Privatized Gains and Socialized Losses

Privatized Gains and Socialized Losses is catchy phrase fit for any local news reporter or opinionated columnist. It's easy for viewers and readers to take stock in a phrase like this when it allows them to be the victim, it's very similar similar to the underdog phenomenon. Populist rhetoric aside, the phrase does have some truth if the government provides bailouts to wayward capitalists. Recently this phrase has been applied to the Fannie/Freddie mess and the Bear Sterns bailout. The real issue is that the government provides a stop loss, thus effecting the future behavior of firms toward risk.

With Fannie and Freddie, the implied government guarantee has been in the cards since the inception of these firms. Now is not the time to claim socialization of losses, the government is simply following through on their initial guarantee. Imagine the fallout if investors came to believe the U.S. Government may or may not honor its previous commitments; I'm sure treasury yields might move just a little.

The Bear Sterns Debacle or so it was labeled has different characteristics, but falls short of "Socializing Losses". First you have to consider that shareholders did see their shares fall from $150 to $10 (-$140 - privatized). Second, you must consider what the actual loss for taxpayers would be. The "Bailout" involved the Fed guaranteeing around $30 Billion of mortgage backed bonds assumed by J.P. Morgan i.e. the cost is the portion of the $30 Billion that defaults. Gains while harder to measure are also a part of the Bailout. Gains result from the entire credit market not falling into free fall (research Bear Sterns counter party trades if your a doubter). Gains are also attained from the continuation of the securitized mortgage market that provides capital for millions of homeowners (who don't live in govt housing). Perhaps in the next decade we will decide the Bailout was a net loss, but if the gains are properly measured and monetized hopefully we will be reading about Socialized Gains.