Free Markets, Free People

TARP: The Tragedy Deepens

Michael’s post immediately below deserves to be addressed in some more detail.  Not only is the TARP program pernicious to the banking and financial sector, but it’s implications go much deeper than that, and corrupt the rest of the economy as well.  And most importantly, this is only the beginning.

The corruption expresses itself in a number of ways.  Take a look at the GM/Chrysler situation.  In both cases, the UAW emerge as the clear winners in the bankruptcy proceedings.  In the case of GM, bondholders with $27 billion in bonds are supposed to accept 10% of the company’s equity, while the UAW’s retirement fund, which holds $10 billion in bonds, is supposed to receive 40%, with the Government taking the remainder of the equity. In what possible way is this supportable?

Likewise, in the Chrysler bailout, the UAW will receive 55% of the equity, while Chrysler’s bondholders receive 30 cents on the dollar for their $7 billion investment.

OF course, Chryslers bondholders are balking at this, throwing the compnay into banklruptcy court.  Not that that will save them.  Why?  TARP.  As Thomas Cooley explains:

Chrysler’s dissident lenders have on their side the “absolute priority” bankruptcy rule, which holds that value must be distributed according to the legal priorities of the stakeholders.

Unfortunately, the bankruptcy code also holds that the absolute priority rule can be modified if a two-thirds majority can convince the court that it makes legal or business sense. Two-thirds of the lenders can force the holdouts to go along with them in a procedure called a cram-down.

That is exactly what is likely to happen. Citi, JP Morgan Chase, Goldman Sachs and Morgan Stanley, all major recipients of TARP Funds, all deep in the pocket of the Treasury, agreed to the administration’s plan.

So, the government, holding TARP over the heads of the banks, can now abrogate the generally used bankruptcy rules, and force through a sweetheart deal for a favored political client, the UAW.  But, in so doing, they enlarge the damage to the country’s economy by sounding a warning that government funds are dangerous because the government’s first priority is to re-write the rules to reward their special friends.  The uncertaintly that creates keeps investors on the sidelines.

Many investors are sitting on the sidelines, as is much money. Why? Because it is impossible to know what the rules of the game are. And that’s because the administration and the Congress keep changing the rules in capricious ways in pursuit of larger political objectives.

Megan McArdle make some of the same points, highlighting the danger inherent in such an approach by the government.

Countries that use their banking systems this way don’t get good results.  If you’re a fairly uncorrupt developed country, you get slower growth and bloated “critical” sectors that are usually more critical in providing campaign support, lavishly remunerated make-work jobs, and photo ops, than any products the public actually wants.  Then, if something like Japan happens, you have a twenty-year “lost decade” while everyone pretends as hard as hard can be that everything is all right, in the sincere but misguided believe [sic] that wishing hard enough will make it so.

One wonders if Ms. McArdle now thinks back on her support of Mr. Obama during the last election as “sincere but misguided”.  But I digress.

IN any event, the government has moved full steam ahead with the approach Ms. McArdle decries.  And it will continue to do so. How do we know this?  because of the way the Chrysler bankruptcy is being handled.

I heard repeatedly from progressives, in the run-up to the bankruptcy case, that the holdouts were unreasonably holding out for a trivial improvement–about 500 million dollars.  But if it was so trivial, why didn’t the government just put the extra money in, rather than jeopardizing confidence in the bankruptcy system–and the creditworthiness of a large swathe of unionized firms?  $500 million is about the price of one cup of coffee per American, a trivial sum relative to the overall budget.  This move has shown potential partners that government funds are dangerous, and potential lenders that union firms are risky bets; both have probably cost American citizens more than they saved.  So why did the government risk so much for so little gain?

You know the answer, don’t you?  Because they’re planning to do it again.

And to the extent they keep doing so, and keeping the financial sector in line via the TARP funds, investors will increasingly keep their money out of the game.  Why should they do otherwise?  Any investment in any entity with any relationship to TARP, either directly, or via creditors, is a target for the government to re-write the rules of investment and bondh0lding to ensure their special friends get a nice cut of the action.

True, it’s hard to have much sympathy for either GM or Chrysler.  But the issue now goes far beyond them.  Cooley, again:

There is at least some poetic justice in this outcome. The unions, whose years of work rules, and pension and health care deals helped sink the company, will have to eat their own cooking from now on. But their future success needs not only labor but capital.

Why would private capital get involved when the rules of the game are so capricious? No one would take that gamble when it is clear that, in dealing with the government, private capital will always take a back seat to politically powerful entities.

And that is the larger worry that current policy has neglected. Firms and markets can function quite well within a framework of rules. Indeed, rules are good for the orderly conduct of business. But when rules get imposed or dispensed with willy-nilly in the interests of politics, it is very dangerous. We have should have learned this lesson long ago.

But, apparently, we didn’t.  Don’t worry, though.  I’m fairly certain we’ll re-learn it in due course.

What really offends me the most in all this is not that the government is acting in the interest of favored clients, although that’s extraordinarily offensive.  That’s what governments do.

I think the thing that offends me the most is the sheer stupidity of the thing.

20 Responses to TARP: The Tragedy Deepens

  • Why not send Mr. Obama and the auto unions a message from the market? Why not launch a boycott on buying ‘socialist subsidized’ cars from Detroit, and instead encourage buying non-union, high quality,  American-made cars from Tennessee, Alabama, Texas, etc?

