Bailouts and The Goldman Rule: A Clean-Up Effort

The Goldman Rule states that one is often in conflict in terms of making a sizable profit and doing the right, ethical thing. When the rules are relaxed financially, institutions tend to take advantage of consumers and engage in risky activities. The Goldman Rule also states that, “The greater the profitable opportunities, the more likely individuals and organizations will engage in behavior without regard for the broader consequences” (Watkins, 2011, p. 365). This is what happened with subprime loans.

The consequences of subprime loans were not considered the way that they should have been. Did banks care if people lost their homes to foreclosures? Furthermore, where would these people go if they did lose their homes? The high interest rates of these subprime loans lured savings and loans institutions into giving them to people who could not really afford them in the long run. The institutions should have lowered the interest rates, extended the loan for people to reduce monthly rates, or not given borrowers these loans. Short-term greed outweighed the potential long-range cost for subprime loan borrowers.

Subprime loans became a source of potential income and greed. These loans were sold off to Wall Street investment banks, which made them bonds that were purchased by investors. Eventually, this caught up with the institutions, who eventually received financial government bailouts to get back on track. However, this effort is thought by some to be a reward for unethical behavior (Watkins, 2011).

A better solution that was created are the Basel agreements. These were created to prevent future financial collapses.  These regulations allow banks to take some risks, but there are some restrictions that were designed to prevent a financial collapse. This includes increasing the amount of capital that is needed. This larger capital can serve as a buffer if future losses occur. Hence, Basel 3 does not let banks leverage capital unnecessarily. The effectiveness of the Basel agreements remains unknown. Banks have about 3 more years to switch to regulations under the Basel agreements. One possible problem of the agreements is that it does not set limits on bank activities (Watkins, 2011).

More rules are needed to solve the subprime loan issue.

References

Watkins, J. P. (2011). Banking ethics and the Goldman Rule . Journal of Econmic Issues , 363-37.

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