The Five Most Effective Bailouts

Is there such a thing as a good bailout? If you're the one getting the money, you might think so. But most Americans haven't received a capital infusion from the U.S. Treasury, and they've grown disgusted with the taxpayer funds lavished on failed banks and other companies that helped cause the worst recession in 80 years.

The massive financial rescue that the government began engineering in September 2008 wasn't an immediate turnoff. But billions in bonuses to executives at firms dependent on corporate welfare, like AIG, Citigroup (C), and Bank of America (BAC), have made "bailout" a dirty word. The furor has obscured the probability that government intervention in the economy, no matter how distasteful, most likely prevented a deeper, longer meltdown and far worse unemployment.

All bailouts aren't created equal. Historians will probably identify a number of government giveaways that did little but enrich the unworthy. Others, however, probably saved jobs and eased the pain for millions of Americans. Here are some of the contenders for Most Effective Bailout:

The unpronounceable ones. Most Americans aren't familiar with the Commercial Paper Funding Facility (CPFF), the Temporary Liquidity Guarantee Program (TLGP), or the Term Asset-Backed Securities Loan Facility (TALF). But these programs offered behind-the-scenes assistance that may have done more good than any amount of giveaways—sorry, "capital infusions"—into troubled firms. After lending nearly froze in the fall of 2008, the Federal Deposit Insurance Corp. and the Federal Reserve made guarantees that helped revive the everyday borrowing that allows many companies to buy paper clips and meet payroll. By purchasing huge amounts of securities backed by mortgages and other consumer loans, the Fed helped unfreeze that market too, preventing an even sharper cutback in consumer lending. The downside of these programs is that they've artificially boosted bank profits. But short of nationalizing the banking sector, boosting profitability is a necessary if unsavory step toward reviving lending. An interesting question for historians is whether government liquidity programs like these could have revived the economy on their own, without billions in overt bailouts.

Washington Mutual. On Sept. 25, 2008, federal regulators took over Washington Mutual, the nation's largest thrift, fired management, and sold the assets to JPMorgan Chase (JPM) for about $2 billion. The rapid seizure came as WaMu was approaching insolvency, with a sinking stock price and thousands of customers withdrawing their money. Stockholders got nothing and debt holders who had lent the firm money were effectively wiped out, while customer accounts were fully protected.

The WaMu takeover wasn't really a bailout, since it cost the government nothing. But it could have served as a model for handling other troubled banks that did get a bailout, such as Citigroup (C). Instead of a federal takeover and prompt dismantling, however, Citi has been propped up with $45 billion in federal aid and other costly guarantees, with no evidence it will ever return to health. Citi is a lot bigger than WaMu and would have been difficult to roll into another bank. But in retrospect, it seems plausible that the government could have found a way to break up Citi in an orderly way instead of simply pouring taxpayer money into it.

General Motors. Plenty of Americans still bristle at $51 billion in taxpayer aid for a unionized automaker that neglected its own problems for years. But as bailouts go, GM's involved a fair accounting of the company's needs and its importance to the nation. GM's chief executive testified before Congress several times—and endured considerable public scolding—before the company got any federal money. GM also submitted several detailed "viability plans" outlining its problems. So instead of guessing about the condition of the company—the way we've had to with most bailed-out banks—we've known most of the relevant facts about GM.

GM's "prepackaged" bankruptcy filing on June 1 virtually wiped out shareholders and punished bondholders—as a reorganization should after a company fails. And the automaker's emergence from Chapter 11 has gone more smoothly than critics expected. If GM can deliver on key products like the Chevy Volt and reinvigorate its lineup of small cars and family vehicles, it could help revive the devastated American auto industry—and make the GM bailout look like a smart investment.

Chrysler. The No. 3 U.S. automaker probably would have disappeared without government aid, and it's still endangered. At least President Obama admitted that. His automotive task force produced thorough documentation on Chrysler's weaknesses and concluded that "Chrysler is not viable as a stand-alone company," which is why the government forced Chrysler into bankruptcy as a condition for more federal aid. Chrysler's principal owner, the private equity firm Cerberus Capital Management, lost nearly its entire investment, and bondholders got back just 33 cents on the dollar—a much fairer outcome than the favored treatment for stock and bondholders in other bailouts.

The plan for Chrysler to merge with Fiat is a Hail Mary pass that's still sailing through the air, and taxpayers remain on the hook for $14.9 billion. But the government has been more honest about Chrysler's prospects than about corporations like Citigroup and AIG that have sucked up a lot more taxpayer money.

Fannie Mae (FNM) and Freddie Mac (FRE). These federally chartered mortgage-packaging agencies contributing to an overheated housing market that caused the financial meltdown of 2008. Critics accuse Fannie and Freddie of abusing the cheap money that comes with implicit government backing and fanning the market for millions of subprime mortgages—now dubbed "toxic waste"—that borrowers couldn't possibly afford.

The waste hit the fan in September 2008, when both agencies became insolvent and the government took them over. The combined bailout for Freddie and Fannie totals about $96 billion so far. But hold your nose and put up with the stink. The two agencies, with help from the Treasury Department and the Federal Reserve, back almost three quarters of all new mortgages these days, a share that's about 30 points higher than it was between 2004 and 2006. Other government agencies account for about 22 percent of new mortgages, which means that the private markets support less than 5 percent of the new mortgages used to buy homes. Take the government out of the housing market, in other words, and there is no market.

