Bryan Caplan  

The Bailout Will Lose Money, and I'm Ready to Bet On It

China's Unsung Pollution Probl... Morning Commentary...

I'm locked and loaded to bet on the bailout.  My muse is none another than H.R. 1424, section 134:


Upon the expiration of the 5-year period beginning upon the date of the enactment of this Act, the Director of the Office of Management and Budget, in consultation with the Director of the Congressional Budget Office, shall submit a report to the Congress on the net amount within the Troubled Asset Relief Program under this Act. In any case where there is a shortfall, the President shall submit a legislative proposal that recoups from the financial industry an amount equal to the shortfall in order to ensure that the Troubled Asset Relief Program does not add to the deficit or national debt. (emphasis mine)

Here are my terms: If the Director of the OMB's 2013 report says that a shortfall exists, I win.  Otherwise, I lose.  The stakes: I will make up to five $100 bets at even odds.

Why am I making this bet?  

First, I strongly suspect that "it will pay for itself" claims are false. 

Second, I can't think of any other unambigious way to measure whether these claims are false. 

Third, using the OMB's report biases the bet against me: If OMB doesn't turn in the report, or fudges the numbers, I lose.  This should entice bailout optimists to accept my terms.  Even so, I'm confident that I'll win - OMB may be able to overstate the bailout's success, but there are limits to spin doctoring.

I offer Andy Kessler the right of first refusal.  Anyone else who wants to bet can offer to accept the terms in the comments, but it's not official until I respond.  I'll give preference to bets by well-known bloggers, pundits, econ profs, etc.  Feel free to forward this post to anyone who has publicly stated that the bailout will make money.

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The author at Club for Growth in a related article titled Betting on the Bailout writes:
    GMU economist Bryan Caplan is betting that the bailout will lose money. If you want to take the other side of the wager, go here. Personally, I think he's right.... [Tracked on October 8, 2008 10:14 AM]
COMMENTS (25 to date)
Arnold Kling writes:

I actually think of the payoff of a well-considered investment in mortgage securities as follows:

probability of a small gain: 90 percent
probability of an enormous loss: 10 percent

So I think that Bryan will probably lose his bet, even though I as an individual would not be buying mortgage securities today. Government incompetence and adverse selection will reduce the chance that the bailout makes a "well-considered investment," so that helps Bryan's chances.

El Presidente writes:

Rock, paper, scissors? :-)

Michael K writes:

I'll take your bet! I agree with Kling that it's most likely to make a little money.

Thomas Dinsmore writes:

I'm offering insurance to anyone who wants to hedge Bryan's bet.

Ryan writes:

The bailout was the wrong thing to pass. It's time to do something right.

Please support this proposal and get your Congressional representative to sponsor this solution to our current monetary crisis.

A complete list from the Detailed Executive Summaries of the National Economic Stabilization and Recovery Act:

Immediate Relief and Results

# Eliminates more than $1 trillion of the nation’s public debt
# Reduces future private debt by more than $1 trillion
# Immediately eliminates some private debt, especially for many homeowners

# Workers maintain better control of their earnings
# Production is no longer taxed, just consumption
# Most of the necessities of life are not taxed

# Encourages production thus revitalizing industry in America
# Encourages rebuilding of inner cities
# Discourages wasteful uses of natural resources

# Exposes the true cost of government
# Greatly eliminates the struggle between tax “protesters” and bureaucracy
# Allows the “underground” to resurface and become a viable contribution to production of goods and services
# Greatly restricts the influence of special interests and lobbyists

The Federal Reserve System

# The Federal Reserve Act of 1913 is amended
# The Federal Reserve System is abolished and replaced by a new Treasury Reserve System
# Control of the currency is moved from private control of the Fed to public control of Congress and the new Treasury Reserve System

# Congress sets the standards for the new monetary system but the people create as much or as little currency as they need
# Functions of the Federal Open Market Committee are transferred to the Board of Governors of the new Treasury Reserve System
# A new mechanism, the Treasury Reserve Account, is created to provide the Treasury Reserve System Board of Governors a better method to fine-tune the money supply, effectively eliminating inflation

# The Treasury Reserve System Board of Governors will continue using the previous three mechanisms for controlling the money supply: 1. Setting reserve requirements. 2. Setting the national discount rate. 3. Purchasing U.S. Treasury securities on the open market.
# All U.S. Treasury securities purchased by the Treasury Reserve System Board of Governors will be immediately turned over to the U.S. Treasury and cancelled out of existence.

