WHY THE DEPARTMENT OF ENERGY LOAN GUARANTEE PROGRAM WAS JUST A BIG SCAM
WHY THE DEPARTMENT OF ENERGY LOAN GUARANTEE PROGRAM WAS JUST A BIG SCAM TO PAY OFF OBAMA'S CROOKED SILICON VALLEY FINANCIERS AND NANCY PELOSI
VERONIQUE DE RUGY - Senior Research Fellow
In his famous book Economics in One Lesson, economist Henry Hazlitt wrote, “Government encouragement to
business is sometimes as much to be feared as government hostility.”
In 2009, renewable energy company Solyndra received $535 million through the federally backed 1705 loan guar-
antee program of the Department of Energy (DOE). Two years later the ﬁrm ﬁled for bankruptcy and had to lay
off its 1,100 employees, leaving taxpayers bearing the cost of the loan.
For obvious reasons, more than any other recent events, the waste of taxpayers’ money due to Solyndra’s failure
has attracted much attention. However, the problems with loan guarantees are much more fundamental than the
cost of one or more failed projects. In fact, the economic literature shows that (1) every loan guarantee program
transfers the risk from lenders to taxpayers, (2) is likely to inhibit innovation, and (3) increases the overall cost
of borrowing. At a minimum, such guarantees distort crucial market signals that determine where capital should
be invested, causing unmerited lower interest rates and a reduction of capital in the market for more worthy
projects. At their worst, they introduce political incentives into business decisions, creating the conditions for
businesses to seek ﬁnancial rewards by pleasing political interests rather than customers. This is called cronyism,
and it entails real economic costs.
Yet, these loan programs remain popular with Congress and the executive. That’s because in general most of the
ﬁnancial cost of these guaranteed loans will not surface for many years. That means that Congress can approve
billions of dollars to beneﬁt special interests, with little or no immediate impact to federal appropriations in the
short term, because they are almost entirely off-budget.
HOW DO THESE LOAN GUARANTEES WORK?
The DOE Loan Programs Ofﬁce (LPO) administers three separate loan programs: (1) Section 1703 loan guarantees,
(2) Section 1705 loan guarantees, and (3) Advanced Technology Vehicle Manufacturing (ATVM) loans. Here are
descriptions of the three loan programs, as explained by DOE:
1. Henry Hazlitt, Economics in One Lesson, in Chapter VI Credit Diverts Production, Laissez-Faire Books, Benicia, CA, 1946, p. 27.
2. Matt Mitchell, The Pathology of Privileges (working paper, Mercatus Center at George Mason University, July 2012).
3. United States Department of Energy, accessed June 13, https://lpo.energy.gov/.
For more information or to meet with the scholars, contact
Robin Bowen, (703) 993-8582, firstname.lastname@example.org
Mercatus Center, 3301 Fairfax Drive, 4th Floor, Arlington, VA 22201
The ideas presented in this document do not represent oﬃcial positions of the Mercatus Center or George Mason University.
Bridging the gap between academic ideas and real-world problems
• Section 1703 of Title XVII of the Energy Policy Act of 2005 authorizes the U.S. Department
of Energy to support innovative clean energy technologies that are typically unable to obtain
conventional private ﬁnancing due to high technology risks.
• Advanced Technology Vehicles Manufacturing (ATVM) loans support the development of
advanced technology vehicles (ATV) and associated components in the United States. They also meet
higher efﬁciency standards.
• The Section 1705 Loan Program authorizes loan guarantees for U.S.-based projects that commenced
construction no later than September 30, 2011 and involve certain renewable energy systems, electric
power transmission systems, and leading edge biofuels.
According to LPO’s website, DOE’s loan guarantee authority originated from Title XVII of the Energy Policy Act
of 2005 (P.L. 109–58).
Under Section 1703, the federal government can guarantee 80 percent of a project’s total
cost. The American Recovery and Reinvestment Act of 2009 (P.L. 111–5) amended the Energy Policy Act of 2005
by adding Section 1705.
Section 1705 was created as a temporary program, and 1705 loan guarantee authority
ended on September 30, 2011.
