Autoworkers wearing protective masks at a General Motors factory
Ilargi: Thought I’d clear up all the GM stuff I got here first, and deal with the rest in a post later today. Plenty to read, and more details will emerge as we go along, but one thing is for sure: GM will never return. There may be another company rising from the ashes, but it won't be anytime soon and it won't be GM, even though the bloated brains in charge of the debt-shedding metamorphosis will undoubtedly choose to keep the name, on account of the reliability and other feel-good associations it represents. If this were a transparent economy, we should get answers to some questions about GM's piles of toxic paper, but what are the chances we will? In particular, we should ask what happened to the losses at GM and GMAC, GM's former finance arm. We were reading -and writing- about its troubles in early 2006.
Credit investors ponder GM-sized hole in universe
Mar 28 2006
The world's largest automaker, whose debt is close to the gross domestic product (GDP) of Belgium, lost more than $10 billion last year and is facing a bankruptcy that would reap devastation in the financial markets. GM's share price has halved in the past year, while its $100 billion of bonds have been cut to junk, confronting investors with the prospect of never getting their money back. Others in the highly-leveraged derivatives market face incalculable losses should a bankruptcy occur.
'A GM default would be absolutely huge,' said Jonathan Loredo, of credit manager Cairn Capital. 'It would be the biggest thing to hit the market in terms of losses and operational stress.' There is no understating the scale of GM's problems. It is losing market share in the United States, has $300 billion of long-term debt, provides health benefits to 1.1 million people (at the rate of about $1,500 per car produced), is threatened with a strike by its largest supplier, which is bankrupt, and is being investigated by the Securities and Exchange Commission.
Few who invest do not have some level of exposure -- GM stock and debt is held by the biggest investment banks and smallest retail buyers. GM, or its financing arm GMAC, is present in around 65 percent of synthetic collateralized debt obligations (CDOs), according to Standard & Poor's, and underlies an estimated $1 trillion of default swaps.
Credit derivatives rocked by loss at GM finance arm
Mar 18 2006
The discovery of huge hidden losses at General Motors's finance arm have raised fresh fears of bankruptcy at the world's biggest carmaker, sending tremors through the credit derivatives markets. The struggling group asked for a filing delay after admitting to an extra $2bn (£1.1bn) in accounting errors at its finance arm GMAC, raising total losses last year to $10.6bn. The news triggered a sharp spike in the cost of default insurance on GMAC's bonds, rising 75 basis points overnight.
Timothy Geithner, president of the New York Federal Reserve, warned in a recent speech that the $300,000bn derivatives market had raced ahead of the infrastructure needed to support it. He said the plethora of new instruments may have led to a more dangerous concentration of risk.[..]
This time Mr Geithner is demanding that the International Swaps and Derivatives Association (ISDA) clean up it act before - not after - any credit crunch. He said the "most conspicuous" problems were in the $12,400bn market for credit derivatives, which has doubled in size every year for the last decade. A "significant" proportion of total trades do not even match up, he said. Credit derivatives are an easy way to bet on credit quality without having to buy actual bonds, which are less liquid. Mr Geithner said the risk was very heavily concentrated, with America's ten biggest banks holding $600bn in potential credit exposure (on $95,000bn of notional trades), equal to 175pc of their financial reserves.
Wikipedia on GM and GMAC:
On March 23, 2006, GM announced that it completed the sale of a 78% interest in GMAC Commercial Holding, its commercial real estate subsidiary, for $1.5 billion in cash to a private investment group including Kohlberg Kravis Roberts & Co., Five Mile Capital Partners and Goldman Sachs Capital Partners. The deal includes the payoff of all intracompany debt owed to GMAC, bringing the total value of the deal to $9 billion. The new entity, in which GMAC owns a 21% interest, is known as Capmark Financial Group, Inc.
Cerberus Capital Management acquired 51 percent of GMAC from General Motors in November, 2006 for $7.4 billion. Investors also include Citigroup's private equity arm and Aozora Bank of Japan. Aozora lost $ 137 million to Bernard L. Madoff Investment Securities LLC. GM retained approximately $20 billion in automobile financing worth an estimated $4 billion over three years.[..]
Ilargi: Note the nice coincidence: Cerberus in late 2006 appointed J. Ezra Merkin as nonexecutive Chairman. Washington forced Merkin to resign in January 2009. On April 6, 2009, Merkin was charged with civil fraud by the State of New York, for "secretly steering $2.4 billion in client money into Bernard Madoff's Ponzi fraud without their permission." On May 18, 2009, Merkin agreed to New York Attorney General Andrew Cuomo's demands to step down as manager of his hedge funds and place them into receivership." Back to Wiki:
As of October 15, 2008, GMAC had $173 billion of debt against $140 billion of income-producing assets (loans and leases), some of which are almost worthless, in addition to GMAC Bank’s $17 billion in deposits (a liability). Even if GMAC liquidated the loans and leases, it couldn’t pay back all of its debt.
In December, 2008, Cerberus subsequently informed GMAC’s bondholders that the financial services company may have to file for bankruptcy if a bond-exchange plan is not approved. The company had previously said it may fail in its quest to become a bank holding company because it lacks adequate capital. In January, 2009, [..] the Federal Reserve granted GMAC bank holding company status, so it could get access to the bailout money. On December 29, 2008, the U.S. Treasury gave GMAC $5 billion from its $700 billion Troubled Asset Relief Program (TARP).
In 2007, Cerberus purchased an 80% stake in Chrysler, promising to bolster the auto maker’s performance by operating as an independent company. In 2008, the plan collapsed due to an unprecedented slowdown in the U.S. auto industry and a lack of capital. In response to questioning at a hearing before the House committee on December 5, 2008 by Rep. Ginny Brown-Waite, Chrysler President and CEO Robert Nardelli said that Cerberus' fiduciary obligations to its other investors and investments prohibited it from injecting capital.
On March 30, 2009, it was announced that Cerberus would lose its controlling stake in Chrysler. Cerberus will maintain a controlling stake in Chrysler’s financing arm, Chrysler Financial. Cerberus will utilize the first $2 billion in proceeds from its Chrysler Financial holding to backstop a $4 billion December, 2008 Treasury Department loan given to Chrysler. In exchange for obtaining that loan, it promised many concessions including surrendering equity, foregoing profits, and giving up board seats: “In order to achieve that goal Cerberus has advised the Treasury that it would contribute its equity in Chrysler automotive to labor and creditors as currency to facilitate the accommodations necessary to affect the restructuring.”
Chrysler Financial refused to take $750 million in TARP government bailout aid because executives didn't want to abide by executive-pay limits, and because the firm doesn't necessarily need the money, but reports suggested Chrysler Financial was surviving through government aid that was about to dry up. On April 30, 2009, Cerberus ceded ownership of Chrysler, and the car company declared bankruptcy protection and announced that GMAC will become the financing source for new wholesale and retail Chrysler cars. At the end of 2008, GMAC Financial Services had $189-billion in assets and 15 million customers around the world.
At the end of May, 2009, Cerberus will scale back their ownership as a condition of the lender becoming a bank-holding company, when the bulk of GM's existing ownership stake in GMAC will be placed into a trust, overseen by a trustee appointed by the Treasury, to be gradually dispersed. Cerberus will distribute the majority of its stake in GMAC to its investors.
Ilargi: See what I mean? In light of the above, and in light of the $60 billion the administration doles out to GM, as well as the unknown sums that have been handed over to GMAC, which was obviously in deep trouble way before its bank status gave it access to your tax money, the American public has the right to know what happened with the toxic paper Reuters wrote about here:
GM, or its financing arm GMAC, is present in around 65 percent of synthetic collateralized debt obligations (CDOs), according to Standard & Poor's, and underlies an estimated $1 trillion of default swaps.
In 2006, the then still fully linked GM/GMAC had exposure to $1 trillion in swaps and held $300 billion in long-term debt. Today, GM announced $172 billion in debt. Where have the rest of the losses gone? And don't tell me they paid it off. Also, where are GMAC's losses? The government owns them now?
• On December 29, 2008, the U.S. Treasury gave GMAC $5 billion from its $700 billion Troubled Asset Relief Program (TARP).
• On May 21, 2009, the Department of the Treasury announced it would invest an additional $7.5 billion in GMAC LLC which gave the U.S. government the majority stake.
Bankrupt G.M. Says It Owes $172 Billion
General Motors filed for bankruptcy on Monday morning, submitting its reorganization papers to a federal clerk in Lower Manhattan in a move that President Obama said marked "the end of an old General Motors and the beginning of a new General Motors."The bankruptcy of a once-proud auto giant that helped to define the nation’s car culture and played a part in creating the American middle class immediately rippled across the country, part of a process that the president said would take "a painful toll on many Americans" but lead ultimately to a strong company ready to compete in the 21st century.
But for the moment, auto workers braced for news about their jobs as G.M. said it would shutter plants in Michigan, Indiana, Ohio and Delaware, and plants in Tennessee and elsewhere in Michigan were put on standby. In financial markets, shares of foreign automakers and Ford surged ahead. President Obama, speaking at the White House, emphasized that investing more billions of taxpayer dollars in General Motors was not something he wanted to do, but something he felt the government had to do to avert a calamity that would hurt millions of people.
