"Why didn't the feds bail out my tech fund back in 2001?" I've heard plenty of comments like that during the past month or so. Well, a new piece of analysis over at the fine VoxEU site explores the possibility of Uncle Sam's buying stocks to shore up a plunging market. Economist Frank Heinemann posits that if the market should fall below a level that is "clearly below the present value of expected future revenues," the Federal Reserve could theoretically "temporarily guarantee a lower [limit] for the S&P 500 through targeted purchases of market portfolios via open-market operations and financed by injecting cash." Yet Heinemann does admit that this would create a smidgen of a moral hazard problem:
This action would continue to create a moral hazard problem in the future, as market participants would expect that the systemic risk in future crises would be borne by the Fed. On the other hand, current actions aimed at refinancing and recapitalizing banks have the same effect—but even more, because they are directly aimed at helping those institutions that created systemic risk. The latter creates a bailout arbitrage in which institutions have an additional incentive to magnify systemic risk.