Detroit's Face-Off with Bankers

Bankers are never particularly popular at the best of times. Psychologically speaking, if I borrow $100 from the bank, that $100 is now mine. Yet if I lend $100 to the bank — if I put $100 on deposit at the bank — then psychologically that money is mine as well. Logically, the money can’t belong to both depositors and borrowers at once. And the result is that people hate banks for both charging them fees on their own deposits and also being unreasonable when it comes to loans.

Banks are used to dealing with such emotions when it comes to their small clients. But now they’re facing a tougher issue — how to deal with the biggest client of all, the government. One way, it seems, is to go crying to the press:

At a meeting with executives from four of the nation’s largest banks earlier this month, the chief of the government’s auto task force, Steven Rattner, delivered a message that shocked some in the room.

To save Chrysler, he told them, the four banks and several other financial firms would have to surrender their claims to most of the $7 billion the automaker owed them. And what would the banks get in return for this sacrifice? Nothing.

“People’s jaws just dropped,” said a person familiar with the discussions.

Lemme guess, that person familiar with the discussions was a banker, right?

The fact is that the bankers don’t have much of a leg to stand on here. The government is asking them to take about 15 cents on the dollar — which aligns almost exactly with the market price of Chrysler’s debt. The bankers, meanwhile, are holding out for more — as much as 50 cents on the dollar — based on pointless hypotheticals about how much money they might end up getting repaid in a liquidation.

The WaPo story continues:

The banks — J.P. Morgan Chase, Citigroup, Morgan Stanley and Goldman Sachs — have all since balked at the government’s proposal. This week, they are drafting a counteroffer.

But those four banks are themselves recipients of billions of dollars in government largesse. Collectively, they have received $90 billion from the rescue program for the country’s banks. Now, their critics say, the firms have an obligation to cooperate as the government seeks to save Chrysler.

“These are banks that have received substantial investments from the government,” said Rep. Gary Peters (D-Mich.), whose district includes Chrysler headquarters. “We hope they will understand that what was given to them was not for their benefit, but to get the economy moving again and maintain American jobs. People are angry that again it seems like the banks are standing in the way.”

While this might be the right poetic response to the banks, there are more mundane and less philosophical reasons why their plaints should be brushed off. Firstly, Chrysler is not going to be liquidated: that is not, and never was, an option — especially in the present economic environment, when the market for Detroit’s hypothetical cast-offs is, let’s say, highly illiquid.

And secondly, the only reason why the banks’ loans are worth anything at all is that the government has already poured billions of dollars of TARP money into Chrysler. If the banks continue to insist on talking about hypothetical liquidations, they should be asked how much money is likely to remain for them if the government is first in line for repayment.

Up until now, big and powerful creditors have done very well out of Detroit: just look at the way that the government blinked first when it asked GM’s bondholders to take a large haircut before any TARP money would arrive. They said no, and the TARP money arrived anyway. This time, it’s the government which will (please) stand firm. Washington holds all the cards, and the banks are ultimately going to have to do what they’re told. If the government blinks again, the probability that it will ever be able to seriously regulate these banks drops to zero.

Comments

[Mark Bern:]

Excellent points, especially about the regulatory credibility of the government if it blinks with the banks this time around. If the government gives in yet again, it should remove all doubt as to who is really in charge (Hint: banks or government).

I hope you are right in expecting the Administration to stand firm. We, the taxpayers, just can't afford a continuance of the multi-billion dollar handouts mostly going into one sector (banks). Banks may be critical to reviving the economy, but if they suck out all the juice for themselves the remaining industries may struggle for a long time.

Apr 17 10:29 AM

[Larry House:]

I once heard a judge say that bankers have ice water in their veins instead of blood. It is very hard to have any sympathy for the banks. I have heard a time or two that they helped cause the problems we are all experiencing now. Why should the banks only be rewarded for past sins and not bear any of the pain? I held Lehman bonds. No one has bailed me out.

Apr 17 10:58 AM

[User 396720:]

I disagree with your argument. It presupposes that because the government is an investor in the banks, it has the right to tell banks what to do with the asset side of their balance sheet.

With the exception of Citi, the government is a minority shareholder in all of these banks. The banks are obligated to do what is in the best interest of all their shareholders and bondholders, not just what helps further Obama administration policy or aids their political constituents.

Rather than dictate what assets banks should be writing down, perhaps the government should return to the original intent of the TARP.... actually purchasing assets in the open market.

If the government wants to write the Chrysler bank debt down to $.15, they should purchase it in the open market and write it down themselves.

If they want some TARP money back from JPM and Goldman to provide the cash to fund it, I am sure both CEOs would be happy to accomodate them.

Finally, your argument that the bank debt would be worth less if the government hadn't intervened is incorrect. The bank debt is senior to any employee obligations, any debt, and any trade obligations.

If they had turned the lights off at the factories and locked the gates in December, rather than taking loans from the government (permitting them to continue on burning cash and lower recovery values under employee contracts and debt obligations that are untenable), bank debt recovery could indeed have been better than it would be now.

The banks have the bank debt marked at $.15/$1. They've already realized the loss. I think there's a lot of credibility to the argument that if they shut the lights off tomorrow and take their time liquidating the hard assets of the company, they could end up with quite a lot more than $.15.

Apr 17 11:10 AM

[zorkfin:]

It depends on whether the bank loans are secured or not. If they are secured by equipment the lenders have all the right in the world to ask that equipment to be sold. In general the politicians are getting too used to break any and each law related to bankrupcy and otherwise, because they represent "the taxpayer". I do not consider that any politician represents me any more than any bankster. I am sick of all laws being ignored and one of a kind solution being applied in the favour of whoever is better politically connected or whoever whines the loudest.

Apr 17 12:47 PM

[Leftfield:]

User 396720: I think you're right that the government is not first in line. You suggest the banks play complete hardball because taxpayers are mostly minority owners and GS and JPM could return TARP funds. Furthermore you suggest the government has harmed the banks by not shuttering Detroit in December.

The banks think their holdings are worth more than $.15, what else is new? If their duty is to their shareholders they might consider that the possible consequences of their tin ears could be, finally, justice.

Apr 17 01:49 PM

[battman:]

The problem is simple, there are enough crooked politicians in the pockets of major corporations, that the bank will get closer to what it wants than the government. It's always easier to spend someone elses money. One simple rule for politicians, anyone who wants to be a politician, SHOULDN'T be a politician. Period.
The second problem is more fundamental, why are they helping a private company? If anything the government should be helping the SUCCESSFUL car companies absorb the losers, not help the losers so that the successful guys have a harder job.
It's common freakin sense!! As a private individual, would you give your money away to a homeless alcoholic guy and ask him to hold it for you, or give it to a bank? Why is the government giving OUR money away to the homeless alcoholic?!?!
ps. I know referencing a bank and making them sound like a wise alternative to a homeless alcoholic is quite a stretch, but for a moment, let's suspend our disbelief.

Apr 17 02:32 PM

[User 373847:]

The government required that the TARP money be re payed if the company didn't have a satisfactory restructuring plan. They did not. Given that was the requirement for getting the money in the first place, the argument that it is subordinate debt to the banks falls apart.

Apr 17 06:19 PM

[henarl:]

What the author fails to state is that the banks and Wall St. ARE the government. Just as Goldman was made whole thru the payment of their AIG CDSs with government money courtesy of Treasury Secretary Paulson, so these banks will be made whole with government money. For the past several administrations, the decision making officials of the Fed and the Treasury have been prior executives of Wall St. and the banks. They will take care of their own.

Apr 18 01:51 PM