Wednesday, 8 October 2008

Hayekian Waiters on the Bailout

Via Reason magazine, see these excellent explanations of why government shouldn't prop up financial institutions who made bad business decisions.

Firstly, Russell Roberts - Professor of Economics at George Mason University, and one of the co-bloggers at Cafe Hayek - explains how a combination of government interventions distorted the mortgage market, and how the proposed solution, bailing out firms which made bad financial decisions, will further undermine the basis for future rational economic calculation.

Then, Arnold Kling - blogger at EconLog, and former economist at Freddie Mac, one of the Government Sponsored Enterprises responsible for the current problems - argues that the underlying causes of the crisis are based in faulty understanding of mortgage credit risk by politicians, whose incentives are to increase home-ownership in the short-term for their electoral benefit. The hopelessness of the bailout lies in their corresponding assumption that a technical specialist will be able to 'somehow figure out' what the securitized mortgages are worth. The main benefit of the market's co-ordinating prices is that it operates as such a discovery procedure, drawing on the decentralized knowledge of millions of participants. It is precisely the impossibility of rational centrally-planned prices that makes the market procedure necessary in the first place.

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