The Most Profitable Banking Practice

While reading Eliot Spitzer's continuing effort to excoriate Goldman Sachs over their involvement in the AIG bailout, I came across a sentence that precisely sums up my feelings towards these bailouts that started with Henry Paulson and George W. Bush and is continuing with Tim Geithner and Barack Obama.

What continues to be fundamentally disappointing is that the "too big to fail" institutions continue to absorb enormous sums of taxpayer support without either demonstrating the genuine need for such support or altering their behavior after receiving it.

As I say every time I post something about this subject, I can't stand bailouts. But I understand the desire by the federal government to save the economy because it saves peoples jobs and keeps smaller businesses from being turned into debris from any potential financial supernova caused by the explosion of a big bank. This continues to be the rationale given for saving big corporate institutions that claim to be doing poorly.

But even after trillions now in federal help to giant private industries, credit is still tight, and unemployment continues to grow. Why have their business practices not changed? Because they don't have to. The bailout money has been one no-strings-attached handout after another, because our government still trusts the experience and decision-making ability of existing CEO's to deliver the most efficient outcome. But it's not in the interest of the powerful executive to create a better economy for everyone; it's only in his interest to make money for his company. And about the most efficient way to generate skrill is not to spur innovation or streamline production but rather to stick your hand out in Washington D.C. and beg. Goldman Sachs just made $10 billion in just one day, October 3, 2008, when the Troubled Asset Relief Program was signed into law. The only work put into that was done by whoever was in charge of financial reporting. Screw investment banking. The real money's in bailouts.

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A note on honest math: http://xkcd.com/558/

AIG

I really hope this dies in the current news cycle, but there has been a lot of fury by members of Congress, UAW members and the general population over the bonuses paid out to top executives at AIG, which was bailed out by the Bush administration (which I only mention to set the timeline of the bailout; Obama would have done the same thing). AIG's defense: they had to honor contracts made in the previous year to these employees. Honoring contracts regarding employee pay? How is this not a good thing?

I definitely don't want the federal government in the business of forcing any employee of any private industry to give back part of their salary beyond what they would owe in taxes. That would be a terrible precident to set, and while I'm not usually a big fan of the "slippery slope" cliche, I think it would be appropriate to use it in this case.

Many would and have argued that the rules for these salary contracts shouldn't apply because the company was bailed out. This may have been a worthy argument had the bailout bill stipulated any sort of regulation of AIG, through the firing of executives, the explicit elimination of bonuses, the elimination of dividends, etc. But there was no such language in the bailout bill for AIG. It was basically a free, no-strings-attached cash infusion to a business thought at the time to be too big to fail and apparently too big to regulate as well.

So it's the government's own fault that their hands are now tied by contract law. Maybe they should have just let AIG fail in the first place. Then the executives wouldn't have gotten bonuses and the government wouldn't have taken an $80 billion hit to the treasury. Or barring that, the government should have taken over the company so that they could actually enforce rules for the company, like China would have done. But because of the no-strings-attached cash AIG received, they are under no obligation to do anything about executive pay. Suck it, USA!

Bailout Hypocrisy from Oklahoma's Congressional Delegation

I'm against bailouts. I don't like the fact that public taxpayer-funded money could go to private companies if said private companies are huge, dying and poorly managed. But I'm warming to the auto industry bailout precisely because the final version of the bill will be dispensing loan money with tight controls, unlike the $700 billion in mostly free money with little control that the House and Senate passed in October. It's also less of a big deal because of the math involved: $19 billion is much much less than $700 billion.

But many senators and representatives don't see it that way. Here's a sampling of the hypocrisy just in Oklahoma:

Senator Tom Coburn:

The labor rates of the Big Three are out of sync with labor rates across the nation and it is unfair to ask American taxpayers to subsidize poor management decisions. The only acceptable Congressional action would be the possibility of guaranteeing loans after labor contracts are renegotiated

Senator Coburn voted yes on the $700 billion Wall Street bailout, which mandated that Americans subsidize poor management decisions.


Representative Mary Fallin:

With our deficit rising and our economy continuing to shrink, cutting every struggling company a multibillion dollar check is simply not an option. The best way to protect American taxpayers is to ask the automobile companies to work through their problems, reorganize their companies and operate by the same rules that other companies and industries have to play by.

Representative Mary Fallin voted yes on the $700 billion Wall Street bailout, which cut many multi-billion dollar checks for dozens of struggling lenders; institutions that now do not have to operate by the same rules that other companies and industries have to play by.