"We are acting as reluctant shareholders, because that is the only way to help G.M. succeed," Mr. Obama said, asserting that the government’s backing, coupled with the painful restructuring that the once mighty company is undergoing, "will give this iconic American company a chance to rise again." "I will not pretend the hard times are over," Mr. Obama said, adding that the sacrifice needed to be made for the next generation.
In its bankruptcy petition, G.M. said it had $82.3 billion in assets and $172.8 billion in debts. Its largest creditors were the Wilmington Trust Company, representing a group of bondholders holding $22.8 billion in debts, and affiliates of the United Auto Workers union, representing nearly $20.6 billion in employee obligations. In a court affidavit, Fritz Henderson, G.M.’s chief executive, said that bankruptcy and a Treasury-sponsored sale of General Motors’ assets to a so-called "New G.M." were the automaker’s only option to move forward. Failing that, he said, the company faced liquidation. "There is no other sale, or even other potential purchasers, present or on the horizon," Mr. Henderson said.
In a bit of good news, G.M. said Monday that it planned to keep its international headquarters in downtown Detroit, rather than move to the suburbs. It said it responded to concerns by city officials fearful of losing the only one of the Detroit companies to be based in the Motor City. The company was forced into the filing by President Obama, who is betting that by temporarily nationalizing the onetime icon of American capitalism, he can save at least a diminished automaker that is competitive.
With the filing, G.M. follows its crosstown rival Chrysler in bankruptcy. And G.M. hopes that it can move as swiftly. Chrysler, which sought court protection on April 30, could emerge in the next few days. A bankruptcy judge in New York gave approval on Sunday night for most of its assets to be acquired by Fiat, a decision that President Obama hailed on Monday morning. "A new, stronger Chrysler" is emerging, the president said, and a new, stronger General Motors can emerge too. But first, he said, more difficult times lie ahead, for those thousands of workers and retirees affected by the car industry. The president urged those affected to see themselves as making "a sacrifice for the next generation."
The bankruptcy of General Motors culminates a remarkable four months of confrontation between Washington and Detroit that is expected to result in a drastic downsizing of the company. It also places the government in uncharted territory as a business owner, as it takes a majority ownership stake in the company during its restructuring. The company’s Saturn unit, which G.M. began in 1990 to compete with foreign-made cars, also filed for bankruptcy on Monday. G.M. has said it will phase out the Saturn brand by 2012.
G.M.’s Saab unit is already under bankruptcy protection in Sweden. The German government last week picked Magna International, a Canadian car-parts maker, to buy G.M.’s Opel unit, which is based in Germany. Reflecting the government’s extraordinary intervention in industry, aides say, Mr. Obama reiterated his hope that G.M. can be brought back from the brink of insolvency, even if the company looks almost nothing like the titan of old.
The new G.M. will be leaner and better run and its cars more fuel-efficient, the president said, in yet another acknowledgement that the days of high-finned gas-guzzlers are gone forever. The president was envisioning a much smaller, retooled G.M. can make money even if new car sales remain at a sluggish 10 million a year in the United States and even if G.M., once the giant of the industry, drops below its current 20 percent market share in this country.
But to get there, American taxpayers will invest an additional $30 billion in the company, atop $20 billion already spent just to keep it solvent as the company bled cash as quickly as Washington could inject it. Whether that investment will ever be recovered is still an open question, although the president said he was optimistic, and that Washington really had no choice. The company will also have to shed 21,000 union workers and close 12 to 20 factories, steps that most analysts thought could never be pushed through by a Democratic president allied with organized labor.
Forty percent of the company’s 6,000 dealers will close, the workers’ union will be forced to finance half of its $20 billion health care fund with stock of uncertain value in the restructured G.M. and bondholders, including many retirees, will be forced to take stock worth 10 cents for every dollar they lent the company. G.M. will also lose its spot on the Dow Jones industrial average, a crucial stock-market gauge of 30 blue-chip stocks. The car maker had been a member of the closely watched stock index since 1925.In press releases and public statements, General Motors tried to put the best face possible on its bankruptcy filing.
"We see the path to the future for G.M.," Ray Young, G.M.’s chief financial officer, said at a briefing Monday morning. "This is a once in a lifetime opportunity to get our balance sheet healthy. I feel very blessed to have this opportunity. It’s a huge responsibility." Judge Robert E. Gerber of United States Bankruptcy Court in Manhattan will oversee the bankruptcy. He was appointed in 2000, and oversaw the bankruptcy of the cable company, Adelphia. Before that, he was a partner in the Manhattan firm of Fried, Frank, Harris, Shriver & Jacobson, which he joined in 1971 after graduating for Columbia Law School. He specialized in securities and commercial litigation and, thereafter, bankruptcy litigation and counseling.
The company’s last steps toward bankruptcy took place over the weekend as a majority of G.M. bondholders agreed not to challenge the filing in court and to exchange their debt for stock. To assist in the restructuring, the automaker is expected to hire the consulting firm Alix Partners, which has worked on several major bankruptcies, including those for Enron and Kmart. One of the firm’s partners, Al Koch, is expected to manage the liquidation of corporate assets that G.M. will shed during its Chapter 11 restructuring, people with knowledge of the bankruptcy strategy said.
Mr. Obama is taking several risks under the plan. None may be bigger than the decision that the United States government will take a 60 percent share of the stock in a new G.M., leaving taxpayers vulnerable if the overhaul is not successful. (Canada, for its part, is taking a 12 percent stake.) But he asserted that any alternative to his plan would be worse, and that a liquidation of G.M. — the only other real option — would send the unemployment rate soaring over 10 percent and would radiate damage throughout the economy.
"We are acting as reluctant shareholders, because that is the only way to help G.M. succeed," the president said, declaring as he has before that his administration has no interest in running a car company and will stay out of all but the most fundamental decision-making as the new G.M. takes shape. Aware of the hardships the plan will impose on regions across the country that depend on auto production, the White House is dispatching a dozen Cabinet members and other officials across four states this week to reassure residents.
Although the president said that, once the government sets up new management and a board it will remove itself from G.M.’s day-to-day operations, his aides anticipate intense pressure as the company’s managers are called to testify in Congress and face questions like why they decided to build new cars in Mexico and South Korea, rather than in Michigan or the South. "Congress and many Americans are going to say, if we own it, why can’t we make these decisions?" one of Mr. Obama’s top economic aides said, "and it’s going to be a challenge to answer that."
The president, anticipating those issues, said on Monday that a bigger share of the fuel-efficient cars to roll off G.M.’s assembly lines will indeed be made in the United States. Mr. Obama has laid out goals for all the Detroit automakers that will presumably affect their major strategic decisions. He has urged them, for example, to build smaller cars with significantly better fuel efficiency. But under the new principles, the White House would be discouraged from getting involved in G.M’s decisions about when and where to build such a car, or how long to keep producing it if it sells poorly.
Six months ago, even the suggestion of such deep intervention into G.M.’s operations would have raised huge objections. But by the time the denouement came, the company seemed almost relieved. Robert Lutz, G.M.’s vice chairman, said that "for the first time in our history, the American auto industry has the ear of the administration. Their number one goal is to make us successful."
General Motors holds a mirror up to America
by Robert Reich
As president of General Motors when Eisenhower tapped him to become secretary of defence in 1953, "Engine Charlie" Wilson voiced at his Senate confirmation hearing what was then the conventional view. When asked whether he could make a decision in the interest of the US that was adverse to the interest of GM, he said he could. Then he reassured them that such a conflict would never arise. "I cannot conceive of one because for years I thought what was good for our country was good for General Motors, and vice versa. Our company is too big. It goes with the welfare of the country." Wilson was only slightly exaggerating.
At the time, the fate of GM was inextricably linked to that of the nation. In 1953, GM was the world’s biggest manufacturer, the symbol of US economic might. It generated 3 per cent of US gross national product. GM’s expansion in the 1950s was credited with stalling a business slump. It was also America’s largest employer, paying its workers solidly middle-class wages with generous benefits. Today, Wal-Mart is America’s largest employer, Toyota is the world’s largest carmaker and General Motors is expected to file for bankruptcy. And Wilson’s reassuring words in 1953 now have an ironic twist. There will be little difference between what is good for America and for GM because it is soon to be owned by US taxpayers who have forked out more than $60bn (€42bn, £37bn) to buy it.
But why would US taxpayers want to own today’s GM? Surely not because the shares promise a high return when the economy turns up. GM has been on a downward slide for years. In the 1960s, consumer advocate Ralph Nader revealed its cars were unsafe. In the 1970s, Middle East oil producers showed its cars were uneconomic. In the 1980s, Japanese carmakers exposed them as unreliable and costly. Many younger Americans have never bought a GM car and would not think of doing so. Given this record, it seems doubtful that taxpayers will even be repaid our $60bn. But getting repaid cannot be the main goal of the bail-out. Presumably, the reason is to serve some larger public purpose. But the goal is not obvious. It cannot be to preserve GM jobs, because the US Treasury has signalled GM must slim to get the cash.
