Chrysler and the Road to Indonesia
In the 1990s the economies of southeast Asia were flush with cash. The ever-increasing liquidity of global capital and its willingness to chase returns in emerging markets meant that the banks of Thailand and Indonesia had money to burn, and burn it they did. The problem, of course, was that these banks were far from the independent wealth-maximizers that one imagines in mature markets. Rather, they were deeply involved in the elite political coalitions in these countries, frequently making and administering loans at the dictation of those elites rather than the bottom line. As long as the international capital markets were pouring money into their economies, this was not a problem. On the other hand, when Russia defaulted on its debt and global capital fled from emerging markets, these banks found themselves unable to cope with the crisis given the rotteness that politics had inflicted on their balance sheets. The only way of staving off national bankruptcy were loans cobbled together by the IMF coupled with an agreement to hand the keys of economic policy over to the grown-ups at the Fund. The Chrysler bankruptcy is a flash of lightening that gives us a brief glimpse of the banking world created by the bailouts. It looks disturbingly like southeast Asia.
The chatter on the bankruptcy has focused in on the group of senior Chrysler creditors who have refused to play ball with the government. These creditors bargained ex ante for priority against Chrysler’s other creditors, most importantly the unions. Under the ordinary rules of contract and bankruptcy they are entitled to be paid before the unions. (And for those who demonize secured credit as lower-interest rates on the back of non-adjusting creditors, I’d point out that the unions are not tort victims or trade creditors. They are big sophisticated grown-ups with lots of lawyers and lobbyists.) Yet they refused to take 30-odd cents on the dollar while the junior-but-politically-important unions got 50-odd cents on the dollar. As should be clear, my sympathies here are with the hedge funds not the unions. The Obama Administration’s position has essentially turned the federal government into the distressed financier from hell, the one whose presence in the deal tears up everyone’s pre-existing expectations in order to benefit the favored constituency. Furthermore, by demonizing the other distressed financiers as irresponsible speculators, the Obama Administration has injected a huge dose of uncertainty into an already uncertain business. In a recession, taking a rhetorical and economic baseball bat to the folks that provide distressed companies with funds is short-sighted at best and grossly irresponsible at worse.
But that isn’t what worries me.
Oppenheimer and the other funds that refused to roll over to the feds and the unions were at least behaving responsibly. If they go down, at least they will go down swinging for their shareholders. My hat is off to them. They are doing what we want large financial institutions to do, particularly if they are the sort of large financial institutions that pose systemic risk, are too big to fail, or the like. We want these guys to fight to keep their balance sheets healthy. We have a name for financial firms that don’t do this: AIG and Bear Sterns. No. What really worries me is a fact that has gotten less attention. The Administration has been able to demonize the hold-out funds as irresponsible speculators because most of the banks that loaned Chrysler money are standing with the government. This creates an aura of a responsible establishment working out a solution in the face of a small band of greedy and irresponsible plutocrats. The real question, however, is why aren’t Goldman Sachs, Citigroup, J.P. Morgan, and Morgan Stanley standing with Oppenheimer and the other hold-out funds? Why are they, in effect, standing demurely behind the President, clapping politely while he wipes enormous sums off of their already strained balance sheets?
The answer is that these firms are all TARP-recipients, banks joined at the hip with the U.S. Treasury and the Administration. Another way of putting this is that they are banks that are now under huge pressure to make lending and loan administration decisions (like how hard to fight in a debtor’s reorganization) based on political considerations rather than the bottom line. By going along with the feds plan for Chrysler’s reorganization they were in essence willing to degrade their balance sheets to keep political elites happy. In the short term, I have no idea what the hit that these banks have been willing to take does to their balance sheets, and I hope and pray that they can disentangle themselves from the government before this becomes a habit. Otherwise, we are on our way down a scary path, a path that leads to southeast Asia in the late 1990s. Except in our case there is no IMF big enough to rescue us or bully our political elites into responsible behavior.