Although I supported the initial bailout bill, as did most authors here at PoliGazette, I consider it important to point out reasonable yet critical voices. Our very own Bal(t)imoron is such a voice, of course, and has published several posts critical of the bailout plan, and offering possible alternatives.

Another article critical of the bailout plan deserving of attention is this one written by Arnold Kling. 

Kling believes that Main Street does not fully understand just how bad the plan is. According to him, it is an attempt to rescue financial institutions which will, however, hurt and continue to hurt the economy. The financial markets, he says, are overdeveloped. They need to shrink. However, the bailout plan protects financial institutions that are a drain on the U.S. economy.

Today, if anything, we have an overdeveloped financial sector. Harvard economics professor Kenneth Rogoff, former chief economist at the International Monetary Fund, believes that the financial sector in the United States is bloated and needs to shrink. The ongoing consolidation in finance has even further to go, in his view. While this is unpleasant for those who work in the field, it is necessary to achieve better balance in our overall economy. We could see a large reduction in the number of firms and the number of people employed in financial services without impairing households’ ability to invest safely or obtain credit that they can use prudently.

Rogoff views the financial bailout as akin to a tariff for the steel industry or a subsidy for the auto industry. It is testimony more to the power of the financial industry’s political connections than to its role in the economy. Banks are important, yes. But so are manufacturing firms and software companies. Rogoff points out that when the Internet bubble popped, we did not send government aid to the technology industry, which has since recovered nicely following a shakeout.

The other claim that is made on behalf of the bailout is that Treasury will make a profit for taxpayers by buying distressed mortgage-related assets. However, this claim is being made by the same people who did not see the crisis coming, in large part because they do not understand how the values of these sorts of securities behave.

Harvard finance professor Robert Merton, a Nobel laureate, notes that one of the problems at large financial institutions is the gap between the executives and the financial engineers, or what I call the “suits” and the “geeks.” The geeks possess knowledge that is highly specialized and extremely technical. Many suits have never even taken a course in the fundamentals of valuing complex financial instruments, even though the health of their firms depends crucially on that very issue.

Today, the suits are saying that mortgage-backed securities are undervalued, and that if the government just holds them to maturity it will make a profit. But the geeks will tell you that we cannot be certain these securities are undervalued.

That last point implies the following: the bailout may either cause ‘Main Street’ to suffer, or it may not do much. But ‘profiting’ from it is highly unlikely, according to Kling and the professors he cited.

The bailout plan then:

isn’t as bad as Main Street thinks. It’s worse.

We will find out whether Kling is right or not in the coming years.