Bailout May Be Helping to Generate Up to Half of Bank’s Profits

We will never know how many, if any, of the major banks would have failed without the TARP bailout package passed a year ago. Several banks were strong-armed into taking the money. We can be reasonably sure that Citigroup and Bank of America wouldn’t be the institutions they are today without some government hand-holding—actually, it is more like continuous CPR while giving blood and donating a kidney.

However, while we can’t know the counterfactual, we can assess how the liquidity infusions have decreased credit risk, lowering the cost of capital, and compare these savings to profits. And the stunning numbers show that up to nearly half of all profits from the top 18 banks are the result of Uncle Sam subsidizing the cost of credit.

Every day financial firms borrow money to conduct business. Just like with individuals and families, there is a cost to the credit in the form of an interest payment or fee. However, with a virtual government guarantee of security, the big financial institutions have been able to borrow at artificially reduced rates. Lenders to financial institutions know Uncle Sam has the back of the big boys on Wall Street. They’re sure to get their money back, based on current White House and Fed policy.

The problem is that this gives large financial institutions a competitive advantage over smaller business. Those smaller firms have to pay more for their credit. They don’t have the government guarantee. They are more risky. And while it is true that smaller firms will always have to pay more money to borrow than the larger firms, the government guarantee has widened the gap between the cost of credit for the smalls and bigs.

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