Pigs Fighting To Be First in Line at the Trough


On October 2, 2008, LewRockwell.com exposed the political truth behind the bailout: that its purpose is to transfer wealth to Citibank and JP Morgan from the US taxpayer as well as the Wachovia and Washington Mutual equity holders. Although many additional state-empowering bells and whistles have been added to the bailout plan, at its core the bailout dictates that the US government will purchase somewhere north of $850 billion in subprime mortgages and otherwise unmarketable mortgage-backed securities from the financial institutions holding those securities. In the week prior to the passage of the bailout, the federal government, through the FDIC and the Office of Thrift Services, forced the transfer of $307 billion in Washington Mutual assets (including at least $34 billion in non-performing loans) to JP Morgan for $1.9 billion. The FDIC also “facilitated” the future transfer of more than $300 billion in assets (including at least $42 billion in non-performing loans) from Wachovia to Citibank. There can be little question about how the FDIC “facilitated” these deals. In these gun-to-their-head transactions, the FDIC brought the gun. The FDIC, as the regulator of WaMu and Wachovia, has the worldly power to shutter these banks, liquidate their assets and sell those assets over to whomever it desires. As it is neither a buyer nor a seller, it brings nothing more than regulatory leverage to such a transaction. This fact is palpably demonstrated in JP Morgan–WaMu takeover.

Developments just prior to and immediately after the bailout illuminate interesting political and potentially ominous market realities. The political reality is that George W. Bush, unlike his father, is most likely a Morgan man. Press reports indicate that W himself was involved in these transactions. Comparing the transactions shows that Morgan received the federal 800-pound gorilla's unbridled support whereas federal coercion in the Citi-Wachovia transaction was, by comparison, restrained. In “facilitating” the JP Morgan–WaMu deal, the FDIC first wrestled WaMu to ground, executing a midnight foreclosure and repossession of all its assets. The FDIC then sold WaMu's $302 billion in assets to Morgan for $1.9 billion and wiped out the WaMu equity holders, including a group that had invested $7 billion six months ago. Monday JP Morgan further announced that had no intention of hiring or retaining WaMu management. Wachovia was just the latest bone thrown to JP Morgan. In another federally "facilitated" transaction, on March 17, 2008 JP Morgan acquired global securities giant Bear Stearns for $236 million, or $2 a share. After shareholders complained, JP Morgan increased its "offer" fivefold, to $10 per share. In February of 2008, Bear Stearns stock had a market value $93 per share. Citi, by comparison, has not received the same level of government support. In the Citi-Wachovia transaction, the FDIC did not actually seize Wachovia's assets. It only threatened to seize Wachovia's assets, allowed Wachovia to survive as a legal entity and gave Wachovia until December 31 to close the deal with Citi. If W is not a Morgan man, then he is not a good negotiator, because the delay has opened the door for Wachovia to negotiate a better deal.

On the morning of October 3, in a “surprise announcement” Wachovia's management and board of directors seized the little daylight left open in the Citi deal and negotiated a deal with Wells Fargo to receive an additional $13 billion for their shareholders in a transaction that, unlike the Citi transaction, would not expose the FDIC (US taxpayer) to any direct losses. Wells Fargo's offer, seven times larger than Citi's, was made the night before the bailout, at a time when the probability of bailout, according to Intrade trading, was 90–95 percent. Wells' offer provides a lesson in Austrian economics because it tacitly recognizes that Wells believed that the bailout would cause Wachovia's subprime portfolio to become more valuable overnight. It is a basic principle of Austrian economics that those that are first in line when fiat money is created benefit the most – the pigs that are first in line at the trough get the fattest. Wells' offer illustrates this. Wells recognized that Congress was going to pass the bailout and that as a result Wachovia's unmarketable portfolio of subprime mortgages would have a willing buyer – the US taxpayer with newly minted US dollars. Wells' $15 billion offer ($13 billion more than Citi agreed to pay) was the price it was willing to pay to take Citi's place at the trough. This development of course sent Citi into a rage. Citi and Wells have both obtained court orders authorizing them to go forward with their transactions as they fight over the right to be first in line to receive taxpayer funds.

