What's Good for Citi - And What's Good for America

I've just listened to NPR's recent interview of Timothy Geithner. Adam Davidson did a great job of trying to get answers from Mr. Geithner. I felt sorry, at a personal level, for our Treasury Secretary, a very smart man imprisoned in a series of talking points, desperately afraid of the consequences of holding an honest conversation.

As an aside, we've come to take it for granted that policymakers ought to be circumspect for fear of provoking traumatic moves in the markets. But isn't that dumb? Markets are supposed to be about aggregating and revealing information. In what sense is it "more responsible" to hide information or ideas so that markets do not move on them? And if markets do misbehave so wildly that public officials can no longer afford to be candid because of market consequences, does that suggest an incompatibility between the kind of financial markets we have and open democracy?

Anyway. Taking for granted the constraints of the interview, what struck me most was Geithner's repeated conflation of our "financial system" and our "institutions". Mr. Geither's unspoken assumption is that fixing our financial system implies ensuring that incumbent troubled financial institutions are "strong". But that's not right. Our financial system is composed, in part, of financial institutions, but it is supposed to be larger and more robust than any specific firm. Three years ago, Mr. Geithner would have readily conceded that financial institutions are supposed to come and go, rise and fall, succeed and fail as a matter of market discipline, and that our system is made stronger by that flow of creation and destruction than it would be if some state-managed cadre of crucial banks were at its core. Of course, we all knew three years ago that some institutions had become "too big/complex/interlinked to fail", but we viewed that as unfortunate, and would have foreseen that if any of those banks got badly into trouble, the government would be forced to intervene and resolve the bank at some taxpayer cost, as it had in the case of earlier TBTF banks. Three years ago, no one would have suggested that the strength of our financial system and the strength of Citibank (C) are inseparable.

We should not let this verbal slip go unchecked. The idea that certain large, politically connected private firms are essential to commonweal and must be supported at all costs by the state is quite the essence of "Mussolini-style Corporatism". Fixing our financial system is not the same as rescuing any one or several financial institutions. Household names can, do and should come and go in a capitalist economy, and it's pretty clear that quite a few familiar financials have failed the market test. What's good for Citibank is not what's good for America.

Did you catch this bit from Warren Buffett's letter?

Funders that have access to any sort of government guarantee – banks with FDIC-insured deposits, large entities with commercial paper now backed by the Federal Reserve, and others who are using imaginative methods (or lobbying skills) to come under the government’s umbrella – have money costs that are minimal. Conversely, highly-rated companies, such as Berkshire (BRK.A), are experiencing borrowing costs that, in relation to Treasury rates, are at record levels. Moreover, funds are abundant for the government-guaranteed borrower but often scarce for others, no matter how creditworthy they may be.

This unprecedented “spread” in the cost of money makes it unprofitable for any lender who doesn’t enjoy government-guaranteed funds to go up against those with a favored status. Government is determining the “haves” and “have-nots.” That is why companies are rushing to convert to bank holding companies, not a course feasible for Berkshire.

Though Berkshire’s credit is pristine – we are one of only seven AAA corporations in the country – our cost of borrowing is now far higher than competitors with shaky balance sheets but government backing. At the moment, it is much better to be a financial cripple with a government guarantee than a Gibraltar without one.

"Lemon socialism" has costs beyond the direct cost to taxpayers of socializing losses. It prevents assets from being shifted from inefficient to efficient firms, and penalizes healthy, well-managed companies by forcing them to compete against subsidized competitors. I don't see how preventing healthy good banks from harvesting the organs of our megabanks "strengthens our financial system".

I think it's time to move beyond the nationalization / preprivatization debate and start talking about how to replace rather than reorganize failing firms. That doesn't mean that we would shutter all of Citi's branches. It implies having troubled banks continue to operate in a kind of run-off mode (something like Arnold Kling's #2) while the government backstops some obligations and seeks buyers for the bank's assets, operating as well as financial. In other words, it's time to move beyond nationalization and talk about state-managed liquidation.

I look forward to an America with a strong financial system. I think that's more likely in a world where Citi's logo goes all retro chic like Pan Am. Frankly, I think that's all the (non-negative) "franchise value" that's left in Citi, and several of its peers.

