We’ve all seen the story of banks lining up to get “free” money from the federal government in an attempt to pump up the economy. The reality is, the money hasn’t pumped up much of anything except the national debt. One trend, however, is that banks are regretting taking the money in the first place and some are even trying to give it back.

Take, for instance, Bill Cooper who is the CEO of TCF Bank. His bank took the bailout money even though they didn’t really need it. Cooper reports that regulators actually tried to pressure them to take the funds. On top of that, when the federal government came in with their money, many traditional lenders to banks suddenly walked away from the business that dried up the conventional source of capital for banks.

The reason for the drying up of conventional capital is that the federal government has imposed a “shareholders get nothing” approach to bailouts. If you, in good faith, invested in banks, your equity gets wiped out first. This has led to many institutional players simply not wanting to take the risk. While there is merit in protecting consumer accounts from a run on the bank, targeting shareholders has led to almost all traditional flows of capital to banks disappearing overnight.

As a result, some banks were pressured to take federal money they did not need and others had to take federal money when traditional capital would have been available in any other circumstance. The take away from this is that the law of unintended consequences strikes again. By propping up bad banks, the federal government has created a cycle of drying liquidity that forces other banks onto the federal dole.

The mode of federal spending always tends to be to hook a target into relying on federal money, turning them into a captive recipient and then imposing rules after-the-fact, when the entities have no choice but to capitulate. It was the same way with New Deal highway funds. The federal government pays to build and maintain the interstates and now that states are hooked on that money, they can impose almost any terms they want on receiving that money.

Even a better example is federal title 1 money for schools. The money was created to “level the playing field” between rich states and poor states, and rich districts and poor districts. Of course, every state got some money also. Now that the schools are hooked because of the constant upward pressure of education spending (rightly or wrongly), the districts and states can no longer say no to title 1 funds. In comes No Child Left Behind.

It’s hard to argue that No Child Left Behind (and by extension, the federal government) is the primary driver of educational policy, not parents or local school boards. Accountability is all well and good but the question is, accountability to whom?

The same is now true of bailout money. After banks have accepted the cash and have no choice but to hold it, the federal government is imposing terms after-the-fact to control the banks. This is, in effect, “good enough nationalization” (where the government controls the aspects of a business it cares about and leaves the mundane details it doesn’t care about to the business). Bill Cooper, for instance, wants to give the money back.

Rep. Barney Frank wants all recipients of federal money to be subject to end-to-end wage controls on all employees. That’s the most flagrant example of overreach to date. Of course, banks got desperate and held out their hands. Now the federal government is calling the tune.

The result is that an ever-widening portion of a major industry will fall under federal control (in part because no one wants to invest in financials anymore). As with most things, it will be the consumers and citizens who have to pay the ultimate tab but never seem to reap any of the benefits. Hopefully the banks can give back the money before it is too late.

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