Charging a bank for an implicit government guarantee to absorb losses? According to the Wall Street Journal, the Federal Reserve and Treasury are demanding that Bank of America pay $500 million to exit a bailout deal that was never actually signed.

That's a nice chunk of change, but taxpayers shouldn't be fooled into thinking this -- or any other bailout -- is a good deal.

A very dangerous misconception is taking root in the press, that in addition to saving the world financial system, the bank bailout is making taxpayers money.

"As big banks repay bailout, U.S. sees profit" read the headline in the New York Times on Monday. The story was parroted on evening newscasts.

The trouble is the popular view that TARP was the bailout. That very unpopular $700 billion program got all the attention because it was an easy story to tell a general audience. It had a big ugly price tag; it was debated very publicly in Congress; and, most important, the list of recipients and their take was made public all at once.

So when those recipients pay back TARP -- at a decent profit for taxpayers -- bailouts all of a sudden don't seem so bad.

But the bailout was much larger than TARP. There is FDIC's debt guarantee program, which still backs over $300 billion worth of financial sector debt; there are the Federal Reserve's emerging lending facilities, which have showered hundreds of billions of cash on banks in exchange for, well, we don't know what. There was the AIG bailout, which gave the company tens of billions more. There were changes in fair value accounting rules, which permitted banks to hide losses, and there is stupendous support for the housing market, which has rescued banks from huge write-offs.

All of these and more make up the implicit too-big-to-fail guarantee that the biggest financials have all received. The total cost won't be known for years, and the price tag is likely to be enormous.

Look no further than Fannie Mae and Freddie Mac. The moral of their story is that implicit guarantees alter the investment landscape in ways that are very destructive and, ultimately, very expensive.

Portfolio managers kept buying Fan and Fred backed mortgage paper even after the companies' capital structures had deteriorated significantly. They didn't care about fundamentals because they were buying a government guarantee.

But eventually the bill comes due. In Fannie's and Freddie's case, taxpayers have promised $400 billion to absorb losses.

Instead of learning from that mistake, policy-makers thought it wise to repeat it on a larger scale, backing not just the housing market, but most of the financial sector, too.

The $500 million that the Fed and Treasury could collect from Bank of America is a nice token sum. But it doesn't begin to pay the cost of BofA's implicit guarantee against failure.

Taxpayers should keep that in mind whenever they see misguided reports that they are making money from bailouts. The truth is that the biggest banks are still insolvent and, ultimately, their losses are likely to be absorbed by taxpayers.

It's time for someone in the Obama administration to read the riot act to Robert Benmosche, American International Group's new $7 million chief executive.

Since getting the job, Benmosche has spent more time at his lavish Croatian villa on the Adriatic coast than at the troubled insurer's corporate offices in New York.

And in the short term, Benmosche's vacation strategy appears to be paying dividends.

This week, AIG's shares surged 44 percent, to nearly $50, after Benmosche said that he intended to move slower than his predecessor in selling off AIG's still viable divisions.

Maybe Benmosche should consider relocating AIG's headquarters to Dubrovnik.

But the big run-up in AIG shares is merely a sideshow for momentum players, speculators and Hank Greenberg, the former AIG chieftain who controls about 11 percent of the company's outstanding shares.

The reality is that AIG exists today only because of the $180 billion lifeline the insurer has received from the federal government. Even Benmosche acknowledges that, telling The Wall Street Journal: "If the U.S. government doesn't continue to support AIG, we will fail."

The trouble is that the government continues to act as if its support of AIG is unconditional, which is why Benmosche can feel free to set his own leisurely timetable for selling AIG's assets. The former MetLife chief executive knows no one from the government is about to tell him what to do, even though American taxpayers effectively own 80 percent of the company.

But Treasury and the Federal Reserve need to be taking their cue from the Federal Deposit Insurance Corp in how to handle AIG.

Behind the scenes, Sheila Bair, the FDIC chairman, has been exerting a lot of pressure on her agency's biggest ward--Citigroup--to make changes to its management and business strategies. Treasury and the Fed should do much the same with AIG.

There's no reason for the federal government to be acting as a mere bystander in all this. After all, the government bailed out AIG chiefly to prevent a run on U.S. and European banks that had purchased hundreds of billions of dollars in guarantees on risky securities. In those scary days immediately following Lehman Brothers' collapse, AIG was too big to fail.

