This refers to the debate “Should banks bail our companies?” (January 4). If a company has an incentive to go broke for profit by “getting a bailout package” at society’s expense, then it is pure loot. Bankruptcy for profit will occur if poor accounting, lax regulations and low penalties give owners an incentive to pay themselves more than their firms are worth and then default on their debt obligations. In economic literature, this strategy has got many colourful descriptions: “heads I win, tails I break even”, “gambling on resurrection” and so on.
Nobel prize winner George A Akerlof and Paul M Romer in their classic paper titled “Looting: The Economic Underworld of Bankruptcy for Profit” have aptly concluded that “a combination of circumstances in the 1980s made it very easy to loot a financial institution with little risk of prosecution. Once this is clear, it becomes obvious that high-risk strategies that would pay off only in some states of the world were only for the timid. Why abuse the system to pursue a gamble that might pay off when you can exploit a sure thing with little risk of prosecution”. Seen in the light of current circumstances – “low output, low demand, the euro-zone crisis, the overall economic slowdown, high fiscal deficit, rising current account deficit, so on and so forth” – there is not going to be any dearth of bailout packages, revival packages and monetary and fiscal incentives.
Any programme that tends to encourage the philosophy of “privatising profits and socialising losses” is not in the larger interest of society. To judge the genuineness of a company seeking a bailout from a bank, a simple test is to see whether “someone trying to make an honest profit would have operated in a completely different manner”. Promised bailouts mean that anyone lending money to any company – ranging from small-time savers to financial institutions – doesn’t have to worry about losing that money since in the end, the government (which, after all, is also you and me) will cover the losses.
Anil Kumar Angrish, Mohali
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