The dollar volume of loans that can be guaranteed under DOE’s authority is predetermined by congressional
appropriations that oversee the program. A simple way to explain how these loans work is the following: If a recipi-
ent defaults on its loan, the federal government pays the remainder of the debt to the lenders and repossesses all
of the assets from the unﬁnished projects.
As with other loan programs, to prevent taxpayers’ exposure, the federal government has established a credit
subsidy fee. In this case, the cost of the fee is determined by DOE, with guidance from OMB. The lenders usually
charge the up-front guarantee fee to the borrower after the lender has paid the fee to DOE and has made the ﬁrst
disbursement of the loan.
This is not the case for 1705 loans, however. Under the stimulus bill, DOE received appropriated funds to pay
for credit subsidy costs associated with Section 1705 loan guarantees, which, after rescissions and transfers, was
$2.435 billion. As the Congressional Research Service rightly puts it, “Section 1705 loan guarantees were very
attractive as they provided an opportunity to obtain low-cost capital with the required credit subsidy costs paid
for by appropriated government funds.”
DOE does not provide loans directly. Instead, borrowers have to apply to qualiﬁed ﬁnance organizations. These
lenders are expected to perform a complete analysis of the application. Then DOE reviews the lender’s credit
analysis rather than conducting a second analysis. DOE still makes the ﬁnal credit and eligibility decision.
DO LOAN GUARANTEES DO WHAT THEY CLAIM TO DO?
Leaving aside the question of whether the government should encourage the production of certain goods or ser-
vices, the economic justiﬁcation for any government-sponsored lending or loan guarantee program must rest on a
well-established failure of the private sector to allocate loans efﬁciently (meaning that deserving recipients could
4. Section 1703 of the Energy Policy Act of 2005 (P.L. 109-58).
5. Section 1705 of the Energy Policy Act of 2005 (P.L. 109-58). Section 1705 was created by amending the EnergyPolicy Act of 2005 through the
American Recovery and Reinvestment Act of 2009 (P.L. 111-5)
6. However, the Oﬃce of Management and Budget has calculated that only 55 percent of loan can be recouped from the sale of assets.
7. Phillip Brown, “Solar Projects: DOE Section 1705 Loan Guarantees,” (Congressional Research Service, October 25, 2011), accessed June 13,
not have gotten capital on their own). Absent such a private-sector deﬁciency, the DOE’s activities would simply
be a wasteful at best, politically motivated at worst subsidy to this sector of the economy.
Yet, many argue that some public policy objectives require the sacriﬁce of marketplace efﬁciency. It is an accepted
feature of modern American government that some public interests or social policy gains outweigh economic
losses. In the case of green energy, the government’s lending programs could fulﬁll speciﬁc public policy objec-
tives that the marketplace on its own would not otherwise serve or would supply at suboptimal levels. But do they?
In describing its role in the economy, the DOE proclaims that its loans help save the planet
by helping to secure
funding for the earlier-stage technologies or the later commercialization stage—known as the manufacturing
“Valley of Death.”
It also claims that the loan recipients will generate economic growth and “green” jobs that
otherwise would not appear. DOE can thus be judged on its ability to meet these public policy goals—namely, to
ﬁll the supply-and-demand gap in the clean energy loan market, particularly for startups.
To measure the DOE results, I looked at the ﬂow of DOE credits to evaluate who receives them and whether the
DOE is meeting its stated policy objectives of promoting new startups and encouraging the creation of green jobs.
A close examination demonstrates that neither stated DOE policies nor its actual lending patterns provide evi-
dence that its loan guarantees serve any of its deﬁned public policy purpose.
FOLLOWING THE 1705 LOAN GUARANTEE PROGRAM MONEY
Since 2009, DOE has guaranteed $34.7 billion, 46 percent of it through the 1705 loan program, 30 percent through
the 1703 program, and 14 percent through the ATVM.
The 1705 (under which Solyndra received funding) authorized loan guarantees for programs for “certain renew-
able energy systems, electric power transmission systems and leading edge biofuels projects that commence
construction no later than September 30, 2011.” This program is a product of the economic stimulus bill of 2009.
As mentioned before, this program offered borrowers better terms than the 1703—in some cases the government
paid for a substantial fee out of appropriated funds, one that is the borrower’s responsibility under the 1703. Also,
many 1703-eligible projects were also eligible under the 1705.
