There is a line of thinking among bank investors that goes like this: Even if big banks take a lot of stupid risks, they can remain decent investments because they will always be bailed out by the government when those risks backfire. Not only will we never let Bank of America (BAC 1.53%) or Goldman Sachs (GS -0.20%) go under, but we will flood them with cheap loans at the first sprinkle of trouble. So what's the risk?
The risk may be bigger than you think. Citigroup was bailed out, but only after shareholders lost more than 90% of their wealth. But it goes deeper than that. Last month, I sat down with Hoover Institute economist Russ Roberts. He argued there's precedent for ditching the entire philosophy of bailing out the largest banks. Have a look: