Call it what it is

It is understandable that the Federal Reserve and FDIC are reluctant to use the “b-word” to describe the operations announced at the weekend to respond to the crises at Silicon Valley Bank and Signature Bank of New York.  As bailouts go, they don’t look particularly expensive.  The FDIC has extended its guarantee to cover uninsured deposits at these two banks (which won’t cost anything if the assets are good).  And the Fed will use the Treasury’s Exchange Stabilisation Fund to backstop a funding program to allow any other banks with similar problems to trade out of their unrealised securities losses in a reasonably graceful way.

Neither of these programs will cost taxpayers’ money, as the press releases identify.  As long as we pretend that FDIC premiums aren’t taxes, that the ESF is costless unless it takes a loss and that credit from the Fed doesn’t count, then the economy is getting all the benefit of stabilising the system, for free.  It’s good policy.

But a bailout is what it is, and what it ought to be called.  The credit lines represent a subsidy to bad treasury management on the part of banks who should never have allowed themselves to get so badly overextended in terms borrowing short and lending long.  (They also, perhaps conveniently, avoid anyone having to ask impertinent questions about why the bank supervisors allowed these positions to develop in the first place).

The extension of the FDIC guarantee, though, is not just a bailout – it’s specifically a bailout for billionaires.  It undermines the whole point of limiting deposit insurance, and exposes the fund to risk.  And the benefit of this risk assumption mainly goes to the venture capital investment industry.

That industry has, frankly, done the exact opposite of having covered itself in glory over the last week.  We have discovered that major VCs put pressure on their portfolio companies to deposit at Silicon Valley Bank.  Then they encouraged those same companies to run on the bank.  And then some of them spent the weekend attempting to raise panic about the rest of the financial system, in order to put pressure on the government for a bailout.  All after having spent the previous decade talking about “moral hazard” with respect to student loan forgiveness, and praising themselves for “disrupting” the old fashioned financial system with cryptocurrency.

If there had been no bailout – if the FDIC had operated normally and not extended insurance to people who hadn’t paid the premium – then the bill would have arrived at the VCs’ door.  They are the owners of the tech startup companies, and they would have been the ones responsible for ensuring that those companies could make payroll if they had lost money in a bank failure through no fault of their own.  It might not have been pleasant for the VCs to put up more funding, or to admit that their contribution of management expertise and financial acumen had been so spectacularly negative, but they would still have done it. To let a good investment go bad in this way would, as Professor John Cochrane points out, a clear example of the sunk cost fallacy.  The venture funds were the source of the cash that was at risk in the SVB failure; it’s their loss that has been socialised.

And the fact that the VCs were able to use their portfolio companies as human shields in this way – a natural extension of the pretence that venture capitalists are in the tech industry rather than the financial industry – shows us what the real long-term cost of our current system of bailouts is, in terms of policy.  Because the Fed and FDIC will always find a way to stabilise the system, populist yahoos and libertarians can rail against “bailouts” and pass legislation to “protect the taxpayers”, all on the understanding that it is purely playtime; that when things get serious, someone will find a way to bail them out.

This is no way to run a financial system, particularly since there is the constant risk that one day the anti-bailout loudmouths will accidentally succeed. The Fed needs to say, loud and clear, that “Yes, this is a bailout, and that is good.  A bailout is often the best and cheapest way to prevent a catastrophe.  The people benefiting from it may be quite comically unattractive and undeserving, but finance is not a morality play.  Take your bailout and try to be less silly next time”.