Madoff Hoped for Eventual Freedom

Bernie Madoff got the maximum sentence of 150 years in prison for stealing billions in what the judge called his “extraordinarily evil” Ponzi scheme. Probably it should now be renamed a Madoff scheme — Mr. Ponzi has been dead since 1949, and his take was denominated in mere millions. He was sentenced to only five years in prison in his initial trial for the scheme that made him famous, and upon release he promptly returned to a life of crime.

Madoff, 71, will never draw another free breath, and that’s probably the way it should be.  I hereby repent from my smug earlier post, “Sorry, No Tears Here for Madoff’s Clients,” written just days after Madoff’s arrest, when it seemed like the victims were primarily high-rollers who got too greedy chasing returns that were too good to be true.  It turns out many of the victims are clearly worthy of sympathy, and besides, even high-rollers don’t deserve to be cheated in a highly sophisticated scheme.

Interestingly, Madoff’s attorney had suggested a sentence of 12 years, a duration one year shorter than his expected lifespan according to the actuarial tables.  You know you’re in trouble when your own lawyer wants to put you away for 12 years.

Chrysler’s New Majority Owner Will Be The UAW. Yeah, That’ll Work.

I’ve been arguing for months that the government should not throw more bailout money at GM and Chrysler, but rather let them work out their problems in bankruptcy court.  Filing for Chapter 11 bankruptcy protection would give the companies more leverage to modify gold-plated benefits and ruinous work rules that add approximately $2,000 in costs per car, compared with foreign automakers.

chrysler-logoChrysler filed for Chapter 11 today.  The government apparently has worked out a deal where the eventual result will be the UAW owns 55%, Fiat owns 35%, with the remaining 10% owned by some combination of the U.S. government and “secured” lenders.  Neither the UAW nor Fiat are putting any new capital into the deal, but the U.S. government is committing up to $8 billion in additional financing, on top of the $4 billion the U.S. already has loaned Chrysler.

So for up to $12 billion, some of which theoretically may be repaid, the government gets some portion of 10% of America’s least healthy automaker.  The eventual value of the government stake is anybody’s guess, but since it’s easy to mix up million-billion-trillion-zillion, let’s do an order of magnitude comparison. As of mid-day today, the stock market values Ford — America’s healthiest automaker, far larger than Chrysler, and the only one of the Big Three that has not taken government bailout money — at about $14 billion, for 100% of the company.

Meanwhile, the UAW, whose members have enjoyed unsustainably high wages and benefits for decades, will own 55% of the reorganized Chrysler.  Chrysler effectively will be a subsidiary of the UAW, which will sit on both sides of the table during future contract negotiations.

Mickey Kaus argues that this may be a good thing (he’s talking about GM, but the principal holds for Chrysler as well):

The union’s ownership so does not seem a problem. It seems a virtue. Let the UAW, as new owner of GM, pay the price for the overgrown work rules of its locals. Let the UAW demand above-market raises from itself. Let the UAW try to raise money from new lenders after the previous round of lenders has been royally screwed (thanks, in part, to the UAW). And then let the UAW try to sell the cars that result.

The most efficient way to balance competing interests, as Michael Kinsley noted years ago, isn’t an adverserial system where various singleminded interests duke it out–either in court or on picket lines–but in the head of a decisionmaker who will feel the relevant consequences. As long as the government steps out of the financing picture, the UAW will feel the consequences of its own excesses. Just don’t bail them out again!

That last sentence is where Mickey’s theory breaks down, I’m afraid.  (I call him Mickey because he linked to me once.) He mocks a column by the Wall Street Journal‘s Holman Jenkins, but I think Jenkins (who has never linked to me) has the better argument:

In a real bankruptcy, which is the natural fate of companies unable to meet their obligations, Chrysler and GM would be run (or liquidated) for the benefit of their creditors, not their workers. But, here, “pattern bargaining” will remain the law of the Detroit jungle. The UAW will continue to use its unnaturally augmented clout to extract uncompetitive pay and benefits (it can do no other given its internal incentives). As it has for 40 years, Washington will pitch in with one improvisation after another, disguised as energy policy, trade policy, health-care policy or environmental policy, to stop the rivets from popping off. Politics, especially Democratic electoral politics, will play a more dominant role than ever.

