Bank Bailouts Are Here to Stay

The role banks play in the economy means they will never be allowed to fail.

Editorial Cartoon

Garett Jones is BB&T Professor for the Study of Capitalism at the Mercatus Center, George Mason University.  He is the author of Speed Bankruptcy: A Firewall to Future Crises.

As European Union leaders prepare for this week's summit to determine the next steps for easing the continent's financial crisis, Spain formally requested aid for its struggling banks today.

After years of promises that Europe (and the United States) would end bailouts someday, that someday is looking like the same someday when Dad is going to finally sober up. It's just another word for never.

Spain's likely bailout is yet another sign of a major change in the rich economies: Bank bailouts are with us forever. But, is the age of bank bailouts good news or bad news? It's great news for those who want government to provide safety nets; megabanks and their customers now have a durable safety net. I sleep better at night knowing my cash is stored at government-backed Citibank. However, it's bad news for those who want a more prosperous future. 

[See a collection of political cartoons on the economy.]

Banks help steer money toward valuable projects that can build up our economic potential. They pull together millions of small deposits and steer them toward promising investment opportunities, like a new mall here, a web developer there, or a mortgage now and then. But if banks feel that they're playing "heads I win, tails you lose," their urge to pick out the best projects weakens. They may take casino-style risks, since they're playing with other people's money, or more likely, they play it safe at the urging of the government regulator, always being careful to lend to politically popular sectors. 

Worse, however, is when megabanks become too big to fail, and depositors choose their bank based on who has the best ATM network or offers the most perks. They never give a moment's thought to the headlines about bad bank loans since they know the government will pick up the tab.  And, that means deposits (and other bank funds like bonds and commercial paper) aren't steered toward the best bank managers. 

[See a collection of political cartoons on Occupy Wall Street.]

Is there a way to force the banks to face market discipline? Sure, but I'm increasingly convinced it's a political pipe dream. Even when a decent plan is offered, like the European Union's plan to make bondholders take losses when a bank fails, it's put off for half a dozen years so that it becomes a mere talking point, slogan, or chalkboard theory. 

There's no escaping the bailout because the politicians know we will always demand the bailout. When the next crisis comes, all the politician needs to hear is the whisper from an investment banker: "If we go down, so does the economy."

  • Mary Kate Cary: No, Mr. President, We're Not ‘Doing Fine'
  • Check out Economic Intelligence on Twitter at @EconomicIntel.
  • Check out U.S. News Weekly: an insiders guide to politics and policy.