Through today, GMAC has received government bailout funds totaling $12.5 billion. The company is asking the Obama administration for $5.6 billion more. One might say that in a true democracy, GMAC would need to ask permission from each taxpayer whose funds would go towards shoring up the company’s balance sheet, a move that would make GMAC appear more stable on paper. But we have a representative democracy, where Congress makes decisions that occasionally reflect the will of the members’ constituents.
GMAC might receive their third bailout. Industry analysts agree that the failure of GMAC would have a devastating ripple effect throughout the rest of the economy. If GMAC fails, so would the companies who depend on GMAC to offer loans to customers, General Motors and Chrysler. The failure of these companies in turn would result in the failures of suppliers and dealers. The government has already pumped so much taxpayer money into these companies that their failure would signal a broader failure of the entire bailout process. Also, GMAC’s total bailout is still less than the financial injections Citigroup and Bank of America have received.
In personal finance, an additional bailout for a failing company would be similar to throwing good money after bad. For example, if one makes a poor purchasing decision while buying a car, costly repairs might be necessary. Rather than cutting the losses and getting rid of the car, one might continue putting money into the black hole, and after time, the money that you spent on the purchase and repairs could have purchased a nicer car that ran without problems.
There is no guarantee that another bailout will save GMAC in the long run.
GMAC is the parent company of Ally Bank, formerly known as GMAC Bank, an online bank that has drawn in more customers with a savvy advertising campaign and high interest rates. The American Bankers Association forced the FDIC to request Ally Bank to lower its rates because other banks couldn’t compete with Ally’s new strength acquired with the help of taxpayers.
If GMAC were to fail, Ally Bank depositors should be safe as long as they have stayed within FDIC’s coverage limits.
I think it may be time to start allowing companies like GMAC, those who require funding from taxpayers to improve their balance sheets and who have little prospect for paying taxpayers back, to fail. There are signs the economy is recovering. Maybe it is time to let the market and capitalism work itself out. Those companies who remained conservative will survive and those who chased bad loans and complex derivatives without sufficiently considering risk will step aside.
Do you think GMAC should receive another bailout?
Photo credit: jim.greenhill
3rd Rescue Considered for GMAC, Eric Dash, New York Times, October 28, 2009
The executives of these companies had to see this coming. When a company is “too big to fail,” it becomes a public institution in senses of the phrase but the most literal. And for a number of banks and other financial companies in the past year, the public has become a partial owner thanks to infusion of cash from the government bailouts.
A company has a responsibility to do what is in the best interest of its stakeholders. For these bailed-out companies, taxpayers hold more of that stake than ever before. Those who own shares of stock in these companies want nothing more than the companies to be self-sustaining and profitable, but taxpayers, all who have lent money to the companies to help prop up their balance sheets and create liquidity, just want these loans paid back regardless of profit.
The government officially represents the taxpayers, not the shareholders, but you can be sure the government wants to see these companies profit, too. The Obama administration’s “pay czar,” Ken Feinberg, is going to determine the compensation for the highest 25 paid individuals in each of the companies that have not yet repaid government funds. The new compensation plans would reduce total pay by an average of 50% per individual and would reduce the cash portion of pay by an average of 90%.
This could benefit both taxpayers and shareholders in the short term:
- Pay reductions create an incentive for companies to pay back the taxpayers and become fully private.
- Lowering pay lowers companies’ expenses so they can report bigger profits in their quarterly an annual financial statements.
The challenge with government-mandated compensation restriction is that executives and boards of directors believe that bailed-out companies will be less appealing to the best and brightest talent. Corporate leaders who find they can only earn $40 million at Company A but could earn $80 million or more by moving to a company not partially controlled by the public might defect for greener pastures.
That sounds like a solid threat, but it’s not likely on a large scale. There are enough talented and qualified senior-level executives out there who would be happy to take the reins of a company partially owned by the government. At least, that is what Ken Feinberg is hoping.
It’s unlikely taxpayers will see bailed-out companies repay all of the money that they received. The government’s job right now is to get back as much of those funds as possible while still, to a point, preventing the companies from failing.
Photo credit: epicharmus
Wall Street Pay Cuts Stoke Debate About Washington’s Reach, Julianna Goldman, Ian Katz and Robert Schmidt, Bloomberg, October 22, 2009
Even though they are not bank holding companies as originally required for the original qualifications for receiving bailout money from the public, six insurance companies will now have the option of receiving this money.