Monetary Policy

# People are provided with several alternatives for currency
# Constitutional currency is restored
# Currency becomes debt free as the people stop paying interest payments for their use of a public utility

# Unlike previous policy, the new Treasury Reserve Board is provided one very specific mandate: maintain a stable currency
# Expansion of the economy is returned to the free market
# Private coinage is encouraged

# Exchange ratios for the various currencies are published at least weekly
# Printing of redeemable gold and silver certificates is allowed
# Postal money orders are made available in denominations of gold and silver coin


# Returns the banking industry to serving public interests
# For secured loans, compound interest is outlawed and replaced with a monetization fee
# Provides stricter banking controls by imposing excise taxes to discourage high or runaway monetization fees

# On secured loans obtained from a fractional reserve bank, principal must be paid in full before the bank begins collecting its monetization fee
# Eliminates the facade for banking insurance (FDIC)
# Except for fraud and criminal activities, virtually eliminates bank failures

# Banks are prohibited from using as reserves any commercial paper
# Only Treasury credit-notes can be used as bank reserves
# Banks are prohibited from purchasing government issued debt, effectively removing banks from influencing monetary policy

# Checking accounts against gold and silver deposits are prohibited
# Commingling of funds among the various money accounts without owner’s permission is prohibited
# All currency deposits with banks are general warrant deposits and custody accounts.

The Income Tax

# The Income Tax Act of 1939 is amended
# People need no longer fear the IRS
# Billions of hours of nonproductive labor are eliminated

# Mounds of paper work are eliminated
# The cost of the income tax is no longer hidden and embedded in the cost of doing business and passed down the chain with the consumer paying the final tab
# Most likely eliminates state income tax plans because state income taxation piggybacks on federal income taxation

# The IRS is reformed into the National Tax Service
# Volumes of complicated tax code are history
# Eliminates personal income taxes

# Eliminates corporate income taxes
# Eliminates gift taxes and estate taxes
# Eliminates capital gains taxes

Sales and Use Tax

# Tax rate of 14%
# Government entities are exempt
# Government mandated expenses such as licenses, permits, passports, are exempt

# Sales of bullion, coin and currency are exempt
# Sales made by or to nonprofit schools are exempt
# Sales of prescription drugs, medical supplies and services are exempt

# Real estate rents and leases are exempt
# Sales of groceries are exempt
# Sales of plants, livestock and fish used in the production of food for human consumption are exempt

# Insurance sales are exempt
# Segregated portions of labor in retail service contracts are exempt
# Incidental or occasional sales such as garage or rummage sales are exempt

# Sales for the purposes of recycling are exempt
# Meals provided by companies at company expense are exempt
# Sales that are nonprofit in nature are exempt

Felix writes:

Even section 134 seems a bit sketchy as a bet resolver.

I foresee more than a little campaign financing coming from those who want not to be in the "financial industry" a short while after the next 4-year election cycle.

Simple laws are wonderful. Note how inflation is not mentioned in section 134.

In fact, 134 is an empty clause. Congress can take what it wants from the "financial industry" at any time, whether congress has passed a law saying it can do so or not.

Adam writes:

Warren Buffett stated last week on Charlie Rose that he would take the opposite side of your bet. Unfortunately I don't know him but I imagine he would make an interesting counterparty.

English Professor writes:

Bryan, how can you trust a government report for the truth or falsity of a statement about whether TARP ended up gaining or losing money? Doesn't Public Choice theory warn you off? Won't this be a political determination rather than an economic one? Who will gain from what is decided and how will those persons (or that political party) gain? I certainly wouldn't put any of my money at risk on such a decision.

Second, here's an example of how the government does its accounting. Social Security receipts that are in excess of immediate payouts go into the general fund of government revenues, right? The SSA is then issued bonds, which consist of a series of claims on future tax revenues. These bonds are then called a "trust fund." So a government trust fund consists of a promise to transfer money from future income tax revenues to Social Security recipients. But these transfers will NOT be treated as the transfer payments that they are; they will be segregated under the heading of debt repayment (or interest on the debt). And you're willing to allow these people to determine whether or not you owe someone else money?

Chris Wuestefeld writes:

The "5-year period" of this reconciliation is the red flag for me. Putting it off beyond the next Presidential election suggests that they have little expectation of positive news. If they were confident of this, they'd want to be able to take credit. Delaying the accounting reveals that they don't expect credit, but blame -- safely before the next Presidential cycle, and even a year before any national elections.

Tushar writes:

Im with English Prof. Imagine they lost a small amount of money. Considering the gubmint's accounting practices, cooking this to look like breaking even or even a profit does not seem that unlikely to me.

My $0.02

Steve Roth writes:

You don't seem to be getting many takers. If you need another patsy, count me in for $100.

I put the chance of recoupment on your terms at even odds, so in economist's terms the cost to me of this bet is zero!

If you win, you and I will just have to hope that I'll actually have $100 left five years from now. Cause you might really need the money...

Giles writes:

Not a fair bet.

How about this one.

If the bailout looses an even number (in millions of dollars) I win, odds you win. The loser pays the winner 1 can of Tennant's Extra for million lost.

