One rule for banks, another for autos

April 1, 2009

jimsaftcolumn6– James Saft is a Reuters columnist. The opinions expressed are his own –

There is one law, it appears, for failing U.S. automakers but sadly quite another for similarly failing banks.

The Obama administration has decided to play hardball with auto firms; rejecting recovery plans from General Motors and Chrysler LLC (GM.N) and warning they could be thrown into bankruptcy. Chrysler, which is controlled by Cerberus Capital Management CBS.UL, has 30 days to complete an alliance with Italy’s Fiat SpA (FIA.MI) or face losing its government funding. GM chief executive Rick Wagoner is out at government request, as will be most of his board of directors in coming months.

This is painful and risky but probably for the best; the auto industry has far too much capacity and both firms have blundered repeatedly, avoiding making hard decisions to improve their competitiveness and products. In short, this is what is supposed to happen in capitalism when you fail.

It is also a huge contrast to what is being done for U.S. banks, where management has generally remained entrenched and where Treasury Secretary Geithner and his predecessor have thrown cheap money and other subsidies at doubtful banks in ever more complicated forms. Most recently, going as far as cutting hedge funds and other investors into the deal under the public private partnership in order to create the illusion of a return to market forces.

If the U.S. administration thinks the auto tough love will make them look like they are taking a hard line with highly compensated executives, they could not be more wrong. If anything it will increase the perception of the divide between how Main Street and Wall Street are treated when they come begging at the public trough.

To be fair, the case against the automakers is pretty airtight. Even given a recovery, which is by no means a sure thing, they may not be viable. The best counterargument, that bankruptcy causes rolling failures among suppliers and that consumers will shun automakers which are in bankruptcy. Those possibilities are hard to measure, and even if true, probably not enough to justify keeping the two on life support for what could be an indefinite period.


So what accounts for the difference in treatment, given that many banks, large and small, are both insolvent and dependent upon government support for their continued existence?

There are some legitimate reasons but they quickly bleed into special pleading and moral hazard. The entire economy is dependent in substantial part on the health of the financial system which intermediates capital, theoretically allocating it (insert ironical remark here) where it will make the best return.

That makes it harder for policy makers to simply allow banks to fail and for the industry to find its right size, the damage in the meantime would be too great. That gives large overleveraged banks a strong negotiating position with government, even in their weakness. That’s unacceptable and needs to be dealt with now, by treating them on their merits, rather than later through regulation to control the size and leverage of institutions.

There is a real risk that we get the worst of all worlds; the banks are kept alive and make it through with management in place and are able to use their obvious influence and might to deflect legislation. We then have a system with moral hazard at its heart and another larger crisis heading our way after the next bubble.

It is striking that the guy leading the enquiry into the viability of the automakers is former media investment banker, financier and private equity investor Steven Rattner rather than an auto person. Quite right too, someone who has lived and breathed this stuff is conflicted and won’t have the proper perspective.

But what a contrast with the number of once and future investment bankers (former Goldman Sachsite’s Neel Kashkari being exhibit A) involved in the government side of the banking bailout. After all, who else could understand this stuff? Don’t Trouble Your Pretty Little Head about that, as they used to say down south.

There is an alternative, after all. Rather than constructing a bank bailout which is essentially the Resolution Trust Corporation but missing out all that messy stuff about banks failing and executives getting canned, why not simply impose tough capital limits, fail the banks and executives that fail and come up with a reasonable timetable for selling on what you are left holding?

It has two great advantages; it has worked, both in the U.S. and around the world, and it is fair and easy to understand as fair.

Rescuing the economy and the banking system, as opposed to the banks, is going to require more government money. The favorable treatment of banking executives and shareholders may make that money very difficult politically for the administration to get.

– At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund –


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Another distinction between the auto industry and the banking industry, which was not mentioned in the well-reasoned article, is that much of the day-to-day activities of the banking industry are regulated. While one might argue that the auto industry also is regulated, none of it is directed at vertical integration, reserves, or discretionary decision-making, nor should it be. Once there is an infusion of financial support, the industry must conduct its manufacturing operations and other day-to-day business as it sees fit.

For that reason alone, any conditions which the Government wants to impose to safeguard its investment for the taxpayers must be done now. We have to be able to trust that the persons using the money will not simply resort to the tried-and-true business practices which put the Autos in this perfect storm. Considered in this context, one could argue that the rule for both industries is the same, although imposed in a way that fits each.

Posted by Stephen S. | Report as abusive

The bankers have clearly shown who’s got the money got the power, the banks are about just as messed up as the sutomakers are but they get special privileges because they hold the money. It’s a shame that so little support would go to the auto workers who make products that people use day-to-day and so much go to money-movers who essentially do nothing to make the world a better place.

Posted by Eldon Lopes | Report as abusive

Perhaps if there were more ex-auto industry executives in working in the Obama administration and less finance people we would see a completely different posture. Adam Smith stated in “The Wealth of Nations” a capitalist society builds wealth by producing; ie, manufacturing. George Carlin was right, our language is full of euphemisms. They obfuscate and mislead. Euphemisms can make something appear to be what they are not. A perfect example is the finance industry marketing lines of credit or credit default swaps as a product. Clearly nothing was produced except paper. It very is common in the financial industry to call investment vehicles products. Could it be our leaders from both major political parties are confused by such language or do they simply lack character?

Posted by Anubis | Report as abusive

Talk about euphemisms: “toxic” assets.
There is nothing toxic about “nothing”, because these “assets” are empty, void, worthless.
But “toxic” sounds nicer.
The Banks themselves are dealing with “nothing” with each other, selling good old “snake oil”.

Posted by zyclop | Report as abusive