Financial Illiteracy in Washington

Last week I somewhat unfairly mocked two blogs for demonstrating a lack of understanding of what I consider basic financial principles.  I say unfairly because, although I believe everybody should know this stuff, I would be the first to point out that tragically few do.GS Tower Crop

I am reminded of this because essentially the same point of confusion about interest rates and paying back loans that tripped up the bloggers appears to be confusing the Obama administration.

It seems that Goldman Sachs, the tiresomely successful former investment bank, wants to pay back the $10 billion in TARP money it got from the government last year.  This isn’t a vague aspiration. Goldman has the money and is politely asking to whom the check should be made out.

You might think that the administration would be very happy about this.  They could use it as evidence that things were looking up, or that the banks were not as bad off as previously thought, or even that the mountain of taxpayer money poured into the TARP might actually be repaid someday. Instead, they are confused and annoyed by Goldman’s actions.  They even hinted that they might not accept the money.  (Yes, that’s right, Goldman actually needs special permission to pay the taxpayers back.)

Goldman never really wanted the money to begin with.  They took it because the Treasury asked them to, on the theory that if all the major firms took some, even the fairly healthy ones, then shaky firms wouldn’t be shy about asking for the help they need.  Sorta like how you take a little Children’s Tylenol to convince your three-year-old to take some too.

You can see Goldman’s participating in the TARP as a noble act, or merely the result of recognizing that doing the Treasury a favor is good for business.  Either way, Goldman signed up before the Great Bonus Hysteria prompted Congress to threaten all sorts of punishments for financial success while holding TARP money. Owing $10 billion on stiff terms is one thing, but living under the threat that the government may at any time, for example, interfere with how much you pay your people is another.  Goldman paid 963 employees more than a million dollars last year.

So it’s easily understandable why Goldman wants out.  Why isn’t the administration keen to let them out?  Basically, they worry that if Goldman pays back the money then everybody will want to pay back the money.  And that, believe it or not, the administration considers to be a bad thing.  Because, and here is where they remind me of the unfortunate bloggers, they would prefer banks to lend any spare money out to customers rather than pay the government back.  You’d have to be pretty financially illiterate to think that makes sense.

TARP money is expensive.  The headline interest rate is only 5%, rising to 9% after five years, but it comes with a laundry list of other benefits for the government and restrictions on what the bank can do, such as warrants on the bank’s stock and limits on the dividends the bank can pay to other shareholders. And Congress has demonstrated a willingness to add new restrictions retroactively.  How much this other stuff costs is hard to measure, but the fact that Goldman is apparently much less interested in paying off its debt to Warren Buffet, which carries a 10% interest rate, tells us that an all-in 10% cost estimate is not implausible.

An individual who owes money on a 10% car loan would be hard pressed to find an investment more attractive than paying down the car loan. Not only is it the equivalent of an investment with a 10% return, it is a risk-free 10% return.

Similarly, it is very hard to imagine any bank having a potential loan or any other investment that is more attractive than paying off the TARP.  And it doesn’t take the superior acumen of Goldman to work this out.  Given the current political and economic climate, paying back TARP money is clearly the first order of business for every bank as solvency improves. Isn’t that obvious?  I guess not.

164 Comments

  • By My Journey, April 16, 2009 @ 4:55 pm

    This situation scares the “F” out of me! So the government more or less takes over our transportation and banking industries.

    Then applies previously unmentioned control (keeping with the theme – Telling GM today to drop the GMC Brand and the point of your post).

    Then when the company says, “I am all-good please give me back control of my company so I can run it better than you (unlike Social Security and Medicaid)” they get rebuffed with “No.”

    I feel like a huge tool, but I feel the need to quote Star Wars,
    “So this is how democracy dies, with thunderous applause”

  • By Frank Curmudgeon, April 16, 2009 @ 5:07 pm

    My Journey: You are a huge tool. The line is “So this is how liberty dies, with thunderous applause.”

  • By My Journey, April 16, 2009 @ 6:58 pm

    Damn it! You are right and that sucks I can’t even be a good tool

  • By Rob Bennett, April 16, 2009 @ 7:17 pm

    A crisis can lead to some very bad things.

    It can also lead to some very good things.

    It’s essentially a gut check. It’s a test of what we are inside.

