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Trey Griffin
Kelsey Helveston
UWRT 1102
20 April 2017
Inquiry Project
For my inquiry topic, I wanted to research whether big bank bailouts from the
government hurt or help the economy and banks in the long run. I wanted to look at this from a
pure business and economic perspective. Rather than the ethical or political conversation on if
the government is overstepping its boundaries by bailing out the banks. This topic interested me
because this is a situation that happened about nine or eight years ago and very much applies to
the well-being of the economy. During the recession that started around 2008, the government
On October 3, 2008, the United States government passed the Emergency Economic
Stabilization Act of 2008. This act was a $700 billion financial sector rescue plan, the largest
bailout in American history by hundreds of billions of dollars (Davis). The main idea behind the
bill was authorize the US Treasury to buy risky and nonperforming debt like mortgages, car
loans, and college loans from various lending institutions. The whole goal was to have the trust
in banks reestablished because the US economy runs on lending between banks and consumers.
Some would argue that this bailout worked because the economy has since improved, but others
would say the economy improved only because its just the natural cycle the economy runs.
One perspective Im going to look at is not bailing out the banks. Chunyang Wang, an
Economics professor with a PhD, used the recent financial crisis of 2007-2009 for his research.
His paper develops a global game model of information based on bank runs to analyze how the
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announcement of bailouts affects the investors bank run incentives. A bank run is when a large
number of people try to withdraw their money from a bank all at the same time and if enough
people try to take out money the bank may not have enough in reserves to meet the demands. He
says bank runs became more prevalent during the 2007-2009 financial crisis. In the years of
2008 and 2009, 165 banks failed in the US, in which bank runs are a notable cause. However,
only 11 banks failed in the five years before 2008 (Wang). In Wangs model the probability of
bank runs after a bailout announcement depends on three factors. The first is that the probability
of a bank run is higher if the bailout amount is smaller. The second is that the probably of a bank
run is higher if the government signal is more precise. Third, the probability of a bank run is
higher when the government uses a lower cutoff. This is because investors see a lower cutoff it
they believe that the government believes the bank is worse. He concludes that, after the
announcement of a bailout investors may run on the bank, since such an announcement reflects
that the government has information about the bad bank assets (Wang).
Another point of view Im going to look at is a study of bank bailouts in Europe and bank
performance after the bailouts. Maria Gerhardt and Rudi Vander Vennet, who are Finance and
Economics professors at universities in Europe, looked at the 114 European banks that benefited
from government support during the financial crisis in Europe. They investigated the financial
condition of banks before and after receiving government support. In their journal, it says that
the equity ratio, loan quality and bank size are the main determinants of bank bailout
involvement. They found that the aided banks hardly improved their performance indicators in
the years after government aid, indicating that bailouts are not enough to restore bank health
(Gerhardt). In theory, government support should allow banks to restructure and improve their
risk/return profile. However, it has shown that rescued banks do not reduce riskiness more than
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non-rescued banks. Their recommendation is that when governments set up state sponsored
rescues, they should require rapid and decisive action from the rescued banks in terms of
The argument to bailout banks is one that has gained more traction and expanded these
past few years because of the 2008 bailout. When the US government was deciding if they
should bailout the banks they realized a few things. Banks were afraid to lend to each other
which caused stock prices to plummet. Financial firms were unable to sell their debt and
therefore had no way of raising capital and were in danger of going bankrupt without
government intervention. The biggest argument against bailouts by the taxpayers is that they are
the ones paying for bad business practices. However, in the case of the $700 billion that was
approved to spend by congress in the TARP bailout, only $350 billion of that was spent by
George Bush. The money went to big financial institutions and large auto companies. Also, the
government bought the bank stocks while the prices were low and later sold them when they
were higher. As a result, by 2012, only around $100 billion of TARP funds were still unpaid,
banks had repaid $292 billion through stocks, taxes, and payment plans (Amadeo).
Perhaps the industry that was impacted the most by the recession and financial crisis was
the auto industry. The TARP bailout included a bailout package to General Motors, a huge
American auto company, and a few other auto companies. Auto companies received about $80
billion in loans and a recent study found that the loans prevented the immediate loss of 2.6
million jobs in 2009 (Bump). Only $10 billion of the original $80 billion was still outstanding as
of 2013. If the numbers are broken down, the US invested about $12,000 a person to keep their
jobs and those employees contributed about $105 billion in unemployment benefit payments
and the loss of personal and social insurance tax collections which equivocates to about a
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$58,000 net profit per person (Bump). This means that even though the US spent money to help
workers keep their jobs, in the long run they money they made back by workers keeping their
Most of the people that argue for government bailouts, like to mention how it saves jobs
and keeps banks from failing. These are very valid points however, one impact of bailouts that is
rarely thought of is how they impact the non-bailed out banks. Hendrik Hakenes, Isabel
Schnabel, and other economic and finance professors around the world conducted research on
this very topic. They found that bailouts created a competitive advantage among the banks that
werent bailed out. The banks that werent bailed out had to increase risk taking to try and keep
up with the banks that were benefitting from the bailout. Risk taking benefits the economy
because it means there is more money flow and investing. Investing, loaning, and spending all
help drive the economy because it keeps companies in business and the workers employed.
There will always be people who dont agree with either side which is why compromise
is sometimes necessary to pass legislation and bills, so thats why I am going to propose potential
compromises when it comes to bailouts. A potential plan that could be used could be when banks
are bailed out they are required to pay back the government over a set period of time, but also to
be required to change the bad business practices that got them in the bad situation in the first
place. If the government just gives the banks money and doesnt make them change anything
The question of government bailouts and if they are beneficial for the economy is a very
important question that matters because wrong decisions when it comes to bailouts can cripple an
economy for years. There is research that supports both sides of the argument and there is also a
political side of things, some dont think government should be involved with the economy. All
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we know is that there will most likely be another economic downturn due to the cyclical
economy. There are natural downturns and upturns, and when a downturn comes there needs to
be a set plan in place, even if the plan is to do nothing. The best way to do this is to look at
bailouts in the past and see the impacts they had and form an opinion on whether the impacts
Works Cited
Amadeo, Kimberly. "What Did the Bank Bailout Bill Really Do?" The Balance. N.p., 08 Sept.
3305675>.
Bump, Philip. "The Auto Bailout Saved 1.5 Million Jobs - and Likely Made $50,000 on Each
One." The Atlantic. Atlantic Media Company, 09 Dec. 2013. Web. 30 Mar. 2017.
<https://www.theatlantic.com/politics/archive/2013/12/auto-bailout-saved-15-million-
jobs-and-likely-made-government-money/355943/>.
Davis, Marc. "Top 6 U.S. Government Financial Bailouts." Investopedia. N.p., 13 Oct. 2008.
financial-bailout.asp>.
Gerhardt, Maria, and Rudi Vander Vennet. "Bank Bailouts in Europe and Bank Performance."
<http://dx.doi.org.librarylink.uncc.edu/10.1016/j.frl.2016.12.028>.
Hakenes, Hendrik, and Isabel Schnabel. "Banks without Parachutes: Competitive Effects of
Government Bail-out Policies." Journal of Financial Stability 6.3 (2010): 156-68. Web.
Wang, Chunyang. "Bailouts and Bank Runs: Theory and Evidence from TARP." European
<http://dx.doi.org.librarylink.uncc.edu/10.1016/j.euroecorev.2013.08.005>.