But nearly a year later, that is no longer the case. If AIG were to fail now it would be painful but more manageable because of the steps the Fed has taken either to guarantee or remove the most troubling assets from its balance sheet.

Yet the government's kowtowing to AIG leaves some scratching their heads.

"The controlling party here should be the government," says Brad Golding, a hedge fund manager with Christofferson, Robb & Co, who frequently shorts financial stocks, including shares of AIG in the past. "When he was made CEO, (government officials) should have called him and said: 'You are occupying this role at our whim.'"

There's talk about the Obama administration using the one-year anniversary of the demise of Lehman Brothers to give new life to its flagging financial regulatory reform package.

That's a fine idea and one that's no doubt necessary in light of the way many on Wall Street are returning to business as usual.

But here's something else Team Obama should do: Use the anniversary of the AIG bailout to set a hard-and-fast deadline for dismantling the insurer and getting the taxpayers' money back.

Is it anybody's business how much money you make?

When it comes to Wall Street and the meltdown that whacked financial markets and emptied investors' pockets, the normal rules of etiquette don't seem to apply.

Wall Street salaries seem to be everybody's business lately. Nevertheless, the Obama administration's pay czar may try to keep a large portion of the compensation plans he is reviewing under wraps.

It's Kenneth Feinberg's job to review salaries at the biggest corporate recipients of government bailout funds.

How much of his report will become public is the multimillion dollar question.

Privacy laws and fears that highly compensated executives will become targets for an angry public argue for limiting disclosure.

"One of my clients makes $25 million a year and drives a Honda," said Steven Eckhaus, of Katten Muchin Rosenman LLP. "He tries to lead a fairly modest life and he would be horrified if what he makes appeared in the paper. Not only would his neighbors know, but his kids would know, and it would affect his ability to raise his kids. These are people, not a circus sideshow."

Congressman Alan Grayson told Reuters he is unsympathetic to that argument.

"If this is the same top talent that caused their firms to be destroyed and put the entire U.S. economy at risk, I wish they would leave the firms and leave the country," he said.

What's your view?

Should top earners keep their privacy, or does the public have a right to know? Leave your opinion in the comment section below.

More:

• U.S. pay czar says he can "claw back" exec compensation
• Wall Street ponders pay czar's move on clawbacks
• Oil trader under scrutiny for phenomenal success
• AIG chief's salary structured to reflect risk
• 'Pay Czar' Feinberg has tackled tough tasks before

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

Rising pay in the finance sector in the wake of the global financial crisis is no surprise and is driven partly by the government’s bailout itself and the underwriting of banks that are too big to fail.

News that some financial firms benefitting from government largesse actually increased the share of revenue they pay their employees sparked a lot of outrage but more heat than light.

The good news is this new bulge in pay may not be sustainable.

The bad news is it will probably only be stopped by further regulation, regulation which may never come.

To understand what is going on you need to understand the economic concept of “rents”, essentially the extra money a given individual or industry is able to extract from its clients above what it would be able to if there was perfect competition.

A monopoly will charge a very high price for goods or services because, well, they can. Needless to say economic rents are not a good thing, unless of course you are in receipt of them.

Workers in financial services have been huge beneficiaries of economic rents in recent years. They sell products which are complex and poorly understood by clients. They have been very lightly regulated, and it has been hard in many areas for start ups to compete with large firms and drive down prices.

A study by economists Thomas Philippon of New York University and Ariell Reshef of the University of Virginia found that about 30-50 percent of the extra pay bankers get as compared to similar professionals is attributable to rents. <http://people.virginia.edu/~ar7kf/papers/pr_rev15_submitted.pdf>

In other words, banking is able to overcharge its customers and bankers are able to capture a huge portion of that for themselves. Why? Because they don’t face enough competition, their products are too complex for clients to be able to understand and bargain effectively, and crucially because regulation allows for this state of affairs.

Rising complexity, in my view, has probably been fuelled at least in part because it drives margins and tilts power away from bank clients and shareholders and to employees.

“The more complicated the product the easier it is for people to hide the risks,” Reshef said in an interview.

The study shows that excess pay in banking is very closely linked to lax regulation, as opposed to higher productivity or early adoption of technology.

Relative compensation in finance in the early part of the last century peaked not in 1929 before the crash but several years later just before the more stringent regulations kicked in. Relative compensation began to climb again in the 1980s as deregulation happened and rose like a rocket since 1990.