Among others, Allstate, Ameriprise Financial, Hartford Financial Services, Lincoln National Group, Principal Financial, and Prudential applied earlier for inclusin in the Troubled Asset Relief Program. These six companies have now been approved for a chance to shore up their balance sheets with a piece of the $135 billion remaining for bailout.
A quick roundup of current lending news.
In December 2008 we reported a prediction that credit card issuers would be reducing available credit by about 45%, and recently the company behind the FICO score released a report of credit lines being reduced from April to October 2008, right before that prediction was made.
From the study, we find that lenders reduced credit for 16% of consumers, and 31% of those affected had a late payment, collections account or public record (e.g. bankruptcy, foreclosure, garnishment or tax lien). Disturbingly, the median FICO score of those affected was 770, a very good score. So, while a smallish minority of Americans were affected, they were the best customers of the bunch: good scores with few red flags.
The better news is that the average credit line was reduced only 5%, so all other things being equal, the FICO score of someone in this group shouldn’t have been negatively affected. We’ll have to wait and see, of course, what happens to FICO scores after October 2008.
Deceptive Credit Card Practices Update
We haven’t written about this since inauguration day, but it looks like there may be movement again soon on a bill promoting the credit card holder’s bill of rights.
Lawrence Summers, a White House economic adviser said on “Meet the Press” this past weekend that the president will be “very focused in the very near term on a whole set of issues having to do with credit card abuses.”
It’s also possible that instead of passing a new law, credit card issuers may make a whole set of promises during a meeting with the president and his team on Thursday.
Then there’s the issue that banks aren’t lending what they are supposed to be. From Reuters:
Credit card issuers have received over $120 billion in taxpayer funds since October, money the government has asked them to use to expand lending.
But with U.S. credit card defaults at record highs, lenders are trying to protect themselves by tightening credit limits and closing accounts, actions that have infuriated lawmakers, consumers, and even triggered a New York state attorney general inquiry.
Bailouts Not Working?
Put too simply: taxpayers loaned billions and billions of dollars to banks who had stopped lending money to those same taxpayers, in order to get them lending again. Overall, this doesn’t seem to be working when we see headlines like “Bank Lending Keeps Dropping” and “U.S. Banks Line Up to Repay TARP Money“.
Commercial and industrial lending were down in February, but I was glad to see that Home Loan Refinancing was up 42% from January to February. Home equity lines of credit were also being processed at levels typical for the season.
Similarly, Americans feel like this is a good time to buy a house. In fact, 71% of people responded that way, the highest level in four years.
Thank you to all the taxpayers who are footing the bill for this. As Citibank continues to receive money from the government of the United States, funded by investors in Treasury bills and citizens of the future who will be paying more to the government to support the interest payments on that debt, Citibank continues to reward me. Rather than making new loans to businesses or individuals in needs, Citi simply raises credit card limits.
The concept is somewhat sound; raise credit limits and people will spend more, helping Citi with interest fees and helping the economy through more consumer activity. But if they’re raising the limit for people like me, there is no effect other than using bailout money to prop up their balance sheet.
I have never spent anywhere close to my credit limit in any one month. Yet, they targeted me as a candidate for an increase. I won’t decline the increase; a higher limit results in a lower utilization ratio, which will most likely lead to a higher credit score.
Here is their personal announcement to me:
YOUR ACCOUNT: CREDIT LINE INCREASE
Congratulations on Your Recent Credit Line Increase.
Dear (Flexo),
Because you are one of our loyal customers, we wanted to give your Citi® Card even more value. So reward yourself with the spending power and flexibility that comes with a higher line of credit.
You’ve earned it. Now enjoy it.
Use your new line of credit to transfer balances: You may qualify for a great rate on a balance transfer. To see what offers may be available to you, visit balancetransfer.citicards.com.
Wow, I feel so special. I earned it!
Clearly, Citi is hoping I will transfer a balance from another card, taking advantage of a 3.99% APR and 3% balance transfer fee. Even if I had a balance to transfer, I would pass. This credit limit increase would have been better spent by Citigroup elsewhere.
As the government continues to bail out the banking industry and taxpayers continue to increase their stake in these companies, how far should the banks go to cut back spending on the excesses that have grown over the past several decades? The local New York City NBC news program aired a feature on the use of town car limousines by Bank of America, JP Morgan Chase, Morgan Stanley, and Goldman Sachs. Despite billions of dollars from taxpayers, bankers continue to travel extravagantly when more frugal options are available.