Housing is a huge sector of the economy, and it must recover if the economy is ever going to get healthy. That makes Fannie and Freddie quite important for the foreseeable future. Someday we might not need the government as much. But we're still a long way from that.

Disclosure: no positions

Comments

[Fre freddie:]

Thank you so much for say what you did on FRE/FNM

Sep 06 09:05 AM

[Fre freddie:]

I lost hope in this site thinking all writers were FRE/FNM bashers...you take a fresh approach to the topic..


I hope you write more in why they are needed verses destroyed!

There are many of us who feel how you feel without many bloggers on our side of the fence....keep up the positive work!

Sep 06 09:07 AM

[RECESSIONPROOF:]

how american public agreed to bail out wall street, its like allowing to steal your money

Sep 06 03:33 PM

[acttang:]

Those who are interested in government's role in the home financing business, please read the following report from The Post. It is absolutely true that without Fan, Fred, FHA, and Fed, there will be no mortgage market. We, as a dependent people, need our government to bail us out. It has long been my argument that these aren't really bail-outs. They are margin calls on the credit positions taken by the whole nation. That's what happens to a nation heavily in debt: we create new debt to hold up the old, till the game ends. It will end, we know that for sure. We just don't know if this great nation is ready for it.

www.washingtonpost.com...

Sep 06 10:48 PM

[Tom Jacobs:]

Your inclusion of Fan and Fred really makes the Too Big To Fail case and thus, should be on your other list. They repeatedly abused the system through lobbying to take on more risk and generate higher remuneration for senior management, often through accounting deception and fraud. They went well beyond their mandate to increase liquidity in the primary mortgage market through providing insurance for successful securitization to buying secondary market securities with huge leverage. Thus they made themselves so big they would require a bailout when they got in trouble. Now, FHA is stepping in where they have backed out and is gaining on them for losses we will all have to make good on. I don't see how you can associate the bailout as a good thing. If AIG and Bear Stearns were bad because they ensured the gains of private individuals over fears of public consequences to their failure, how can you possibly find a different result for Fan and Fred?

Sep 07 02:31 PM

[dsandscal:]

TOO BIG TO FAIL - when is the government going to address this and break up these problem children?

Sep 07 02:37 PM

[LKofEnglish:]

Well thank God the government bails itself out or else we're all DOOOMMMMMEEEED.

Sep 07 09:02 PM

[Pell:]

FNM and FRE are here to stay. Think about what they offer then think about who would want to enter this market. Its simple. FNM and FRE will be released from gov't control in next two years. The Gov't will continue to guarantee these entities but ow the guaranty obviously has more meaning. The difference is these entities will show lower profits and operate more like the way they were originally intended. Probably a $10 to $15 stock at best. FNM and FRE mortgages will go back to being good investments as they go back to sane underwriting policy. DON"T LET THE POLITICAL RAMBLINGS SCARE YOU OFF. JUST POLITICIANS JUSTIFYING STEALING SALARIES. You cannot break up these entities and government does not have the ability to run these entities in the future. REMEMBER POLITICIANS ARE POLY SCI AND LEGAL DEGREE PEOPLE AND ARE CLUELESS BOUT BUSINESS.

Sep 08 10:35 AM

[milkchaser:]

> Take the government out of the housing market, in other words,
> and there is no market.

There was no market before FNM/FRE gobbled up market share? There are no banks willing to lend money without a gov't guarantee? Did these GSEs not fail to weed out bad borrowers and put us on the hook for bad loans? Did they not prosper under corrupt management because they had political patrons in Congress?

Government distorts markets.

Sep 08 11:01 AM

[tristan198474:]

On Sep 07 02:31 PM Tom Jacobs wrote:

> Your inclusion of Fan and Fred really makes the Too Big To Fail case
> and thus, should be on your other list. They repeatedly abused the
> system through lobbying to take on more risk and generate higher
> remuneration for senior management, often through accounting deception
> and fraud. They went well beyond their mandate to increase liquidity
> in the primary mortgage market through providing insurance for successful
> securitization to buying secondary market securities with huge leverage.
> Thus they made themselves so big they would require a bailout when
> they got in trouble. Now, FHA is stepping in where they have backed
> out and is gaining on them for losses we will all have to make good
> on. I don't see how you can associate the bailout as a good thing.
> If AIG and Bear Stearns were bad because they ensured the gains of
> private individuals over fears of public consequences to their failure,
> how can you possibly find a different result for Fan and Fred?

I can't agree with you more!

____________________
Tristan

comm100.com/livechat/

Sep 23 10:02 PM

[Student of ...:]

"GM's "prepackaged" bankruptcy filing on June 1 virtually wiped out shareholders and punished bondholders—as a reorganization should after a company fails."

GM union employees were handsomely rewarded with obscene buyouts among other things (and to a lesser extent The UAW) when it was arbitrarily decided that the bondholders should be subordinate to them.

Not only was this unethical, it was probably illegal. Is this the message we should be sending as taxpayers continue to reward for corporate failure? You're much more optimistic than I am about the future of GM's product line,,,

Fortunately, The US makes excellent cars. They're called Toyotas and Hondas.

Sep 26 02:47 PM