What about those creditors, who would be first in line in a “real bankruptcy”?  The big bondholders were all on  board, but some of Chrysler’s smaller “secured” creditors refused to accept a deal that would have kept the automaker out of bankruptcy court.   Theoretically, the “secured” creditors could hold out for a liquidation of Chrysler, which might be a better deal for those creditors.  The Automaker-in-Chief is aware of this, and Obama had this to say today:

While Obama voiced his support for Chrysler and the deal with Fiat, he was pointed in his criticism of the investors who did not agree to this deal.

“I don’t stand with them. I stand with Chrysler’s employees and their families and communities,” the president said. “I don’t stand with those who held out when everybody else is making sacrifices. That’s why I’m supporting Chrysler’s plans to use our bankruptcy laws to clear away its remaining obligations.”

Gulp.  This is why I use scare quotes around “secured” creditors.  Somehow I think the reluctant creditors will come around to seeing things Obama’s way.

Funny, He Doesn’t Sound Like a “Greedy Bastard”

I’ve held my tongue about the AIG bonuses because I haven’t had the energy to take on the torch-and-pitchfork brigades. But although I can understand the populist anger, and maybe even share it a bit, the frenzied response has turned me off since the day the story broke.

Comes now an AIG executive named Jake DeSantis, who resigned today in a letter published in The New York Times. His message should give pause to the angry mobs. (Hat tip: J.G. Thayer.)

DeSantis didn’t create the credit default swaps crisis — he took a $1 salary to transfer in from another area of AIG to help fix the mess. In exchange for accepting that token salary, he was guaranteed a payout at a certain level if the company survived long enough to pay it.

This wasn’t a “bonus” in any meaningful sense of the word. It was a deferred payment — deferred at great risk by an executive who had other lucrative options.

The letter is worth reading in full, but here’s the part that jumps out at me. Addressing himself to AIG CEO Edward M. Liddy (another $1-a-year man), DeSantis writes:

You’ve now asked the current employees of A.I.G.-F.P. to repay these earnings. As you can imagine, there has been a tremendous amount of serious thought and heated discussion about how we should respond to this breach of trust.

As most of us have done nothing wrong, guilt is not a motivation to surrender our earnings. We have worked 12 long months under these contracts and now deserve to be paid as promised. None of us should be cheated of our payments any more than a plumber should be cheated after he has fixed the pipes but a careless electrician causes a fire that burns down the house.

Many of the employees have, in the past six months, turned down job offers from more stable employers, based on A.I.G.’s assurances that the contracts would be honored. They are now angry about having been misled by A.I.G.’s promises and are not inclined to return the money as a favor to you. …

So what am I to do? There’s no easy answer. I know that because of hard work I have benefited more than most during the economic boom and have saved enough that my family is unlikely to suffer devastating losses during the current bust. Some might argue that members of my profession have been overpaid, and I wouldn’t disagree.

That is why I have decided to donate 100 percent of the effective after-tax proceeds of my retention payment directly to organizations that are helping people who are suffering from the global downturn. This is not a tax-deduction gimmick; I simply believe that I at least deserve to dictate how my earnings are spent, and do not want to see them disappear back into the obscurity of A.I.G.’s or the federal government’s budget.

DeSantis is a titan of finance. He writes that the deferred contractual payment he received on March 16 was “$742,006.40, after taxes.” Before taxes, that means he got one of those “million-dollar bonuses.” It’s a lot of money, but it’s certainly not bizarrely high for a senior financial services executive.

I think AIG or any troubled company could use more thoughtful and talented executives like DeSantis. The company and the economy need experienced leadership, and yes, financial services leaders make a lot of money. I’d much rather trust DeSantis than any of the politicians calling for his scalp.

But the mob has had its say. Best wishes for your future endeavors, Mr. DeSantis.

Update: Holman Jenkins also weighed in on “The Real AIG Disgrace,” in today’s WSJ:

It may be that the full picture was kicked up to [Geithner] only when a political decision was needed, but by then his one decent choice was to insist on the bonuses’ legality. However politically inopportune the bonuses may be, the president only dirtied himself by authorizing a feel-good, bipartisan hate storm aimed at innocent AIG employees. And it’s hard to believe Mr. Obama would have done so, or the subsequent spectacle would have unfolded as it did, without Mr. Geithner’s seminal prevarications (and we say this fully acknowledging that he’s had a rough ride in an inhumanly difficult job).

