‘Bailout’ Rant

September 26, 2008 § 14 Comments

It is the height of foolishness to take the line that debt per se is bad. It all depends on why you take on the debt and what is done with the money. Most of the things government does with money are foolish, so most of what constitutes the national debt is bad. Buying up all this distressed illiquid paper is one of the few things which are very much not foolish, for a whole host of reasons. Main Street populism seems determined to commit financial suicide here in the name of self-righteous dudgeon.

If Bill Gross (and the investment bankers I’ve spoken to) are right, the federal government will probably earn 15% or so by holding the distressed paper it is proposing to buy, at a steep discount to book, under the plan. The underlying property is still there: real houses, real buildings, real land. This is not like a company, where the entire income stream can go away in a heartbeat because of some unexpected move by a competitor. The underlying assets here are real, tangible property.

So the government will borrow at 3.5%, and earn 15%. Discounting dramatically for illiquidity, if the scenario is right, it is still likely to earn quite a substantial amount of money for taxpayers.

Let me repeat that:

The ‘bailout’ will not cost taxpayers a dime. Not a penny. Not a nickel. It will earn them a substantial amount of money.

There are risks, of course, as there are in any investment in what amounts to a large global macro hedge fund. Those risks are relatively small, and the consequences of permitting bank lockout, money market catastrophe, etc to happen are not relatively small.

This is like co-signing on a loan to buy a profitable but hard to sell investment – a profitable investment which, if it is not bought, will result in you losing your job.

The way main street populists are looking at this is just stupid, stupid, stupid, stupid, stupid. And self destructive. And stupid.

And by the way, if you read Belloc’s essay on usury, you’ll see that this isn’t some post-capitalist libertarian or socialist nuttery on my part. Lending and borrowing money for productive purposes is not bad, and failing to do it when circumstances call for it can be really, really, really dumb. Borrowing money for optional consumption, to enable bad behavior, etc, not so good. Debt in itself, paying interest on loans in itself, is neither inherently bad nor inherently good.

Would you borrow money to have your appendix out so you can go back to work? Would you borrow money to have your appendix out if your appendix contained a diamond that you could sell for more than the cost of the operation, though it might take you some time to sell it? Or would you rather die of a ruptured appendix, because debt per se is bad, even when you stand to both preserve your income and make a profit?

Since when did we become the financial equivalent of Christian Scientists?

(Note: this rant was originally a couple of comments in this thread).


§ 14 Responses to ‘Bailout’ Rant

  • Kevin says:

    I think the bailout is more or less the right thing to do, but its silly to suggest that it will be profitable.If they are willing to sell the things for less than what they are worth, where are the bright private investors? Why should the taxpayer need to be the one to buy them if they are such a good deal?

  • zippy says:

    <>If they are willing to sell the things for less than what they are worth, where are the bright private investors? Why should the taxpayer need to be the one to buy them if they are such a good deal?<>It has to be someone large enough to make a market. This is classic: a huge fund buys out distressed assets because it can; a smaller fund would not be able to make it happen. The scale of this deal is such that it won’t happen without hundreds of billions of dollars, which is beyond the scale attainable by private equity. But you can bet that if the deal were structured in a way friendly to side-by-side investment – it probably won’t be, because politicians and, frankly, a great many of the people they serve are morons – then you <>will<> see side-by-side money in it.Do you think Bill Gross’s offer to help manage it for no fees at all is pure altruism? It might be, I suppose — I don’t know Bill. But often finance geeks help each other out as a way of getting some skin in the game.

  • Anonymous says:

    You might want to read Ben Stein’s column about credit default swaps:http://finance.yahoo.com/expert/article/yourlife/109609His point is that the actual amount of mortgage defaults was manageable, but that the amount of credit default insurance is not.I don’t know if this is true or not, but if so; it would seem that the government could just step in and guarantee individual mortgages against default rather than buying all the mortgages.

  • Kevin says:

    Is there a reason why they couldn’t just break it up into little pieces? Or sell shares of ownership in the whole?

  • zippy says:

    That might be possible once the thing is well and truly established. There are a lot of <>political<> issues that make it unlikely, in my view, but it isn’t impossible in principle.

  • Anonymous says:

    The Blackadder Says: The government might be able to make a nice profit off the Paulson plan if they were going to drive a hard bargain when buying up distressed assets. But they aren’t going to do that. The bailout won’t cost $700 billion dollars, but I doubt it will be a net gain for the Treasury either.

  • Anonymous says:

    The Blackadder Says: By the way, have you seen Mark Shea’s latest Inside Catholic article on the subject? Do you think it would be possible for you to straighten him out?

  • zippy says:

    That perfectly well may be true. Just about anything can be screwed up deliberately by the principals.I haven’t read Mark’s article. I find it a little amusing that I might be called on to ‘straighten him out’ though.

  • Anonymous says:

    The Blackadder Says: Amusing. Certainly.

  • Darwin says:

    I think Zippy nails it.And I find myself similarly frustrated with the populist posturing on this. CNN was running a “What would you do with $700B” video blog contest on their front page yesterday — what a sorry excuse for pushing populist nonesense rather than trying to explain the topic in laymens terms to people. As for whether we’d overpay on the securities — I guess it remains to be seen. One can never put it past the government to screw things up — but it is at least encouraging that a good hard bargain was driven in helping AIG. If things are continued in that spirit, I suspect we’d do all right.

  • Anonymous says:

    The Blackadder Says: Look, it’s not like Paulson is going to try and buy assets for as low a price as possible and just screw up. The whole point of the thing, from his perspective, is to pay above current market prices. Hence all the talk about how to determine “hold-to-maturity” prices, etc.

  • zippy says:

    <>Hence all the talk about how to determine “hold-to-maturity” prices, etc.<>And are you denying that there is any such thing as a hold-to-maturity price?Look, if I actually had $700 billion in my pocket, so I knew I could ‘make the market”, I’d probably be quietly accumulating these on the open market for a while, get to know them intimately in a bunch of transactions, and then strike when I thought I could get the best price, buying up a huge traunch in a surprise move. (The lawyers would have to clear the strategy first — bloody bloodsuckers). Obviously the government isn’t going to do that, because the point to the whole exercise is to keep the economy from tanking not to make money on this like a hedge fund. But that doesn’t mean that the government isn’t going to make money on it like a hedge fund. The basic numbers look pretty good, using Bill Gross’s very, very conservative assumptions.

  • Anonymous says:

    Part of the perception problem is referring to it as a bailout – why don’t they call it a buyout, which seems to be a more accurate description?c matt

  • zippy says:

    The initial idea was an elegant financial remedy thought up by a brilliant investment banker to address the root cause of the credit system problem with his fiduciary duty to taxpayers central in his mind. More time with the politicians means:1) More pork2) More damage to the credit system, and as a result to the core economy which depends upon it3) More uncertainty and confusion4) Greater ultimate cost to the taxpayer5) Less effectivenessI’m probably leaving some things out. Most of these are the result of good intentions; and a perfectly warranted lack of trust on the part of a populace, and lawmakers for that matter, incapable of immediately grasping both the enormity and the technical aspects of the problem. An ugly cocktail of factors indeed.

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