The data shows that:
8. Mike King and W. David Montgomery, “Let’s Reset Our Energy Policy Starting with Loan Guarantees,” in Pure Risk: Federal Clean Energy
Loan Guarantees, ed. Henry Sokolski (Nonproliferation Policy Education Center, 2012)
9. Sustainablebusiness.com, “Clean Energy: Crossing the Valley of Death,” June 2010, http://www.sustainablebusiness.com/index.cfm/go/
10. U.S. Department of Energy, Loan Programs Oﬃce: https://lpo.energy.gov/?page_id=45
MERCATUS CENTER AT GEORGE MASON UNIVERSITY 3
Loan Guarantees by Program
Source: U.S. Department of Energy, Loan Guarantee Programs
• 26 projects were funded under the 1705, and guaranteed roughly $16 billion in total.
• Some 2,378 permanent jobs were claimed to be created under the program. This works out to a cost
per job of $6,731,034.
• The recipient of the most 1705 loans is NRG Energy Inc. (BrightSource).
• NRG Energy Inc. (BrightSource) received $1.6 billion (11 percent of the overall amount guaranteed
under the 1705).
• The top 10 recipients of loans under the 1705 program:
• Are all solar generation companies,
• Received 76 percent of the overall amount guaranteed,
• Received $12.2 billion in loan guarantees, and
• Included NextEra Energy Resources, LLC (Desert Sunlight), a fortune 200 company;
Abengoa Solar Inc. (Solana), a Spanish multinational company; and Prologis (Project Amp), a
global real estate investment trust. Utility ﬁrms like NRG Energy received three separate loans
in the top 10 recipient list.
• Prologis received $1.4 billion (8.75 percent of the total) to install solar panels on top of a building it owns.
• Solyndra, the now bankrupted solar company, received $535 million in loan guarantees or 3.34
percent of the total.
• Cogentrix, a wholly owned subsidiary of the Goldman Sachs Group Inc, received a $90 million
guarantee from the government.
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Section 1705 Supported Projects
Source: Department of Energy, Loan Programs Oﬃce
Company recipients given in parentheses
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If we organize the data by companies receiving 1705 loans, we ﬁnd:
• The recipient of the most 1705 loans is NRG Energy Inc.
• NRG Energy Inc. received $3.8 billion (23.7 percent of the overall amount guaranteed under the
• Four companies received 64 percent, or $10.3 billion, of the total amount guaranteed under the 1705
program. These companies are:
• NRG Energy,
• NextEra Energy,
• Arbogea, and
First, it should be noted that very few permanent green jobs were created under the 1705 loan program (or any of
the other loan programs). The Obama administration had initially pushed these projects as job generators, claim-
ing that it could create 5 million jobs in America through investment in green technology.
Also, to the extent that “green jobs” were created, the $6.7 million cost per job is quite spectacular. This trend and
number probably dismisses this particular loan program as a job program.
Second, as we can see here, under the 1705 program most of the money has gone to large and established companies
rather than startups. These include established utility ﬁrms, large multinational manufacturers, and a global real
estate investment fund. In addition, the data shows that nearly 90 percent of the loans guaranteed by the federal
government since 2009 went to subsidize lower-risk power plants, which in many cases were backed by big com-
Section 1705 Supported Companies
Source: Department of Energy
Produced by: Veronique de Rugy, Mercatus Center
Section 1705 Supported Companies
Source: Department of Energy
Produced by Veronique de Rugy, Mercatus center
MERCATUS CENTER AT GEORGE MASON UNIVERSITY 6
panies with vast resources. This includes loans such as the $90 million guarantee granted to Cogentrix, a subsidiary
of Goldman Sachs. Currently, Goldman Sachs ranks number 80 on the list of America’s Fortune 500 companies.
This probably means that if there were an actual gap between the supply and demand for loans for energy com-
panies, startups, or others, this program wouldn’t be ﬁlling it. In fact, most of these loans look like government
transfers of the worst kind: subsidies to very large corporations very much resembles cronyism.
