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Debating the bailout

USC Gould School of Law • February 27, 2009
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Dean Rasmussen and Stanford’s G. Marcus Cole consider solutions

—By Lori Craig

Bankruptcy experts USC Law Dean Robert K. Rasmussen and Stanford Law School Professor G. Marcus Cole debated the value of the federal bailout of banks during a talk sponsored by the USC Law Federalist Society. The Feb. 17 event, titled “The Great Bailout: Banking or Just Bankrupt?” also was funded with a grant from the John Templeton Foundation.

The bailout is a mistake, said Cole (pictured right). He took issue with not only the bailout itself, but also the greater “bailout reflex,” as he termed it.

“As soon as economic difficulty strikes, the first reaction of our political leaders, including Pres. Bush … has been to bring the government in and bail out the private sector without explaining to the American people what got us into this situation and how the bailout will help,” Cole said. “The bailout rewards bad behavior and, in fact, encourages bad behavior, and fails to address the underlying causes of our current situation.”

There is, Cole said, an effective mechanism in place to address the problem: bankruptcy. Many take issue with the word, he said, but that’s because they don’t see it as a way out. Bankruptcy is a solution to the problem of insolvency.

“The great thing about bankruptcy is that it forces a day of reckoning upon the interested decision-makers and it provides an orderly mechanism for re-ordering the legal rights of parties,” Cole said. “The reason bankruptcy is being resisted is because it has clear losers and winners.”

The winners, according to Cole, would be the taxpayers, while the losers would be management and labor unions, who resist the idea because bankruptcy would put all negotiable items on the table.

Dean Rasmussen agreed with Cole, to a point. While bankruptcy has worked well in the past – in the steel and airline industries, for example – it’s better applied to manufacturers and not to banks.

“In bankruptcy, we can save what’s worth saving and jettison the rest,” said Rasmussen (pictured left). “But Chapter 11 can’t help financial firms. There’s a difference between the way Chapter 11 provides finances to continue your operations and the way in which financial firms operate.”

Aside from having a different business model, banks also have a number of other problems that aren’t even known to consumers, Rasmussen said.

“I don’t know what the solution is,” Rasmussen said. In looking at the alternatives, “none of them seem plausible, and that’s a scary thing.”

The American economy would be best served if hard choices are made now, Cole said.

“Our difficulty with financial firms has been our refusal to look at them indifferently,” Cole said. “Now we’re in trouble because we can’t consider the possibility that certain banks may fail.”


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