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Industry in peril? Time to pick up a bucket

Today's U.S. economy is brought to you by the letter B.

By Robert Trigaux, Times Business Editor
Published October 28, 2007

Today's U.S. economy is brought to you by the letter B.

As in B for Bailout.

For all the testosterone-laden talk about our free-market economy, behind-the-scenes bailouts by the federal government are common events. They are simply not called "bailouts" and many of them receive little publicity.

Bailouts can occur when countries or regions of the world suffer a market crash and governments intervene to help calm panic. That happened in 1997 during the Asian stock crisis that became known as the "Asian flu."

Bailouts also happen when big companies or financial institutions get into trouble and the government decides they are "too big to fail" - a phrase that bank and other federal regulators simply call TBTF - because their demise would upset world markets too much or just hurt national pride. There are plenty of examples:

• In the 1980s, a Chicago bank called Continental Illinois made too many bad oil loans and federal regulators propped up the bank until it could be sold off.
• Also in the '80s, Chrysler was on the verge of collapse when a deal was cut with the government to support it with loans until it could stabilize.
• Brady bonds, named for Treasury Secretary Nicholas Brady in the 1980s, were created after too many Latin nations failed to keep current on the international loans to banks. Those debts were packaged as bonds, allowing banks to sell off their bad loans.
• In the 1980s, most of the savings and loan industry collapsed from free-wheeling real estate ventures. The government created its own Resolution Trust Corp. to take over the vast inventory of failed S&L properties - plenty of them right here in Florida - and resell them over time to private investors.
• In the late 1990s, a hedge fund called Long Term Capital Management bet big on an investment and lost. The Federal Reserve Bank of New York organized a $3.6-billion bailout by LTCM's creditors to prevent its collapse and avoid harm to the larger markets.

Free-market purists chafe at bailout talk. Let 'em fail, they say. Show some discipline. Let the markets work.

There's a bigger worry known as "moral hazard." If big companies think they can take huge risks and get huge rewards but get bailed out if they stumble, then markets get corrupted.

Regulators nod to these concerns but think bailouts are far less damaging to our increasingly complicated and interconnected economy than the ripples caused by some huge failure.

Now a new bailout is under way, prompted by regulators but handled by big banks, to help fix the latest crisis tied to the troubled U.S. housing market.

Put simply, many of those higher-risk "subprime" mortgages that homeowners could not keep up with were repackaged as securities and sold to big institutional investors. Now those securities are in trouble, so big banks are pooling $60-billion or so to make it easier for these problem investments to be bought, sold, liquidated or written off with enough time to avoid a big fire sale.

Bailouts can be like fresh grease to rusty gears. But let's not get too addicted to them.

There's no bumper sticker yet, but there should be:

Bailouts Happen.

Robert Trigaux can be reached at trigaux@sptimes.com or 727 893-8405.

[Last modified October 29, 2007, 17:14:50]