Barney Frank, who doesn’t have the excuse of being stupid, was last seen bullying Mr. Liddy to do what on any other day Mr. Frank would flay Mr. Liddy for doing — violating the privacy rights of his employees. Charles Grassley? His early bloviating about the duty of AIG executives to kill themselves almost begins to look like a grace note, since it alerted the public to the hyperbolic playacting about to come. …

But the biggest lesson here is the old one that the price of freedom is eternal vigilance — beginning with insistence on the rule of law. Americans clearly cannot trust their elected officials to defend their rights and interests, or care whether justice is served, when the slightest political risk might attach to doing so.

Which brings us back to Mr. Cuomo, whose office has been implicitly threatening to publish names of AIG employees who don’t relinquish pay they were contractually entitled to.

Mr. Cuomo is a thug, but at least he reminds us: It can happen here.

Sorry, No Tears Here for Madoff’s Clients

(After learning more about Madoff’s victims, I recanted in a later post — KP)

Apparently regulators ignored warning signs for more than a decade while Bernie Madoff stole and/or lost as much as $50 billion of his clients’ money. Holman Jenkins explains why we should not waste our sympathy on the clients:

There are costs and benefits to everything, including the cumbersome apparatus of firms that subject themselves to intrusive monitoring and conform to standards of transparency. Mr. Madoff’s clients chose to avoid those costs. For that matter, they chose to forgo lower but safer returns, as many rich people do, by entrusting their fortunes to T-bills.

The herding automatons of the media can never encounter lawbreaking in the financial markets without concluding that it demonstrates the necessity of more laws against lawbreaking. Congress, now in the process of convincing itself it should run the auto industry, no doubt will see in Mr. Madoff proof that Congress is needed to manage rich people’s money and ordinary people’s too. Then we’ll all be in the same position as Mr. Madoff’s clients.

I’ve never been burdened by great wealth. Hedge funds like those that invested with Mr. Madoff typically require $1 million or more to open an account — no danger for me! As a 50-year-old “thousandaire,” I probably don’t have to worry about what I would do with a million dollars in investable assets.

But it’s at least theoretically possible that I could strike it rich — by starting a successful business, say, or writing a bestselling book. If so, I’ll have to have quite a few “safe millions” in investments no riskier than an S&P 500 index fund before I’ll even think of risking a million dollars with a hedge fund.

Most of the investors who lost millions have other millions to fall back on. Somewhere there may be an investor who invested his only millions with a fund victimized by Mr. Madoff. If so… well… bummer. But no tears here.

Congress May Have a Spine on Auto Bailout

Here’s why Congress ought to hold the line and refuse to bail out the automakers (emphasis added):

Requiring car companies to meet corporate average fuel economy (CAFE) standards forces them to lose money on small cars that people don’t want so they can sell big cars that people do want, at least until gas prices soar out of sight. Proof positive came last month, when the Toyota Sequoia and Honda Pilot SUVs posted big gains while sales of most other cars plunged. The obvious reason: gasoline prices plunged too.

The reason Europe has fuel-efficient cars is high gas prices, not CAFE laws. What’s more, the only times that Americans have switched to smaller cars is 1973, 1979 and the spring of 2008, when gas prices here were high. So the time has come for Congress to stop pretending that fuel-economy can be legislated and to put market forces to work. That means raising gasoline taxes — offset by cuts in income taxes and by gas vouchers for needy people. These measures would succeed at raising fuel economy and in reducing automotive emissions where the CAFE law has failed.

The Rube Goldberg system of intricate, loophole-ridden fuel efficiency standards has been tried (in the U.S.) and failed. The simple expedient of high gas taxes has been tried (in Europe) and succeeded. Q.E.D.

What do the CAFE standards have to do with the bailout? In the Rube Goldberg link above. Holman Jenkins describes how the CAFE standards help entrench the unions. Refusing to bail out the automakers would address the union issue from the other direction — by giving automakers the ability to renegotiate existing labor (and dealer) contracts in bankruptcy court.

But the more powerful link between the two is reliance on the magic of capitalism. Market forces are more powerful and more reliable than complicated legislation, but the market forces have to be allowed to do their job, and the proper incentives have to be in place. That means that companies that make bad decisions over a period of decades have to be allowed to fail.

There is reason to hope that Congress may do the right thing — because they’re hearing from their constituents (emphasis added):

Congressional leaders are concerned that public opinion has turned strongly against help for the automakers. A CNN/Opinion Research Corp. poll of nearly 1,100 Americans conducted earlier this week found 61% oppose a bailout, while only 36% support it. Even in the Midwest, home to most of the automakers’ remaining plants, 53% of those polled opposed federal help.