The media love this topic. Exposing the continued excesses of troubled companies destined for bankruptcy or in search of taxpayer assistance riles up people’s emotions. That’s the perfect formula for great ratings. The concept is simple: the reporter stands outside the corporate offices, counts the limousines waiting outside to take bankers to lunch meetings with clients or home at the end of the long day. They try to interview the bankers who refuse to talk to the cameras. (Corporations generally tell employees not to talk to reporters under any circumstances, to allow the marketing department — “public communications” — to control the public message.
The marketing departments aren’t doing a very good job. The court of public opinion is important here, as stock prices in the financial industry are tanking. Yes, the banks should do whatever they can to cut back on all these little expenses like limos and parties that add up over time. Yes, they should not use bailout funds to make poorly researched major acquisitions. Just like typical personal financial advice for managing a family’s money, corporations that are now somewhat accountable to the public should focus on both the repetitive small expenses (see the ECRD Factor) and the more expensive decisions (like buying a used car rather than a new car). But most importantly, the industry should be communicating that they understand that the gift of taxpayer funding means they have a new stakeholder, a new boss who cares about how their money is spent. Marketing departments should be ensuring the public sees the extent that the companies are utilizing the funds responsibly.
Brokerages that accepted bailout funds have rationalized the continuation of high salaries and bonuses for their best performers by citing the need to keep top talent. Yes, this does mean that the executives are fine with the concept of “wealth redistribution” when it works in their favor. In these cases, taxpayers are funding the compensation for investment managers and stock brokers whose salaries continue to soar while their companies’ profits sink.
Executives of some banks that received money in the form of bailout have stated they don’t like the terms attached to the funds. Two banks, Northern Trust and US Bank, will return the funds they received through the Troubled Asset Relief Program (TARP) to the government, as fast as possible, so they do not need to answer to the public. This is an interesting concept; in most cases, the TARP funds were in the form of loans to banks, which were intended to be returned to the government with interest anyway. Of course they are returning the bailout funds as soon as possible. That was the plan from the beginning.
Banks who don’t agree to reducing expenses and answering to the public should return the funds in entirety immediately, not over time as quickly as possible.
Put yourself in the shoes of the top executive in a bank that was facing bankruptcy when it asked for an accepted billions of taxpayer dollars. You are the CEO. Assuming you haven’t been fired for nearly driving your company into the ground, what financial decisions would you make to fix your struggling enterprise while maintaining a favorable public opinion?
The CEOs of Ford, General Motors, and Chrysler are heading to Washington, D.C. today for the second time to plead for government assistance. The first trip resulted in public relations faux pas. They flew to Congress on private corporate jets, spending much more company money than necessary. This brings to mind the image of someone driving a Bentley to pick up a welfare check. More importantly, they appeared before Congress without a solid plan for improving their companies’ health.
The Big Three corporate leaders got the message. They’re coming back, driving from Detroit to Washington with hybrid vehicles. That moves has made a lot of noise in the new media, but the important part is the plan.
Like the hybrids, the CEOs have made a symblic gesture to reduce their salaries to $1 each per year, but only if they get their bailout loans from the rest of the country. Beyond the symbolism, it’s the plan that’s important. General Motors is offering the most drastic proposal of the three, including a reduction in workfroce by at least one third and reducing the number of plants. Ford wants to increase production of the small Focus, simplifying and reducing the expense of the design.
Are these proposals enough?
The domestic auto industry will most likely get their money. This time around, they’re asking for $34 billion, more than the $25 billion they thought would do the trick last month. They might not get all of what they want, but I don’t see Congress letting these companies fail.
Reminder: While I am on vacation this week, Consumerism Commentary is featuring articles by other writers. Please read Criminal Charges: Volume XVII, the first of this week’s guest articles.
Rescue Deal for CitiGroup. Citi is too big to fail, so the government is preparing an injection of $20 billion in addition to the $25 billion the company has already received. GM, Ford, and Chrysler are quoted as whining, “It’s not fair!”
Wall Street versus Pennsylvania Avenue. According to the Presidential Cycle, the stock market loses ground during the first half of a new president’s term while increases significantly during the second half. Statistics prove this to be true, but here’s why you shouldn’t abandon stocks for two years.
Gift Cards: A Bad Idea Gets Even Worse. This is bad news for office Secret Santa exchanges. Now we’ll have to think about what trinket someone else may like.
180th Carnival of Personal Finance. Living Almost Large is hosting this edition of the Carnival of Personal Finance with pictures of foreign paper currency. In addition to the Editor’s Picks, check out Visualizing $10,000 Extra in Your Life, The Not-so-Easy Part of Personal Finance, and Financial Education in Schools.
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