Monday, January 4, 2010

Too-Big-To-Fail and Psuedo-Government Agencies: Do You Wind Them Up or Wind Them Down?

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It's hard for me not to have some burst blood vessels when stupid actions by people that cause a lot of damage go unpunished.

Socially, I'd say the job is pretty much done. If you were calling the shots at any of the really government entrenched companies (Fannie Mae, Freddie Mac, GMAC, GM, AIG, etc.) or the meh-government entrenched companies (big banks like BofA, Citigroup, and then to a lesser degree any of the other institutions receiving TARP), you probably don't talk about your job history much outside of the house. Whether it be for fear the Barista at Starbucks might not secure the lid on your coffee as she hands it to you (read: throws) or that the townspeople might burn you in effigy in front of your house a lá the KKK, I feel that socially and culturally a lot of decision makers have likely suffered their backlash.

But I feel like there's an "eye-for-an-eye" principle, where if you lose money, you want the person that lost that money for you to lose more. This is more of a gut instinct than a rational, thoughtful consideration. With the financial system, where everyone is fishing from the same lake, it's hard to tell who might have polluted the lake with sketchy fishing tactics, and who is a victim of the polluted lake now and didn't really cause it. Nancy Pelosi would probably say all the major actors (read: banker fat cats) were responsible. I think the right answer is more nuanced (sweeping generalizations, while helpful for making quick decisions like who to get behind in line, rarely work on the national policy level).

When it comes to GMAC, Freddie and Fannie, all recent newsmakers for their profit making difficulties, it's hard not to get upset about the situation that got them to where they are: sucking at the teet of the Federal government. Fannie and Freddie: ok, having the essential guarantee that they would never go under probably led to some moral hazard. My question is whether making this at one point implicit guarantee explicit, along with the commitment to offer unlimited assistance for the next three years, is actually making things any better. Did GMAC need their recent $3.8 billion infusion? Yes. But did the United States need GMAC to receive that $3.8 billion infusion? That's a really difficult question.

Which of the governmentally held companies offer hope at one day/soon making a profit and being resold, and which need to be broken down and the pieces sold off? I might stick AIG and GM in the "hope" category, and GMAC, Fannie and Freddie in the "no hope" section. I think a lot of the changes that have been happening at GM have been very positive, and AIG, presuming it serves more to be a holding company of subsidiaries whose names don't ring of "AIG", is on the right-ish path as well.

But do you give GMAC the ability to go on making new loans when they've established a track record of being terrible at it? I don't think so. I would say you service the loans you've already made, do your best to salvage what you have on your balance sheet, sell off the chunks that people want (Warren Buffet spoke of acquiring a part of ResCap, GMAC's real estate lending division), and then wind it down. Otherwise, my concern is that congressmen, stuck with this black hole, look at it and say: "well, let's promote lending for the common good so I can get something out of it". This would probably be loans to people in serious need at below market levels and people that typically do not fall under the umbrella of "credit worthy".

There is a huge threat that this will happen at Fannie and Freddie, who basically make the mortgage market work. I see the value in Fannie and Freddie underwriting a lot of the mortgages out there, but not if it's in a way that's negative NPV. With governmental agencies, in perpetuity I would see it being very difficult for them to be profit making as they become a more established part of the bureaucracy. For this reason, I think the government and the Treasury Department need to look at their portfolio and say "wind up" or "wind down". Not all bailout companies should be treated equally, since they don't all equally have shots at being profitable. The status quo doesn't work. If it continues, these companies will simply become a part of the sausage making process.

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