To Promote Success, Don’t Protect Against Failure

Three decades ago when the Chinese embarked upon the reforms that would transform their economy into a powerhouse, one of the first things they did was to announce that some previously-protected state-owned industries would for the first time be allowed to fail.

The late Frank Borman, an astronaut and airline executive once said, “Capitalism without bankruptcy is like Christianity without Hell.”

What did the communist Chinese and the capitalist Frank Borman have in common? They both understood that if you want a strong economy, it’s as important to let companies fail as it is to let them grow.

The best protection we can have against reckless business activity is market discipline — the threat of financial loss and bankruptcy, which is at the core of a truly free market. When government weakens market discipline or subsidizes mistakes, it misaligns the interests of business and everyone else and needlessly puts us all at risk. Government rescues of failing firms create the very problems they are intended to address by distorting incentives and encouraging irresponsibility.

Allowing failure is not only one of the best ways to teach success, it’s probably the best way to minimize failure in the future. Subsidizing failure may seem like a short-term fix but it usually paves the road to the next crisis. How can we prevent a repetition of what happened in the recent economic crisis if governments insist on sheltering both themselves and businesses from the consequences of their foolish actions?

We should spend less time worrying about some companies and banks being “too big to fail” and more time worrying that in an effort to buck them up, every man, woman and child is being jeopardized by handing power over to governments that are far too big to succeed.

Bailing out companies is unsustainable, unfair and unaffordable. It guarantees much higher taxes, debt and inflation either today or tomorrow. It introduces the moral hazard of encouraging the very bad practices and policies in business and government that caused our current problems. It’s an expensive, ineffective band-aid that cures nothing and ensures an even more painful day of reckoning down the road. It undercuts the most vital factor in the success of a nation, individual liberty.

For a short but fascinating look at the importance of allowing failure, see this superb article entitled “Mr. Obama and the Bankers” by Professor Bruce Yandle: http://tinyurl.com/y8p6tk8