Third, there seems to be an even more troubling trend of “double dipping” by large companies that received loan
guarantees from the DOE program. Many of the companies that have beneﬁtted from subsidized loans under
the 1705 guarantee program also received additional grants under the American Recovery and Reinvestment Act
(ARRA). For example, Prologis (which beneﬁtted from $1.4 billion in subsidized loans) received a grant for $68,000
for the purpose of “rent for warehouse space” under the Recovery Act.
Green Mountain Energy, a company of NRG Energy, received two grants under the ARRA in the second quarter of
ﬁscal year 2011. Likewise, Reliant Energy and Reliant Energy Tax Retail LLC, two other NRG Energy companies,
reported receiving at least 37 grants under the ARRA. These grants augmented the $3.8 billion in loan guarantees
for NRG Energy distributed under the Section 1705 Loan Program.
NRG will also be eligible to receive $430 million from the Department of the Treasury.
In addition, many com-
panies beneﬁted from the Department of Treasury 1603 grants.
Quoted in the New York Times recently, NRG’s chief executive, David W. Crane, explained how his company and
its partners have secured $5.2 billion in federal loan guarantees, plus hundreds of millions in other subsidies for
four large solar projects. “I have never seen anything that I have had to do in my 20 years in the power industry
that involved less risk than these projects,” he said in a recent interview. “It is just ﬁlling the desert with panels.”
Examples of companies beneﬁtting from multiple assistance programs initiated during this period abound. For
instance, in addition to the $538 million it received under the 1705 loan program, Solyndra beneﬁted from a $10.3
million loan guarantee that the Ex-Im Bank extended to a Belgian company (described in the Ex-Im deal data as
“Zellik Ii Bvba”) to ﬁnance a sale of Solyndra products.
Solyndra isn’t alone. First Solar’s Antelope Valley project received a $646 million 1705 loan in 2011 through its
partner Exelon, and per my calculation from the Ex-IM Bank FOIA deal data information for FY2011,
pany also scored $547.7 million in loan guarantees to subsidize the sale of solar panels to solar farms abroad.
More troubling is the fact that some of the Ex-Im money went to a Canadian company named St. Clair Solar,
which is a wholly owned subsidiary of First Solar.
St. Clair Solar received a total of $192.9 million broken into
11. CNN Money, America’s Fortune 500 Companies. http://money.cnn.com/magazines/fortune/fortune500/2012/snapshots/10777.html
12. Eric Lipton and Cliﬀord Krauss, “A Gold Rush of Subsidies in Clean Energy Search,” New York Times, November 11, 2011
13. Department of Treasury: 1603 http://www.treasury.gov/initiatives/recovery/Pages/1603.aspx
14. Eric Lipton and Cliﬀord Krauss, “A Gold Rush of Subsidies in Clean Energy Search,” New York Times, November 11, 2011
15. Export-Import Bank of the United States, 2011 Annual Report, http://www.exim.gov/about/reports/ar/2011/index.html, p. 30.
17. Tim Carney, Firm Sells Solar Panel to Itself – Taxpayers Pay, The Washington Examiner, March 18th 2010,
MERCATUS CENTER AT GEORGE MASON UNIVERSITY 7
two loans to buy solar panels from First Solar. In other words, the company received a loan to buy solar panels
from itself. Incidentally, First Solar also received a $16.3 million loan from the government in 2010 to expand its
factory in Ohio.
This double-dipping by energy companies isn’t new, unfortunately. While there is no doubt that the deals are
lucrative for the companies involved, taxpayers have a lot to lose. Further, double-dipping provides evidence that
businesses will be tempted to steer away from productive value creation for society and instead work on narrowly
serving political interests for ﬁnancial gain.
THE CASE AGAINST CLEAN ENERGY LOAN GUARANTEES
A great deal of attention has been focused on Solyndra, a startup that received $528 million in federal loans to
develop cutting-edge solar technology before it went bankrupt, had to lay off over a thousand workers, and left
taxpayers to foot the bill. Obviously, the considerable waste of taxpayers’ money is upsetting. But it is only one
aspect of the fundamental problems caused by loan guarantee programs in general, and DOE’s clean energy loan
programs in particular.