Representative John Sullivan:

Taxpayers should not be asked to reward failure by subsidizing the very business practices that got them into this situation in the first place. Moving forward Congress should focus on helping to rebuild a viable domestic automobile industry through market driven policies, not massive government intervention by nationalizing these companies.

Representative John Sullivan voted yes on the $700 billion Wall Street bailout, which mandated that taxpayers reward failure by subsidizing the very business practices that got lenders into this situation in the first place and created a massive government intervention by partially nationalizing certain companies.


Representative Tom Cole:

Unfortunately, another costly investment by U.S. taxpayers does not guarantee that automakers will reform the habits that caused their current spiral. In fact, a bailout may only encourage the status quo.

Representative Tom Cole voted yes on the $700 billion Wall Stret bailout, which encouraged the status quo.

Why Automaker Bailouts are Bad, Except for Maybe the One I Propose in this Post

Allow me to be the 80 millionth person to put in my two cents against the proposed U.S. automaker bailout. This is one of those issues where I strip off all my Democratic/Socialist clothes and swim in Ron Paul's kool-aid. But I'm completely in agreement with all the most curmudgeonly conservative politicians on the issue of federal bailouts. If a business is about to fail because it can't adapt to the current market, because it made poor choices in the past about how to spend its capital to yield the greatest profitability, or because it's in deeper debt than it can possibly ever pay back, the bad business should just be allowed to fail, regardless of how many people the bad business employs or what percentage of market share it has. People will find a way to replace whatever the bad business produced with something more efficient. This is capitalism doing its thing with its invisible hand. As Ron Paul said, "An essential element of a healthy free market is both success and failure must be permitted to happen when they are earned."

People give many reasons why the "Big 3" have arrived at this point where they need to beg Congress for money. The American automakers don't make cars that Americans want to buy. Reliability and quality have been demoted down from job 1 to job 347 or so. They didn't foresee how high gas prices would lower demand for their large energy-inefficient vehicles. They pay people not to work all day. They pay high health care, high wages and high pension costs because they are unionized. They have too many brands and too many dealerships to be efficient. The interest in the debt they have already accumulated is dragging down the companies. These reasons are all absolutely true. So why should the federal government hand these companies a free Christmas bonus for a job so poorly done? It's going to take some massive restructuring to turn GM and Ford around (Chrysler should just cease to exist), restructuring that can only happen under Chapter 11 bankruptcy. Delaying the Chapter 11 filing with a federal bailout is like setting $25 billion dollars ablaze, equivalent to the average annual salary of 370,000 GM employees.

There are many arguments put forth in favor of the U.S. government giving money to the automakers. Some say that going into Chapter 11 bankruptcy would cause consumers to avoid Detroit's products because of a fear that their warranty would not be upheld. I believe bankruptcy is unavoidable, but consumers don't buy cars for the warranty anyways. If they did, the Big 3 automakers would have a much larger market share than Toyota since the American automakers' warranties are usually much better than those of foreign manufacturers. In other words, people prefer buying cars that are reliably built and don't even need warranties.

Many put forth the argument that the American automakers are such a large part of our economy that their failure would be devastating (the same argument used two months ago for the financial services industry). These people also frequently use inflated employment numbers that count people who deal not only with the Big 3 but also with foreign automakers. And it assumes that all 240,000 people directly employed by American carmakers and the other million or so in businesses reliant on the Big 3 wouldn't be able to find other jobs in industries that aren't tanking. But it is true that no member of the United Auto Workers would be able to find a job with such sweet benefits, and as cushioned as their salaries and benefits are, it would still produce many undue hardships on those employees.

I may not be in favor of handing GM and Ford free money to spend however they want, but I am in favor of helping out GM and Ford tackle some of these union benefits. Okay, so here's my plan: I propose the federal government assumes responsibility for the health care benefits and pension benefits enjoyed by UAW members. Instead of asking for wage concessions from UAW, I propose that the automakers be allowed to set wages based on the market, like the foreign automakers operating in America do. I would also propose eliminating by executive fiat the state franchising fees that make it difficult to eliminate car brands and dealerships that aren't profitable, like Pontiacs, Mercuries and everything Chrysler makes. In exchange, I would raise corporate taxes on the Big 3 as well as personal income taxes on their employees in order to offset the costs of the medical care and pension benefits. If they choose to continue making vehicles that drive consumers to purchase more reliable higher quality foreign brands, the Big 3 should be allowed to fail.