Comments

[tedstr:]

OK. So I get that you and Buffet don't like the fact that someone else can get money cheaper than you can. That alone is not a good reason to not save these institutions.

Mar 02 07:09 AM

[Speedspirit:]

The comments by Buffet ring the loudest. That the Government ( Greenspan, Bernake,Geithner connection) are making promises to their long time friends. The @#!* continues even under poor Obama. Geithner will need to change his belief system if he is to talk the truth freely to the public. He has been telling lies for so long he forgets which is which. We the people are being set up. Time to take to the streets while there is some value worth fighting for. Sitting back and taking it on the chin is admirable but guys like Buffet are telling us this is wrong.

Mar 02 07:41 AM

[Hedge Fund ...:]

In a pure, free-market system, I would agree with the points outlined above. But the reality is that the United States is not purely free market. There are times in history, and there will be times in the future, where the gov't will have to intervene to support private enterprise during a crisis of confidence.

Do I (or any other ardent investor in the markets) like this? Well no. And yes. I realize this sounds tongue-in-cheek, but we are in a time where it practicality needs to triumph ideology. As painful as it is for me to admit, I believe the same applies to economics as it does politics.

The gov't intervention is not save shareholders or creditors, it is to save depositors and all the counterparties that would be adversely impacted by a liquidation of Citi. Many argue that the Chapter 11 filing of Lehman Brothers pushed the global economy into further weakness. Maybe it did, maybe it didn't -- but a failure of Citi would have far and wide reaching repercussions that would dwarf any impact Lehman has had on the global financial system.

I clearly don't like where we are in this nation's banking system, but it does seem to function during non-turbulent times. The problems arose from risk management (or lack of) and easy liquidity. Few, if any, foresaw what a reversal in global liquidity would do the global economy.

Now there will some that will have to pay for this. Berkshire, with its stellar and pristine balance sheet (relatively), is paying a price from a Firm (or "Enterprise") perspective, but I'm quite confident its shareholders are happier vs. Citi's shareholders. This is the equity mindset. This is where the highest risk should be.

The gov't backstop of the nation's largest banks arguably removes risk from depositors and creditors. Some of this creditors (likely the most junior) are going to benefit from this, but in the end, this is chump change compared to the value destruction seen in the sector overall.

So yes, it is not fun to be Berkshire right now competing with Citi when it comes to funding costs. But this is not for the benefit of Citi's shareholders. Clearly. A stock price chart would tell anyone that. The moves that are made by the gov't are for all Americans interests, as well as those beyond these borders.

One thing I can say, with some level of certainty, is that if Citi filed for Chapter 11, or was rushed through some liquidation process, Berkshire's stock price probably would trade down further. That's simply lose/lose. Who wants that?

The moves made by the gov't are currently the decisions they feel to be the best given the current situation. And as far as I can tell, they seem to be reasonable and sound. And they are looking to stem the loss of confidence in this nation's banking system. That, my friend, has value that isn't measured in any one company's stock price alone.

Mar 02 07:53 AM

[Scott Dunn:]

This is why it is so important to end the conservative nanny state. A true conservative would never support such support of failing private institutions.

Mar 02 07:55 AM

[Harry Tuttle:]

Geithner is just the wrong man for the job. He cannot even begin to consider a financial system without Citibank. On the other hand, people like Meredith Whitney have been correctly predicting Citi's problems for a long time, so it is NOT a matter of having the correct numbers.

The only reason why Citi has not been taken over by the government FDIC-style (deposits+senior debt) is Citi's lobby. After all, Rubin was there for many years and half of Obama's financial people were in the Clinton administration.

Unfortunately, nothing is free in the markets. There WILL be a price to pay for this inconsistency.

Mar 02 07:58 AM

[D_Virginia:]

On Mar 02 07:15 AM ED K wrote:
> What ever happened to the "FREE MARKET SYSTEM"??????

Um...it screwed up, and screwed up big. Haven't you been watching the news?