1. Socialized Losses and Privatized Gains
Historically, loans guaranteed by the government have had a higher default rate than the loans issued by the pri-
vate sector without government guarantee. For instance, the Small Business Administration (SBA) has a long-term
default rate of roughly 17 percent.
This compares to 4.3 percent for credit cards and 1.5 percent for bank loans
guaranteed by the Federal Deposit Insurance Corporation.
Also, the Congressional Budget Ofﬁce has calculated that the risk of default on the DOE’s nuclear loan guarantee
program, for example, is well above 50 percent.
In 2011, the CBO updated its study and replaced the embarrassing
default rate with a list of variables affecting the rate.
While it doesn’t provide a speciﬁc rate, the report asserts
that higher equity ﬁnancing of these projects would reduce the risk of default. However, this is rarely the case, as
most loan guarantee programs cover 80 percent of their ﬁnancing through debt rather than equity.
Moreover, according to the CBO, when the federal government extends credit, the associated risk of those obli-
gations is effectively passed along from private lenders onto taxpayers who, as investors, would view this risk as
costly. In other words, when the federal government encourages a risky loan guarantee it is “effectively shifting
risk to the members of the public.”
Also, if the loan isn’t repaid, then the cost of the investment is to taxpayers. However, if the loan is repaid as
expected, the lender will beneﬁt from all the interest payments it collected thanks to a fairly risk-free loan, and
the borrower will collect the fruit of its successful business venture. In other words, loan guarantee programs are
yet another way that the federal government socializes losses while privatizing beneﬁts.
18. Tim Carney, Firm Sells Solar Panel to Itself – Taxpayers Pay, The Washington Examiner, March 18th 2010, http://campaign2012.washington-
19. Veronique de Rugy, “Banking on the SBA” (Mercatus on Policy, 2007, Mercatus Center at George Mason University) accessed on June 13,
20. Pamir Wang, “Federal Clean Energy Loan Guarantees: Their Moral Hazards,” in Pure Risk: Federal Clean Energy Loan Guarantees ed. Henry
Sokolski (Nonproliferation Policy Education Center, 2012)
21. Congressional Budget Oﬃce [CBO], “The Cost-Eﬀectiveness of Nuclear Power for Navy Surface Ships,” (May 12, 2011), http://www.cbo.
22. Russ Roberts, “Gambling with Other people’s money” Mercatus Center at George Mason University, April 28, 2010, accessed June 13, 2012,
MERCATUS CENTER AT GEORGE MASON UNIVERSITY 8
2. Moral Hazard
Federally backed loans create a classic moral hazard. Because the loan amount is guaranteed, banks have less
incentive to evaluate applicants thoroughly or apply proper oversight. In other words, the less skin the lender
has in the game, the less likely the lender will effectively vet the quality of the project. Also, the company that
borrows the money has less skin in the game than it would if its loan weren’t guaranteed. In addition, each time
the government bails out a ﬁrm or has to shoulder the cost of a loan guarantee that got into ﬁnancial trouble, it
reinforces the signal to borrowers and bankers alike that it’s OK to take excessive risks.
In a March 2012 report, the Government Accountability Ofﬁce (GAO) found that the DOE loan guarantee pro-
gram was riddled with program inefﬁciencies, putting the fairness of decisions about what ﬁrms receive loan
guarantees into question.
When GAO requested data from the DOE on the status of the applications, the DOE
did not have consolidated data readily available and had to assemble these data over several months from various
sources. Inadequate documentation and out-of-date review processes reduce the assurance that the DOE has
treated applicants consistently.
These ﬁndings do not prove the ability of the DOE to fully assess and mitigate project risks. Moreover, while in
the absence of government intervention the private sector builds the infrastructure to assess risk, the federal gov-
ernment has neither the expertise nor the incentive to build such a safety net. This increases the likelihood that
loan guarantees will be awarded based on factors other than the ability of the borrower to repay the loan, such as
political connections and congressional interest in local pork.
The moral hazard of loan guarantees increases when rules intended to prevent the program from being a pure
giveaway to companies are removed. This is the case, for instance, when as part of the stimulus bill of 2009, the
government lifted the subsidy fees for 1705 loans. This move increases the cost to taxpayers and attracts high-risk
Loan guarantee programs can also have an impact on the economy beyond their cost to taxpayers.
