The Economics of Corporate Bailouts

posted by Nima

November 20, 2008 · Posted in Business, Interventionism 

The objectives of economic policy are to continuously improve the well-being of the largest possible number of people in society by making sure that the scarce resources available on earth are utilized so that every one’s most urgent needs are satisfied before less urgent ones are addressed.

When a business squanders factors of production which, from the consumers‘ point of view, would satisfy more urgent and/or ample needs in other lines of production, it operates at a loss. This sends a signal to the entrepreneur running the business to do one of the following, lest his operation contribute to a deterioration of the welfare of society:

- find a better use for the factors of production employed (produce different, more demanded goods)
- find more effective ways to employ them (increase the output of the factors employed)
- abort the operation, make the factors available to entrepreneurs who plan to employ them in more urgent lines of production, thus releasing them from their current occupation (declare bankruptcy)

Those are the choices he has under a capitalistic system on a market where the consumer, the common man, is supreme, a market based upon voluntary action. Any of these steps would swiftly remedy the misallocation of the resources and align them to the benefit of the common people, the consumers.

(Whether the workers employed in the business are paid market or union wages, they will easily be able to find a new, profitable, occupation at wages that are equal to or below the ones they are currently being paid. Overall, the consumers that the new employer sells to will benefit to the extent that the new workers contribute to a larger supply of valued and demanded goods. True, the individual worker may not be happy about the fact that he has to adjust and/or start off at a level that is slightly below his previous one. However, the people he produces for are workers, too. For the majority of the products produced in a capitalist society are produced for the common man. Everyone is now consumer, now producer, and would like to be favored in both roles. But there can be no other means of reconciling these conflicting interests than making sure that at any given point in time as many workers and other resources as possible are, from the consumers’ point of view, employed in the most urgent lines of production. The greatest harm is inflicted upon society as a whole if resources are withdrawn from these most urgent uses and occupied in less urgent, wasteful, operations.)

In an interventionist system, however, the entrepreneur who operates at a loss has another choice: He can petition with the government for a bailout. Under this arrangement, the government obtains additional tax money from the people under its governance territory and uses it in order to cover the losses generated by the business. It hence forces the people to restrict their consumption in order to keep up an operation that, from the their own point of view contributes to a lowering of their standard of living. It relieves the entrepreneur from the responsibility for this damage and lets the taxpayer, the consumers, shoulder it.

Alternatively the government can obtain the money by having the central bank produce it and make it available to it in a credit transaction. This would of course result in inflation and credit expansion, which again the consumer pays for in the form of prices that are higher than they would have been without the intervention (this could be rising prices, but it could also just mean prices that are dropping more slowly).

The government could also borrow the money in a credit transaction on the market, along with the implicit commitment to tax people in the future, meaning to forcefully take their money, in order to repay this debt. All this does is to shift the burden of restricted consumption into the future, while in the present withdrawing resources that capitalists may have employed for factors of production in profitable, and thus urgently demanded, operations, instead of loaning it to an entity that can simply repay by stealing it from others, and thus has no incentive to address consumer demands. This can be vividly witnessed in the fact that the money is made available to largely unprofitable businesses in a corporate bailout.

If unprofitable, in other words wasteful and less-urgently needed operations are subsidized while proper conduct is taxed and thus punished, it is only to be expected that more undesired behavior will be encouraged. Irresponsibility, short-sightedness, and imprudent conduct in business will the the inevitable outcomes over time.

Either way, such a policy of course necessitates a well planned and thought out propaganda and fear campaign before public approval will be granted.

The management style of the business will then in no way be a profit oriented one. If not already bureaucratic, it will become an inherently bureaucratic operation. But the bureaucratic style is precisely the opposite of what it needs. It needs to stop withdrawing resources from occupations where they could fulfill more urgent and ample needs from the consumers’ point of view.

But even from the business’s point of view there is no long term help for its employees and managers if its failed operation is bailed out. The bureaucracy and inherent lack of innovation will ultimately maneuver the business toward a devastating collapse which can no longer be justifiably funded out of tax money. All employees will lose their occupation. But since the failed operation went on for much longer than necessary, the bulk of the employees will be trained in ineffective, outdated, and unprofitable procedures. Now it will be even harder for them to adjust to the conditions on the market.

This holds true for any type of business, no matter what products and services it provides. Whether it builds cars or brokers credit transactions, the consumers’ judgment tells the entrepreneur whether they are supplied with the most urgently demanded goods or not.

The more resources the business employs, the more suppliers it purchases from, and the larger the loss, the more will the standard of living of the common people, the consumers, deteriorate, if the bailout intervention continues. Every single dollar appropriated would be better employed by the consumer it is forcefully taken from. Every dollar used to obliterate the loss is misspent. The larger the business that is being bailed out, the more immediate harm is inflicted upon the common man.

Thus, there is nothing that could be farther from the truth than the argument that some corporations are too big to fail. It is hard to find a more sinister and callous consumer scam perpetrated upon the populace than the corporate bailout. It adversely affects the standard of living of the common man, who is consumer, taxpayer and worker at the same time, and on top of that leaves the employees of the business poorly trained and inflexible once the inevitable collapse occurs.

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