AIG and the Auto Companies
Although I generally applaud the recovery measures advanced by the Obama Administration, I think their approach to the Auto companies and AIG has been been marked by an unwillingness to face facts. Why are we bailing out AIG? Because it is a backdoor way to bailout the big banks. Every time AIG pays a bank 100 cents on the dollar for a defaulted mortgage bond worth 20 cents on the dollar (under a Credit Default Swap contact) the bank's balance sheet looks better. And we're getting hosed.
As to GM and Chrysler, the current world auto producing capacity is about 92 million cars a year. Last year's sales were about 50 million cars and they are on a declining demand curve. GM, Chrysler and Larry Summers can engage in wishful thinking that the world will soon return to needing 90 million new cars a year, but it is unhelpful. GM currently has $30 billion of debt and the bondholders seem unwilling to do a total debt for equity swap. As for Chrysler, why the government should bail out the Cerberus Hedge Fund is beyond me.
The process of creative destruction is painful. Auto capacity will fall and hopefully solar and wind generation capacity will increase (unless we want to keep buying wind turbines from the Germans). The UAW, with some government support, should start retraining auto workers for the new jobs. The Treasury should arrange for an orderly Chapter 11 Debtor in Possession financing package for GM and Chrysler. Only faced with the reality of a judge who can force the bondholders to convert to equity, will these firms scale down to the appropriate size to feed the existing car market.
If GM bond holders took 100% equity for debt, would that be even close to keeping GM solvent for more than a year?
Also re derivatives, I note Marshall's TPM piece citing a source:
To what extent would this apply to GM debt? The CDS instruments might go into effect regardless of whether bondholders voluntarily swapped.
March 6, 2009 2:40 PM | Reply | Permalink
The fact that a creditor's claims can't be stayed in a bankruptcy proceeding doesn't mean that the creditor can execute on the assets of the bankrupt.
Before executing the creditor must sue, get a judgment, locate property and find a sheriff to execute on the bankrupt's assets, unless as security for performance of a contract ---
The creditor holds, in its own hands, property of the bankrupt.
Is there any reason to think that, as an example, AIG's counterparties hold AIG property as security for the performance of CDS contracts?
March 6, 2009 4:51 PM | Reply | Permalink
Mumbling again?
"The creditor holds, in its own hands, property of the bankrupt."
Is that backwards? The creditor holds a note, the debtor holds the asset. As I understand it, the assets here are all paper assets, so the creditors just hold notes on notes which might at some point translate into other notes on real assets.
But gambling isn't real economic activity, by definition, even if people use real money to ruin credit. Can I sell you a Rose Garden?
http://tpmcafe.talkingpointsmemo.com/talk/blogs/eds/2009/03/the-white-house-rose-garden-st.php
March 6, 2009 6:05 PM | Reply | Permalink
Clearly, you don't understand the difference between a security interest such as a pledge which the creditor holds and can dispose of upon breach or one allowing execution after breach in a non-judicial action and rights under either an unsecured contract or a secured contract which requires judicial action before those security rights bear fruit.
The latter two types of contracts can take a long time between default and recovery.
March 6, 2009 8:12 PM | Reply | Permalink
Well, I do understand that swaps often require the counterparty to post collateral if there are threats of a credit event looming (or if one occurs), but it's not clear that posting collateral amounts to the first party actually holding the collateral in any real sense beyond knowing that it's available. And if the collateral is delivered from the counterparty to the party, under contract, then it's no longer the counterparty/debtor's asset, it's a payoff, it belongs to the creditor/first party until the credit event is resolved in favor of the counterparty.
What are you trying to say here?
March 6, 2009 9:03 PM | Reply | Permalink
Sounds like you do understand the procedure.
When a counterparty obligor suffers a "credit event" -- a ratings downgrade for example from Fitch or Moody's -- it may, per contract, be required to post additional collateral.
And if that counterparty obligor is in some financial difficulty at that time, it simply doesn't do it.
As AIG would say to Goldman, "See you in court, doofus!"
N.B. It's called a doofus, because it relied on AIG's ability to make good on the contract and low-and-behold, AIG can't.
March 7, 2009 4:13 AM | Reply | Permalink
The question is whether "derivatives claims" can bypass dilution and due process. It's possible that "posted" collateral avoids the normal course. Is that all? Or does the whole claims, beyond whatever collateral had been posted, come due?
Potentially very different numbers there. That's what is interesting in the quoted material which apparently started your subthread here.
March 7, 2009 5:11 AM | Reply | Permalink
Lawyers and economists. One problem may be their dispersion.
Markopolos' complaint against the SEC when he challenged Madoff's unusual results was that the SEC had nothing but attorneys to advise it -- nobody trained in finance or advanced mathematics.
Alternatively, the Fed has 250 economists on staff; how many lawyers? And does the same go for Treasury?
