The Price of the King's Shilling

By Megan McArdle

Apparently, the $34 billion figure is good news because BAC has all those preferreds at Treasury that can be converted to common stock, leaving Treasury with $34 billion of common and $11 billion of preferreds.  But Joe Weisenthal asks a good question:



If this is how the conversion goes, and the bank does pay off the remaining $11 billion over the next year or so, are they considered to have repayed TARP? How does a bank that's taken the conversion ever actually repay the TARP?

This is troubling, because it's now clear that the worry many of us had at the time of the bank bailouts has come true:  the government is using its intervention in the banking system to pressure banks to give special deals to the government's special friends.

(The government is apparently still taking the line that they are only intervening because the automakers are splendid, robust companies that got caught in a "perfect storm".  If so, Chrysler must be stuck in the Bermuda Triangle, because owners have been playing "hot potato" with its dying brands for most of the last decade.)

Countries that use their banking systems this way don't get good results.  If you're a fairly uncorrupt developed country, you get slower growth and bloated "critical" sectors that are usually more critical in providing campaign support, lavishly remunerated make-work jobs, and photo ops, than any products the public actually wants.  Then, if something like Japan happens, you have a twenty-year "lost decade" while everyone pretends as hard as hard can be that everything is all right, in the sincere but misguided believe that wishing hard enough will make it so.

If you are a badly managed country, you end up like much of Latin America or Africa, with a dysfunctional economy that booms only along with the price of some commodity you happen to produce.

We are hardly Zimbabwe, or even Venezuela.  But if we keep using TARP to create a sort of "Most Favored Borrower" status, we'll erode the safeguards that keep election to office in America from being the kind of giant spoils system that's common in much of the world.  What the bankruptcy judge did was entirely right and proper--it's his job to allocate losses among creditors.  And it's always true that some of the credtiors won't like the deal they get.  On the other hand, what the administration did really wasn't.  It got its pet majority stakeholders to screw both their own shareholders, and the other creditors, in order to give a powerful union a sweetheart deal. 

When the government gives money to favored constituencies--well, I don't like it, but as PJ O'Rourke says, that's basically what our government does.  "It ought to be right there in the constitution:  'We the People, in order to form a more perfect union, establish justice, insure domestic tranquility, provide for the common defense, promote the general welfare, and give money to jerks . . . ' "  But when it starts stepping in and trying to bypass the bankruptcy rules in order to make someone else give money to jerks, that's different in magnitude, and in kind. 

What particularly worries me is that it seems so unnecessary.  I heard repeatedly from progressives, in the run-up to the bankruptcy case, that the holdouts were unreasonably holding out for a trivial improvement--about 500 million dollars.  But if it was so trivial, why didn't the government just put the extra money in, rather than jeopardizing the credibility of the banking system--and the creditworthiness of a large swathe of unionized firms?  $500 million is about the price of one cup of coffee per American, a trivial sum relative to the overall budget.  This move has shown potential partners that government funds are dangerous, and potential lenders that union firms are risky bets; both have probably cost American citizens more than they saved.  So why did the government risk so much for so little gain?

You know the answer, don't you?  Because they're planning to do it again.

This article available online at:

http://www.theatlantic.com/business/archive/2009/05/the-price-of-the-kings-shilling/17210/