Mal-investment—the misallocation of capital and labor—may result from these loan guarantee programs. In theory,
banks lend money to the projects with the highest probability of being repaid. These projects are often the ones
likely to produce larger proﬁts and, in turn, more economic growth. However, considering that there isn’t an inﬁ-
nite amount of capital available at a given interest rate, loan guarantee programs could displace resources from
non-politically motivated projects to politically motivated ones. Think about it this way: When the government
reduces a lender’s exposure to fund a project it wouldn’t have funded otherwise, it reduces the amount of money
available for projects that would have been viable without subsidies.
This government involvement can distort the market signals further. For instance, the data shows that private
investors tend to congregate toward government guarantee projects, independently of the merits of the projects,
taking capital away from unsubsidized projects that have a better probability of success without subsidy and a
more viable business plan. As the Government Accountability Ofﬁce noted, “Guarantees would make projects [the
23. Government Accountability Oﬃce [GAO], DOE Loan Guarantees: Further actions are needed to improve tracking and review of applications,
(March 2012), accessed June 13, 2012, http://www.gao.gov/assets/590/589210.pdf.
24. King and Montgomery, “Let’s Reset,” 22.
MERCATUS CENTER AT GEORGE MASON UNIVERSITY 9
federal government] assists ﬁnancially more attractive to private capital than conservation projects not backed by
federal guarantees. Thus both its loans and its guarantees will siphon private capital away.”
This reallocation of resources by private investors away from viable projects may even take place within the same
industry—that is, one green energy project might trade off with another, more viable green energy project.
More importantly, once the government subsidizes a portion of the market, the object of the subsidy becomes a
safe asset. Safety in the market, however, often means low return on investments, which is likely to turn venture
capitalists away. As a result, capital investments will likely dry out and innovation rates will go down.
In fact, the data show that in cases in which the federal government introduced few distortions, private inves-
tors were more than happy to take risks and invest their money even in projects that required high initial capital
requirements. The Alaska pipeline project, for instance, was privately ﬁnanced at the cost of $35 billion, making
it one of the most expensive energy projects undertaken by private enterprise.
The project was ultimately aban-
doned in 2011 because of weak customer demand and the development of shale gas resources outside Alaska.
However, this proves that the private sector invests money even when there is a chance that it could lose it. Private
investment in U.S. clean energy totaled $34 billion in 2010, up 51 percent from the previous year.
Finally, when the government picks winners and losers in the form of a technology or a company, it often fails.
First, the government does not have perfect or even better information or technology advantage over private
agents. In addition, decision-makers are insulated from market signals and won’t learn important and necessary
lessons about the technology or what customers want. Second, the resources that the government offers are so
addictive that companies may reorient themselves away from producing what customers want, toward pleasing
the government ofﬁcials.
4. Crowding Out
To some (for example, those lucky enough to receive the loan guarantee), government money may seem to be free.
But it isn’t, of course. The government has to borrow the money on the open market too. This additional borrow-
ing comes from Americans’ savings, as does the money that Americans invest in the private sector’s growth. There
comes a point when there just aren’t enough savings to satisfy both masters. In other words, when government
runs a deﬁcit to ﬁnance its preferred projects, it can affect private sector access to capital, and lead to a reduction
in domestic investment.
Economists use the term “crowding out” to describe the contraction in economic activity associated with deﬁcit-
In addition, the competition between public and private borrowing raises interest rates for all borrowers, includ-
ing the government, making it more expensive for domestic investors to start or complete projects.
Over time, this could mean that American companies will build fewer factories, cut back on research and develop-
25. Wang, “ Federal Clean, Energy”
26. Wang, “Federal Clean Energy,” 15.
27. Peter Bradford, “Taxpayer Financing for Nuclear Power: Precedents and Consequences” (Nonproliferation Policy Education Center,2008)
28. Ben Casselman, Alaska Pipeline Scrapped, May 18, 2011, Wall Street Journal, http://online.wsj.com/article/SB10001424052748703509104
29. The Center for the Next Generation website, “Advanced Energy and Sustainability,” accessed June 13, 2012, http://www.tcng.org/pro-
30. Matthew Mitchell and Jakina Debnam, “In the End, We’re all Crowded Out,” (working paper, Mercatus Center at George Mason University,
MERCATUS CENTER AT GEORGE MASON UNIVERSITY
ment, and generate fewer innovations. As a result, our nation’s future earning prospects will dim, and our future
living standards could suffer.
