From Market Watch:
Though I love putting my clients at ease, there are consequences to the bailout:
-- Inflation. At some point the government will not be able to afford to keep bailing out our financial (and other, real) companies and will have to start printing presses to keep affording it. ...-- Weaker dollar. ... After the bailout announcement the prospects are lot less clear. The US government possibly starting a gigantic printing press is not good for the greenback. However, currency strength/weakness is driven by relative economic performance not absolute. ...-- Higher interest rates. In the past we did not have to worry about the financial strength of the US government, but today the government's financial strength has been tested. ... [EE: also, see "Fisher Effect", whereby nominal interest rates rise with an increase in the expected rate of inflation.]-- Higher taxes. On the bright side, the bailout may or may not end up being a bailout. If the government were to buy loans 30 cents on the dollar and if they were worth at least a 30 cents, then the government is providing liquidity - the cost to taxpayers is zero. Not necessarily a bailout. But there is a reason why there is a liquidity problem - the market is not really sure what those 30 cents on the dollar loans are really worth. Derivative securities that derive value from other derivative securities - so called derivatives squared - are very hard to value. Unfortunately, the government is not better equipped to value those loans than the market, though it does have a longer time horizon to discover what they are worth. In other words, Mr. and Mrs. Taxpayer are buying a cat in the bag and hoping it's not a rat when we open the bag a year or two from now. If it is a rat, our tax bill will start climbing.-- Moral hazard. ... if you ran a money market fund why wouldn't you be loading on the riskiest highest yielding paper (within the allowed parameters) you could get your hands on? You'd just make sure it matures in less than a year (this is when the government put runs out). There is only upside and no downside. If the risky bet pays off, the fund manager will make a load of money for fund holders and get a nice juicy bonus. If the bet goes wrong, well, you still made a decent amount of money, fund holders will not lose money and Mr. Taxpayer will bail the fund out. ...Unfortunately, the cost of not bailing out maybe even higher.
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