Welcome to the Law of Unintended Consequences

The Feds’ bailout of AIG was supposed to relax the markets and let the financial sector breathe a sigh of relief.  Well, here’s how CNN gauged the reaction:

But rather than reassure investors, the deal seemed to add to the uncertainty surrounding financial markets, coming six months after the near-collapse and government rescue of Bear Stearns.

Oops.

It probably didn’t help that AIG turned down a private bridge loanin the hopes of getting a better deal from the Feds.  Perhaps if the Fed had made it abundantly clear that the fall of Lehman Brothers meant the absolute end of bailouts as usual, AIG would have taken the private deal with less fanfare and market panic.

Instead, the Fed stayed silent, and the rest is history.

How many more firms will start looking for the taxpayers to help them avoid the hard choices Merrill Lynch made?  How many more times will the taxpayer have to foot the bill?  How much deeper of a hit to consumer morale will result?

All of this could have been avoided had the government put its foot down and said, “no more.”  It is the classic case of the Law of Unintended Consequences.