Failure to Admit Failure
“Don’t just stand there. Do something!”
“Don’t just do something. Stand there!”
The first statement above is quintessentially American. We are biased to action. Terrorist attack? Reaction: Go kill people who were tangentially related to the event, making everyone wary of attacking us again others think that we act with unreasonable blind rage.
Major companies on the rocks? Act now to prevent certain disaster! I don’t know — there are administrative remedies in the short-run that can be used to stave off insolvency, without immediately throwing money at the problem — appoint a conservator to get maximum value out of the company for senior bondholders while you wind it down (liquidate).
That’s the way I feel about AIG, GM, Ford, etc., companies that I have had a consistently negative view on well before the crisis began. Why are we rewarding companies that took on way too much debt to finance their operations? To save jobs? Uh, nice thought, maybe, but you could do a cramdown in bankruptcy where everyone gets hit. The senior debtholders would convert their claims to a reduced amount of new equity, and wiping everyone else out.
So when I read about AIG getting new loans from the US government, and reducing the interest rate on all of the debt, I go back to my initial statements regarding the bailouts. When you make policy rapidly, you make mistakes. This has been proven true with AIG. Now, with the automakers, will we compound the mistake?
Let the automakers fail. It is one of the few things that will might bring the unions to their senses. The senior debtholders will bring in new management, and the unions, if they survive, will have to reduce their unreasonable demands that are out of sync with what other auto workers make in a competitive market. Many auto workers would be able to keep their jobs, but at wages more congruent with the value produced.
The Humility of Realism
The above title is a play on a book title from a politician who deserves to be obscure, but has hit it big, much like Jimmy Carter. But as Woody Allen said, half of life is just showing up. By the humility of realism, I am trying to get across the idea that our government should slow down, take a step back, and think hard before acting. Bring in the same old players experts who are disconnected from the “crisis” and let them consider with seriousness the depths of the problem that we are in. We are probably facing a second depression.
From my perspective, depressions end when enough of the debt of the nation is paid off or liquidated, so that the financial system can once again issue moderate amounts of credit to high quality borrowers. But the US Government is presently compounding failure with interest, adding to the total debt of the US by borrowing more, and giving the proceeds to companies that not only are special interests, but have proven that they cannot use it well.
The humility of realism would recognize that the US government cannot borrow its way to prosperity, but must act to conserve, admitting the faults of the past, recognizing that past policy has erred significantly. I am not holding my breath here, waiting for that to happen. I expect that the US government will proceed further down its present path, playing favorites with special interests, and continue to apply irrelevant “cures” in the hope that action will end the crisis.
As for me, I am puzzling over what would preserve value for me, and those that I care for in this environment. That’s not a easy puzzle; in a depression, everything gets whacked. But as I get more clarity, I will write more.
Links:
- Auto Makers Force Bailout Issue
- U.S. Throws New Lifeline to AIG, Scrapping Original Rescue Deal
- Time to pull the plug on AIG?
- (And, what will we do about the collapse that is coming in much of commercial real estate? Not a happy scenario for the banks, and ultimately the taxpayers and others who get milked by the US government.)
November 10th, 20086:02 pm at
I agree mostly, but we should differentiate between actions like recapitalizing Wells Fargo versus throwing good money after bad with a GM bailout. WFC and a few others have not proven that they cannot use capital well. Sure, the surviving majors made mistakes to varying degrees too, but their businesses ARE going to make money in the future. I consider those to be relatively solid investments. A far cry from bailing out the Big Three.
The govt needs to think like an investor. Period. WEB took preferreds and warrants in GS and GE. He considers what he did to be a wise investment. That should be the bar. If a well-capitalized private investor would not invest in a particular company – then the govt shouldn’t either.
Obama will bailout the unions. Guaranteed. Hope and Change? Yeah right.
November 10th, 20088:05 pm at
What is the difference between Chapter 11 and Chapter 7? Chapter 11 is something that you file when you have a viable business model encumbered by some unfortunate liability (i.e., huge lawsuit liability, enormous unfunded defined benefits obligations, etc.). These companies can be a going concern. Chapter 7 companies are those whose business model depends on a heavily leveraged capital structure that collapses on a business cycle downswing.
GM needs to fail in Chapter 11. Since AIG has moved away from insurance business model and moved into a Ponzi scheme, AIG needs to fail in Chapter 7.
Instead, AIG has its loan renegotiated (lower rates), reduced, and partially replaced by equity capital (a gift from you and I). Where is the justice?
Why are traders at major Wall Street bank remnants, who lost several years worth of income, still getting $300,000 bonuses (funded by equity injections from tax payers)? Where is the justice?
November 10th, 20088:21 pm at
David,
I get the impression that you think the government should be deleveraging (or at least not adding more debt) right now. If that is indeed what you are saying, how do you respond to those who are arguing now is not the time to worry about national debt? To those who believe deleveraging is only something the government should do during economically robust times? It seems to me, as egregiously large as the US’s debt is, that there is something to be said for the government acting counter-cyclically. That being said I’m no expert.
November 10th, 200810:47 pm at
Chris, it seems to me if the government borrows heavy now, then in 3 or 5 years when/if consumers and businesses have their debts paid off/down, then the tax man comes looking to pay his debts down, and the cycle continues.
I’d say you are right in most cases, but this one may be (gulp), different this time.
