts were a good idea and proceed accordingly.  But if you're concerned about compatibility with libertarian principle, this is one simple way of seeing why my view fits right in.  In fact I think it is the more libertarian of the views under consideration, as it keeps the very worst of the government interventions on the table at bay.

Addendum: Overall I think U.S. bankruptcy law works fairly well, just not relative to the high speeds of market demands when a major financial institution goes bankrupt; Lehman showed this.  This is an under-reported source of "regulatory uncertainty."  (Prepackaged bankruptcy ideas may help, possibly.)  If you are calling for the application of bankruptcy law to major banks, you are calling forth that regulatory uncertainty and yes I do think it is worse than the regulatory uncertainty from a bailout.  The result is that credit markets freeze up and that also leads to other bad interventions.  Another set of problems springs from the difference between a bank and bank holding company; current law doesn't handle this well although changes are in the works most likely.  Of course it is a kind of "super-libertarian" alternative to abolish deposit insurance in the midst of a crisis, as some of you recommend, would you really do that?  I don't think so.


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