The Great Bondholder Bailout Won't Even Save The Economy

[girl gone mad]

The Great Bondholder Bailout Won't Even Save The Economy
http://www.businessinsider.com/henry-blodget-bend-over-america-its-time-to-bail-out-some-more-bondholders-2009-4">The Business Insider

One of the biggest outrages of the past 18 months has been the government's decision--Bush AND Obama--to completely protect those who lent money to AIG, Citigroup, Bear Stearns, and other financial institutions (a.k.a., bondholders).

Financial shareholders have gotten killed and taxpayers have gotten reamed, but bondholders--the folks who were so confident that negative amortization option ARMs were a great idea that they loaned financial companies hundreds of billions of dollars to make them--are being coddled like babes in the manger.

Why? The government won't say. In fact, the government won't even publicly acknowledge the issue.

But the answer, presumably, is that the government is worried about the pain pension funds, insurance companies, and others will sustain if they are actually held accountable for their decisions--and the damage this pain will do to the economy and ordinary Americans.

This damage is probably exaggerated, but before taxpayers are asked to reach into their pockets again, it should at least be discussed. As should the theory that all these bailouts will actually help the economy recover from this crisis, which some economists say is wishful thinking.

For example, http://www.hussmanfunds.com/wmc/wmc090413.htm">here's John Hussman:

Fundamentally, my view is that the U.S. economy is on very thin ice, and that by focusing on the bailout of corporate bondholders rather than the restructuring of debt, we are courting the risk of a far deeper downturn. Last year, I didn't think it was conceivable that policy-makers would attempt to address this problem by making lenders whole with public funds. This is an ethical abomination, putting the public in the position of absorbing the losses that should properly be borne by those who provided capital to these institutions. It is not sustainable. What it does it place the public in the position of losing first, but it will not, and cannot prevent the ultimate failure of the debt – for the simple reason that without restructuring, the debt can't be serviced.

It is true that insurers, pension funds, and other entities own part of the debt of these financial institutions, but they certainly do not own all of it, and to the extent that it is in the public interest to use public funds to reimburse the losses of various entities, that can and should be part of the political process. But to broadly immunize every bondholder of these institutions with public funds is repulsive. Even the bondholders of Bear Stearns can expect to get 100% of their principal back, with interest...

Until we observe large-scale restructuring of mortgage debt and the debt obligations of major financial institutions, we will be applying trillion dollar band-aids while the underlying cancer metastasizes. The longer we wait to restructure debt, to swap debt for equity, and to expect those who made the loans bear the losses as well, the more we risk allowing this downturn to become uncontrollable and unfathomably costly to the public.

As Harvard historian Niall Ferguson observed last week, “Only somebody who studies financial history could say, as I was trying to say, ‘Look, something as big as the liquidity crisis of 1914 or as big as the banking crisis of 1931 is imminent.' We don't really have a great many options here. If we stay the present course, you're going to see the tailspin continue. To be effective, a large-scale restructuring of household indebtedness would need to be mandatory. The Great Depression was initially a U.S. financial crisis. But what made it a depression was its global contagion, and then the breakdown of trade and the retreat into protectionism. All of that can happen. All of that is in fact happening with terrifying speed.”

http://www.hussmanfunds.com/wmc/wmc090413.htm">Read all of John Hussman's note >

[FieldsBlank]

1. thanks

Good article from John P. Hussman, thanks for posting it.

[Cassandra]

2. I have Citi preferred bonds....

bought some years ago before there was even a hint of a mortgage problem. It would not just be the loss of principal (realizing the unrealized loss) but losing the 7.5 (or so)% return that could not be replaced. It's not just big institutions that get hurt. In addition, all my savings/checking accounts and cc's are through Citi. Rather disruptive all around.

[girl gone mad]

3. The only risk free investments are US treasuries.

Default has always been a potential outcome for corporate bonds. Why do Citi and BAC bondholders deserve to be treated as a special class of investor at the expense of the US taxpayer?

Your savings and checking account would be unaffected by a receivership. If anything, you'd be better off.

There have been hints of mortgage problems back since at least 2001/2002, btw..

[Cassandra]

5. I think my bonds are older than that.

Also, US Treasuries are not risk-free. They are safer than other investments but that is not the same thing as risk-free. If I had everything in treasuries, I would not have enough to live on and my business is in the toilet. When my health insurance goes from $350 to $1000 a month over 6 years, that money has to come from somewhere.

[ww2player]

6. I am glad we could help you...

I would suggest closing all your citi accounts because sooner or later the taxpayer money will run out and then who is gonna pay citi's bills for them.

I am sure all taxpayers are happy that you are getting your money plus the 7.5% interest to boot. If only the rest of us could get such a deal instead of getting the bill.

[wuvuj]

4. Hussman was avoiding financial stocks/bonds...

...like the plague for a good time before they crashed. So how come others didn't see the problem coming?

[ixion]

7. others did see it coming, and they said something about it, and

they were promptly mocked and/or laughed off stage.

The market was going up, up, up -- as were housing prices, and you were an idiot if you didn't borrow a quarter-million or more with an ARM loan. We were all going to be millionaires by simply selling and re-selling our houses to one another.

This was the common "thinking" (sic) of the day. Many said otherwise, and they were called "doom-sayers" or conspiracy theorists, or worse, and dismissed.