A bailout differs from the term bail-in (coined in 2010) under which the bondholders or depositors of global systemically important financial institutions (G-SIFIs) are forced to participate in the recapitalization process but taxpayers are not.
However, the common use of the phrase occurs where government resources are used to support a failing company typically to prevent a greater problem or financial contagion to other parts of the economy.
Such companies, among others, are deemed "too big to fail" because their goods and services are considered by the government to be constant universal necessities in maintaining the nation's welfare and often, indirectly, its security.
Others, such as economist Jeffrey Sachs, have characterized the particular bailout as a necessary evil and have argued in 2008 that the probable incompetence in management of the car companies is an insufficient reason to let them fail completely and to risk disturbing the delicate economic state of the United States, as up to three million jobs rested on the solvency of the Big Three and things were bleak enough as they were.
A bail-in creates new capital to rescue a failing firm through an internal recapitalization and forces the borrower's creditors to bear the burden by having part of the debt they are owed written off or converted into equity.
Management would be fired and shareholders would be displaced by the bailed-in bondholders, but the franchise, employees and core services could continue, supported by the newly converted capital.
In March 2010, Tucker began to outline the properties of a new "bail-in" strategy to handle the failure of a large bank: A quite different, and rather more profound approach would be to deploy a super special resolution framework that permitted the authorities, on a rapid timetable, to haircut uninsured creditors in a going concern.By October 2011, the FSB Working Group had developed this thinking considerably and published the "Key Attributes of Effective Resolution Regimes for Financial Institutions."
The document set out core principles to be adopted by all participating jurisdictions, including the legal and operational capability for such a super special resolution regime (now known as "bail-in").
Outgoing Deputy Director of the Bank of England Paul Tucker chose to open his academic career at Harvard with an October 2013 address in Washington to the Institute of International Finance in which he argued that resolution had advanced enough in several countries that bailouts would not be required and so would be bailed-in, notably the US G-SIBs.
In a similar vein, a GAO report in 2014 determined that the market expectation of bailouts for the largest "too big to fail" banks had been largely eliminated by the reforms.
[22] A form of bail-in was used in small Danish institutions (such as Amagerbanken) as early as 2011,[23] as well as the later conversion of junior debt at the Dutch Bank SNS REALL.
[25] Title I refers to the preferred route, which is to resolve a bank under bankruptcy procedures aided by extensive pre-planning (a "living will").
The innovative FDIC strategy was described by Federal Reserve Governor Jerome Powell as a "classic simplifier, making theoretically possible something that seemed impossibly complex."
Powell explained: Under single point of entry, the FDIC will be appointed receiver of only the top-tier parent holding company of the failed financial group.
[32] The Canadian government clarified its rules for bail-ins in the "Economic Action Plan 2013", at pages 144-145 "to reduce the risk for taxpayers.
Under the proposal, all unsecured bondholders would be hit for losses before a bank was allowed to receive capital injections directly from the European Stability Mechanism.
[37] The legislative item was split into three initiatives by Internal Market and Services Commissioner Michel Barnier: Bank Recovery and Resolution Directive, DGS and SRM.
[44] There were some controversial elements, especially with respect to the initial plan, which included a contribution from insured depositors, which was described as "not smart" by ECB President Mario Draghi.
[39] In recent years, considerable effort has been made to ensure that a large supply of bail-inable liabilities is in place for the largest banks.
The rules for "Total Loss Absorption Capacity" (TLAC) in the US have led the eight US G-SIFIs to issue approximately $1.0 trillion of long-term holding company liabilities, which could be used for this purpose.
It is obvious to most Americans that we need to reject corporate cronyism, and allow the natural regulations and incentives of the free market to pick the winners and losers in our economy, not the whims of bureaucrats and politicians.
In 1991 and 1992, a housing bubble in Sweden deflated, resulting in a severe credit crunch and widespread bank insolvency.
In 2008 and 2009 the US Treasury and the Federal Reserve System bailed out numerous huge banks and insurance companies as well as General Motors and Chrysler.
Congress, at the urgent request of US President George W. Bush, passed the Troubled Asset Relief Program (TARP), authorized at $700 billion.
[69] By keeping the economy afloat through such artificial means the Schumpeterian creative destruction is circumvented and inefficient firms taking excessive risks remain in operation, thereby denying one of the main elements of normal capitalist development.
[70] The support can come in form of purchase of toxic assets as in 2008 and through money creation as in the quantitative easing program of the Federal Reserve and other central banks.