WHAT JUST HAPPENED??

The economic crisis, far from undermining circumstances that allow for rents and excess pay, has in some ways cemented them.

One area of complexity, asset backed finance, has been eviscerated but many others still sail on relatively unaffected.

Most importantly, the doctrine of too big to fail has confirmed and reinforced the superior market position of those banks and investment banks which still survive.

The U.S. has essentially made it known that the current players will not be allowed to fail. These banks had an advantage already based on their size, that advantage is now greater and carries an implied government guarantee.

Ladies and gentleman, this is your banking recapitalization program: an unfair playing field. I might be able to swallow that as the economy needs a banking system. But, if you believe Reshef and Philippon’s data, a goodly part of the essentially unearned money that should be going to recapitalize the banks is ending up instead overpaying the bankers.

It is true that part of the reason banks are paying their best people so much is that a tectonic shift in banking will place a higher premia on the most talented. Fair enough, but only if we see a shrinking pool of compensation money being tilted towards a smaller elite.

The rise and rise of the rents extracted by bankers from the economy will only really be stopped by government intervention, since, given we have a system of bank insurance, it only really can exist with government connivance.

You could make good progress controlling excess compensation and banking rents by placing limits on size, by taxing complexity (which after all hasn’t really served us well), and by limiting the use of leverage within the parts of the system that can make a call on the taxpayer.

If you look at the Great Depression, this process will take about four years. We’ve not made a very encouraging start.

(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. )

When I was 14, Warren Buffett wrote me a letter.

It was a response to one I'd sent him, pitching an investment idea.  For a kid interested in learning stocks, Buffett was a great role model.  His investing style -- diligent security analysis, finding competent management, patience -- was immediately appealing.

Buffett was kind enough to respond to my letter, thanking me for it and inviting me to his company's annual meeting.  I was hooked.  Today, Buffett remains famous for investing The Right Way.  He even has a television cartoon in the works, which will groom the next generation of acolytes.

But it turns out much of the story is fiction.  A good chunk of his fortune is dependent on taxpayer largess. Were it not for government bailouts, for which Buffett lobbied hard, many of his company's stock holdings would have been wiped out.

Berkshire Hathaway, in which Buffett owns 27 percent, according to a recent proxy filing, has more than $26 billion invested in eight financial companies that have received bailout money.  The TARP at one point had nearly $100 billion invested in these companies and, according to new data released by Thomson Reuters, FDIC backs more than $130 billion of their debt.

To put that in perspective, 75 percent of the debt these companies have issued since late November has come with a federal guarantee. (Click chart to enlarge in new window)

Without FDIC's debt guarantee program, even impregnable Goldman would have collapsed.

And this excludes the emergency, opaque lending facilities from the Federal Reserve that also helped rescue the big banks. Without all these bailouts, the financial system would have been forced to recapitalize itself.

Banks that couldn't finance their balance sheets would have sold toxic assets at market prices, and the losses would have wiped out their shareholder's equity.  With $7 billion at stake, Buffett is one of the biggest of these shareholders.

He even traded the bailout, seeking morally hazardous profits in preferred stock and warrants of Goldman and GE because he had "confidence in Congress to do the right thing" -- to rescue shareholders in too-big-to-fail financials from the losses that were rightfully theirs to absorb.

Keeping this in mind, I was struck by Buffett's letter to Berkshire shareholders this year:

"Funders that have access to any sort of government guarantee -- banks with FDIC-insured deposits, large entities with commercial paper now backed by the Federal Reserve, and others who are using imaginative methods (or lobbying skills) to come under the government's umbrella -- have money costs that are minimal," he wrote.

"Conversely, highly-rated companies, such as Berkshire, are experiencing borrowing costs that ... are at record levels. Moreover, funds are abundant for the government-guaranteed borrower but often scarce for others, no matter how creditworthy they may be."

It takes remarkable chutzpah to lobby for bailouts, make trades seeking to profit from them, and then complain that those doing so put you at a disadvantage.

Elsewhere in his letter he laments "atrocious sales practices" in the financial industry, holding up Berkshire subsidiary Clayton Homes as a model of lending rectitude.

Conveniently, he neglects to mention Wells Fargo's toxic book of home equity loans, American Express' exploding charge-offs, GE Capital's awful balance sheet, Bank of America's disastrous acquisitions of Countrywide and Merrill Lynch, and Goldman Sachs' reckless trading practices.

