Pros and Cons - Debbie Newman, Ben Woolgar 2014
Failing companies, bailing out
Section D. Economics
The global financial crisis and subsequent economic downturn have greatly increased the number of private companies threatened with bankruptcy. In many cases, governments have responded by bailing out those companies. Bailouts can take many forms: they can be conditional on firms following certain policies or restructuring their operations; or they may involve the government taking a share in the ownership of the company; or they may take the form of injections of cash or the provision of loans repayable at low interest over long periods. It is hard to cover this range of variations, so debates should focus on the principle of governments providing money to keep companies afloat. Most of the prominent examples are from finance; Bear Stearns, Fannie Mae and Freddie Mac, and AIG in the USA, Northern Rock in the UK and the Anglo Irish Bank in Ireland. Prominent non-financial cases include the rescue of Chrysler and General Motors by the American government in 2008, Parmalat in Italy in 2003, and the rescue in 2010 of Dubai World, Dubai’s state-owned investment company, by fellow emirate Abu Dhabi.
Pros
[1] Large numbers of people are often dependent on these companies for their jobs. In the short run, these jobs will not be created again elsewhere; rather, they will be non-existent, jeopardising the futures of these employees and imposing the burden of caring for them on the state. In the long run, older employees may find themselves unable to retrain or gain employment in another industry, meaning that financial collapse simply condemns them to an early retirement. As the company cannot afford to pay its debts, these people’s pensions are also often lost.
[2] Many other firms are also dependent on a company on the brink of collapse. They may have money invested in it, as in banking, or require its goods and services, such as parts it manufactures that go into producing a car. These firms will be exposed to enormous losses and reduced productivity if they are no longer able to rely on the collapsed company. This can send shockwaves reverberating through the whole economy; many analysts agree that the decision not to bail out Lehman Brothers in 2008 severely worsened the global financial crisis.
[3] Sometimes these firms are in trouble because of bad management or a flawed business model, but often the trigger of their collapse is merely short-term factors in the market, such as rumours of financial weakness (as happened to Northern Rock) or a temporary fall in demand in a key market. Bailing out these companies allows them to survive these short-term shocks and emerge stronger. If the company rises in value later on, the government recovers its money anyway by taking shares in exchange for the bailout.
[4] Governments have a choice in these situations between letting the firm fail altogether and using taxpayers’ money to gain influence over them. Conditional bailouts allow them to force firms to pursue policies which are good for the economy, such as extending cheap loans to small businesses or reducing the number of homes they repossess.
[5] Some firms are of particular strategic importance, regardless of their economic viability. For instance, governments may need to maintain defence corporations (the US government has bailed out Lockheed Martin in the past) so that they can guarantee arms supplies, and they may bail out a national airline or important cultural firm for reasons of national pride. In these instances, profit making is not the only criterion we should use to determine whether a firm succeeds.
Cons
[1] Bailouts are often enormously expensive; the UK’s public debt nearly doubled as a result of the 2008 bank bailouts. This is not just a standard cost/benefit argument; rather, the point is that bailouts have the effect of worsening the very economic indicators they are supposed to improve, because they reduce confidence in a country’s ability to pay back its debts. Ireland’s experience here is especially instructive; having nationalised its failing banks, it finds itself in 2013 having to restructure its national debt for fear of defaulting, endangering not one bank but the whole national economy.
[2] Often, these firms need to be allowed to fail, because their weak profits reflect the fact that there is no demand for their goods and services any more, or that they simply cannot compete with other firms doing the same thing. For instance, the US auto industry bailouts simply protected an industry which no longer has the capacity to produce equally good cars at the same costs as Japan and China. Such industries should be allowed to fail, so that the process of ’creative destruction’ can reallocate their employees and capital to more profitable industries.
[3] The idea that some companies are ’too big to fail’ creates a dangerous mix of incentives for their management and shareholders; there is less incentive to cut costs, and a large incentive to take dangerous risks for the possibility of profit, knowing that a bailout will be forthcoming if those risks fail. This ultimately leads more and more firms to fail, and so radically increases taxpayer costs.
[4] Spending money on bailouts is an unfair way of distributing it. It simply preserves the profits of already rich shareholders and the salaries of CEOs, using tax money taken from ordinary people. The state is often careless about taking adequate shares in the firms it bails out, so that it gets nothing in return when companies recover. Bailout money should instead be spent on giving tax breaks and benefits to people on more modest incomes.
[5] Finally, many firms in need of bailouts have been involved in criminal, or at least morally dubious, activities, for which they should not be rewarded. Parmalat (an Italian food company) went bankrupt in 2003 in large part because its shareholders and managers had been engaged in elaborate fraud schemes; and Northern Rock (a UK building society that was nationalised by the UK government in 2008) was in particular danger because it had many of its assets in complex, taxavoiding foreign trusts. The state should not encourage and reward this behaviour.
Possible motions
This House would never bail out failing private industry.
This House would let the banks fail.
This House believes that the USA should not have let Lehman Brothers collapse.
This House would refuse to socialise losses and privatise profits.
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