A pure free market is unsustainable. You can't just have people doing whatever the hell they want based on their own self interest. This market made a few people a boat load of money at the expense of a TON of other people, which, as we are now painfully witnessing, is unsustainable, and has dire consequences.

This country (heck, the world) learned this lesson with regard to monopolies, and now it's learning it again with regard to "too free" markets.

It's nice to uphold the principle, but at some point you have to be pragmatic, especially if you're the government and it's your job to see to the well-being of the public.

Mar 02 08:20 AM

[Nik Kondrat...:]

I agree with your argument and think you make a series of excellent points. There are social and other opportunity costs associated with government backing enterprises like Citi. The real problem is trying to quantify those costs, especially when you consider the global political reach of Citi. I think it's clear Citi cannot survive in its current form and cannot continue without a Fed backstop. And though I think institutions must be allowed to fail, the situation with Citi is so complex it's mindboggling that to just let it fail would cause "collateral damage" throughout the world. This is where geopolitical entanglements trump free market economics. If Citi goes the route of Lehman, you have over $2 trillion in sovereign wealth funds that disappear. Do you think our friends in Asia, ME, and EU will not hold the US Gov responsible if we allow Citi to crumble under its own weight?

So, unfortunately we have to artificially prop up a dead bank. Just add it to the tab for the GWOT.

Mar 02 08:56 AM

[JohnAl:]

D_Virginia, the free market screwed up?

That's ridiculous. We don't have a free market, haven't had one for decades (centuries?) We have a centrally planned monetary system, a fractional reserve banking system that wouldn't exist were it not for government backed FDIC insurance, regulation out the wazoo, and GSEs loaning and backing billions of dollars worth of mortgages to people who wouldn't get the time of day from a free market lender.

You and others who blame this mess on the free market are exactly 180 degrees wrong.

What we are experiencing is the failure of government interventions into the free market.

Mar 02 09:05 AM

[boats.j:]

New Stock Market Terms

CEO- Chief Embezzlement Officer

CFO- Corporate Fraud Officer

BULL MARKET - A random market movement causing an investor to mistake
himself for a financial genius

BEAR MARKET - A 6 to 18 month period when the kids get no allowance, the
wife gets no jewelry, and the husband gets no sex.

VALUE INVESTING - The art of buying low and selling lower.

P/E RATIO - The percentage of investors wetting their pants as the market
keeps crashing.

BROKER - What my financial planner has made me.

STANDARD & POOR - Your life in a nutshell.

STOCK ANALYST - Idiot who just downgraded your stock.

STOCK SPLIT - When your ex-wife and her lawyer split your assets equally
between themselves.

MARKET CORRECTION - The day after you buy stocks.

CASH FLOW - The movement your money makes as it disappears down the toilet.

YAHOO - What you yell after selling it to some poor sucker for $240 per
share.

WINDOWS - What you jump out of when you're the sucker who bought Yahoo at
$240 per share.

INSTITUTIONAL INVESTOR - Past year investor who's now locked up in a
nuthouse.

PROFIT - An archaic word no longer in use.


If you had purchased $1000 of shares in Delta Airlines one year ago, you
will have $49.00 today.
If you had purchased $1000 of shares in AIG one year ago, you will have
$33.00 today.
If you had purchased $1000 of shares in Lehman Brothers one year ago, you
will have $0.00 today.

But---- if you had purchased $1000 worth of beer one year ago, drank all
the beer, then turned in
the aluminum cans for recycling refund, you will have received $214.00.

Based on the above, the best current investment plan is to drink heavily &
recycle.
It's called the 401-Keg.

Mar 02 09:09 AM

[pacman1947:]

While waiting for a show at the Kennedy Center here in Washington, I remarked to my wife that nearly half of the corporate contributors to the construction of the Center no longer existed, like Pan Am, Eastern, Phelps Dodge, and so many others that once were household names. They each failed for reasons related to inability to adapt to capitalism. They were not fit to survive.

Citi and AIG have reached that moment in time where fitness to survive, the Darwinian Criterion, becomes the test. Will we fail if they fail? I looked at that wall at the Kennedy Center, and other than a pain of nostalgia for the Wings of Eastern or the pretty stewardesses on Pan Am flights, I felt nothing.