    Use capitalism to kill off socialism; teach Mr. Obama the lesson he is attempting to teach us: That socialism will win, so long as people are passive. 

  • Oh, it actually gets a lil worse, as far as Chrysler goes…

    Buried in the Chrysler filings was the revelation that US government investments in Chrysler will not be paid back, though the government will probably take an 8% equity interest in Chrysler

  • You know, you read this crap and you ask: did someone make this up? Is this just the nightmare of a really bad movie-of-the-week on Lifetime or some other p*ssy channel? Can it be that we allowed this Clown™ masquerading as The President of the United States to dictate how companies are run? In a capitalist economy?

  • In the pubs of London, navy recruiters would buy a prospect a pint of bitter and secretly drop in it a pound coin.  When the recruit woke up on board a ship, the press gangs would remind him that he took the King’s crown.

    In is for this reason that the glass bottomed tankard was invented.  It is also why many companies refuse to do business directly with the government.  If you take the government’s money, they write (and now rewrite) the rules.

    This whole mess is going to wind up before the Supreme Court.

  • “This whole mess is going to wind up before the Supreme Court.”

    Why does that not fill me with comfort anymore?

  • “Why not launch a boycott on buying ’socialist subsidized’ cars…”

    Agreed, ill stick with my Hyundai vehicles. It will force their hand, they either admit their idiocy, or do something unforgivable to force us to buy Government motors and start something with the American people that they don’t want to.

    • The Korean government is hardly known for their allegiance to the free market.  While I’m unaware of anything related to Hyundai specifically, I know that they pump plenty of government dollars into Samsung.

      That being said, I think Hyundai are phenomenally reliable and attractive cars for the price, and may buy one eventually.  I’m just saying I’m not sure they’re a true capitalist enterprise, free of government interference.

  • “From the moment the organizer enters a community he lives, dreams… only one thing and that is to build the mass power base of what he calls the army. Until he has developed that mass power base, he confronts no major issues…. Until he has those means and power instruments, his ‘tactics’ are very different from power tactics. Therefore, every move revolves around one central point: how many recruits will this bring into the organization, whether by means of local organizations, churches, service groups, labor Unions, corner gangs, or as individuals.”
    Change comes from power, and power comes from organization.” p.113

    “The first step in community organization is community disorganization. The disruption of the present organization is the first step toward community organization. Present arrangements must be disorganized if they are to be displace by new patterns…. All change means disorganization of the old and organization of the new.” p.116

    Rules for Radicals
    By Saul Alinsky – 1971

    • I guess I need to break down and buy that book.   (The “know your enemy” thing.)  Better yet, is it online somewhere for free?

  • When Lenin was ranting about seizing the means of production, he was being sooooo ninteenth century. All he needed was a creative leader, a compliant congress, an ignorant electorate and a TARP. If the UAW getting the massive leverage on GM and Chrysler ain’t seizing the means of production you can call me Meier.

    • They don’t have voting privilleges with their shares.  The only issue at hand is the fairness of how the stock was portioned out. 

  • The sad facts are thus, The government will own two major car companies. The dope  in the white house says he doesn’t want to run them, but that is simply false on its face. Unless his plan is simply to toss money down a sink hole for fun, which i truly HOPE is the case, the company will NEVER be solvent in government hands. It will take direct government involvement to make people buy those cars.

    I will not buy a car from such a company, the moral arguments aside, its simply bad sense to buy a car from a flailing company in such turmoil when i can get a perfectly acceptable car for a cheaper price from Hyundai or Honda. Thus the company is going to inevitably fail, there is no way for it not to without huge incentives. So if his intent is not to run the company and its never going to work while he controls it…..why control it in the first place unless you intend to force the issue.

    This is only part of the question though, if assertions to his radical agenda are to be made, we must find a motive. What is the radical motive behind controlling major car companies? Is it the constituents of the UAW? I can’t believe they are truly that much of a force, and wielding them as a political tool so openly as is being displayed will turn some of the people away on principle (although this is just a hope). It is a stepping stone to a larger force though, the attacks of school voucher programs gains the Teachers Unions, the UAW is on board. Small steps to building his “Army”. The banks are already in his control.  Another Step.

    “One of the factors that changes what you can and can’t communicate is relationships. There are sensitive areas that one does not touch until there is a strong personal relationship based on common involvements. Otherwise the other party turns off and literally does not hear…”

    “Conversely, if you have a good relationship, he is very receptive…”

    • when i can get a perfectly acceptable car for a cheaper price from Hyundai or Honda.

      Better not dally on buying that cheaper non-union-made car.

      • Buying a non-UAW car is quite possible, buying a non-union car is almost impossible.  The Honda Accord might qualify if you only care about assembly and not components. 

  • I’m sure Obama will come up with some way to punish those who buy non-union.


    But, in so doing, they enlarge the damage to the country’s economy by sounding a warning that government funds are dangerous because the government’s first priority is to re-write the rules to reward their special friends.

    What really offends me the most in all this is not that the government is acting in the interest of favored clients, although that’s extraordinarily offensive. That’s what governments do.

    On the plus side, this sort of warning could end up helping in the long run, by discouraging similar deals in the future…
    The proper term for calling that “helping” is “damning with faint praise.” The proper term for calling that “damning with faint praise” is “understatement.”