    It’s scary. I don’t deny that. I am resistant to the idea of getting too caught up in gloom and doom, however.

    We might not make it to the other side. Or we might face up to things that we haven’t wanted to face up to that take us to exciting new places.

    I feel as if time is being speeded up. Questions that we could put to the side before are demanding attention.

    Rob

  • By SJ, April 16, 2009 @ 7:41 pm

    Yay the end of the world…

    Tho I thought one reason the govt wants to rebuff goldman’s return is to prevent uncertainty in the financial sector “Oh no’s my firm still needs it!”

    I do like how goldman was somewhat forced to take the loan. And now has no say in being able to return it.

    Regardless, end of capitalism! yayyyy… What a brave new world…

  • By CWulf, April 17, 2009 @ 12:47 pm

    Goldman’s trading and underwriting behavior for the past decade has been sociopathic. They act like they are the government’s lapdog while they rape and pillage markets with abandon. Goldman and their cronies act like paying back the $10 billion will free them from government bondage. They forget about the $28 billion in FDIC loan guarantees and $13 billion siphoned from the government through AIG’s bailout. Goldman profitted from the collapse of AIG all the while they sued for its rescue controlled by alumni financial engineers. Without the Federal largesse, Goldman would not have been able to trade their way to profitability in its last quarter (which comfortably omitted December’s loss) which allowed them the momentum to float their new $5 billion capital raise. Goldman doesn’t owe $10 billion at 10%, they owe ten times this to the American public and at least a few of their alumni should be held criminally liable for Wall Street’s meltdown.
    Financial illiteracy is being blinded by the shine on the gold and believing in the goodness of those that hold it.

  • By RT, April 17, 2009 @ 2:39 pm

    Frank,

    It’s true that Obama’s administration could claim Goldman’s payback as a sign of things looking up, but unfortunately, like you said, even while Goldman was taking the TARP funds they were shouting from the rooftops that they didn’t actually need those funds and were just playing along with their law-making pals.

    So it’s not as if the US Treasury or the administration don’t necessarily know that it is in Goldman’s best interest to pay off this loan. The thing is the government is not worried about Goldman’s bottom line. Each law or policy maker is in it to keep his/her own job by decrying Wall Street and making sure the voters know that they’re doing all they can to reign in the “greedy investment bankers.” And as long as the banks still have TARP money, it’s easy to remind taxpayers of this. I’m, of course, assuming they believe that this loan will not decimate Goldman’s business, which it probably will not.

    As such, the politicians are still more worried about playing politics than fixing the actual problems. The more things change, the more they stay the same.

  • By Frank Curmudgeon, April 17, 2009 @ 3:49 pm

    CWulf: The $28 billion in FDIC guarantees are not money changing hands, only insurance coverage, for which Goldman pays a premium and is enititled to take advantage of now that it is a commercial bank. The AIG story is increasingly looking like an urban legend. Goldman has said that its net exposure to AIG was “rounding error” not $13 billion. I don’t know that anybody profitted from AIG’s collapse, although lots of folks, particularly European banks, profitted from taking the other side of AIG’s foolish CDS trades on mortgages.

    If you believe that without Federal largess the financial system would have collapsed, and Goldman with it, then yes, I can see how Goldman is beholden to the government for its recent successes.

    They raised $5 billion by selling equity because that was a requirement of the TARP program in order to pay back the money.

    Which alumni (Paulson? Rubin? Corzine? Cramer?) should be held criminally liable and what crimes did they commit to cause the meltdown?

  • By CWulf, April 17, 2009 @ 4:22 pm

    Yes

  • By Spliffe, April 22, 2009 @ 1:04 pm

    This post isn’t arguing that the Obama administration is confused or financially illiterate, it’s arguing they’re doing things you have an ideological objection to. If you must name-call, why not choose the right names?

  • By Frank Curmudgeon, April 23, 2009 @ 4:56 pm

    I have to choose between doing things I object to and being financially illiterate? Can’t I have both? It’s my blog.

    I really do believe that the adminstration was caught off guard by Goldman (and a few others) sincerely and urgently wanting to pay the money back. With all the hysteria (partly whipped up by the administration) about what a sweet deal these bankers were getting, I think it never occurred to them that the terms were so onerous that any rational banker would want out if they could.

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