November 11th, 200812:21 am at
Interesting you speak about bringing the unions to their sense…uhmm how about bringing all the Ponzi scherme creator to their senses before the Ponzi capitalism scheme got off the ground?
The unions are a reflection of the greed that plagued all the money making schemes that added no value no goods no substance to the GDP or balance of payments.
all of you had a incredible time making money and the unions just trying to bring a little more to the workers. What is wrong with that?
why don’t you bring sense to Wall street and CEOs and bring usury out of the economic system so the Earth and oterh species can live and the people you care so much also have clean air, clean soila dn clean water.
AYou sound a bit like money is all there is. Please give a look on the
http://www.monetary.org/index.html
Lost science of money and other economists that have in depth understand of these Ponzi scheme you all benefitted from. As Sheila Bair said:
this went on because everyone was making money.
well you made your bed, now lay on it.
November 11th, 20081:01 am at
David,
I am puzzling over the same thing. I am looking at US Government I-Bonds as a tool to preserve capital. I am not looking at the purchase as an investment but more as a means to preserve savings in a “semi-liquid” format. I will give up the prior quarter’s interest as a penalty if I can simply have 100% of my funds back after 12 months of holding through the redemption date in the far future. I consider that I can easily lose money due to inflation.
However I feel the money is safer in an I-bond than in banks which can have runs and Money Markets whose gov’t insurance ends @ December 18.
Also since FDIC is running out of funds, in the event of banks simply shutting their doors (think Iceland) it could be a while before access to FDIC backed funds is made available.
November 11th, 20081:06 am at
Harris — You haven’t read me enough if you think that I don’t criticize greedy management teams. I have used forensic accounting methods to uncover fraud in the past, particularly with Fannie Mae and Enron. I have decried greed in the mortgage business, and at investment banks. I don’t have an ax to grind here. I go after all malcontents, including our dear government.
I’ve written on unions in the past. They generally kill the industries that they serve. Non-union steel in the US is cheap and highly productive. They killed most of the unionized steel industry. It wasn’t foreign competition — it was Nucor and the like.
The same thing is happening now with autos. Non-union companies are beating the pants off of GM, F, and Chrysler. And, their employees are paid well. The history of the decline and fall of the automakers begins with the pension and healthcare promises made, and the accounting semi-fraud that allowed them to hide the boom for years, particularly in the 90s, when the market went up like mad.
So, the unions have to give up a lot here, or, they will lose a lot more. Economics can be fought in the short run, but it eventually bites with compound interest in the long run.
November 11th, 20085:40 am at
David, I agree that unions too often are a drag on their industries and are sometimes too powerful, holding companies and even the economy hostage, like the longshoremen’s union. But at other times they are needed, because some managements will exploit workers if they can. Like you said, there is greed on both sides.
Stepping back a bit from the immediate situation and looking more philosophically, I would say we have not had a good balance between free markets and regulation. I think George Soros said it best that markets work well most of the time but are inherently subject to self-reinforcing booms and busts, so need regulation to prevent the extremes. Maybe I read you incorrectly, but I think you are more inclined to let the markets work and take the busts that are not made even worse by government attempts to avoid them.
I don’t think that will work in a democracy. A free market inherently favors the rich. The rich get richer and the rest fall further behind. When the downturn comes, the rich get by quite well but the poor suffer. In a country like China or North Korea (not that they are free markets), the suffering masses can’t do anything about it, but in any democracy, the people who would intervene get elected. A truly free market can’t survive in a democracy because the busts hurt the masses too much. The answer is finding the right amount of government intervention so that the gap between rich and poor grows slowly ( it will grow in any case because the rich have the advantages) and there is enough support for the poor and middle class so recessions are tolerable. A democracy requires a strong middle class. That means the rich have to pay more, because they are the only ones who can afford it.
Look at the democracies of the world. They are mostly more socialistic than we are. Look at the recessions of the past in any democratic country. The ruling party is thrown out of office.
How much government intervention is needed? It is hard to say in real time, just like when trading, but I think there are empirical indicators. Besides the obvious economic indicators like unemployment, an important indicator is the gap between rich and poor. Under Clinton, every income group gained when the economy grew. In the last eight years, the richest got richer and the workers lost ground, even as the economy grew. That’s not good for a democracy. So Obama will turn that around.
But as a political independent, I do have some concern that we will go too far to the left. But unlike you, I think Obama is way better than McCain. He is smart and deliberate and balanced. (Do you know that as the first black elected as president of the Harvard Law Review, at a time when affirmative action was a hot political issue, he did not use his position to appoint black editors as he was expected to do; he picked the best people.)
November 11th, 20087:48 am at
…in a depression, everything gets whacked?
Everyone has a chance now to buy gold and/or silver. Today right now, dump cash, dump stocks and t-bills and own gold. Gold is at a very low bargain price right now and perhaps near it’s bottom. Gold does not get whacked in this global market. If you stick with equities and paper securities based on the US dollar, you are going to get whacked big time in the next year. So twelve months from now please don’t act surprised your dollars got hammered down to nothing.
Mark
editor@dgcmagazine.com
November 18th, 20088:44 am at
Universal law — “life constantly changes reality”
November 20th, 20083:36 am at
Bailouts Must Be Odious…
David Merkel submits: There has been a significant shift in bailout psychology over the last week or two. The grand shift has been to make the cost of receiving money from the U.S .government smaller, which gets “banks” to line up for…