And what of Moody's, the credit-rating agency that enabled lending excesses Buffett criticizes, and in which he's held a major stake for years?  Recently Berkshire cut its stake to 16 percent from 20 percent.  Publicly, however, the Oracle of Omaha has been silent.

This is remarkably incongruous for the world's most famous financial straight-shooter. Few have called him on it, though one notable exception was a good article by Charles Piller in the Sacramento Bee earlier this year.

Buffett didn't respond to my email seeking a comment.

What saddens me is that Buffett is uniquely positioned to lobby for better public policy, but he's chosen to spend his considerable political capital protecting his own holdings.

If we learn one lesson from this episode, it's that banks should carry substantially more capital than may be necessary.  You would think Buffett would agree. He has always emphasized investing with a "margin of safety" -- so why shouldn't banks lend with one?

Yet he mocked Tim Geithner's stress tests, which forced banks to replenish their capital. Why? Is it because his banks are drastically undercapitalized?  The more capital they're forced to raise, the more his stake is diluted.

He points to Wells Fargo's deposit funding model being more robust than investment banks', but that's no excuse for letting tangible equity dwindle to three percent of assets.  At that low level, the capital structure would have collapsed were it not for bailouts.

And by the way, the strength of Wells' funding model is a result of FDIC insurance, among the government subsidies Buffett complains about in this year's letter.

To me this feels like a betrayal.  There's a reason he's Warren Buffett and not, say, Carl Icahn.

As Roger Lowenstein wrote in his 1995 biography of Buffett, "Wall Street's modern financiers got rich by exploiting their control of the public's money ... Buffett shunned this game ... In effect, he rediscovered the art of pure capitalism -- a cold-blooded sport, but a fair one."

But there's nothing fair about Buffett getting a bailout, about exploiting the taxpaying public for his own gain.  The naïve 14-year-olds among us thought he was better than this.

What would Ben Graham say?

The ouster of Bank of America's chief risk officer, Amy Woods Brinkley, should not cause anyone to shed any tears.

Even though Brinkley was one of the few top female executives working on Wall Street, her departure is well deserved and has nothing to with gender inequality in the world of finance as some might suggest.

It's all about failure, and there's been plenty of that at BofA, in light of the more than $150 billion in bailout money and loan guarantees U.S. taxpayers have had to float the nation's largest bank by assets.

Presumably, Brinkley signed off on BofA's disastrous move into collateralized debt obligation underwriting on the eve of the mortgage meltdown.

A case in point is the ill-fated $4 billion CDO that the bank packaged and sold for two Bear Stearns hedge funds a month before the funds' collapse in June 2007.

BofA lost at least $2 billion and possibly more in that transaction. Brinkley will not be missed.

But replacing Brinkley with Gregory Curl, the architect of the Merrill Lynch acquisition and a crony of CEO Kenneth Lewis, is inexplicable and gives more ammunition to bank shareholders who are agitating for the ouster of Lewis.

Robert Stickler, a bank spokesman, says people are more than free to question the promotion of Curl but to refer to him as a crony or confidant of Lewis is silly.

"This just shows how much you don't know. Greg has been Mr. Outsider at the bank for years," he said.

Curl's bona fides, if that's what you want to call them, are in deal making and commercial lending. There's not a lot of experience in risk management on his resume, even though Lewis says his man is more than up to the job because of his "natural ability to look at things, see both the upside and the potential pitfalls."

It'd be nice if Lewis told us what pitfalls Curl saw in the Merrill deal.

What BofA needs now is a seasoned, objective risk management professional. Shareholders would have been better served if Lewis went outside his banking colossus to find someone who would bring a fresh perspective on risk management to BofA.

The Wall Street Journal is reporting that the Federal Deposit Insurance Corp. is pushing for a major management, a move that could put CEO Vikram Pandit's job in jeopardy. You can't quarrel with that.

But it's move like the elevation of Curl that should prompt the FDIC to do the same at BofA.

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

California’s fiscal train wreck should be watched warily by investors in U.S. Treasuries; as the start of a trend among states seeking bailouts, as a source of pressure on Federal funds and as a harbinger of hard choices at national level.

California voters last week rejected a finance bolstering proposal, setting the stage for billions of dollars worth of  cuts in services, layoffs and a shortened school year.

