New Senate Effort on Bailout: Economic nonsense

The Wall Street Journal reports Tuesday night that the Senate will vote on a replacement bailout bill on Wednesday evening. The Senate action is an attempt to provide some economic rescue following the failure of the banking system bailout bill in the House on Monday.
Some elements of the renewed rescue attempt may be an increase in the cap on FDIC insured deposits from $100,000 to $250,000, a one year fix for the alternative minimum tax, and possibly a surtax on millionaires to pay for the bailout. Other details are not clear at this time.

Let us consider some of this as far as it is known. The plan is reported to increase the amount of FDIC insured deposits an individual may have in a single bank. The FDIC currently does not have enough assets to insure the current level of deposits. Increasing that amount by 150% places the FDIC in even more perilous position. It also allows depositors to be less reliant on the sound condition of the bank where they keep their money than before. Now all depositors with more than $100,000 in deposits at a single bank must consider whether to leave the excess over $100,000 in that bank or move it to a bank they consider more sound, or to another bank where it will be within the $100,000 guarantee. If the insurance cap is raised to $250,000, the depositor is less inclined to examine the underlying soundness of the bank the funds are deposited in. This reduces the pressure on existing banks to demonstrate to depositors that they are sound and adequately capitalized. In one stroke we increase the moral hazard caused by unsound bankers, decrease the diligence of depositors, and place the taxpayers at risk for the increased unsupported FDIC guarantees.

We do not know how much if any of the original $700,000,000,000 bailout plan is reproduced in the Senate bill, and certainly the taxpayers will have less than 24 hours notice before planned Senate action, but we may justifiably ask, "Where is this money coming from?" Either the federal government intends to borrow the money by issuing bonds or it intends to print the money. It certainly not going to take it from the Social Security lock box which when last held by Al Gore had only a few dying moths in it. If the funds are raised by issuing bonds, the same amount of money will be removed from the existing credit market. This will result in no change in the total amount of credit available and thus is no solution to what is described as a shortage of available credit. The second choice, to simply print more money establishes a pernicious tax on everyone that will be paid for by higher prices and through the destruction of value for all savers. In either case, the investors in the institutions which made the bad loans which are the object of the bailout will be insulated from the direct consequences of their reckless actions.
An outstanding and brief expose on the causes and likely outcomes of the current financial crisis can be found in this article from the Mises Institute.