Bailout

Learning More About Bailouts

The word “bailout” has been the byword for the past years because of the recent recession with worldwide effect. It is a word referring to government assistance handed out to various companies who needed financial aid because they were extremely affected by recent economic downturn. Financial companies (Bear Sterns, Fannie Mae/Freddie Mac, AIG) and car manufacturers (Ford, Chrysler, General Motors) received billions as aid from the US government.

The emerging concepts about bailout are not new. It’s a concept used for more than century by governments and other businesses but only in smaller scale and information dissemination about the proposed bailout is slower. It’s only today that news and analysis about bailout today can be easily retrieved due to worldwide connectivity through the internet.

Types of Bailouts

For profit bailout

This is a type of financial assistance handed out to small and some large businesses on the verge of bankruptcy but the bailout is granted with stipulations of an interest rate. This can be considered as a large loan taken out by businesses to save their company. Some regard this type of bailout as predatory because the interest rate and other terms for small and large businesses could have more bad effect than good results.

Non-profit bailout

This type of bailout transforms a for-profit business into a non-profit organization. Governments and companies may bailout a specific company but with the stipulation that control is given to the entity who gave the loan. The persons now in-charge of the company will focus on maintaining the company through non-profit projects but still relevant to the business.

Prevention of further economic failures

Some companies have established themselves as strong factor for the country’s stability. Their failure, closure or bankruptcy would affect millions and it could have a worldwide effect. When this happens, the government steps in to provide aid to the said companies. The perfect example is the latest financial assistance handed out by the US government to various financial companies and automotive makers.

Government Bailout and the Concept of “Too Big to Fail”

The concept of “too big too fail” has been perfectly demonstrated from the recent government bailout. The idea of “too big too fail” stems from the fact that some companies have grown so large that they are already a big factor for the country’s economic stability. Their failure would trigger massive unemployment or the general economic state of the country will go down. The recent US government bailout on AIG, Fannie Mae/Freddie was made to prevent financial trouble that could affect the economy. Another reason for companies becoming “too big too fail” is simply from the fact that they have millions of employees. Chrysler, Ford and General Motors have more than three million employees combined and they could end up unemployed if the government does not provide financial assistance.

Some economists are against companies of this status precisely because of their possible impact when they do not perform financially as expected. Instead of declaring bankruptcy or allow take-over, they would often seek assistance from the government. The problem is that the money is handed over to be controlled by few private individuals working for a private company. As a private company, the individuals in charge are not bound to any responsibility to anyone on what they do for their business. This could lead to reckless transactions that could place the business in jeopardy again. But since they are “too big too fail,” they can just ask for assistance from the government again.

Common Agreements on Bailout

Although companies receiving bailouts are still private entities, there still have to agree on some conditions. These conditions were made to prevent abuse of the funds given. But as indicated, these measures are only applicable on certain settings as companies can still operate as they want except for a few things covered by the agreement.

Prohibition of payment to investors

The bailout fund should never be given out as dividends which end up in the hands of investors. The fund is given out specifically to improve the business.

Ownership option

The government should have an option of staking an ownership for the company. Acting in behalf of the taxpayers, the government will then have a say on various transactions the companies are planning to do. This is supposedly used to prevent high risk investment.

Renewed company interest

The government could also command an agreement with the business to help stimulate the economy. For example, the government could ask the bank that they can receive the financial assistance they seek only if they will lower their interest rates.

Pros and Cons of Bailout

Those who support bailout argue that these companies have strong influence on the country’s economy. Thus their downfall should be averted at all costs. The challenge wherein they could abuse the system could be easily answered if the government increases their control over these companies. After all, these companies have to agree if they want to receive funding.

On the other hand, many economists who adhere to the idea of free market are against bailouts. Although it’s a good idea that these companies will stay afloat which prevents massive unemployment and economic downturn, helping a private company has very little advantage for the government. The funds can be freely invested and the risks involved no longer matter because there’s always the possibility of a bailout. Some propose that companies becoming too big should be broken down while others argue that these companies can increase their business but no assistance will be provided in case they face financial problems.

