Chapter 14: Government Credits and Bailouts

One of the least understood components of the government's arsenal of power over the private sector is its ability to provide cerdit to various individuals, business firms, and other organizations.
The federal government subsidizes private economic activity in a great many ways and, as we will see, the typical credit program generates a specific benefit or subsidy to the recipients. The common characteristic of all subsidies - credit programs and other aids - is that they constitute a wedge between the cost to the seller of a product or service and the price paid by the buyer. A subsidy may go to producers or to consumers, or it may be shared. The general intent of a subsidy is to encourage some activity, usually to cause more to be produced or consumed than would result from the unaided operations of the competitive marketplace. A basic function that financial institutions are supposed to perform is assigning appropriate risk premiums to borrowers of different financial strengths.

Contrary to popular opinion, government credit programs are not costless, either to the Treasury or to citizens in general.

• The economic cost. since they do little to increase the total supply of investment funds in the economy, government credit programs take credit away from potential private borrowers.
• The initial fiscal cost. To the extent that government credit programs increase the total size of government-related credit, they cause an increase rates that are paid in order to channel these funds away from the pricate sector.
• The ultimate fiscal cost. When defaults occur on the part of the borrowers whose credit is guaranteed by the federal government,  the Treasury winds up bearing the ultimate cost of the credit.

Most fundamentally, an economic climate more conducive to provate saving and investment would reduce the need for private borrowers to seek federal credit assistance in the first place. Such a climate would be fostered by a tax system that tilts in favor of saving tather than consumption and a fiscal policy that avoids the Treasury deficits whose financing competes with pricate boeeowers.

The Chrysler Bailout

• The impact on the federal budget of a Chrysler failure would have been greater than the cost of assistance.
• The social upheaval attendant on a chrysler failure would have imposed substantial, albeit unquatifiable, costs on society.
• Production and employment at Chrysler were more heavily concentrated in the Detroit metropolitan area than were the other U.S. auto manufacturers.
• A Chrysler failure would have led to further concentration of the domestic automobile industry and greater monopoly power in the hands of the sureviving corporations, which would, in turn, have led to higher prices.
• The U.S. balance of payments, already severely in deficit, would have been pushed further into the red as foreign producers captured a share of Chrysler's domestic market.
• While Chrysler's ability to produce small cars in model years 1979 and 1980 was restricted to approximately 300,000 units, the company was building up to a yearly output of almost 1 million small-car units, which promised to sell trongly in the marketplace.

 The provision of credit continues to be a popular way for the federal government to provide assistance to business.

Source:Business and Government in the Global Marketplace (7 edition, Murray L. Weidenbaum)