What Do the Dutch Owe America’s Taxpayers?

(Originally published here.)

The rebound of the U.S. housing market may end up benefiting Dutch taxpayers. According to Bloomberg News, the government of the Netherlands is poised to make a profit of as much as $1.1 billion from selling toxic mortgage bonds acquired from ING Groep NV in early 2009. Citizens of the Netherlands may also want to think about cutting regular Americans a check as compensation for saving them when they really needed it. The gains the Dutch are about to realize from the sale of these bonds represent the value of the government’s subsidy to excessive risk-taking — exactly what helped put us all in this mess in the first place.

Although there are many different theories to explain what caused the credit bubble and subsequent bust, my favorite is that it was the fault of European banks. According to this view, the creation of the single-currency bloc encouraged lenders in the euro area to waste trillions of dollars on dodgy assets ranging from Spanish real estate to U.S. subprime loans. American loan originators did plenty of bad things, too, but they were just responding to insatiable demand from across the Atlantic. Without that demand, there wouldn’t have been any reason to make liar loans or misrepresent the quality of mortgages being packaged into securities and sold to investors.

When mortgage borrowers in Phoenix and Las Vegas started missing payments and walking away from houses that were plummeting in value, ING and other big European banks got stuck with huge losses. They probably would have collapsed had they not received bailouts from their governments, although the bailouts they got from U.S. taxpayers may have been even more important. Fiscal assistance was provided indirectly by the Federal Reserve Bank of New Yorkthrough American International Group Inc. The largesse of the Fed’s emergency loans ensured that European banks could cover daily liquidity needs cheaply, while its subsequent asset purchases boosted the U.S. housing market, thereby improving the position of European lenders and governments that owned toxic assets.

Markus Brunnermeier and Yuliy Sannikov, a pair of Princeton University economists, have an intriguing perspective on these issues. They think governments should promise to impose floors on asset values because, according to them, the existence of this insurance will help prevent crises. (There is much less reason to dump your holdings in a panic if you know your losses are capped.) That, in turn, should encourage more productive investment than a world where everyone is worried about the magnitude of their potential losses.

The trick is striking the right balance between fear and greed. The last thing we want is to encourage the kinds of excessive risk-taking and wasteful overinvestment that proved so damaging in the pre-crisis years. Ideally, the government would extract insurance premiums by taxing dangerous behaviors during the good times. That’s hard to do in practice, however. It might be easier to extract payment from bailout beneficiaries — including Dutch taxpayers — after the crisis has abated. Like now.

(Matthew C. Klein is a writer for Bloomberg View. Follow him on Twitter.)


About Matthew C. Klein

I write about the economy and financial markets for Bloomberg View. Before that I wrote for The Economist on a fellowship provided by the Marjorie Deane Financial Journalism Foundation. I have worked at the world's largest hedge fund and read every FOMC transcript since May, 1987.
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