That was a stunning reversal of polls taken before the CEOs last trip to Capitol Hill. A poll Nov. 11 and 12 conducted by Peter D. Hart Research Associates found 55% supported federal assistance for automakers at that time, and only 30% who believed they should not get federal help.

On the last trip to DC, of course, the auto executives caught a lot of heat for arriving on their separate corporate jets, and presumably that symbolism is fueling the shift in public opinion. (This time, they arrived in hybrid cars and vehicles.) The cost of the corporate jets are a round-off error compared to the automakers’ overall expenses. But populist indignation may help Congress do the right thing on the bailout, because they can be seen as “punishing” the executives as well as the unions.

Mr. Obama: Declare War on Rube Goldberg

In today’s Wall Street Journal, Holman Jenkins identifies the key culprit in the current economic woes. It’s not Hank Paulson or Hank Greenberg or Stan O’Neal or even George Bush. The most formidable enemy of the American economy is Rube Goldberg.

Jenkins starts by discussing the complex set of rules that have enabled autoworkers to win the contracts that have crippled the American auto industry:

… the single biggest factor in preserving the UAW’s monopolistic power has not been labor law but Congress’s fuel-economy rules. These effectively have required the Big Three to lose tens of billions making small cars at a loss in UAW factories. Not only were the companies obliged to forgo profits they might have earned importing such cars, but CAFE deprived them of crucial leverage to control labor costs by threatening to move jobs to a factory in Spain or Taiwan or Poland.

The CAFE standards — a Rube Goldberg system known formally as Corporate Average Fuel Economy standards — distort the automobile marketplace while dismally failing at their fundamental reason for existence, which is to reduce carbon emissions. Jenkins then ties the proposed auto bailout to the financial meltdown and other issues (emphasis added):

A whole lot of Rube Goldbergism is coming home to roost, in the auto business, in the mortgage market, in the health-care market, in farm policy. We need to simple-down. The economy has a giant adjustment ahead, paying off debts, going from a heavy absorber of foreign capital and goods to a rebalanced relationship with the world.

The good news is that we have a natively resilient, flexible economy capable of making these adjustments — unless bound up in Rube Goldbergian mandates. Barack Obama, bless his heart, may or may not be ready for what’s coming his way. Yet his objectives are perfectly amenable to the simple-down approach.

He asked on Monday for Detroit to deliver a “plan” somehow to reconcile, at long last, the fantasy life of Washington, with nobody losing a job, with super energy-efficient cars, and yet somehow all this being done at a profit to Detroit.

Here’s a plan, but it requires Mr. Obama to play a role too, finally relinquishing such chronic free-lunchism where autos are concerned. He should simply get rid of the CAFE rules and impose a gasoline tax to move the country to a “new energy economy,” if he really believes in panicky climate predictions and/or that “energy independence” would be a net improver of American welfare. And be prepared for Detroit to shift jobs offshore if the UAW won’t concede competitive labor agreements.

Economist Greg Mankiw has been a champion of a gasoline tax for years, periodically welcoming new members in the Pigou Club, a collection of economists and pundits who favor Pigouvian taxes, which Wikipedia describes as “a tax levied to correct the negative externalities of a market activity.” Mankiw does a thorough job of advocating for a gas tax in his Pigou Club Manifesto. Here’s my shorthand version: Raising the gas tax substantially would automagically lead to more fuel-efficient cars, and the tax revenues raised could be used for good purposes such as reducing other taxes and remediating carbon emissions.

Having already established my credentials to offer “improvements” to Mankiw’s ideas, I want to point out that his specific proposal, which seemed bold when he unveiled it two years ago, now looks quaint:

I would like to see Congress increase the gas tax by $1 per gallon, phased in gradually by 10 cents per year over the next decade.

After watching gas prices go from $2 to $4 and back to $2 in a matter of months, it now seems clear that a series of annual 10-cent increases would go virtually unnoticed, thereby reducing the desired effect. But that’s a quibble — maybe it should be 50 cents annually for four years, or whatever.

Today’s WSJ also has a tantalizing hint that Mr. Obama might be amenable to taking on Rube Goldberg:

As part of his plan to kill government programs “that have outlived their usefulness,” the President-elect singled out farm subsidies for the rich. If he really means it, this would be big news.

Indeed it would — especially if it were a first step toward eliminating the Goldbergian farm subsidies altogether, along with the negative externalities they entail.