It plans to shut half-a-dozen factories and sack at least 20,000 more workers. It has already culled its dealership network. The purpose cannot be to create a new, lean, debt-free company that might one day turn a profit. That is what the private sector is supposed to achieve on its own and what a reorganisation under bankruptcy would do. Nor is the purpose of the bail-out to create a new generation of fuel-efficient cars. Congress has already given carmakers money to do this. Besides, the Treasury has said it has no interest in being an active investor or telling the industry what cars to make. The only practical purpose I can imagine for the bail-out is to slow the decline of GM to create enough time for its workers, suppliers, dealers and communities to adjust to its eventual demise. Yet if this is the goal, surely there are better ways to allocate $60bn than to buy GM? The funds would be better spent helping the Midwest diversify away from cars. Cash could be used to retrain car workers, giving them extended unemployment insurance as they retrain.
But US politicians dare not talk openly about industrial adjustment because the public does not want to hear about it. A strong constituency wants to preserve jobs and communities as they are, regardless of the public cost. Another equally powerful group wants to let markets work their will, regardless of the short-term social costs. Polls show most Americans are against bailing out GM, but if their own jobs were at stake I am sure they would have a different view. So the Obama administration is, in effect, paying $60bn to buy off both constituencies. It is telling the first group that jobs and communities dependent on GM will be better preserved because of the bail-out, and the second that taxpayers and creditors will be rewarded by it. But it is not telling anyone the complete truth: GM will disappear, eventually. The bail-out is designed to give the economy time to reduce the social costs of the blow. Behind all of this is a growing public fear, of which GM’s demise is a small but telling part.
Half a century ago, the prosperity of America’s middle class was one of democratic capitalism’s greatest triumphs. By the time Wilson left GM, almost half of all US families fell within the middle range of income. Most were headed not by professionals or executives but by skilled and semi-skilled factory workers. Jobs were steady and health benefits secure. Americans were becoming more equal economically. But starting three decades ago, these trends have been turned upside down. Middle-class jobs that do not need a college degree are disappearing. Job security is all but gone. And the nation is more unequal. GM in its heyday was the model of economic security and widening prosperity. Its decline has mirrored the disappearance of both. Middle-class taxpayers worry they cannot afford to bail out companies like GM. Yet they worry they cannot afford to lose their jobs. Wilson’s edict, too, has been turned upside down: in many ways, what has been bad for GM has been bad for much of America.
U.S. Auto Sales Likely Tumbled 35% on Chrysler, Jobs
Chrysler LLC, idling plants and shutting dealerships in bankruptcy, probably helped shrink the U.S. auto market by 35 percent in May as the industry endured its worst start to a year since at least 1976. The seasonally adjusted sales rate tumbled to 9.2 million last month from 14.2 million a year earlier, based on 7 analysts surveyed by Bloomberg. Chrysler may have fallen 51 percent and General Motors Corp., which filed for bankruptcy today, may have fallen 37 percent, according to 5 analysts.
May sales at that rate would mark a fifth straight month at fewer than 10 million units, the deepest slump in 33 years of Bloomberg data. U.S. joblessness at the highest since 1983, Chrysler’s Chapter 11 case and GM’s slide toward court protection all likely helped keep buyers out of showrooms. "It’s still a rough road out there," said Jeff Schuster, an automotive sales analyst with J.D. Power & Associates in Troy, Michigan. "There’re still a lot of issues with the economy and a lot of uncertainty in consumers’ minds." GM, the biggest U.S. automaker, and No. 3 Chrysler began receiving emergency federal loans in December while they worked to restructure outside of court.
Chrysler filed for bankruptcy on April 30 and won court approval late yesterday to sell most of its business to a group led by Italy’s Fiat SpA. Detroit-based GM sought Chapter 11 protection today, ahead of reporting May results tomorrow with other automakers that sell cars in the U.S. The industry sales rate has been little changed since January "probably because of uncertainty caused by Chrysler and GM bankruptcies," said Jesse Toprak, director of industry analysis for auto-research firm Edmunds.com in Santa Monica, California. "After the dust settles, we’ll probably see sales improving to above a 10 million rate."
While that rate would be higher than in the first five months of 2009, it still would be less than 2008’s 13.2 million U.S. sales and the average of 16.8 million this decade through 2007. Ford Motor Co., the only U.S. automaker not in bankruptcy, probably posted a 29 percent drop in sales, helping it increase market share, according to 5 analysts. A late-month sales jump may push the industry rate to almost 10 million units or even more, said George Pipas, the sales analyst for Dearborn, Michigan-based Ford. "In the last week, things have changed," he said. "We expect to see a sales rate that is higher than we’ve seen in the last four months."
Nissan Motor Co. may have fared best among Japanese automakers, sliding 37 percent, compared with 40 percent for Toyota Motor Corp. and 38 percent for Honda Motor Co., according to the average of 3 analysts surveyed by Bloomberg. Hyundai Motor Corp., South Korea’s largest automaker, may have dropped 15 percent, according to Edmunds.com. Incentive spending and Hyundai’s image as a value brand probably helped blunt the decline, Toprak said. Buoyed by incentives, Chrysler outperformed the industry through May 18, according to a J.D. Power report that cited dealer sales data. By month’s end, that pace proved unsustainable, Toprak said. "We thought the fire sale at Chrysler after the bankruptcy filing would go better," he said. "There was an uptick in sales and then it faded away."
Chrysler was trying to boost demand against a backdrop of factory and dealership closings. The Auburn Hills, Michigan- based automaker halted most assembly work starting May 4 and cut ties 10 days later with 789 dealers, or about 25 percent of the total. Those on the cut list will be gone by June 9. "Good signs" in the economy may help revive industrywide sales in coming months, J.D. Power’s Schuster said.
Consumer confidence rose the most in six years in May, as measured by the sentiment index of the New York-based Conference Board research group. Fewer Americans filed claims for unemployment benefits in the week ended May 23, according to Labor Department figures released May 28.
Automakers are still waiting to see those improvements translate into brisker traffic at dealer lots, said John Wolkonowicz, an IHS Global Insight Inc. analyst in Lexington, Massachusetts. "Consumer confidence is very much a leading indicator and it will take several months for car sales to get in line with that," said Wolkonowicz, whose firm projects industry sales this year of 9.5 million. That would be the fewest since 1964, according to Automotive News’s 100-Year Almanac. "There’s still a long way to go before we’re out of this."
GM Bankruptcy Begins, NY Dealer Files For Chapter 11
General Motors filed for Chapter 11 bankruptcy protection Monday as part of the Obama administration's plan to shrink the automaker to a sustainable size and give a majority ownership stake to the federal government. GM's bankruptcy filing is the fourth-largest in U.S. history and the largest for an industrial company. The company said it has $172.81 billion in debt and $82.29 billion in assets. "The General Motors board of directors authorized the filing of a Chapter 11 case with regret that this path proved necessary despite the best efforts of so many," a company statement said. "Today marks a new beginning for General Motors. ... The board is confident that this New GM can operate successfully in the intensely competitive U.S. market and around the world."
As it reorganizes, the fallen icon of American industry will rely on $30 billion of additional financial assistance from the Treasury Department and $9.5 billion from Canada. That's on top of about $20 billion in taxpayer money GM already has received in the form of low-interest loans. GM will follow a similar course taken by smaller rival Chrysler LLC, which filed for Chapter 11 protection in April. A judge gave Chrysler approval to sell most of its assets to Italy's Fiat, moving the U.S. automaker closer to a quick exit from court protection, possibly this week. The plan is for the federal government to take a 60 percent ownership stake in the new GM. The Canadian government would take 12.5 percent, with the United Auto Workers getting a 17.5 percent share and unsecured bondholders receiving 10 percent. Existing GM shareholders are expected to be wiped out.
Albert Koch, who helped Kmart Corp. through its Chapter 11 reorganization, will serve as GM's chief restructuring officer. President Barack Obama is scheduled to address the nation about GM's future at midday from Washington, and GM CEO Fritz Henderson is to follow him with a news conference in New York. Administration officials, speaking on condition of anonymity in advance of Obama's remarks, said they expect the bankruptcy court process to last 60 to 90 days. If successful, GM will emerge as a leaner company with a smaller work force, fewer plants and a trimmed dealership network.
GM revealed Monday that it will permanently close nine more plants and idle three others. The Pontiac, Mich., and Wilmington, Del., assembly plants will close this year, while plants in Spring Hill, Tenn., and Orion, Mich., will shut down production but remain on standby. One of the idled plants will be retooled to build a small car that GM had originally planned to build in China. Seven powertrain and parts stamping plants will be closed starting in June 2010, while an additional stamping plant will be idled but remain in a standby capacity. GM's filing comes 32 days after a Chapter 11 filing by Chrysler, which also was hobbled by plunging sales of cars and trucks as the worst recession since the Great Depression intensified.
The sale to Fiat means Chrysler could be out of bankruptcy within the government's original timeframe of 30 to 60 days. Chrysler's plan gives a 55 percent stake of the new company to a union-run trust for retirees. Fiat gets a 20 percent stake to Fiat that can ultimately grow to 35 percent. The U.S. and Canadian governments get smaller pieces. The third of the one-time Big Three, Ford Motor Co., has also been stung hard by the sales slump, but it avoided bankruptcy by mortgaging all of its assets in 2006 to borrow roughly $25 billion, giving it a financial cushion GM and Chrysler lacked.