It also leaves the state with a budget shortfall of more than $21 billion, an exacerbated seasonal revenue shortfall and a fragile reputation in the bond market.

These are just about the last things a state needs when unemployment is high and recession is deep, but California is trapped between its own high cost base, bond investors unwilling to give it the benefit of the doubt and a Federal government that is loath to play Santa Claus. Of the three, the last is most likely to give way, and if the U.S. does widen the bailout it is already giving to states it will have potentially profound consequences.

Treasury Secretary Tim Geithner knocked back, equivocally, a request from California Treasurer Bill Lockyer to use TARP funds to backstop the issuance of bonds by California. Lockyer fears that investors and banks will impose punitive costs on new borrowings, costs that will only worsen its overall position.

Though Geithner was right to say California wouldn’t fit under the TARP, saying in essence that this was not the purpose of the vehicle, he was far from final on the whole issue.

Asked to rule out categorically a California bailout, Geithner told Congress:

“We will have to do exceptional things, as we have done already, to fix this mess … That’s not putting on the table or taking off the table any specific thing like that. But I just want you to know that there are things that we’ve had to do I would never have contemplated doing.”

Christopher Thornberg, of Los Angeles-based Beacon Economics, thinks the stakes for California and the U.S. economy will prove too high.

“I don’t think the Feds can afford to say no to California just now.”

AS THE BAILOUT ROLLS

The economic and social impact of California’s spending cuts are unpleasant. Also of concern is the health of the municipal bond market itself, the continued smooth functioning of which is systemically important and could force the government’s hand. To be clear, Californian 10-year debt is still yielding a fairly reasonable 4.4 percent, a lot higher than equivalent Treasuries at about 3.3 percent but not ruinous. There are well founded fears about what the price will be going forward.

Treasury and Federal Reserve officials are understandably reluctant; after all, look at the mortgage market which continues to be hooked up to a government sponsored ventilator. Clearly too if Federal assistance were given to help California  sell bonds, other states and localities would quickly get in line for their share.

And while California makes the headlines, the finances of other states are also dire.

Forty-seven of the 50 states face budget deficits in fiscal years 2010 and 2011 totalling a hefty $350 billion, according to the Center on Budget and Policy Priorities.

Much of that will be resolved through higher taxes and spending cuts, but a chunky part could end up being bankrolled in one way or another by the Federal coffers, which should give pause to Treasury investors already absorbing massive issuance.

California is in some ways a special case: it requires two thirds majorities to pass tax increases. But its political inability to get to grips with a set of unpleasant choices is perhaps a warning for the U.S. as a whole.

There is precious little consensus in Congress for more bailout money and even if another tranche of support for states on top of the $140 billion already offered makes economic sense, it may not be forthcoming. It’s not hard to see political paralysis in Washington if more money is needed, for whatever reason.

Secretary Geithner has been lucky or smart to the extent that markets have decided that his tools and bankroll are equal to the task as far as banks go. That consensus may or may not hold and may or may not continue to matter.

If states or municipalities mean he must go back to a refractory Congress, confidence could ebb as rapidly and dramatically as we have seen it grow.

– 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. –

– Louis E. Lataif is dean of the Boston University School of Management and a former Ford executive. The views expressed are his own. —

The federal government now wants to shore up ailing auto suppliers with a $5 billion bailout, despite a rising chorus of criticism against more government bailouts. The public is beginning to see bailouts as “transfusions,” rather than a closing of the wound, and is losing patience with them. The “wound” is falling housing values and toxic mortgage-backed securities which have paralyzed financial markets – not the auto industry.

The hastily approved $787 billion “stimulus package,” including aggressive spending programs unrelated to declining home values or the constricted capital markets, is tantamount to administering repeated, expensive blood transfusions rather than stopping the bleeding. Of course, if the blood flow at the wound eventually coagulates (one day the economy will rebound) then the transfusions can be claimed to have worked. But the delayed cure would have come at a crippling cost to the next generations of taxpayers.

Concerning help for “Detroit,” there may be no manufacturing industry more fundamental to the U.S. economy than the auto industry, accounting as it does for more than 10 percent of American jobs. Detroit is not without fault, but it has been dealt a lethal blow by the consumer credit crunch which it did not create. At a nine million-plus vehicle annual selling rate (three million below the scrappage rate), no auto company, American or foreign, can survive. But bailouts, a few billion dollars at a time, first to the auto manufacturers and now to suppliers, are both a political and business nightmare.

