“Bailout Barometer” Shows the Growing Risk to Taxpayers

The Federal Reserve Bank of Richmond recently updated its “Bailout Barometer,” which estimates the share of the financial system’s liabilities that are explicitly and implicitly guaranteed by the federal government. This week’s chart is a re-creation of a chart produced by the Richmond Fed. The share of financial sector liabilities subject to implicit or explicit government protection from losses grew from 45 percent in 1999 to 60 percent in 2013 and amounts to a staggering $26 trillion.

The Richmond Fed’s methodology is explained here, but a couple of details are worth highlighting:

• The share of liabilities explicitly guaranteed by the federal government increased from 26.5 percent in 1999 to 34.7 percent in 2013. That 34.7 percent is equal to $15 trillion and includes FDIC-insured deposits of all commercial banks and savings institutions, pensions covered by the federal Pension Benefit Guarantee Corporation, and liabilities belonging to the government-sponsored enterprises (Fannie Mae and Freddie Mac) that were bailed out in 2008 and remain under government conservatorship.
• The share of liabilities implicitly guaranteed by the federal government increased from 18 percent in 1999 to 25 percent in 2013. That 25 percent is equal to $11 trillion and consists of liabilities that the Richmond Fed believes market participants would expect to be bailed out based on the federal government’s previous actions. These liabilities include short-term liabilities of the largest banking companies, money market mutual funds, and the liabilities of other government-sponsored enterprises.

These explicit and implicit guarantees from the government encourage market participants to engage in risky practices that they might refrain from undertaking in the absence of likely bailouts from taxpayers. Indeed, the market distortions created by these “too big to fail” guarantees increase the likelihood of another financial meltdown like the one experienced in 2008. As the Richmond Fed notes, “shrinking the financial safety net is essential to restore market discipline and achieve financial stability.” Unfortunately, promises from policymakers to end the “too big to fail” mentality in Washington, which puts taxpayers in a precarious position, have been largely empty.