GM will move forward with four core brands _ Chevrolet, Cadillac, Buick and GMC _ and cut four others. The company plans to cut 21,000 employees, about 34 percent of its work force, and reduce the number of dealers by 2,600. GM said it was finalizing a deal to sell Hummer, and plans for Saturn are expected to be announced within weeks. "There is still plenty of pain to go around, but I'm confident this is far better than the alternative," said Sen. Carl Levin, D-Mich. "It's a new beginning, it's a rebirth, it's a new General Motors." GM, whose headquarters tower over downtown Detroit, said it believed the filing was not an acknowledgment of failure, but a necessary way to cleanse itself in an orderly fashion of problems and costs that have dogged it for decades.
GM shares fell as low as 27 cents in Monday morning trading, their lowest price in the company's 100-year history. The News Corp. unit that oversees the Dow Jones industrial average said GM will be kicked out of the index on June 8 and be replaced by Cisco Systems Inc. The index's rules prohibit it from including companies that have filed for bankruptcy. The bankruptcy filing represents a dramatic downfall for GM, which was founded in 1908 by William C. Durant, who brought several car companies under one roof and developed a strategy of "a car for every purse and purpose." Longtime leader Alfred P. Sloan built the global automaker into a corporate icon.
GM first sought help from the Bush administration and Congress last year as it was in the midst of being staggered by $30.9 billion in losses and seeing its cash resources shrink by more than $19 billion. Consumers, worried about the economy and the future of GM, shied away from the company's cars and trucks this year even after President George W. Bush promised loans and Obama followed through with billions more in assistance _ plus a stiff set of new requirements GM was ordered to meet. When GM failed to do so by a March 31 deadline, Obama forced out CEO Rick Wagoner and replaced him with Henderson.
Wagoner served at the helm since 2000 and was the face of GM when he first flew on a company jet to ask Congress for aid. After a firestorm of negative publicity, Wagoner rode in a hybrid Chevrolet Malibu from Detroit to Washington for a second set of withering questions before lawmakers. But that amounted to only a sideshow as the automaker's financial position worsened. Its revenues plunged almost 50 percent in the quarter ended March 30 and it racked up another $6 billion in losses.
The Henderson-led GM faced a government-imposed June 1 deadline to restructure, slash costs and modify contracts with its union and dealers. But meeting most of those demands, plus a late agreement by many bondholders to swap the $27 billion in debt they are owed for shares in a new GM, were not enough to prevent the court filing. Some bondholders might still fight GM's reorganization plan, but the company and Treasury hope the 54 percent who supported the debt-for-equity offer will convince the judge that its a fair deal.
"There is no other sale, or other potential purchasers, present or on the horizon," Henderson said in an affidavit filed Monday in bankruptcy court. "The only other alternative is the liquidation of the debtors' assets that would substantially diminish the value of GM's business and assets, (and) throw hundreds of thousands of persons out of work and cause the termination of health benefits and jeopardize retirement benefits for current and former employees and their families." It was an all-out sprint to Monday's filing, as GM quickly sought to nail down deals with its union, bondholders and sell off brands and along with most of its Opel operations in Europe in an effort to appear in court with a near-complete plan to quickly emerge as a leaner company with a chance to become profitable.
The German government on Sunday agreed to lend GM's Opel unit $2.1 billion, a move necessary for Magna International Inc. to acquire the company. The Canadian auto parts supplier will take a 20 percent stake in Opel and Russian-owned Sberbank will take a 35 percent, giving the two businesses a majority. GM retains 35 percent of Opel, with the remaining 10 percent going to employees. In the U.S., the UAW's ratification of concessions, announced Friday, will save GM $1.3 billion per year. The new deal freezes wages, ends bonuses and eliminates some noncompetitive work rules.
It also moves billions in retiree health care costs off GM's books. In exchange for its ownership stake, $6.5 billion of interest-bearing preferred shares, and a $2.5 billion note, the trust will take on responsibility for all health care costs for retirees starting next year. Higher health care costs alone accounted for a $1,500-per-car cost gap between GM and Japanese vehicles. GM will offer buyouts and early retirement packages to all of its 61,000 hourly workers as it plans to shrink overall employment. The company also has about 27,000 white collar employees. In contrast, GM employed 618,000 Americans in 1979, more than any other company.
GM earlier outlined a plan to cut about 1,100, or 40 percent, of its dealers by the end of 2010. It also plans to shed about 500 dealerships that market the Saturn, Hummer and Saab brands. But just cutting labor and overhead costs won't be enough to save the company. It also has been working to streamline its engineering and design, as well as standardize many parts so they can go into multiple models. The once powerful GM earns a place in history as the largest U.S. industrial company to file for bankruptcy protection, and the fourth-largest company overall to do so based on its $82.29 billion in assets.
Lehman Brothers Holdings Inc.'s Sept. 15 bankruptcy filing is the nation's largest with $691.1 billion in assets, and likely served as a catalyst for GM _ and Chrysler's _ downfall, as it hastened the erosion of credit markets, making it more difficult for consumers and dealers to finance new vehicles. Washington Mutual Inc.'s bankruptcy filing 11 days later ranked second with $327.9 billion in assets, according to BankruptcyData.com. That's followed by WorldCom Inc.'s 2002 filing, which listed $103.9 billion in assets. Chrysler's bankruptcy filing now ranks seventh with $39.3 billion in assets.
US Role In GM Bankruptcy Raises Foreign Auto Concerns
The Obama administration's planned takeover of General Motors Corp. raises questions about whether the government is giving the auto maker a competitive advantage over foreign car companies.
U.S. auto makers and their congressional allies have for years accused foreign governments of giving an edge to their auto industries through subsidies, currency manipulation and trade barriers that hurt imports of U.S.-made vehicles. Now the U.S. could be exposed to the same criticism as it takes further steps to prop up GM and Detroit rival Chrysler LLC.
GM filed for Chapter 11 bankruptcy protection in New York on Monday, the largest-ever U.S. industrial bankruptcy filing. The U.S. government plans to provide $30 billion in additional financing to restructure GM. That investment in GM, on top of $19.4 billion in earlier aid, illustrates the type of support foreign auto makers said is designed to favor Detroit. An Energy Department program to speed the development of fuel-efficient vehicles gives preference to plants at least 20 years old. And a proposal making its way through Congress to stimulate car sales through vouchers would exclude certain cars, such as leased vehicles, that are the specialty of foreign auto makers.
"It's one of those things where you begin to say, 'This is really beginning to tilt the playing field,'" said Michael Stanton, president and chief executive of the Association of International Automobile Manufacturers Inc., which represents Toyota Motor Corp., Honda Motor Co., Nissan Motor Co. and others. "We understand that's going to happen to some degree. It's the amount of the degree that has us worried." Edward Cohen, Honda's vice president for government and industry relations, said Honda supports the Obama administration's effort to sustain the domestic auto industry, but added, "At some point, it crosses a line and begins to have some competitive implications, and I think we've asked about that."
Obama administration officials have insisted their actions to prop up GM and Chrysler are necessary to save jobs and prevent further damage to a fragile economy. They said the intervention is reluctant and intended to be as brief as possible. "We are going to play as minimal a role as we can responsibly play," an official close to the government's negotiations told reporters last week. The prospect of the U.S. government owning 60% of GM for an indefinite period raises a host of other questions, including whether policy decisions will ultimately be influenced by the health of GM. Those decisions will cover matters such as car-emissions standards, safety regulations and compensation to GM's workers.
The Obama administration has said it would not run the daily operations of GM, and that its main role would be to appoint board members, thereby prevent politics from influencing the company. But Douglas Elliott, a fellow at the Brookings Institution, a Washington-based think tank, said politics coming into play might be inevitable. "There are going to be a lot of decisions over time which will have differential effects on foreign auto makers and U.S. auto makers," Elliott said. "If those decisions are made in a context in which we own GM, there's going to be questions, and more than that, there's going to be actual pressure to favor the U.S. auto makers."
He said he believed the government's intentions were clearly out of necessity. "Certainly, I think the reason we're doing it is to not particularly favor GM, " Elliott said. "But, of course, that kind of logic is the same reason foreign countries have done what they've done." Foreign car companies have largely supported the government rescue of GM and Chrysler because of the industry-wide impact a collapse would have on the fragile network of auto suppliers, which serve multiple companies. Stanton, of AIAM, said the administration risks crossing a line when it explicitly endorses U.S. vehicles, as Obama appeared to do last month during the announcement of Chrysler's bankruptcy filing.
"We believe it is vital to retain and encourage a level playing field for all, " he wrote in a letter to Obama, adding that "actions that lead to discrimination on the basis of company ownership will harm" Americans who work for international auto makers. Stanton said foreign auto makers will continue to scrutinize the government's efforts to prop up the industry. "We want GM to be successful," he said, "but we don't necessary want them to be successful at our expense."
The 31-Year-Old in Charge of Dismantling G.M.