Maybe we should just let capitalism do its job.

Mar 02 09:09 AM

[Mad Hedge F...:]

xx c Citigroup (C) is now so cheap at $1.40 that you could launch a hostile takeover with your American Express card. It really had the flavor of a “throw up your hands and sell everything” day.

Mar 02 09:20 AM

[boats.j:]

Wait 12 minutes if you think that was bad! Opening under 7000 and heading DOWN!


On Mar 02 09:20 AM The Mad Hedge Fund Trader wrote:

> xx c Citigroup (seekingalpha.com/symbo...) is now so cheap
> at $1.40 that you could launch a hostile takeover with your American
> Express card. It really had the flavor of a “throw up your hands
> and sell everything” day.

Mar 02 09:21 AM

[brain:]

Amen. Nuff said. Won't happen till it's too late because it already is too late. Buffet is spot-on; the "chosen ones" are being rescued at the expense of all others. I've been very realistic to pessimistic about this country's future for the last five years; I am now very certain that our world is about to be rocked by social/political upheaval. Good luck with that.

Mar 02 09:46 AM

[jrs87sch:]

Everyone screwed up. The blame cannot be put on one party. Also, the political/social upheaval has already started in European countries.


What's Good for America is investing in stocks that actually work. Check out the front page story of this site www.investorpitstop.co...

Mar 02 10:18 AM

[Jason Rines...:]

The book 'Fascism with a Smile' written two years ago really rang true to me. I see your reference to Moussoulini Corporatism. Call it what it is, Fascism. Now, the 19th century Fascists had quite a horrible ending. Like last resort scenerios of anything else, it can work for a short time and government go back to capatalism. The problem is once those have consolidated power, shut out debate by the public, you wind up with large military misadventures. The citizenship itself, led by bright Patriotic risk takers and innovaters must lead the charge. And we in the investment/business community can and should support them in restoring our Republic.


On Mar 02 07:15 AM ED K wrote:

> Your article with Buffet's accompaning comments hit the nail right
> on the head.
>
> This is just another example of the consequences of government intervention.Not
> only do they decide the have and have nots but they,in essence, have
> become the deciding factor in which businesses survive or perish.
>
>
> The effect on the credit and lending for successful companies is
> just one of many adverse affects of this intervention.
>
> What ever happened to the "FREE MARKET SYSTEM"??????

Mar 02 10:50 AM

[Jason Rines...:]

A true free market has never existed in the U.S. the 19th century saw many perversions and market manipulations to cover up for the fact that government's outsource credit to a 3rd party which makes mistakes and is also fallible to human nature(greed). There is cause and there are effects. Government is supposed to be a regulator, a policeman if you will. This last decade could be summarized as Feudalism or Fascism with government officials looking the other way or legislating into there own pockets.


On Mar 02 08:20 AM D_Virginia wrote:

> On Mar 02 07:15 AM ED K wrote:

Mar 02 11:14 AM

[Stock Marke...:]

The one thing I can say for certain about J.boats and his comments is that they certainly stir up the chicken coop. The one above actually made me laugh out loud on a Monday, so cheers! Now, back to your controversial and outlandish norms...

Mar 02 11:19 AM

[JohnL:]

-- ...we are in a time where it practicality needs to triumph ideology. As painful as it is for me to admit, I believe the same applies to economics as it does politics. --

I see this "practicality vs. ideology" remark now and again, and I don't understand it. A sound ideology is based on it being practical. Over the ages, the ideology of the free market has shown itself to be very practical -- much better than socialism at producing prosperity. So now is not the time to switch to a less "practical" ideology.

Mar 02 12:00 PM

[plumstupid:]

I read this rebuttal to practicality stuff from time to time too.

Gotta say, Motorola invented the mobile phone.Then promptly screwed it up. Nokia, no creation of prosperity there? Sadly, that is but one of the long list of examples that prove you wrong. Moto - capitalist country. Nokia - socialist country.