If the federal government is willing to spend trillions to “right the economy,” then it should reasonably serve as lender of last resort for critical industries. It should grant interest-bearing bridge loans to the ailing auto manufacturers — probably $150 billion for 18 months. The pent-up auto demand in 2010-2013 would be enormous. The companies could then be required to repay the loans with interest, making the taxpayers whole.

If these companies are “bridged” until auto demand recovers, their supply base will survive without separate bailouts. To let auto manufacturers fail, in this environment, will create untold collateral damage; the already weakened supply base, so intertwined among all the manufacturers, could shut down the entire industry. An auto bankruptcy would seriously deepen and lengthen the recession for us all.

But bailing out the industry a month or two at a time and a sector at a time is slow torture and an ineffective alternative to proper, interest-bearing bridge loans. If, in a normal economy, one or more auto companies can’t make it, so be it. But in this most abnormal economy, it would be a shame to lose the U.S. auto industry to poor, unrelated decisions made in the financial markets.

We can hope that the depressed stock markets and waning consumer confidence will re-focus Washington’s attention on collapsed housing values and constrained credit markets. We should avoid dangerously expensive transfusions unrelated to the root problem; instead we should close the wound. The normal market will then right itself. It always does.

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

Want to do well out of the rolling and ever expanding bailouts? Hold your nose, buy corporate credit and try not to read any news for the next five years.

First off, let’s get one thing clear: the prospects for companies in Europe and the U.S. are absolutely awful and many will default, quite probably more than in any post-war recession.

But company debt is being priced for Armageddon, and while things will indeed get very bad we have good reasons to believe that governments will be there directing loans into the economy, effectively socializing many of the losses investors in credit would otherwise suffer.

Britain on Monday bailed out its banks for a second time in three months, taking steps including allowing its banks to insure themselves via the government for loan losses and instituting a fund to buy up to 50 billion pounds of securities to free up credit.

Job one for the incoming Obama administration will be to devise its own plan, both for how to spend the second half of a $700 billion bailout fund and what to do about its banks.

None of this may be enough for the banks, many of whose liabilities exceed their assets, a state sometimes rudely called insolvency, and many may be nationalized before they are able to earn their ways out of their current holes.

But in some ways none of this may even matter to credit investors, and could even be construed as a positive.

It is clear that we are seeing a massive transfer of risk and of doubtful loans from the banking sector to the taxpayer and further that government will step up and lend, directly or indirectly, to businesses needing credit. The sooner this happens and the greater the scale, the more positive it is, in a broad sense, for credit.

Currently the Markit iTraxx Crossover index, made up of mostly “junk”-rated credits, is priced at just under 1000 basis points, meaning that investors wanting to insure against default over the next five years must pay 10 percent per year of the face value of the debt.

Assuming that creditors will be able to recover about 20 percent of the value of the debt from any companies that go under, that 1000 basis points implies that almost half of the companies will go under over five years.

For a similar index of higher rated credits trading at 162 basis points, and assuming a much higher 40 percent recovery rate from bankruptcies, the implication is that 13 percent default — even though 20 percent of the index are banks whose creditors will almost certainly be made whole by government.

“I would guess that if these implied default probabilities come through it’s the end of the system,” said Jochen Felsenheimer, co-head of credit at Assenagon Asset Management in Munich. “If 50 percent of all European high yield companies were to default over next five years, that’s worse than the Great Depression.”

REFINANCING AND LIQUIDITY RISK

Of course those prices are not just compensating investors for the risk of default, but for uncertainty and for a variety of liquidity risks, not least that there will be many more forced sellers of corporate credit as the system seeks to deleverage.

In other words, the price might be okay on a fundamental basis, but could go lower if hedge funds or banks need to unload their very chunky exposures in order to build capital, or as the result of a forced sale.

From that perspective, any move towards full nationalization, or the quasi-nationalization of the “bad bank” schemes being considered could help to minimize that risk.

Instruments in a “bad bank” won’t be dumped all at once and may be managed to maturity, reducing the chance that big ugly investors drive prices lower once you’ve bought in.

Similarly, the chances that otherwise healthy corporations are driven to the wall by banks without enough capital to lend is diminishing, though still high. Government is stepping in and you can bet that there will be tremendous pressure to keep viable businesses alive. Heck, some non-viable businesses will be kept upright as well, which may be lousy for the economy long-term but good for creditors.

