Investing the government way

When the government gets involved and decides that it favors a particular industry or company it creates distortions in the way the free market should operate.   The most recent example of picking favorites backfiring comes from Ener1, which received a grant of $118M from the U.S. Energy Department to make electric car batteries and on January 26th announced (PDF) that it was filing for bankruptcy (the grant was announced August 5th 2009).

Of course on September 6, 2011 Solyndra sought Chapter 11 protection.  The government in its infinite wisdom on March 20, 2009 offered loan guarantees of $535M from the U.S. Department of Energy to expand its solar panel manufacturing capacity in California.

$535M + $118M = $653M loss that taxpayers must cover.

Businesses start and fail everyday this is normal and very healthy and over the long term it accrues great benefit to society as those producers that fail to meet the desires of the market are weeded out while those that can produce economic profit which in turn encourages new market entrants and competition. 

When the government interferes with this normal market operation it causes distortions.  The government by guaranteeing a loan encourages lenders to lend to a borrower who may not have otherwise gotten funding (because the government is guaranteeing repayment) and then correspondingly causes the bank to deny funding to others since there is only so much money to go around.  This distortion encourages misallocation of resources and will cause producers to produce goods and services for which consumers are not demanding.

If a business cannot stand on its own it makes no sense to lend a crutch – it simply prolongs the pain of and causes further misallocation of resources.  We do not move ahead as a society by producing goods and services that are not demanded by consumers.  It matters not if it is a “green” industry or an automobile company these distortions do not move us forward but in fact take us a step back.

These two examples are comical but that is not to say that every government loan guarantee or grant will lead to bankruptcy but they all do cause distortions.  In a way the supposed “successes” are even worse than the failures as the unseen consequences will never be known.  What was the next best loan opportunity?  What was the consequence to those companies paying higher interest rates (since the government guarantee arguably caused more loans to be demanded)?  What is the consequence of the government taking money via taxation to pay for its mistakes?

The government has proven itself yet again to be an incapable steward of our money.  I vote we give them much, much less to misallocate in the future.