Most interesting, however, is the FDIC's reaction. Erasing all doubt as to the federal government's impartiality and in a stunning rejection of a private company's right to enter into a free-market voluntary exchange, FDIC chairman Sheila Bair indicated that the FDIC would continue to support the coerced transfer to Citi. Ms. Bair, apparently a Citi woman, objected to the Wells deal, a deal that was negotiated in a free market exchange without the FDIC's “facilitation.” Never mind the interests of the taxpayer (Citi deal placed additional obligations on FDIC), never mind the interest of the Wachovia investors and stock owners, never mind the fiduciary obligations of the Wachovia managers and directors to obtain the best price for the company's assets, Ms. Bair says Wachovia should stick to Citi deal that her agency helped coerce: “the agency is standing behind the agreement it made with Citigroup Inc.” George Orwell's fiction has become reality, the pigs are now in charge.

It should be noted here that, although Wachovia apparently had a contract with Citi, parties have the right to engage in activities that will result in an “efficient breach.” That is, even if the Wachovia board executed an agreement to receive $2 billion for its assets, if Wells has agreed to pay $13 billion more for those assets Wachovia has the legal right to breach its contract with Citi and take Wells' better offer. Citi of course has a remedy in the form of a breach of contract claim against Wachovia (and against Wells for tortious interference with its contract with Wachovia). Citi has now brought such a lawsuit and alleged $60 billion in damages if it is aced out of the Wachovia deal. $60 billion is the value Citi places on being first in line at the fiat money trough. In the unlikely event that Citi's case goes forward, it will be an interesting trial as Citi's damage claim will provide a lesson in perverted fascist capitalism. Citi's counsel's opening statement:

Ladies and gentlemen of the jury, we will show you how the bailout gave us the right to profit $60 billion by selling a portfolio of unmarketable securities to you, the taxpayer, and further by buying Wachvoia's $300-plus billion in deposits and branches for a mere $2 billion in a deal that was facilitated by our friends, the FDIC. Wells intentionally and maliciously interfered with our contract when it had the temerity to pay Wachovia's shareholders $13 billion more than we agreed to pay and further did not allow the FDIC to facilitate their offer.

This is the sad political reality behind the Citi-Wells-Wachovia dispute.

The market reality following the bailout is potentially much more ominous. Assuming that there has been no short-term market manipulation in JP Morgan stock, either from the President's Working Group on Financial Markets, the so-called “plunge protection team” or others, then the price of JP Morgan stock may portend a precipitous drop in the future value of the dollar. Hidden in the financial news last week was the fact that, coincident with its takeover of WaMu, JP Morgan announced the sale, on a first-come, first-served basis, of $10 billion in common stock at $40.50 per share. The infusion of $10 billion in capital to the $165 billion JP Morgan of course should have some diluting effect and put some downward pressure on JP Morgan's stock. The new offering resulted in approximately 250 million new shares of JP Morgan stock, about seven percent of the total 3.4 billion shares outstanding. One would expect to see a seven percent decline in the JP Morgan share price following the sale because of the dilution. Yesterday, however, JP Morgan stock came to a crashing close of $39.32. This is an 18 percent drop from September 25, the date of the WaMu takeover, and, more importantly, almost 3 percent lower than the $40.50 offering.

All of this is troubling because students of Austrian economics know that the primary beneficiaries of monetary and fiscal inflation are those who are first in line when the money is created. As of October 2, the result of the federally orchestrated takedowns was that JP Morgan was unquestionably first in line to receive perhaps the largest share of the $850 billion-plus in funds that will be created out of thin air (Treasury will issue bonds which the Federal Reserve will buy with newly minted inflationary dollars) once the bailout is enacted. Applying this principle, JP Morgan stock should be skyrocketing up, not going down. The principle, however, applies only where the fiat currency retains some marketable value. If the fiat currency has no value, it doesn't matter where you are in line. JP Morgan's share price over the last week may be just a snapshot in time as JP Morgan's overall market capitalization is still up approximately five percent since the bailout was announced, but if JP Morgan's rapidly declining share price continues it will show that the market believes that JP Morgan's right to be first in line to receive as much as $850 billion in newly printed dollars is perhaps as worthless as the securities sold in exchange. If this is true, it is the end of the dollar. Wells Fargo should take note of this fact before pushing forward with its acquisition of Wachovia's subprime portfolio – the market may be telling Citi and Morgan that their deals represent nothing more than an exchange of one pile of worthless paper for another pile of worthless paper.

October 8, 2008