And of course, this is what the bank bailouts and central bank interventions are intended to do — to make it attractive enough that some private capital decides to step up and take risks. Equity risk in the financial services industry, no thanks, but corporate credit risk looks reasonably good.

None of this is to say that it will be a smooth ride; we are going through a wrenching deleveraging and deep and prolonged economic decline that will doubtless take down many companies. But, compared with equities especially, it just might be worth a shot.

– 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. For previous columns by James Saft, click here. –

– Peter Morici is a professor at the University of Maryland School of Business and former chief economist at the U.S. International Trade Commission. The views expressed are his own. –

General Motors and Chrysler are on the anvil of history. United Auto Workers President Ron Gettelfinger holds the hammer and will determine whether they emerge more competitive or shattered in pieces and sold to foreign investors.

In December, George W. Bush granted $17.4 billion in temporary loans on the condition those firms convert two-thirds of their debt into equity. Another condition was to persuade the UAW to accept stock for one half of what these companies owe to fund retiree health care and align wages, benefits and work rules with those of the Japanese automakers operating in the United States.

GM and Chrysler must complete these negotiations by March 31 or repay the money and face bankruptcy.

At U.S.-based Toyota factories, workers receive about $25 dollars an hour and good health care benefits. But they don’t retire at 50 after 30 years or get as much time off and huge severance packages. Toyota does not endure the medieval work rules and job classifications imposed by UAW contracts.

Most other Americans would be happy to get Toyota pay, benefits and working conditions. If Gettelfinger continues stubborn resistance to a better package than most Americans enjoy, then Detroit automakers will continue to require government subsidies or not have enough profits to invest and compete in hybrid and other new technologies that will transform personal transportation over the next decade.

Eventually, Washington will tire of their begging, they will march through bankruptcy, and their factories will be sold off to Japanese, Korean, European and Chinese automakers.

If Gettelfinger takes the Toyota package, then Washington should take a hard look at policies that can promote U.S. automaking as effectively as do industrial policies abroad.

This would include addressing undervalued currencies in Asia — currencies kept cheap in foreign exchange markets by government intervention in Japan, China and elsewhere.

Over the last two decades, Japan has kept the yen at least 30 percent undervalued against the dollar, and this provided Toyota with an average subsidy of at least $2,000 on every car it sold in the United States.

Through 2004, the Bank of Japan directly purchased dollars in currency markets to keep the yen undervalued, and since, it accomplished the same by keeping Japanese interest rates very low. This encouraged the so-called “carry trade,” where private investors borrow yen, use those to purchase dollars and then invest in short-term U.S. securities to exploit higher U.S. interest rates.

Now, the Federal Reserve has dramatically reduced U.S. interest rates, and the yen has risen closer to its true market value against the dollar. Japanese officials appear poised to again intervene directly in currency markets to restore Toyota’s unfair advantage, and Washington should take whatever steps are necessary to head off such Japanese protectionism.

In addition, Washington should take assertive steps to encourage production of fuel-efficient vehicles in the U.S. and create a strong export industry.

Washington could offer incentives to car buyers to trade in gas guzzlers for more fuel-efficient vehicles — the newer and the bigger the clunker and the more fuel-efficient the replacement, the more dollars the car buyer would receive if the guzzler is destroyed. This would raise the price carmakers receive from selling more fuel-efficient vehicles and boost car sales.

Washington could provide substantial product development assistance to U.S.-based automakers and suppliers. The latter include Toyota, Nissan and Honda, as well as the Detroit Three, battery makers and other suppliers to accelerate the production of innovative, high-mileage cars.

The condition for assistance would be that beneficiaries do their R&D and first large production runs in the United States, and share their patents at a reasonable cost with other companies manufacturing in the United States. The huge U.S. market would help attract producers from around the world and rejuvenate the U.S. auto supply chain.

Such smart industrial policies would contribute to national efforts to reduce CO2 emissions and reduce oil imports.

Finally, individual Americans should open their minds. Many are considering trading in trucks and SUVs for sedans and are naturally attracted to the Toyota Camry and similar import brands. Visit a Ford or Chevy showroom and test drive a Fusion or Malibu and be pleasantly surprised. Those are high-quality, affordable and reliable vehicles.

Washington is giving Detroit a second chance, and Americans should give its cars a second look.