Why aren't the state insurance regulators (specifically, the New York State Insurance Commissioner) pulling the insurance company subsidiaries out of AIG, putting them into receivership because AIG (the parent company) is stripping them of assets, and leaving the parent as a shell? That action might well solve the CDS problem -- at least from our (not parent AIG's; it's gone anyway) point of view.
Because they have nothing but bookkeepers on staff and wouldn't know how to do it? because they're leaving everything up to the feds?
March 7, 2009 12:26 PM | Reply | Permalink
Or maybe because they prefer continuing what to me looks like nothing more than a robbery being performed in broad daylight? With our Treasury Secretary and Obama's Board of Economic Advisors serving as diversionary accomplices?
I am real afraid of waking up some day when this is all over and discovering just what a historic heist this was - and realize our culpability for trusting those who allowed this mess to happen with the keys to the Treasury for the supposed purpose of fixing same.
March 7, 2009 12:40 PM | Reply | Permalink
"GM currently has $30 billion of debt and the bondholders seem unwilling to do a total debt for equity swap." Jon Taplin
The GM bondholders probably own credit-default swaps on GM's bonds; consequently, CDS owners will most likely get more money via their CDS claims than in a bankruptcy proceeding. I wouldn't be surprised to find out that A.I.G. wrote the CDS on GM's bonds - thus the American taxpayer will pay twice, to make CDS owners whole and to save GM jobs.
Also see post by "eds" for more information on CDS and bankruptcy.
March 6, 2009 3:10 PM | Reply | Permalink
Not sure which post of mine (it's a pet peeve of mine so I comment a lot and do original posts too) vetforobama means, so here's a link to my most recent related blog entry:
http://tpmcafe.talkingpointsmemo.com/talk/blogs/eds/2009/03/the-white-house-rose-garden-st.php
March 6, 2009 4:47 PM | Reply | Permalink
Why are we bailing out AIG and GM and Citi and BoA and Cerberus and making Blackstone and PIMCO wealthy?
Maybe, because Obama appointed a jerk as Secretary of the Treasury.
March 7, 2009 3:51 AM | Reply | Permalink
Icky spin. Ick.
March 7, 2009 5:19 AM | Reply | Permalink
Geithner's now 0 for 2 for the only important judgments he's ever been called upon to make:
In 1997-98 he judged Indonesia to be suffering from a current accounts problem. It was going through a capital accounts crisis.
In 2007-08 he judged the U.S. financial industry to be suffering from a liquidity problem. It was going through a counterparty risk crisis. John B. Taylor
As to his work ethic what was he doing at the New York Fed for the six months after he supervised Bear Stearns demise? Why was he caught with his pants down when Lehman hit the wall? Where were the stress and situation tests on the banks under his supervision? Why wasn't Lehman set to be turned into a bank holding company like Morgan Stanley and Goldman Sachs later were?
The guy's a jerk!
March 8, 2009 6:28 AM | Reply | Permalink
"Mr. Geithner, who arrives at the Treasury around 5:30 each morning and exercises in the department gym before starting work, has not appeared daunted.
"Seemingly relaxed and unflappable . . . ." New York Times 3/09/2009
So saith Mssrs. EDMUND L. ANDREWS and STEPHEN LABATON, reporters and erstwhile suck-ups, who to preserve their jobs have to stroke their access.
March 9, 2009 3:03 AM | Reply | Permalink
Wake up and smell the coffee. The public purse is being looted and we the great unwashed are being fed pablum. Yves Smith
March 7, 2009 3:58 AM | Reply | Permalink
While I've been calling for no money to crooks or gamblers, I find it odd that $19B is such a big deal out of what, $160B total? What's happened to the rest?
Yes, much of the $19B is suspect. But it's not even 15% of the amount fed into AIG.
March 7, 2009 5:26 AM | Reply | Permalink
I know what you mean. As Ev Dirksen was wont to say, A billion here and a billion there . . . .
But -- do we really want to wake up some day in the not too distant future as boiled frogs?
March 7, 2009 12:10 PM | Reply | Permalink
I think the slowly boiled frogs die, the ones which get shocked jump out. Sounds like you think we're being stewed and won't wake up before dinner time.
March 8, 2009 5:18 AM | Reply | Permalink
The notion that 50 million cars sold yearly is a trend, let alone on a "declining demand curve," would be good news in many ways if true. But it's not. People can stop buying cars for a year, or even two or three. But cars wear out. The world's not going to become another Cuba, keeping cars built in the 90s and 00s running forever. Even if we wanted to, these are far more complex than the cars of the 50s, and far more expensive to keep running past their design life.
So at some point within a few years car demand will surge, quite possibly beyond current world capacity, let alone the downsized capacity we'll likely end up with. And that's not even addressing the resurgence of new demand from China and India once the recession eases up.