On Mar 02 12:00 PM JohnL wrote:

> -- ...we are in a time where it practicality needs to triumph ideology.
> As painful as it is for me to admit, I believe the same applies to
> economics as it does politics. --
>
> I see this "practicality vs. ideology" remark now and again, and
> I don't understand it. A sound ideology is based on it being practical.
> Over the ages, the ideology of the free market has shown itself to
> be very practical -- much better than socialism at producing prosperity.
> So now is not the time to switch to a less "practical" ideology.

Mar 02 12:07 PM

[Green Eyes:]

Great article. I couldn't agree more that our country shouldn't hinge on one company.... it's sad that politics make it that way -- or give that illusion. But then again, when a company that big is involved it goes deep into many politicians pockets....

Mar 02 12:38 PM

[plumstupid:]

Wherever do you come up with these profound statements? Gods must tremble!


On Mar 02 12:38 PM Green Eyes wrote:

> Great article. I couldn't agree more that our country shouldn't
> hinge on one company.... it's sad that politics make it that way
> -- or give that illusion. But then again, when a company that big
> is involved it goes deep into many politicians pockets....

Mar 02 01:17 PM

[akapital:]

ok, I need to improve my ratio of pos to negative comments so I am going to tee ball this one for all you conversative analysts who have nothing to do but read SA all day (whilst my liberal counter parts are out there trying to save the world you destroyed):

1. Obama bad
2. Bailouts bad
3. Santelli's a hero
4. I work hard too pay for the all the poor's people mortgages

Mar 02 03:33 PM

[User 368135:]

good :)


On Mar 02 09:09 AM boats.j wrote:

> New Stock Market Terms
>
> CEO- Chief Embezzlement Officer
>
> CFO- Corporate Fraud Officer
>
> BULL MARKET - A random market movement causing an investor to mistake
>
> himself for a financial genius
>
> BEAR MARKET - A 6 to 18 month period when the kids get no allowance,
> the
> wife gets no jewelry, and the husband gets no sex.
>
> VALUE INVESTING - The art of buying low and selling lower.
>
> P/E RATIO - The percentage of investors wetting their pants as the
> market
> keeps crashing.
>
> BROKER - What my financial planner has made me.
>
> STANDARD & POOR - Your life in a nutshell.
>
> STOCK ANALYST - Idiot who just downgraded your stock.
>
> STOCK SPLIT - When your ex-wife and her lawyer split your assets
> equally
> between themselves.
>
> MARKET CORRECTION - The day after you buy stocks.
>
> CASH FLOW - The movement your money makes as it disappears down the
> toilet.
>
> YAHOO - What you yell after selling it to some poor sucker for $240
> per
> share.
>
> WINDOWS - What you jump out of when you're the sucker who bought
> Yahoo at
> $240 per share.
>
> INSTITUTIONAL INVESTOR - Past year investor who's now locked up in
> a
> nuthouse.
>
> PROFIT - An archaic word no longer in use.
>
>
> If you had purchased $1000 of shares in Delta Airlines one year ago,
> you
> will have $49.00 today.
> If you had purchased $1000 of shares in AIG one year ago, you will
> have
> $33.00 today.
> If you had purchased $1000 of shares in Lehman Brothers one year
> ago, you
> will have $0.00 today.
>
> But---- if you had purchased $1000 worth of beer one year ago, drank
> all
> the beer, then turned in
> the aluminum cans for recycling refund, you will have received $214.00.
>
>
> Based on the above, the best current investment plan is to drink
> heavily &
> recycle.
> It's called the 401-Keg.

Mar 02 04:28 PM

[The Proclaimer:]

Sounds like the common hard working taxpayer that keeps his bills paid & never takes a dime vs the scumbag that gets a million dollar mortgage with no job and a sub 500 credit rating. Both the failing banks and the scumbag leave us to pay their debts.

Mar 02 07:22 PM

[Kinabalu:]

"we've come to take it for granted that policymakers ought to be circumspect for fear of provoking traumatic moves in the markets. But isn't that dumb?"

No, it's not dumb, but it's not taken for granted either. Our new President had no idea his repeated "crisis" comments in the push to get the stimulus bill passed, would have such a dramatic effect on the market. I'm hoping he's a fast learner, but now he has a controversial budget that he wants approved, so we'll see.

Mar 03 01:50 AM