It is not every 31-year-old who, in a first government job, finds himself dismantling General Motors and rewriting the rules of American capitalism. But that, in short, is the job description for Brian Deese, a not-quite graduate of Yale Law School who had never set foot in an automotive assembly plant until he took on his nearly unseen role in remaking the American automotive industry. Nor, for that matter, had he given much thought to what ailed an industry that had been in decline ever since he was born.
A bit laconic and looking every bit the just-out-of-graduate-school student adjusting to life in the West Wing — "he’s got this beard that appears and disappears," says Steven Rattner, one of the leaders of President Obama’s automotive task force — Mr. Deese was thrown into the auto industry’s maelstrom as soon the election-night parties ended. "There was a time between Nov. 4 and mid-February when I was the only full-time member of the auto task force," Mr. Deese, a special assistant to the president for economic policy, acknowledged recently as he hurried between his desk at the White House and the Treasury building next door. "It was a little scary."
But now, according to those who joined him in the middle of his crash course about the automakers’ downward spiral, he has emerged as one of the most influential voices in what may become President Obama’s biggest experiment yet in federal economic intervention. While far more prominent members of the administration are making the big decisions about Detroit, it is Mr. Deese who is often narrowing their options. A month ago, when the administration was divided over whether to support Fiat’s bid to take over much of Chrysler, it was Mr. Deese who spoke out strongly against simply letting the company go into liquidation, according to several people who were present for the debate.
"Brian grasps both the economics and the politics about as quickly as I’ve seen anyone do this," said Lawrence H. Summers, the head of the National Economic Council who is not known for being patient whenever he believes an analysis is sub-par — or disagrees with his own. "And there he was in the Roosevelt Room, speaking up vigorously to make the point that the costs we were going to incur giving Fiat a chance were no greater than some of the hidden costs of liquidation."
Mr. Deese was not the only one favoring the Fiat deal, but his lengthy memorandum on how liquidation would increase Medicaid costs, unemployment insurance and municipal bankruptcies ended the debate. The administration supported the deal, and it seems likely to become a reality on Monday, if a federal judge handling the high-speed bankruptcy proceeding approves the sale of Chrysler’s best assets to the Italian carmaker. Mr. Deese’s role is unusual for someone who is neither a formally trained economist nor a business school graduate, and who never spent much time flipping through the endless studies about the future of the American and Japanese auto industries.
He lives a dual life these days. He starts the day at a desk wedged just outside of Mr. Summers’s office, where he can hear what young members of the economic team have come to know as "the Summers bellow." From there, he can make it quickly to the press office to help devise explanations for why taxpayers are spending more than $50 billion on what polls show is a very unpopular bailout of the auto industry. Several times a day he speed-walks to Treasury, taking a shortcut through the tunnel under the colonnade, near the kitchens. The other day he talked about how sharply perceptions of the industry’s future changed after Mr. Obama’s election.
"At the first meeting with Rick Wagoner," he said, referring to G.M.’s recently deposed chief executive, "they were in a very different place. He said publicly that bankruptcy was not a viable option. It’s been a long process getting everyone to look at the options differently." In fact, from before Inauguration Day, few in Mr. Obama’s circle saw any other choice. Every time Mr. Deese ran the numbers on G.M. and Chrysler, he came back with the now-obvious conclusion that neither was a viable business, and that their plans to revive themselves did not address the erosion of their revenues. But it took the support of Mr. Rattner and Ron Bloom, senior advisers to the task force charged with restructuring the automobile industry, to help turn Mr. Deese’s positions into policy.
"The president’s instruction to us was that we had to come up with a solution that would work on a commercial basis, that didn’t involve indefinite federal financing," Mr. Deese said. "But we didn’t want liquidation, which would have even worse effects. So the question was how do you design a very substantial restructuring, and do it fast." Mr. Deese’s route to the auto table at the White House was anything but a straight line. He is the son of a political science professor at Boston College (his father) and an engineer who works in renewable energy (his mother). He grew up in the Boston suburb of Belmont and attended Middlebury College in Vermont. He went to Washington to work on aid issues and was quickly hired by Nancy Birdsall, a widely respected authority on the effectiveness of international aid and the founder of the Center for Global Development.
But he wanted to learn domestic issues as well, and soon ended up working as an assistant for Gene Sperling, who 17 years ago in the Clinton White House played a similar role as economic policy prodigy. Eventually, Mr. Deese headed to Yale for his law degree. But his e-mail box was constantly filled with messages from friends in Washington who were signing up to work for the Obama or Hillary Rodham Clinton campaigns. Mr. Deese chose Senator Clinton’s. "He was pretty quickly functioning as the top economic policy staffer through her campaign," Mr. Sperling said. "He could blend the policy needs and the political needs pretty seamlessly." On the day that the Clinton campaign ended, Mr. Deese left her concession speech and received a message on his BlackBerry from a friend in the Obama campaign urging him to sign on immediately to Mr. Obama’s team.
He resumed his policy work there, and found himself stuck in Chicago — unable to fly to Washington with his dog — as the economic crisis deepened. Finally, one night, he decided to get into his car with his dog and just started driving back to Washington. Tired, he pulled over to catch some sleep in the car. "I slept in the parking lot of the G. M. plant in Lordstown, Ohio," he recalled. The giant plant, opened during G.M.’s heyday in the mid-1960s, is where the Pontiac G5 is produced. Under the plan Mr. Deese worked on when he arrived in Washington, Pontiac will disappear.
"I guess that was prophetic," he said, shaking his head.
For Detroit, Not Just Another Bankruptcy
A giant billboard on I-94 outside Detroit blares "AFFORDABLE BANKRUPTCY." Clearly, this is a city accustomed to the "B" word. In a state where bankruptcy filings jumped 71% from 2006 to 2008, what's one more? Unfortunately, the bankruptcy of General Motors stings in a particularly acute manner, Detroit area residents say. In many ways the pain is worse than after the bankruptcies of rival Chrysler or the 137,000 other businesses and individuals that filed in Michigan in the last three years.
Detroit revolves around the 100-year-old automaker, headquartered in the massive seven-tower Renaissance Center on the city's downtown riverfront. Stroll along a random street in Detroit or its sprawling suburbs and it's rare to meet someone without a close friend or family member connected to the auto business. General Motors employs 243,000 workers, down from 325,000 four years ago. It also covers benefits for about 377,000 retirees. 'There's a tremendous amount of fear,' says Lawrence Gustin, a General Motors retiree who worriesthat he'll lose his pension.
David Kippen lives less than a mile from the GM plant in Warren, Mich. So far two neighbors on his middle-class suburban cul-de-sac have lost their homes. "People are just trying to hang on and ride this out," he says. "I'm just happy to have a job," adds Kippen, who works at Ford, which so far hasn't needed government help. "I see the struggle," says Detroit resident Keith Warren. The 40-year-old restaurant manager says many of his older relatives are auto retirees worried about their benefits and insurance. "It's going to affect everybody real bad," he says. "It hasn't really sunk in." He worries that a spike in crime will be one effect of the automakers' problems. "You haven't seen nothing yet," Warren warns.
No part of the region is insulated from the industry's problems. The multimillion-dollar homes in upscale suburb Birmingham are home to many top GM, Ford, and Chrysler executives. Michael Cotter, a real estate broker at SKBK Sotheby's International Realty and a Birmingham native, says typically about 6 out of every 10 of his high-end buyers have ties to the auto industry. "It's clear that the business foundation of this community is in jeopardy," Cotter says, noting that home values have dropped by a third. While about half his business used to consist of buyers being transferred to Detroit by the big automakers or auto suppliers, that has stopped entirely. Now, he says, a considerable part of his business is homes facing the threat of foreclosure.
Top auto executives dominate the clientele at Claymore Shop, a men's clothing store in Birmingham. However, after the automakers went to Washington pleading for bailout funds late last year, the buying of new suits stopped abruptly at what would ordinarily be the store's busiest time of the year, Claymore Vice-President Allen Skiba says. "It was very frightening," he says. Merchandise bought for next season had to be put on clearance to pay the bills. Skiba acknowledges that it's not healthy to depend so heavily on one industry. Many others in Detroit readily agree.
In March, metropolitan Detroit's unemployment rate was, at 14%, the highest in the nation. And absent a recovery for the auto industry, there are few alternatives for the region's job seekers. Detroit resident Julia Fox hopes Michigan can recruit more employers in fields like health care or technology. "Even though the country looks down on Detroit, we're going to come back," says Fox, a retiree who was shopping for flowers Saturday at Detroit's outdoor Eastern Market.
While the bankruptcy of General Motors raises many worries about its retirees and current workers, the biggest question mark may be the prospects of the region's youngest generation. Opportunities are shrinking to work in the same industry that employed their parents, grandparents, and great-grandparents. Kippen, the Ford employee, is glad his adult children aren't following him into the auto business. "I told my son to stay out of Michigan," he says.
Residents of Detroit may be worried and pessimistic, but they're not hopeless. Rose Reese, who has lived in Detroit for 45 years, sees customers slashing their spending at her retail job. She says friends and family are finding ways to cut costs, such as entertaining at home rather than going out. But, she adds: "We'll come back. You have to believe that. I feel that within my heart." Might the GM bankruptcy be the start a comeback? "Although this is the worst thing that could have happened to the state, it could be the best thing," Skiba says. The bankruptcy could help to address long-term problems in the auto industry while also forcing the state to find new industries, he says. Residents frequently cite past troubles for the auto business—notably during the Great Depression in the 1930s—and proudly note that the industry has always bounced back.
