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We Had To

Steven Horwitz

There are plenty of phrases and buzzwords that catch the attention of classical liberals when uttered by those who believe government should play a larger role in society.  After years of listening to media talking heads and arguing with our friends in person and online, we have a set of hot-button words we tend to listen for and an accompanying set of almost preprogrammed responses when we hear them.  For example, all someone needs to do around me is to use the phrase “market failure” and I have a response at the ready.

In the last few years one of the most common of these phrases is some variant on the claim that the government “had to” do something to avoid some bigger disaster.  Given my own interests, the one I hear most often along these lines: “Well, the Fed had to intervene in the fall of 2008 to save the banking system from going off the cliff.” That language of “had to” is troublesome not only to classical liberals in general, but specifically to economists.  Saying the Fed (or any other government agency) “had to” do something suggests that either someone or something was coercing it, or that there was no other choice to be made.  Neither of those is likely to be true in general, and neither were true in the case of the Fed in 2008.

What the language of “had to” obfuscates is that there is always a choice. Government actors, just like actors in the market, always have some array of options in front of them, and every choice has an alternative or substitute that can be taken.  Rather than talking in terms of what government actors “had to” do, we can ask three key questions:

  1. What were the other options open to the actors in question?  If it is objected that there really were no other options, one can point out that there is always the option of doing nothing.  (As someone once said: “If you choose not to decide, you still have made a choice.”)
  2. What are the costs and benefits of each possible action, including doing nothing?
  3. Who was evaluating those costs and benefits and what criteria were used?

The Fed, 2008

In the case of the Fed in 2008, we can ask those questions and at least get a sense of the real issues at stake.  Were there options other than bailing out bad banks by buying their toxic assets and accumulating a variety of new powers to do it?  Of course there were.  As noted, it could have done nothing.  It also could have followed the advice that central bankers are supposed to take in crises, which dates back to Walter Bagehot in the nineteenth century:  provide liquidity only to sound banks and at a penalty rate.  This keeps bad banks off life support and assures that only those good banks that really need help get it because they will be willing to pay the higher interest rate.

As for the costs and benefits of the various options, the conventional wisdom is that the cost of doing nothing, or even following Bagehot’s advice, would have been a collapse of the banking system.  That assertion is not obvious to everyone: Some observers argued that allowing bad banks to go through the standard bankruptcy process (perhaps fast-tracked) would not have been catastrophic and would have allowed their good assets to be picked up by healthier competitors.  In addition, choosing to buy bad assets from bad banks entailed costs of its own, as the last three years have shown.  It’s hardly the case that we’re out of the mess we were in back then. Moreover, the Fed’s powers and entanglement with the banking system are greater than ever.  Whatever benefits there might have been from what the Fed actually did — and I’m doubtful there were really any — they were likely outweighed by the costs, if assessed properly.

Cui Bono?

The question of who was evaluating the costs and benefits is relevant here too.  One complaint about much of what the Fed did then and continues to do now is that the large banks, especially the investment banks, have benefited disproportionately.  It should be no surprise then that many of the top Fed decision makers in 2008 were from that side of the banking industry or had friends there.  What counts as a cost or a benefit surely depends on who is doing the assessing. That should make us skeptical of claims that something “had to” be done.

Government actors no more “have to” choose a particular option than you do.  We should always ask the basic questions of economics when faced with that claim:  what were the alternatives, what were the costs and benefits, and who was evaluating them and how.  The answers may well suggest that the language of “had to” is nothing more than rhetorical cover for a self-interested power grab.

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