After all its only fair that the winner should be saddled with a shed load of toxic p*ss as well.

But how will you calculate the monumental, super-awesome benefits of Sec 111 of thw bill that requires: limits on compensation that exclude incentives for senior executive officers of a financial institution to take unnecessary and excessive risks that threaten the value of the financial institution during the period that the Secretary holds an equity or debt position in the financial institution;?

Scott Wood writes:

"...recoup from the financial industry...." How do they propose to do that? A special levy?

Methinks writes:

If we accept Dr. Kling's probabilities, and we assume that the OMB is honest in its reporting, Bryan's expectancy depends on the definition of "small gain" & "enormous loss"

if "small gain" = 5 Billion
and "enormous loss" = 100 Billion

then, the expected P&L of this ill conceived hedge fund is a loss of 5.5 Billion. Bryan wins.

Even if, in the unlikely event the TARP makes a profit, will it really result in a gain? It depends on how we define "gain". If the government fritters away the profit on various government programs (as is its wont, is that really a "gain"? Will the average taxpayer consider that a "gain"? I think not.

Personally, I don't agree with Dr. Kling's probabilities. I think there's at least a 50% chance of a substantial loss and a 50% chance of a minute gain. I just don't see the incentive to enter into positive expectancy trades on the part of the TARP. However, there's huge incentive for cronyism and corruption. After all, what are the "investors" in this, the largest distressed debt hedge fund, going to do if they're unhappy? Withdrawing from the fund is not an option.

dcpi writes:

What does it matter whether the bailout achieves a "paper" profit on its MBS investments? Any money it does earn will be spent on new Federal programs and not returned to the tax payers. I am willing to bet $1,000 that there will be no tax rebate or deficit reduction associated with the program. The pols will do something silly like forgive student loans or something else with any "profits" instead. Or perhaps they will create some entirely new, unending and costly program. Oh, and it does not matter which party is in charge when they book the profit.

Certainly after McCain suggested that we buy up mortgages and then renegotiate them at the new value of the home, there is no doubt we will lose money on this. Do I get to renegotiate the price I paid for gas this week when the price drops the next week?

macquechoux writes:

Professor, you should get in touch with Warren Buffett as he is dead certain that the government is going to make money on the bailout. Spend a few minutes and check out why he would/should take your bet:

Let your faithful readers know if he takes you up.

MattYoung writes:

Considering the stock market continuing decline after the bailout passage, I think you have already won your bet!

Prakhar Goel writes:

"OMB may be able to overstate the bailout's success, but there are limits to spin doctoring."

No... there really aren't.

bill shoe writes:


Congratulations on putting your money where your mouth is.

I also have a nitpick with the government deciding if there's a shortfall in the account. I think the Fed/Paulson are already gearing up to "rework" the mortgages so fewer people lose their homes. This obviously requires some kind of initial loss on the mortgages relative to their current market value. However, government accounting might consider this loss to still be in the account as some kind of "value added" to the taxpayers, or congress might add $x billion into the fund to cover the cost of mortgage reworks and presto!, no loss in the account!

Again, I admire your willingness to bet on such generous terms, and maybe if you get financially screwed by government accounting chicanery then you'll have made your point as a moral victory.

Methinks writes:

I think the Fed/Paulson are already gearing up to "rework" the mortgages so fewer people lose their homes.

You mean "so that fewer people get kicked out of taxpayer provided homes", don't you? One must repay the lien against the asset in full to own the asset. If these people truly owned the homes, they wouldn't have a mortgage in the first place. These are not home owners.

John Fast writes:

Arnold Kling wrote:

probability of a small gain: 90 percent
probability of an enormous loss: 10 percent
So I think that Bryan will probably lose his bet.

Okay, Arnold, will you cover Bryan's $500 and my $500 as well? (Although betting against you on something involving mortgage-based securities would seem to be a fool's wager.)

Also, would you be willing to make a counter-bet where the payoff is based on the total (reported) loss?

Bryan: Do you think that, five years from now, there's a publishable paper tracking the government's official accounting of the real cost and/or payoff of the bailout, and pointing out how they're cheating/lying?

Rick Stewart writes:

I will take the bet exactly as written. I will write my check for $100 to Arnold, to be held for disbursement to the winning party.

I believe I will lose, of course, but it's only $100. And I believe it is highly unlikely any of us will be paying attention to this in 5 years, myself included, so what I am really buying is my own attention span.

I fit none of the categories that would give me a preference for Bryan's acceptance, but I do offer this enticement. If I win, I will eat Bryan's check.

Bryan Caplan writes:
John Fast wrote:

Bryan: Do you think that, five years from now, there's a publishable paper tracking the government's official accounting of the real cost and/or payoff of the bailout, and pointing out how they're cheating/lying?

Probably, though it's more of a policy paper than an academic article.
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