US government should give markets a free hand
While the billions doled out in stimulus packages did save companies, this goes against the maxim of free market economics
The US’s free markets are being distorted by the government, which is riding roughshod over investors. That is the charge.
The exhibits are AIG, Chrysler, Fannie Mae and Freddie Mac; to which the prosecution might add General Electric, where new evidence has come to light.
It is not as simple as the critics say, of course, but it is true that we have lived through an extraordinary chapter of government intervention in markets. It occurred usually with the best of intentions, usually — but perhaps not always — followed the law, and certainly had a massive impact that will be felt for years to come.
Hank Greenberg was in court for the final arguments in the case that argues he, as the former chairman and largest shareholder of AIG, was unfairly punished when the government saved the ailing insurance company in exchange for a 92 per cent stake. Legal experts predicted he may even win and analysts have warned the insurer’s stock could fall if current shareholders have to compensate him.
As with other similar cases, the complaints that equity holders were diluted severely and unfairly are not immediately sympathetic. AIG was heading for bankruptcy because of its disastrous underwriting of insurance on financial instruments when the Federal Reserve stepped in with a $182 billion bailout. The government took a large stake in return for the rescue financing.
There is precedent for it having the right to do so. If the judge in Greenberg’s suit rules otherwise, the government will appeal. Even if the court finds in Greenberg’s favour it will decide what compensation the shareholders are owed — it is hard to see the answer being anything other than zero for a company that had racked up $18 billion in losses over three quarters and whose stock had fallen 80 per cent in 2008 before the rescue in September that year.
Chrysler, according to many on Wall Street, is the Obama administration’s original sin. It overrode the established order of creditors in the way it prioritised the White House’s union chums over bondholders. Along the way, the president himself had chastised recalcitrant hedge fund creditors as unprincipled “speculators”.
But restructuring lawyers say there was nothing untoward in the way the government — as the only supplier of bankruptcy financing for the ailing carmaker — negotiated the deal, which was blessed by a judge. Even the reddest-fanged capitalist cuts deals with workers because they tend to be better than bondholders at building cars. So is the offence really just that the president said mean things?
Fannie Mae and Freddie Mac is a tougher case for the government. In 2012, the Obama administration, without warning, changed the terms of the 2008 rescue to “sweep” profits into the public purse, hurting long-suffering shareholders.
Admittedly, those shareholders had for years reaped the benefits of a dubiously-constructed scheme underpinned by implicit government guarantees. But it is hard to argue that the midnight machinations of the Treasury were beyond reproach.
The government could have opted to restructure the companies properly and wipe out the shareholders, but that would have risked consolidating $5 trillion of debt on the government balance sheet. It came up with an artful bit of financial engineering; it is not clear that it was totally above board.
Final exhibit
The final exhibit is General Electric where the government’s involvement is more insidious. There was no seizure of equity, presidential press conference or investor lawsuit but there were $130 billion of loan guarantees as the government saved GE Capital.
The heavy hand of the government has been distorting GE ever since. To escape a new regime of government oversight, GE has announced it will sell the majority of GE Capital. Investors responded by sending the stock up 10 per cent in one session.
Unsurprisingly, this time you did not hear much moaning. It was all about how the threat of government supervision encouraged GE into a move that is good for shareholders and good for the financial system.
A large shadow bank is disappearing. But GE Capital is just as much a story of the power of government than the previous examples and it is not necessarily all for the good.
Those assets will go somewhere — to Wells Fargo, for example, making a large bank larger — or to other smaller shadow banks run by unregulated funds such as Blackstone or Apollo.
There will be one fewer provider of credit. And never mind the fact that 40,000 jobs are at stake. In the first part of the clearance sale, Blackstone and Wells Fargo bought a lot of assets but not a lot of people. Others will fear for their jobs, forgotten in the hoopla surrounding the latest government-provoked dismemberment.