Is a $700 billion bailout necessary?

As a staunch capitalist and advocate of a free market economy, I cringe at the thought of the government pumping $700 billion into the nation’s financial system. We are told by the Ben Bernanke, Henry Paulson, and others in the Bush Adminsistration that heroic action is urgently needed (this week) to head off a probable recession, a new wave of mortganges foreclosures, and bank failures. We are told that the risk of doing nothing is greater than the risk of spending $700 billion.

I’m not convinced. The risks of government intervention are pretty clear, while the risks of non-intervention are less obvious. First, consider the inherent risks of government intervention.

Any legistlation coming out of Congress — espcially in an election year — is likely to be packed with all kinds of special interests. One proposal would require 20 percent of any profitable transaction to be deposited into a special fund that pays for low-income housing. Now who do you think is going to administer that program? You guessed it — a newly created government bureaucracy (e.g. The Federal Mortgage Profit Recovery and Redistribution of Your Tax Dollars Administration).  And federal agencies never get smaller over time. We would likely see multiple acencies hatched from this rescue plan. 

When was the last time the government accurately estimated the cost of anything? Does $700 billion sound like a lot? Hold on to your wallets, because it is more than likely just the first installment.

And let’s not forget who got us into this mess to begin with. Lawmakers and the media are quick to blame  Wall Street and a lack of regulation. While Wall Street is certainly complicit, it is in fact government regulation that created and fueled the mess. Edwin Feulner wrote a smart article on this topic that appeared on Real Clear Politics yesterday:     

But as lawmakers debate buying up hundreds of billions in assets, they should realize that the government’s aggressive meddling in financial decision-making is what got our economy into this mess in the first place. The long-term answer isn’t more federal control, it’s a return to free-market principles.

Government interference with the free market rarely solves a problem, but generally creates more problems.

Now consider the risk of the government not acting.

Our economy is undoubtedly struggling as it tries to come to grips with the financial crisis. But are we on the verge of an economic meltdown? In yesterday’s NRO, Donald Luskin writes:

…throughout history we have periodically gone through convulsions worse than today’s and survived them without such interventions. According to the Federal Deposit Insurance Corporation there have been 15 bank failures in the U.S. between 2007 and today. We had thousands over a few years in the late 1980s and early 1990s. Since the stock market hit an all-time high last October, the S&P 500 has fallen 23 percent. It fell more than twice that — 49 percent — during the last bear market, between March 2000 to October 2002.

The U.S. economy has weather worse crises without government intervention. And there is no imperical evidence that the current crisis will result in a prolonged recession — only speculation.

Following the burst of the housing bubble, the market will correct itself. A government intervention will only serve to artificially prop up the housing market, and delaying the inevitable and necessary correction. Will the correction be painful? Yes. But until the market is allowed to correct on it own, we will not see a true economic recovery.

Congress is poised to react to this crisis with some form of a goivernment bailout, and certainly a modest intervention would be understandable to stabalize the economy. But given the current politcal crisis, Congress is more likely to OVERreact and overreach, and in the process potentially create a bigger mess than the one it is trying to solve.