Bailout Quotes (4)

A bailout is used when the rich want the taxpayers to pay for their mistakes or their fraud.
— Robert Kiyosaki; Rich Dad's Conspiracy of The Rich

The reality of the situation is that the TARP bailout money went straight from our pockets—taxpayers' pockets—into the pockets of the banks and corporations that helped create our financial mess in the first place. We were told the money was given to the banks with a mandate to lend it out, but our government was either unable or unwilling to enforce that mandate—or both.

In mid-December 2008, when USA Today asked banks what they were doing with the bailout money, JPMorgan Chase, a bank that received $25 billion in taxpayer money, replied, "We have not disclosed that to the public. We're declining to." Morgan Stanley, a bank that received $10 billion replied, "We are going to decline to comment on your story." The Bank of New York Mellon responded, "We're choosing not to disclose that." The bank bailout money was really just a rich friend bailout, employed to cover those friends' mistakes and obvious fraud, not to save the economy.
— Robert Kiyosaki; Rich Dad's Conspiracy of The Rich

If the United States were a true capitalist nation, we would let the economy fall, not prop it up with bailout upon bailout. Bear markets, market crashes, and depressions are the economy's way of hitting the reset button. Recessions and depressions correct the mistakes made and reveal the crimes committed during the boom rimes.

Today, instead of hitting the reset button, trillions of dollars are handed out to the incompetent, the fraudulent, and the obsolete. Bear markets exist to clean out the faults, scams, and inefficiencies that grew from a preceding bull market. Rather than let the bear market do its work, we let the government pay billions of dollars in bailout money to bankers who loaded the world with fraudulent debt when we should be sending those bankers to jail. Businesses like General Motors that grew too fat and lazy during the good times to compete in the bad times are saved from bankruptcy. Executives who are firing thousands of workers are given cash bonuses and golden parachutes as the businesses they were entrusted with protecting and growing instead contract and, as the company's share price drops, investors lose their money.

That is not capitalism. Today's bailout government is socialism—for the rich. In many ways, it is worse than Marxism or communism, because at least those systems had the illusion of being for the people. Those systems at least preached the redistribution of money from the rich to the poor, even if they didn't practice it. Our bailouts, however, rake money from the poor in the form of taxes and give it to the rich. I am not pointing the finger at President Obama. This cash heist has been going on for years. It has become a practice for the very rich to use our government to take from the poor and middle class and to give to the rich. Today, we've made it a practice to tax those who produce and to reward the lazy, the crooked, and the incompetent.
— Robert Kiyosaki; Rich Dad's Conspiracy of The Rich

Today, we hear the word bailout over and over. In reality, not all banks are bailed out. Bailouts are only for the biggest banks.

If a smaller bank goes bust, the FDIC generally uses a payout to fix the situation. For example, if you and I owned a small bank, and we made too many bad loans, the FDIC would simply close the bank, pay off the depositors, and we and our investors would lose the equity we put in to start the bank. A payout is often the remedy for small bankers with no political clout.

A second option is a sell-off. A sell-off occurs when a large banks steps in to take over a struggling bank. This has happened a number of times during the recent financial crisis, most notably with JP Morgan's purchase of Washington Mutual. It is an easy way for a larger bank to gain market share. The FDIC takes over the troubled bank on Friday and reopens it on Monday as a branch of the bigger bank. Again, this is a sell-off not a bailout.

Bailouts are generally reserved only for big banks and bankers with political clout—and for banks that took the greatest risk and thus have the greatest chance of severely damaging the economy, banks that are too big to fail. As Irvine Sprague, a former director of the FDIC, writes in his book bailout, "In a bailout, the bank does not close, and everyone—insured or not—is fully protected, except management which is fired and stockholders who retain only greatly diluted value in their holdings. Such privileged treatment is accorded by the FDIC only rarely to an elect few."

This means bailouts are only for the rich. If a big bank such as JP Morgan Chase or Citibank gets in trouble, the taxpayers pay for all losses. This means the $250,000 limit does not apply. If a bank in Europe has millions on deposit, or a rich man from Mexico has millions in savings, their money is 100 percent covered. Taxpayers pick up the tab.

If you and I took the risks that the biggest banks did, we would lose everything. We would not be bailed out. In overly simply terms, the FDIC is a smoke screen protecting the biggest banks. If a big bank gets caught, the government bails it out.
— Robert Kiyosaki; Rich Dad's Conspiracy of The Rich

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