It's ironic that despite its financial trouble, GM's current slate of models is its best ever, says Gustin, the GM retiree, who has written books on the history of General Motors. However, he says, "this is maybe worse than the 1930s." Auto factories are being closed and jobs permanently sent overseas, even as "people have been maxing out their credit cards," he says. "We're dealing in a whole new world." Even though there's plenty of negative news for Detroit to lament, residents seem to believe the town will emerge from the difficulties eventually. After his negative assessment, Gustin adds: "There are resourceful people here, and I think [Detroit is] going to come back." Cotter, the real estate agent, takes solace in the fact that General Motors will likely remain in business, even in a weakened state. "GM is not going away," he says. "They're not turning the lights out."
Even as GM has been sliding toward bankruptcy, the success of Detroit's professional hockey team has lightened the city's mood. The Red Wings began the Stanley Cup finals against the Pittsburgh Penguins on Saturday night, the same weekend GM's bankruptcy details were finalized. Walking into Joe Louis Arena in downtown Detroit, Red Wing fan Amy Yokin said the city isn't giving up. "This is a tough, gritty town, and we are going to make it through," she said, before Detroit took the first game of the series. As GM works through its bankruptcy and its local domestic peers tend to their own struggles, Detroit will need all the grit and toughness it can muster.
After Many Stumbles, Fall of an American Giant
It is a company that helped lift hundreds of thousands of American workers into the middle class. It transformed Detroit into the Silicon Valley of its day, a symbol of America’s talent for innovation. It built celebrated cars, like Cadillacs, that became synonymous with luxury. And now it is filing for bankruptcy, something that would have been unfathomable even a few years ago, much less decades ago, when it was a dominant force in the American economy. Rarely has a company fallen so far and so fast as General Motors. And while its bankruptcy appeared increasingly likely in recent weeks, the arrival of the moment is still a staggering blow, particularly for anyone with ties to the company.
"I never ever could have believed that one day this thing would go that way," said Jim Wangers, a retired G.M. executive who was part of the team that developed the Pontiac GTO, and the author of "Glory Days," about Pontiac’s heyday in the muscle-car era of the 1960s. "We were so successful," he added. Founded in 1908, G.M. ruled the car industry for more than half a century, with a broad range of vehicles, reflecting the company’s promise to offer "a car for every purse and purpose." The expression "What’s good for General Motors is good for the country" entered the lexicon, even though it was a slight misquotation of Charles E. Wilson, G.M.’s president in the early 1950s.
But then G.M. began a long and slow process of undermining itself. Its strengths, like the rigid structure that provided discipline early on, became weaknesses, and it lost its feel for reading the American car market it helped create, as Japanese automakers lured away even its most loyal buyers. Only eight months ago, Rick Wagoner, then its chief executive, stood before hundreds of G.M. employees to celebrate the company’s 100th anniversary. "We’re a company that’s ready to lead for 100 years to come," Mr. Wagoner said. Instead of leading, G.M. will instead be following other failed companies on a well-worn path into bankruptcy court.
The moment will reverberate beyond G.M.’s epicenter in Detroit, to factory towns in other parts of Michigan and in states like Indiana, Tennessee and Louisiana. It will even be felt on Fifth Avenue in New York, where it built its financial headquarters, and Epcot at Walt Disney World in Florida, where G.M. sponsors the Test Track Pavilion, a showcase of its latest cars. G.M. factories churned out family cars, pickup trucks and memorable muscle cars with taut, sculptured body panels that were rolling displays of American DNA. A G.M. plant was a ticket to prosperity for the communities lucky enough to land one. G.M. literally put Spring Hill, Tenn., on the map when it picked the town outside Nashville for its Saturn plant in 1985, prompting the hamlet to swell with new homes, motels and restaurants.
Now city officials around the country, including those in Spring Hill, nervously await phone calls on Monday to tell them if their plants will be among the 14 G.M. is expected to announce it will close in the latest round of cuts. But even after its deep cuts, G.M. can still claim to be the country’s largest automaker. For G.M., that simple fact — its sheer size — was long used as a trump card to end debates. If the critics were so right about all that was wrong with G.M., why did so many people buy its cars?
The company did have vast numbers of loyal buyers, but G.M. lost them through a series of strategic and cultural missteps starting in the 1960s. It bungled efforts in the 1980s to cut costs by sharing the underpinnings of its cars across different brands, blurring their distinctiveness. G.M. gave in to union demands in 1990 and created a program that paid workers even when plants were not running, forcing it to build cars and trucks it could not sell without big incentives. Its finance staff argued with product developers and marketers who pushed for aggressive spending on new cars and trucks. But forced to feed so many brands, G.M. often resorted to a practice called "launch and leave" — spending billions upfront to bring vehicles to market, but then failing to keep supporting them with sustained advertising.
With its market share shrinking, G.M. could not give its multiple brands and car models the individual attention that helped Honda attract customers to the Accord and Toyota to its Camry. It also lost interest in vehicles that needed time to find their audience, as happened when the company introduced the EV1 electric vehicle and then dropped it in 1999 after only three years. Now G.M.’s brand lineup is being halved, with the company jettisoning divisions like Pontiac. "Nobody gave any respect to this thing called image because it wasn’t in the business plan," Mr. Wangers said. "It was all about, ‘When is this going to earn a profit?’ "
Over the years, G.M. executives became practiced at the art of explaining their problems, attributing blame to everyone but themselves. That list included the United Automobile Workers, for demanding health care coverage and pensions (even though G.M. agreed to provide them); government regulators, for imposing rules that G.M. said hampered its competitiveness; the Japanese government, for unfairly helping its own carmakers break into the United States market; and the news media, for failing to appreciate G.M. vehicles and the strides the company was making to improve them.
Asked in 1995 why he had not moved faster to reorganize the company, the late G.M. chief executive Roger Smith replied, "Wouldn’t it have been wonderful if we could have flipped a switch?" Even last week, G.M.’s newly retired vice chairman, Robert A. Lutz, said the automaker had experienced a "world of hurt, much of it not of our own doing." Sloganeering was not backed up by execution. Executives wore lapel pins, for example, in 2002, with the number "29" — referring to the market share the company vowed to regain (most companies focus on profits).
Through April of this year, its share was 19 percent, a steep drop from its peak of 54 percent in 1954. Consumers started blaming G.M. for sub-par vehicles. They may have given them second and third chances, but many eventually started switching to other brands, which will make it that much harder for G.M. to win them back.
Mr. Wagoner was able to hold on to his job for longer than people expected, as G.M.’s stock fell steadily from about $70 when he took charge at the start of the decade. It closed at 75 cents a share on Friday. Mr. Wagoner was pushed out by the Obama administration, which is now making the call to push the company into bankruptcy court. A judge will then start the process of building a new, though much diminished, G.M. into a company that might have a shot at a second century. But the automaker that so dominated center stage in the American car market for so long will have to earn that place back.
Judge OKs sale of most Chrysler assets to Fiat
A federal bankruptcy judge approved the sale of most of Chrysler LLC's assets to Italy's Fiat, moving the American automaker a step closer to its goal of a quick exit from court protection. Judge Arthur Gonzalez said in his ruling late Sunday that a speedy sale -- the centerpiece of a restructuring plan backed by President Barack Obama's automotive task force -- was needed to keep the value of Chrysler from deteriorating and would provide a better return for the company's stakeholders than if it had chosen to liquidate. "Any material delay would result in substantial costs in several areas, including the amounts required to restart the operations, loss of skilled workers, loss of suppliers and dealers who could be forced to go out of business in the interim, and the erosion of consumer confidence," Gonzalez wrote in his opinion. "In addition, delay may vitiate several vital agreements negotiated amongst the debtors and various constituents." As a result, the proposed sale must be approved in order to preserve the value of Auburn Hills, Mich.-based Chrysler's business and what is ultimately left for its stakeholders, Gonzalez said.
The ruling came ahead of fellow U.S.-automaker General Motors Corp.'s government-supported bankruptcy protection filing. The Detroit-based automaker filed for Chapter 11 in New York's Southern District early Monday. President Barack Obama released a statement Monday saying that Gonzalez's decision "paves the way for the new Chrysler to successfully emerge from bankruptcy as a new, stronger, more competitive company for the future." Obama noted the significant sacrifices made by all of the company's stakeholders. "We said this process would be completed quickly and efficiently, and that's exactly what has been accomplished today," he said. Gonzalez's ruling came after three marathon days of testimony last week, during which everyone from the automaker's outgoing chief executive to dealers slated to lose their franchises took the stand. Chrysler has maintained that selling the bulk of its assets to Fiat Group SpA is the only way it can avoid selling itself off piece by piece. In exchange for a stake in the new Chrysler, Fiat has agreed to share with it the technology it needs to create the smaller, more fuel-efficient vehicles now craved by U.S. drivers.
