The libertarian response to the Covid-19 financial turmoil

December 9, 2020

A libertarian sees the Covid-19 bailout of the financial system as a predictable failure of regulations. Much better to have a laissez-faire economy and never, ever bail private firms out. But does the laissez-faire utopia survive contact with reality?

I maintained in my last post that both the [socialists](@/blog/ 2020-12-04-socialist-response-to-covid.md) and the libertarians agree that the Covid-19 bailouts signify the failure of the current financial system. They do not agree on the remedies. The libertarian thinks we should not regulate the financial system, leave it be and certainly don't bail it out.

So, what is a libertarian? They are a broad church, but generally someone who believes the state should exercise as little control over society as possible. Their ideal state is a laissez-faire one (from the French 'let do'), an economic system in which transactions between private groups of people are absent of any form of economic interventionism such as regulation and subsidies.

The libertarians value negative liberty, as proposed by Isaiah Berlin in his "Two Concepts of Liberty", freedom from the interference of others. We can do what we want so long as we don't directly harm others (and just to be clear, it does not mean harm in the sense of microaggressions, safe spaces or critical theories). Said differently, it is freedom from rather than what the socialists would call freedom to.

So what is libertarian not? They are not conservative, not one of those anarcho-capitalists who fully reject the state and they have a different philosophy than the cryptocurrency-blockchain enthusiasts.

A libertarian values freedom and absence from state control. While they do recognise some role for the state, like national defence and the legal system, most will not accept any regulations of private enterprise, and all agree that the government should never ever support private economic enterprises. That distinction is one reason why the libertarians are not conservatives, a point made by their doyen, Hayek.

Even if some people see the cryptocurrency crowd as libertarian, that isn't true. While there is a lot of overlap in their beliefs, the two groups have different philosophical approaches, and even though they have ended up in the same place with cryptocurrencies, that is coincidental and unlikely to last. I will discuss the distinction between the two in more detail in the next piece.

So back to bailouts. The bailouts of the financial system in 2020 and 2008 and all the others are an anathema to the libertarians. It is an infringement of taxpayers' freedom to force them to support failed private enterprises. Better to let the banks fail than to bail them out. If that causes a crisis, so be it.

Said differently, even if the refusal to bail out the system might cause a crisis today, it would lead to a more stable and efficient financial system in the long run.

So, does the libertarian vision of a laissez-faire economy survive contact with reality? No, like every other political ideology. Pure political opinions are just that, pure, unsullied by day-to-day concerns. Why the political ideologies always fragment, like in Monty Python's The People's Front of Judea sketch.

And, in this particular case, I do not think the absolute libertarian rejection of bailouts works in the real world.

Suppose we lived in the libertarian ideal world where the central banks forswore bailing out the financial system forever. The central bank governor and the Prime Minister went on TV and told us that the government will never use its funds to help private firms in difficulty. Would that be credible?

No, because of democracy.

There are many examples of governments promising to never intervene in the private financial system. Just three examples are Argentina in the early 1990s, the United States in the 1910s and 20s, and Britain in the 19th century. What did their abstinence policy in was a severe financial crisis that came with very large real economic costs, bankruptcies, widespread unemployment and general misery.

I do not know of a single, relatively developed and democratic state with a long history of a financial system that did not bail out its financial system at some point. If you know of a counterexample, by all means, get in touch.

The reason is that every such country has at some point suffered extreme turbulence and even a crisis. Then, the voters demand their politicians do something. And, a politician that refuses, will just end up being forced out and another put in their place, one that is enthusiastic about doing something about the excesses of the financial system. Bailouts are a middle-class good as clearly argued by my LSE colleague and co-author, Jeff Chwieroth in his book The Wealth Effect: How the Great Expectations of the Middle Class Have Changed the Politics of Banking Crises.

The only way the libertarian abstinence policy is actually credible is if it either implemented in a nondemocratic country or one that actually never suffered a financial crisis.

Start with democracy. A nondemocratic country can, of course, ignore the democratic demand for a bailout, but then it's a country without freedom, and so there's nothing libertarian about it. By its very definition, a country that is laissez-faire must be a democracy.

But what about the absence of crises? That forswearing interventions will prevent crises from happening in the first place.

Of course not.

The purpose of the financial system is to take risk, often a lot of risk, and with risk comes failure. Some of these failures can be so large as to constitute a financial crisis. The only way to prevent financial crises is to follow the example of Cuba and North Korea and not have a market-based financial system.

The libertarian laissez-faire utopia is only that, utopia. Anybody who argues that a democratic state should never bail out financial institutions is denying reality.

So, what next? Will cryptocurrencies and technology solve the problem, as I discuss in my next piece?

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