In a 2003 speech to the National Economists Club in Washington, D.C., then–Federal Reserve Governor Edward
M. Gramlich argued that loan guarantee programs are unable to save failing industries or to create millions of jobs,
because—he explained—the original lack of access to credit markets is caused by serious industrial problems, not
vice versa. If an applicant’s business plan cannot be made to show a proﬁt under reasonable economic assump-
tions, private lenders are unlikely to issue a loan. And they would be right not to.
Then why is the federal government still guaranteeing loans? One reason is it serves three powerful constituen-
cies: lawmakers, bankers, and the companies that receive the subsidized loans.
Politicians are able to use loan programs to reward interest groups while hiding the costs. Congress can approve
billions of dollars in loan guarantees with little or no impact to the appropriations or deﬁcit because they are almost
entirely off-budget. Moreover, unlike the Solyndra case, most failures take years to occur, allowing politicians to
collect the rewards of granting a loan to a special interest while skirting political blame years later when or if the
project defaults. It’s like buying a house on credit without having a trace of the transaction on your credit report.
It is also easy to understand why companies and company executives beneﬁt from these loans and may seek them
out. However, this shouldn’t obscure the fact that this preferential treatment comes at the expense of the taxpayer,
and ultimately at the expense of our market and political system.
But another potential beneﬁciary of these loans is the ﬁnancial institutions that issue them. With other loan pro-
grams such as the SBA, there is evidence that lenders may have an incentive to favor borrowers that qualify for a
loan with a government guarantee over those that do not. When a small business defaults on its obligation to repay
a loan, bankers do not bear most of the cost; taxpayers do. Meanwhile, lenders make large proﬁts on SBA loans
by pooling the guaranteed portions and selling investors trust certiﬁcates that represent claims to the cash ﬂows.
How proﬁtable is this? Testifying before Congress in April 2006, David Bartram, the president of the SBA Divi-
sion of U.S. Bancorp, the nation’s sixth-largest ﬁnancial services company, explained that “return on equity of SBA
loans can exceed 70 percent.”
A 70 percent return on equity (RoE) is remarkably high. Right now, the ﬁve-year
average RoEs for the two biggest banks in America—Citigroup and Bank of America—are 16.2 percent and 14.5
More study is required to determine whether a similarly outsized return to ﬁnancial institutions occurs with the
DOE program, but the parallels between the DOE and SBA programs suggest this is a possibility.
The Department of Energy’s loan guarantee programs have been the focus of much public attention since energy
company Solyndra went bankrupt last year, leaving taxpayers with a $538 million bill. Of equal concern to the
signiﬁcance of this waste, however, is the distortion and incentives experienced by both lenders and companies
that participate in the government loan program, as well as the distortion of market signals. Further looking at
where the money is going, the evidence seems to go solidly against the idea that they are achieving their goals.
And the systematic economic harm done by rewarding companies that forgo value creation in favor of pursuing
ﬁnancial beneﬁt through the political system creates long term consequences for our economy and our country.
31. Veronique de Rugy, “Banking on the SBA,” Mercatus on Policy, Mercatus Center at George Mason University, Arlington, VA, 2007, http://
MERCATUS CENTER AT GEORGE MASON UNIVERSITY
Veronique de Rugy is a senior research fellow at the Mercatus Center at
George Mason University. Her primary research interests include the U.S.
economy, federal budget, homeland security, taxation, tax competition,
and ﬁnancial privacy issues. Her popular weekly charts, published by the
Mercatus Center, address economic issues ranging from lessons on creat-
ing sustainable economic growth to the implications of government tax and
The Mercatus Center at George Mason University is a research, education,
and outreach organization that works with scholars, policy experts, and
government oﬃcials to connect academic learning and real-world practice.
The mission of Mercatus is to promote sound inter disciplinary research
and application in the humane sciences that integrates theory and practice
to produce solutions that advance in a sustainable way a free, prosperous,
and civil society.