With the approval of the sale, Chrysler could emerge from Chapter 11 bankruptcy protection within weeks, defying observers who said that the company could linger under court oversight for years. But a trio of Indiana state pension and constructions funds, which own $42.5 million of Chrysler's $6.9 billion in secured debt, aggressively objected to the sale, saying that it does not provide a big enough return for secured debt holders, while paying off unsecured stakeholders, such as the United Auto Workers union. The Indiana funds bought their debt in July 2008 for 43 cents on the dollar. Their attorneys have said they would appeal to U.S. District Court if Gonzalez approved the sale. But Chrysler has said that any delay could cause the deal with Fiat to crumble. The Italian automaker has the option of pulling out if the sale does not close by June 15. A spokesman for the Indiana treasurer said early Monday that a statement would be released soon regarding the state's plans for a possible appeal. Messages seeking comment were also left early Monday for U.S. Treasury Department and Chrysler spokeswomen.
As part of Chrysler's government-backed restructuring plan, a UAW trust that will provide health care for hourly Chrysler retirees will receive a 55 percent stake in the new company, while Fiat will get a 20 percent stake that can ultimately grow to 35 percent. The remaining 10 percent of the company will be owned by the U.S. and Canadian governments. In the days leading up to Chrysler's Chapter 11 filing, the automaker struck a deal with the majority of secured lenders to give them $2 billion in cash, or 29 cents on the dollar, to erase the $6.9 billion in debt. But some of the debtholders balked and the automaker was forced to file for bankruptcy protection on April 30. Attorneys for the funds also questioned the constitutionality of the Treasury's use of Troubled Asset Relief Program, or TARP, funds to supply Chrysler's bankruptcy protection financing. In a separate ruling Monday, Gonzalez said that the funds do not have standing for that challenge because they will receive their fair share of the $2 billion set aside for secured debtholders, which is more than they would have received if Chrysler had liquidated. Besides the Indiana funds, a group of over 300 Chrysler dealers slated to lose their franchises under the company's restructuring also objected to the sale. A separate hearing to address Chrysler's motion to terminate 789 franchises is scheduled for Wednesday. Objections were also filed by the automaker's suppliers, former employees and people with product-related claims against the company.
Once a Key to Recovery, Detroit Adds to Pain
With General Motors about to follow Chrysler into bankruptcy, the nation’s ability to bounce back from the steep recession is being hobbled. Although housing and a credit freeze caused the current collapse, manufacturing has played an outsize role in past recoveries, with the auto industry contributing significantly to the growth. It was manufacturing that led the economy back from the last steep recession, in 1981-82. It did so by stepping up production and hiring more quickly than others in anticipation of rising demand.
Even now, in its diminished state — representing only 11.5 percent of America’s output, down from 20 percent in 1980 — manufacturing could have a bigger impact than its size suggests, because of its tendency to respond quickly. “Back then, it supercharged the recovery,” said Mark Zandi, chief economist at Moody’s Economy.com, “and today it could have played a decisive role if G.M. and Chrysler had remained viable companies. Without their contribution, the economy simply can’t recover as quickly as it has in the past.”
Those two giants alone accounted for 10 percent of the upturn after the early 1980s recession, Mr. Zandi said, but this time they will be a drain on growth rather than a contributor to it. In the early 1980s, once the Federal Reserve had cut interest rates, the nation’s manufacturers led the way in turning the economy from contraction to growth in less than four months. Economists described that recession, which lasted 16 months, as “V-shaped,” meaning a precipitous decline followed by an equally rapid return to growth once the recession had run its course.
That was a common characteristic of earlier recessions in the postwar years. After the 1980s, however, there were two declines, in 1990-91 and 2001, both shallow, as were the subsequent recoveries. Now one leg of the V is back, suggesting a sharp rebound soon, if the recovery were to conform to past patterns. That seems unlikely, largely because of the drag from autos — not just the big assemblers, like G.M. and Chrysler, but also the thousands of small companies that supply them with parts.
“No other industry is stepping up to the plate to replace the Big Three and their suppliers as engines of growth,” said Nigel Gault, chief domestic economist for I.H.S. Global Insight, “and without the kick they once provided — resuming production and recalling workers faster than others — the recovery will be slow in coming and muted at best.” Chrysler’s decision to shut down its factories and G.M.’s move to idle most of its locations this summer will inevitably have a domino effect on the nation’s 4,000 suppliers, most likely undoing the fledgling improvement that forecasters see in slightly stronger retail sales and consumer confidence.
The automakers’ problems are forcing some of the suppliers to close and others to cut more jobs, a process likely to accelerate unless other big assemblers like Ford, Honda and Toyota somehow pick up the slack. Together, the suppliers employ many more people than the assemblers — Detroit’s Big Three and the foreign automakers operating here — and they are eliminating jobs at the same rapid pace, putting tens of thousands of people out of work each month.
The struggling suppliers are companies like Yarema Die and Engineering, in Troy, Mich., which in better times employed 110 people stamping out metal auto parts like fuel tank straps, roof supports and brackets. Most of its products went to Chrysler and G.M., and now with those operations cut way back, Yarema has suspended production, cutting its staff to just two people from 25 a month ago. “Basically, we are in hibernation,” said Greg Boulard, director of manufacturing operations. “We are filling what orders there are from inventory, and we have laid off the entire staff.”
The damage already done by the auto industry is sobering. Of the 5.7 million jobs lost since this recession began 18 months ago, 1.6 million were in manufacturing, and 289,000 of those were in motor vehicles, split almost evenly between the assemblers and their supplier networks. During the worst months of the recession, from September through March, these twins also accounted for nearly 20 percent of the decline in the nation’s gross domestic product, the broadest measure of economic output. And the damage continues, with G.M. preparing to enter bankruptcy, just as Chrysler exits to begin what may be a slow transformation as part of Fiat. Both American companies usually shut down or scale back production for one month in the summer, but they are stretching that to two months or more.
The production of cars and sport utility vehicles had stabilized in early spring at roughly 423,000 vehicles a month, down from nearly 600,000 late last year. Then with the government bailouts proceeding in earnest, auto assemblies plunged to just 371,000 in May, as Chrysler entered bankruptcy, halting production. Another drop is likely in June as G.M. cuts way back — one goal being to allow dealers to work down their inventories. That means the worst is still ahead for the suppliers. They deliver parts to the assemblers on an as-needed basis and are normally paid 60 days after delivery. Short-term bank loans carry them until payment comes from the automakers. That system broke down in the credit crisis, but the federal government stepped in, supplying $8 billion to maintain the payments.
Now a new issue looms. With Chrysler shut down and G.M. preparing to cut back sharply, deliveries to those giant assemblers are grinding to a halt. Once payment is made by early August for the most recently delivered parts, the flow of money to the suppliers will fall way off, forcing further layoffs across a network of parts companies that employ 450,000 people. The American and foreign-owned assemblers, by comparison, employ only 309,000 in the United States today. “There will definitely have to be more government aid flowing to the suppliers to keep them afloat,” said Haig Stoddard, an automotive analyst in Detroit for I.H.S. Global Insight.
This new damage to the auto industry, particularly to the suppliers, is likely to show up first in the statistics as a surge in job losses in June. The monthly tally, covering every industry, had dipped to 539,000 in April, the Bureau of Labor Statistics reported, from more than 680,000 in February and again in March. The May report, to be released on Friday, is likely to be close to the April number, but then is likely to jump as auto suppliers cut back their operations or go out of business.
“The exact timing is hard to say, but we’ll get the first signal from new claims for unemployment insurance,” Mr. Gault said, referring to a number issued weekly by the bureau. “They are likely to spike soon.” Unless demand unexpectedly begins to rise and new-car sales perk up as consumers who had put off trading in their aging vehicles begin to do so. Then the foreign auto companies operating assembly plants here might lead the way in recalling workers, contributing to a recovery — a gradual one, to be sure, without the bang that G.M. and Chrysler once made possible.
GM, Citigroup Booted From Dow Jones Industrials; Travelers, Cisco Join 30
General Motors Corp. and Citigroup Inc., crippled by the first global recession since World War II, were removed from the Dow Jones Industrial Average and replaced by Cisco Systems Inc. and Travelers Cos. GM, which filed for bankruptcy protection today, and Citigroup, the recipient of $45 billion in taxpayer aid, became the first companies since American International Group Inc. in September to leave the 30-stock average. Their shares have lost more than 90 percent since the start of 2007.
By replacing GM with Cisco, Dow Jones & Co. has removed automakers from the best-known benchmark for U.S. stocks, saying in an e-mailed statement that computers are as central to the economy as cars were in the previous century. Citigroup, until last year the world’s biggest financial firm by assets, is being replaced by a company it jettisoned in 2002 and that was once run by its former chairman, Sanford "Sandy" Weill. "This announcement brings front and center the challenges facing the U.S. economy as it strives to remain competitive," said Alan Gayle, director of asset allocation at Ridgeworth Investments, which manages $60 billion in Richmond, Virginia. "The Dow Jones Industrial Average is becoming less of an industrial average. It’s trying to reflect the broader economy."
Citigroup has traded below $5 a share since mid-January and is in the process of converting $52.5 billion of preferred stock into common shares, giving the U.S. government a 34 percent stake. GM’s ouster was foreshadowed in May by John Prestbo, the Dow Jones & Co. editor in charge of indexes, who said it would be removed in a bankruptcy filing. GM, whose shares will be suspended on the New York Stock Exchange by the end of the day, fell 7.4 percent to 69 cents as of 10:20 a.m. in New York. Citigroup added 0.5 percent to $3.74.
