John Berlau of the Competitive Enterprise Institute has taken issue with a recent editorial in which National Review supported giving the federal government the power to seize insolvent financial institutions and force them into receivership. I’ll give him points for cleverness (we are to be rebranded the Nationalization Review), but he fails to address the magazine’s argument, which is that the creation of a well-designed resolution authority might be the best way to counteract the moral hazard created by the bailouts.
Instead, Berlau implies that we are in no position to offer such recommendations, considering our support for the $700-billion Troubled Asset Relief Program (TARP). Indeed, he ascribes our current position to “buyer[’]s remorse” over having supported it. But in editorializing in favor of TARP, NR acknowledged that it would create moral hazard and argued that passage was nevertheless necessary to stem the panic that threatened to capsize the financial system. That we are now trying to find ways to deal with that moral hazard is not buyer’s remorse. It is an attempt to address the problems we face today, and not the ones we faced last fall.
Berlau also accuses NR of presenting a false choice between the disorderly collapse of large financial firms (think Lehman Brothers) and the infusion of limitless taxpayer resources into financial zombies (think AIG). He subscribes to the view that Lehman’s collapse would not have been so disorderly if the government had not bailed out Bear Stearns. According to this view, nobody thought the government would actually let Lehman fail, so nobody was prepared when it did. These and similar views have been published in the pages of National Review, Berlau notes. Why didn’t the editors read their own magazine?
Perhaps Berlau should take his own advice and pick up a copy of the April 20, 2009, issue, in which Kevin D. Williamson and I addressed this view of the Lehman bankruptcy. “If moral hazard was the problem back in September,” we wrote, “it is even more of a problem now. Key U.S. policymakers have made it abundantly clear that they think letting Lehman go bankrupt was a mistake, and market players will factor that information into their future decisions.” Future bankruptcies could be even more chaotic, we wrote, because “the government has already created the perception — and the reality — that systemically significant companies will not be allowed to fail.”
Berlau also laments our failure to consult “mainstrea[m] conservative experts,” but our real sin appears to be disagreeing with some of them. In fact, in considering editorial policy, National Review has consulted with all three of the experts Berlau names. One of them, John Taylor of Stanford, actually seemed open to the idea of a receivership authority when I interviewed him in March. Kevin and I wrote:
“Something is needed to prevent the bailout mentality that we’ve gotten into,” he says. “You need some kind of a Plan B that the government can refer firms to when it’s tempted to bail them out.” Federal receivership could be that Plan B, Taylor says, but only if Congress takes the bailout option off the table.
At the end of his piece, Berlau appears to back away from his false-choice accusation by presenting a third way of his own. “If there need to be any legislative changes to take account of systemic risk of failing firms,” he writes, “these should be incorporated by Congress through changes in the bankruptcy code.” I’m open to the idea that Congress could address the problem of spillover effects by amending the bankruptcy code, as some Republicans on the House Financial Services Committee have suggested. But how would that deal with the market’s expectations of future bailouts? Enhancing the bankruptcy code won’t do much good if market players remain convinced that the government will always save large firms from bankruptcy.
I like John Berlau and agree with him about 90 percent of the time, but he seems to be in denial about the degree to which government guarantees have made the market profoundly less sensitive to credit risk. I’m not sure market players would take his solution — enhanced bankruptcy — very seriously. After Lehman, why would federal officeholders risk bankruptcy of any sort? Even if they said they would, why should anyone believe them? At the very least, Berlau should either acknowledge that this is a problem or explain why it isn’t, instead of trying to re-fight the TARP debate. A narrowly defined receivership authority wouldn’t eliminate the moral hazard that the bailouts have created, but it might be the only “Plan B” convincing enough to signal an end to the era of “too big to fail.”
– Stephen Spruiell is an NRO staff reporter.