March 7, 2009 11:43 AM | Reply | Permalink
A year or so ago Robert Krulwich had a piece on this topic. But ---
1) Americans over the age of 16 may own more cars than they need and be cutting back, and
2) Excepting some imported "luxury autos" the cars built for China and India will be built over there.
I don't know how to say General Motors in Mandarin, but how does its ownership of Chinese production facilities, there, generate American jobs, here?
March 7, 2009 12:50 PM | Reply | Permalink
Asia has been a profitable venture for GM - and for most car companies.
Insofar as its overseas profits have contributed to the companies health in the US, that's the extent to which it has contributed to jobs in the US.
I'm guessing it's only V and C levels who've received a benefit.
March 9, 2009 8:54 AM | Reply | Permalink
No sir, it's not Chinese and Indian demand that's the problem. The financial people have decided that importing cars from China and India is the next big thing, and they will put their money on them and let GM and the rest go down the tube. Remember when you read some bad-mouthing about American cars, that the source may be a public relations office under contract to the Chinese and Indian importers.
March 7, 2009 8:27 PM | Reply | Permalink
Utopian and not likely. In the first place, who's in charge of telling UAW workers what their next job will be? Do they have any choice in the matter, or do we just shuffle them off when construction on their new hive is completed?
World demand for automobiles is down because credit is tight and people are afraid to make major purchases. As soon as the Obama stimulus starts to work its way through the economy, we'll go right back to our gas-hogging ways.
We're bailing out AIG because the depth of their losses can't be determined, and thus, the exposure of the banks can't be determined. No one can accurately estimate the losses because the instruments of investment that were created have completely obscured the underlying fundamentals. I've heard various economic experts estimate AIG's exposure in the CDS markets at somewhere between 7 and 40 trillion dollars. That's a terrifying figure, not because it's so huge, but because the spread is so wide. That's why we're bailing out AIG.
March 7, 2009 1:08 PM | Reply | Permalink
Not only are we bailing out A.I.G., but we are bailing out A.I.G.'s counterparties; many who are unknown to the public.
Two corollary factors that one might wish to consider as contributors to our present economic calamity are: 1.During the roaring 1990s, the Clinton Administration (at the urging of Wall Street) signed on to the national banking law - a law that has permitted the concentration of assets in a few mega-banks; and 2. During the same period, President Clinton signed the law that repealed the Glass-Steagall Act - the repealing law was passed by Congress with enough votes to override any veto.
Both actions were counter to long-standing policies supported by Democrats - regional banks and separation of commercial and investment banks. Too bad we are having to re-learn these lessons of illiberal, Republican economic policies; lessons that our parents, grandparents and great-grandparents learned the hard way via late 19th Century economic crises and the Great Depression.
Note: Joseph E. Stiglitz, in "Globalization and Its Discontents," discusses national banking and the Clinton Administration.
March 7, 2009 5:41 PM | Reply | Permalink
You're probably aware that Alan Greenspan was a fierce defender of things like mortgage backed securities. He's since admitted that he may have been a little overenthusiastic. To say the least...
When the administration tries to make themselves look good, at the expense of proper regulation, we all pay the price. With Clinton, it was the tech bubble. With Bush, it was housing. It's the job of the Fed to watch these things and force overheated markets to cool down. Unfortunately, presidents usually don't have the spine to do it.
March 7, 2009 7:19 PM | Reply | Permalink
Amen.
Regulation - Stiglitz, in "Globalization and Its Discontents" does an excellent job in discussing the need to regulate financial markets, and he explained how unregulated financial markets helped create economic crises in developing countries.
March 7, 2009 7:33 PM | Reply | Permalink
Why are we bailing out AIG? Am I the only one thinking that "we're" bailing out AIG as an under-the-radar way for the U.S. to bail out overseas banks?
According to Josh Marshall's post, whatever the legal necessities, the structure of Fed involvement looks a lot like a money-laundering scheme, and Bernanke's and Geitner's secrecy regarding the transactions certainly resembles that which shrouds a money-laundering operation, and untangling the money trail later could be as complicated. I can see the two of them believing that the thought of American taxpayers being stuck with the tab for bailing out European banks would cause a political sh*t storm for the Administration.
But, really, hasn't the American public accepted a "leadership role" in refinancing other busted economies -- Mexico and Russia come to mind, hell, even the Marshall Plan -- before? Why are we not to be trusted this time?
March 8, 2009 6:30 PM | Reply | Permalink
"A dictatorship would be a heck of a lot easier, there's no question about it," [George W. Bush] said.
I gather you rather approve this view of executive power -- as presently being expressed by Obama and Geithner.
March 8, 2009 7:19 PM | Reply | Permalink
That was a reply to eztempo, above.
March 8, 2009 7:21 PM | Reply | Permalink