I saw this today linked from DrudgeReport. In it we see a graph of auto company financing arms borrowing from the US Federal reserve.
These are lending institutions. During the credit crisis (and I’ll argue now as well), credit dried up. Banks wouldn’t loan money. We ran into this ourselves a number of times. Required some creative action on our part. Not everyone was so lucky.
But we are small, and not impacting a big part of the economy. The auto financing arms are big, and without their help consumers wouldn’t have been able to purchase cars, as banks weren’t loaning money. Because other aspects of their valuation were, to put it mildly, shaky.
My current thought process, after more than a two years of retrospective, was that this was likely a necessary evil (not the auto bailout … the finance bailout).
We do know enough to point fingers, and the point at politicians pushing agendas that forced a subversion of sane lending practices. At banks that didn’t stand up to this, and fed at the trough. At people borrowing way past their capability to pay (not everyone, and likely not even a large fraction of the people … just enough to set up a self-reinforcing wave). And we shouldn’t forget the oil price rise. That added momentum to the wave, tipped people from barely making ends meet, to being unable to service their debt, by causing pricing in general to rise for everything. Get enough of those and you get acceleration of the wave. It acquires momentum. It converts barely viable economic entities into a wake of economically ruined people and businesses. Get enough people unable to pay their bills, and foreclosures start happening. Gee …
Without Fed intervention into the financial system, its important to understand, we wouldn’t have one left. I am not happy with QE1 or QE2. Or with any of the other measures. They are evil. But a necessary evil to deflect the trajectory of the outcome from where it was headed to something (hopefully far) less terrible. [Note that the definition of unemployment today doesn’t match with what it was during the depression in the 1930s. Using the same correct metric, unemployment is in the low 20% region now in the US, including unemployed, underemployed, and those whom have given up or fallen off the chart relative to the BLS definition. Which is comparable to the great depression of the 1930s.]
The intervention was used by populists to force bailouts of failing auto businesses. I mean, if we bailed out the banks, why can’t we bail out the autos?
That was a wrong argument. The banks weren’t bailed out. The entire economic basis, our fiat currency … everything … was at risk. Credit was frozen solid. Not the banks … they were terrified that their assets weren’t worth what they had told everyone they were worth. And they were right. So they stopped lending. Short term, long term, whatever. Came to a crashing halt.
Our economy depends upon the free flow of capital, of credit and debt. Knock out a few of these legs and capital stops flowing.
It cannot be emphasized enough how bad that would be. While people call this the Great Recession, it could have been far, far worse. The issue is access to liquid capital resources. Without the ability to purchase, people and businesses will hunker down. And wait. And not purchase.
Which grinds the economy to a very rapid halt.
Anything that removes capital flow from the market, be it lack of credit, increased taxes, etc. anything like that is bad. Doing this during a period of economic unrest is the epitome of unwise. It is repeating mistakes of the past which means we haven’t learned.
We need liquidity in the credit markets. They became illiquid very rapidly.
So now you have all these large manufacturers, for whom the end user purchase process normally involves an extension of credit in the form of an auto loan. Now imagine those loans being unavailable.
What would be the impact upon the manufacturers?
And what would be the impact upon the economy as those manufacturers had to lay off people, whom themselves reigned in their purchasing? Imagine this as a mass effect. Take 100k people, kick them out of work. Watch their spending habits. Will they keep buying big expensive things on credit (e.g. living past their means), or will they hunker down and wait it out?
What you see is the onset of wave. Starts in one sector, starts impacting others, which also hunker down. A self-reinforcing economic wave.
Without Fed intervention, as evil as it was, the alternative was far, far worse.
Imagine all of the auto makers unable to sell product at any price. Imagine banks unwilling to lend them any money. Chapter 7 dissolution. A sizable chunk of the labor market goes away, a few percent in the US. The affiliated industries, yeah, similar issues there as the wave spreads.
Now stop this wave by providing a purchase facility for the consumer notes, and for funding the commercial paper.
What you have left is a weakened auto industry, but one that can survive, and should be able to tolerate one of the big 3 going chapter 7. We didn’t let that happen though. We intervened with a prepackaged chapter 11 that massacred small auto supplier businesses. Didn’t touch us, but it created a wave here, in large part because of the way it was constructed, who it favored, and who it left out in the cold.
There are lots of houses here in foreclosure. A grim reminder of this is the number of street corner signs I see in even the relatively higher end neighborhoods, which advertise for foreclosure tours and help.
The finance bailout, while evil, was necessary. The rescue of two failing businesses with business models that wouldn’t be stabilized as part of finance bailout, and a handing over of the ownership to those partly responsible for their current state (which arguably went against more than a century of case law on who owns debt and which debt gets serviced first) … well … not such a good idea. I look forward with some shadenfreude to seeing how the UAW handles contract negotiation with a set of entities it now partially owns.
But throughout all of this, the engines of the economy … the small business … we haven’t been bailed out. We haven’t been given breaks. We haven’t been able to access credit to a significant degree. Those of us who have the fortitude to keep on plugging, will. I am sure there is a mad rush going on right now to get everyone with an LLC, LLP, S corp or similar flow through entity, to re-incorporate as a C corp. If only to stem the coming tax hike on those owners of said flow throughs whom are “rich”, e.g. reporting an income of greater than $150k, which you do as an LLC, LLP, S corp, as the income flows through to your personal taxes, whether or not you personally pull that amount from the business … chances are you don’t … but some political boneheads somewhere have decided you need to pay more taxes.
No one bailed us out, and there are forces afoot to try to take more of our precious limited capital away from us, in some insane populist driven class warfare style assault. To put it mildly … I am … erm … not in favor of this.
There are no businesses to big to fail. There are businesses that are too big, consume too much credit, acquire too much debt. They need to be broken into smaller viable organizations so as to prevent the sort of self-reinforcing scenarios we have just witnessed. There are business with significant political clout, that need to be reigned in or broken up so the clout is more diffuse, and less likely to have a political impact, to force bad actions upon the tax payers.
And we need enough liquidity in the credit market so that small businesses can operate without worrying about maintaining long term liquid cash assets (e.g. not spending money on stuff, people, etc.). No bail outs for small businesses needed.
FWIW, I did inquire recently at our bank about SBA loans, as a way for us to get some capital for expansion (the equity route is quite cold these days). I wanted to see what the requirements were. Pretty stiff for government guaranteed loans. Basically you have to prove you don’t need the loan to get the loan.
So we are looking to finance our future bits out of operational cash. Which is why we are pushing sales hard to be able to fund this. Short of an equity infusion (quite possible in the future) or an acquisition (also possible, had some nibbles, but the valuations weren’t realistic), this is the route we are going. No bail out needed. I just don’t want my tax dollars going to fund our competitors, or increase our cost basis with higher taxes. Both of these would have a negative impact upon us. We just need customers to buy more, and more customers to buy. Working on this now.
The financial bailout was a necessary evil to keep capital flowing and to keep some liquidity in the market. The auto bailout was simply evil. But at some point in time we need to stop bailing companies out. They need to adapt or die. Think of it as evolution in action.