Spero Consulting

Archive for November 23rd, 2008

Update: Well this post is already obso­lete, but we stand by our crit­i­cism. We tax pay­ers should not sub­si­dize Cit­i­group shareholders.

Tonight (Novem­ber 23), The Wall Street Jour­nal reports in Bailout Talks Accel­er­ate for Ail­ing Cit­i­group that the gov­ern­ment is nego­ti­at­ing to be the resid­ual claimant of a sep­a­rate entity that would house Citigroup’s worst assets and deriv­a­tive bets.

Cit­i­group could lose up to $50,000,000,000, and then the gov­ern­ment would absorb the losses. It is kind of like buy­ing flood or hur­ri­cane insur­ance after the flood or hur­ri­cane. (Seems kind of silly and like a mas­sive sub­si­diza­tion of a lot of bad decisions.)

If that’s the case, wouldn’t that guar­an­tee make tax pay­ers the resid­ual claimants of the entire entity?

Let’s rephrase our ques­tion in another way: in nego­ti­a­tions between (1) inter­ested and profit-​motivated Cit­i­group bankers and (2) less inter­ested gov­ern­ment appointees and fed­eral civil ser­vants with no claims on the assets, does the reader believe the expected losses – or, pos­si­bly the privately-​known, undocumented, extant losses– will be greater or less than $50,000,000,000?

So, shouldn’t the tax pay­ers own the entire entity?

Unfor­tu­nately, it’s not clear whether the gov­ern­ment will get any equity share of the “good” bank.

Now the reader might argue that it would be dif­fi­cult to lose $50,000,000,000 on $2,000,000,000,000 (that’s tril­lion) of assets; so, there’s really not much sub­si­dizin’ goin’ on.

First, if that were the case, then there really wouldn’t be any need for a sub­sidy would there?

Sec­ond, it turns out that the $2,000,000,000,000 is a bit on the low side. Cit­i­group has more than $3,000,000,000,000 of assets when its off-​balance sheet assets are included.

By the way, that increase of a $1,000,000,000,000? The arti­cle men­tions that $667,000,000 of it are in mortgage-​related secu­ri­ties. (They’re prob­a­bly of the high­est cal­iber because, you know, every­one tries to hide their most valu­able assets in off-​balance sheet accounts.)

We love the sen­tence: “Cit­i­group has tried repeat­edly to rid itself of its expo­sure to those assets.” Do ya think?

We start­ing a new con­ven­tion of writ­ing all the trail­ing zeroes. We think it com­mu­ni­cates the size of the stakes more clearly. Things like three-​digit “bil­lions” and one-​digit “tril­lions” are so abstract, but nine or twelve zeroes mean some­thing. We do wish that the bureau­crats within the gov­ern­ment and with firms would start­ing fol­low­ing suit.

As we wrote on Fri­day, if US tax pay­ers are sup­posed to cover the down­side, they should get the upside, too. This isn’t like deposit insur­ance, where there was a prior con­tract and exchange of pre­mi­ums for pro­tec­tion. This is the sub­si­diza­tion of mistakes.

Guar­an­tee­ing the bad bank is bad indus­trial pol­icy, and it would accel­er­ate mas­sive merg­ers (in attempts to become too big too fail) and exac­er­bate moral haz­ard as there would be no down­side to failure.

We say: Nation­al­ize Citi. Wipe out the own­er­ship inter­est of all exist­ing share­hold­ers, except non-​executive employ­ees with restricted stock, and let them retain the same own­er­ship inter­est in a new entity when it is privatized.

Do it as a les­son to other banks to find cre­ative ways to improve the cred­it­wor­thi­ness of their indi­vid­ual insti­tu­tions. That’s prefer­able to pledg­ing much of our nation’s cur­rent and future wealth to a small sub­set of its cit­i­zens, who hap­pened to own bank stocks in 2008.

With­out try­ing to be melo­dra­matic, we ask: who’s chil­dren and grand­chil­dren should pay for and sub­si­dize Citi’s errors?