Since this whole system would be inherently unfair to the hard-working foreign-owned manufacturers here in the United States, I would offer the same deal to them: health care and pension benefits in exchange for higher taxes. And then when it becomes clear that this gives an unfair advantage to employees in the auto manufacturing industry, I would extend health care coverage, pensions and higher taxes to every citizen of the U.S. Then when it would become clear that health insurance is horribly inefficient, I would urge the government to use its massive leverage to reform the health care system so that hospitals and health clinics, like schools and fire departments, are owned and managed by the government on a not-for-profit basis.

Now that's a bailout!

What's That Stuff Trickling Down Again?

I read this on a comment on a Freakonomics blog post at the NY Times:

Maybe people would be more inclined to believe that Wall Street failure would trickle down to Main Street if Wall Street success had trickled down to Main Street as well.

— Posted by Michael P

This sentiment exactly sums up what we plebes are thinking about generosity towards Wall Street banks.

Let's Not Bailout Capitalism!

Wow, and just when I was coming around on the whole bailout plan, the House of Representatives defeated Bailout, plan B, just a couple days after minority leader John Boehner torched Bailout, plan A. I think I've finally got my head around the whole short-term credit market and the commercial paper market enough to where I can see the banks' need for lots of capital. But I really love that invisible hand stuff! If the banks need money, some private entity should be able to pony up some money to buy the so-called "toxic debt" that may be worth only 50% of face value, but at a price lower than what the federal government would guarantee in order to make a profit, of course. However, if the "toxic debt" is truly worthless, the holders of said debt should completely write it off their books and see where the chips fall after that. Because, as we've seen this week, the markets hate unknowns.

But the reason I was warming to the Bailout, plan B, was because of the following three provisions:

1) The taxpayers would have gotten something in return; stock, warrants, some say in the companies they'd be helping. The potential to make some money back was there.
2) A provision to at some point pay for Bailout, plan B, if not in the rising future value of the "toxic debt" itself, then in the raising of taxes to cover the expenses. Plan B was not very specific about how not to leave a big gaping hole in the federal budget, but at least it required someone else 5 years in the future to have to deal with it.
3) The money would have been apportioned into three slices with some Congressional control over future dispensations. I'm more comfortable with taxpayer money being spent only if needed.

I hope all three of those provisions make it into Bailout, plan C.

But too bad. All moot. With Main Street's failure to give Wall Street a huge amount of money, Wall Street will be singing the blues on Beale Street because no one's partying on Bourbon Street or going to Broadway, and no one's shopping on Michigan Avenue, which reduces the number of advertising contracts from Madison Avenue. I'm glad I don't live on any of those metaphoric streets.

Let's Bailout Capitalism!

Over the weekend the treasury department put forth a bill now winding its way through the U.S. Congress that would allow the U.S. government to buy bad debt from several Wall Street firms in order to allow those Wall Street firms to continue to function. The number put out by the treasury department is "$700 billion". This is a huge sum the magnitude of which probably eludes most people.

$700 billion. That's $2,295 if every single American contributed. If $700 billion of debt was a GDP, it would be ranked 17th in the world behind the Netherlands and ahead of Turkey. We would need at least 12 Bill Gates's selling off their entire holdings to make it up. $700 billion is equivalent to 1,750 bridges to nowhere. If you laid 700 billion dollar bills end to end, the chain would stretch from the earth to the sun. On the plus side, it only adds 7% to our astronomically high national debt.

And this goliath of a sum of money is going from the taxpayers' pockets directly to the vaults of huge banks who are now seeing the downside of risky lending. In other words, not to the people who defaulted on mortgages and were foreclosed upon, but to banks which transfer more money every hour than you and I make in a lifetime and which practically define capitalism. I'm all for socialism of some things, but socialism of capitalism is a little too red for me. Our constitution guarantees lots of things to lots of individuals, but the right not to go bankrupt is not one of them. I mean, these banks took on these bad mortgage-backed securities knowing that they would be worthless unless enough homeowners were able to make payments: in other words, they took on risk, an essential part of capitalism.

Which brings up two good points from the NY Times:

"How is it that the administration and Congress, which have not tried to find huge amounts of money to, say, improve the nation’s health insurance system or repair bridges and tunnels, can now be ready to come up with $700 billion to rescue the financial system?"

Yeah! About health care: banks made poor decisions that could have been avoided. Lots (not all) of medical bills stem from conditions that cannot be avoided (breast cancer, lupus, fractured arm, sinus infections, autism, etc.). But we're supposed to pony up for banks and not for patients? And the other quote:

“Treasury’s 840-word legislative bailout proposal comes to more than $830 million per word,” Stephen Ellis, the vice president of Taxpayers for Common Sense, a fiscal watchdog group, said in a statement on Monday, adding that “when they come up with a title, that will drive the average dollar per word down.”