"The parlous state of GM has left us with no choice but to remove it from the Dow," said Robert Thomson, managing editor of the Wall Street Journal, in a statement announcing the change. The newspaper’s editors decide the makeup of the average. News Corp., the media company headed by Rupert Murdoch, has been its publisher since acquiring Dow Jones & Co. in December 2007. Citigroup was formed in 1998 from the merger of Travelers Group Inc. and Citicorp. In 2002, Citigroup gave up control of Hartford, Connecticut-based Travelers Property Casualty Corp. through an initial public offering and subsequent spinoff. The bank earned $1.6 billion in the first quarter of 2009, ending five straight quarters of losses totaling $37.5 billion.
"We were reluctant to remove Citigroup at the height of the financial frenzy, but it is clear that the bank is in the midst of a substantial restructuring which will see the government with a large and ongoing stake," Thomson said. Thomson said Citigroup may be considered for the index again after it has "refashioned itself," according to the statement. Cisco, the world’s largest maker of computer-networking equipment, joins Microsoft Corp., International Business Machines Corp., Intel Corp. and Hewlett-Packard Co. in the Dow, boosting its technology weighting from about 17 percent. With the addition of Cisco, computer companies will surpass industrials including 3M Co. as the biggest category in the average.
Travelers, the second-biggest U.S. commercial insurer, joins JPMorgan Chase & Co., American Express Co. and Bank of America Corp. among financial companies in the Dow. Its higher price than Citigroup’s will boost the benchmark’s financial weighting from about 7 percent. Financials make up about 14 percent of the Standard & Poor’s 500 Index, a broader benchmark. Kraft Foods Inc. was named to replace AIG in the Dow average on Sept. 18, the day after the nation’s biggest insurer was taken over by the U.S. government to avert its collapse.
GM, which had its last profitable year in 2004, was the worst-performing company in the average last year, losing 87 percent, and 77 percent this year through May 29. Its shares fell below $1 on May 29, putting them below the minimum normally required to trade on the NYSE. GM entered the 113-year-old index in 1915, replacing preferred shares of U.S. Rubber. GM, the fourth-biggest bankruptcy in U.S. history after Lehman Brothers Holdings Inc. and Washington Mutual Inc. in September and WorldCom Inc. in 2002, had been the lowest-priced company in the average for most of the past year. Citigroup closed at lower prices than GM on 27 days this year, mostly in March. The Dow average is price-weighted, meaning the lower a company’s share price, the less influence it has.
GM and Citigroup were taken out from News Corp.’s 150-stock Global Dow in April, less than five months after that index was introduced. "The issues facing GM have been widely known and disseminated for some time," said Jonathan Armitage, head of U.S. large-cap equities at the American unit of Schroders, the U.K.’s largest independent money manager. "It was less a question of if but of when" this day would come. The Dow average was devised in 1896 by Charles H. Dow, co- founder of Wall Street Journal publisher Dow Jones & Co. Originally containing 12 stocks, it expanded to 20 companies in 1916 and to 30 in 1928.
There are no rules for inclusion in the gauge, according to the Dow Jones Web site. Usually, a stock is added only "if it has an excellent reputation, demonstrates sustained growth, is of interest to a large number of investors and accurately represents the sectors covered by the average," the Web site says. Changes in the composition of the average "are rare, and generally occur only after corporate acquisitions or other dramatic shifts in a component’s core business," the site says. "When such an event necessitates that one component be replaced, the entire index is reviewed," and "multiple component changes are often implemented simultaneously." Three companies left the Dow last year, including AIG. Altria Group Inc. and Honeywell International Inc. were replaced by Bank of America and Chevron Corp. Those changes were the first since 2004.
Ilargi: I don't mind Krugman traveling back in time, it can be useful. But his statement is at best incomplete. If you can go back to Reagan, you should also address Nixon's decision to get off the gold standard. That, after all, is what made the soaring dollar possible which in the end "supports" the entire house of soaking wet cards.
Reagan Did It
"This bill is the most important legislation for financial institutions in the last 50 years. It provides a long-term solution for troubled thrift institutions. ... All in all, I think we hit the jackpot." So declared Ronald Reagan in 1982, as he signed the Garn-St. Germain Depository Institutions Act. He was, as it happened, wrong about solving the problems of the thrifts. On the contrary, the bill turned the modest-sized troubles of savings-and-loan institutions into an utter catastrophe. But he was right about the legislation’s significance. And as for that jackpot — well, it finally came more than 25 years later, in the form of the worst economic crisis since the Great Depression.
For the more one looks into the origins of the current disaster, the clearer it becomes that the key wrong turn — the turn that made crisis inevitable — took place in the early 1980s, during the Reagan years. Attacks on Reaganomics usually focus on rising inequality and fiscal irresponsibility. Indeed, Reagan ushered in an era in which a small minority grew vastly rich, while working families saw only meager gains. He also broke with longstanding rules of fiscal prudence.
On the latter point: traditionally, the U.S. government ran significant budget deficits only in times of war or economic emergency. Federal debt as a percentage of G.D.P. fell steadily from the end of World War II until 1980. But indebtedness began rising under Reagan; it fell again in the Clinton years, but resumed its rise under the Bush administration, leaving us ill prepared for the emergency now upon us. The increase in public debt was, however, dwarfed by the rise in private debt, made possible by financial deregulation. The change in America’s financial rules was Reagan’s biggest legacy. And it’s the gift that keeps on taking.
The immediate effect of Garn-St. Germain, as I said, was to turn the thrifts from a problem into a catastrophe. The S.& L. crisis has been written out of the Reagan hagiography, but the fact is that deregulation in effect gave the industry — whose deposits were federally insured — a license to gamble with taxpayers’ money, at best, or simply to loot it, at worst. By the time the government closed the books on the affair, taxpayers had lost $130 billion, back when that was a lot of money.
But there was also a longer-term effect. Reagan-era legislative changes essentially ended New Deal restrictions on mortgage lending — restrictions that, in particular, limited the ability of families to buy homes without putting a significant amount of money down. These restrictions were put in place in the 1930s by political leaders who had just experienced a terrible financial crisis, and were trying to prevent another. But by 1980 the memory of the Depression had faded. Government, declared Reagan, is the problem, not the solution; the magic of the marketplace must be set free. And so the precautionary rules were scrapped.
Together with looser lending standards for other kinds of consumer credit, this led to a radical change in American behavior. We weren’t always a nation of big debts and low savings: in the 1970s Americans saved almost 10 percent of their income, slightly more than in the 1960s. It was only after the Reagan deregulation that thrift gradually disappeared from the American way of life, culminating in the near-zero savings rate that prevailed on the eve of the great crisis. Household debt was only 60 percent of income when Reagan took office, about the same as it was during the Kennedy administration. By 2007 it was up to 119 percent.
All this, we were assured, was a good thing: sure, Americans were piling up debt, and they weren’t putting aside any of their income, but their finances looked fine once you took into account the rising values of their houses and their stock portfolios. Oops. Now, the proximate causes of today’s economic crisis lie in events that took place long after Reagan left office — in the global savings glut created by surpluses in China and elsewhere, and in the giant housing bubble that savings glut helped inflate.
But it was the explosion of debt over the previous quarter-century that made the U.S. economy so vulnerable. Overstretched borrowers were bound to start defaulting in large numbers once the housing bubble burst and unemployment began to rise. These defaults in turn wreaked havoc with a financial system that — also mainly thanks to Reagan-era deregulation — took on too much risk with too little capital. There’s plenty of blame to go around these days. But the prime villains behind the mess we’re in were Reagan and his circle of advisers — men who forgot the lessons of America’s last great financial crisis, and condemned the rest of us to repeat it.
Even in Crisis, Banks Dig In for Fight Against Rules
As the financial crisis entered one of its darkest phases in October, a handful of the nation’s largest banks began holding daily telephone sessions. Murmurs were already emanating from Washington about the need for a wide-ranging regulatory overhaul, and Wall Street executives girded for a fight. Atop the agenda during their calls: how to counter an expected attempt to rein in credit-default swaps and other derivatives — the sophisticated and profitable financial instruments that were intended to limit risk but instead had helped take the economy to the brink of disaster.
The nine biggest participants in the derivatives market — including JPMorgan Chase, Goldman Sachs, Citigroup and Bank of America — created a lobbying organization, the CDS Dealers Consortium, on Nov. 13, a month after five of its members accepted federal bailout money. To oversee the consortium’s push, lobbying records show, the banks hired a longtime Washington power broker who previously helped fend off derivatives regulation: Edward J. Rosen, a partner at the law firm Cleary Gottlieb Steen & Hamilton. A confidential memo Mr. Rosen drafted and shared with the Treasury Department and leaders on Capitol Hill has, politicians and market participants say, played a pivotal role in shaping the debate over derivatives regulation.
Today, just as the bankers anticipated, a battle over derivatives has been joined, in what promises to be a replay of a confrontation in Washington that Wall Street won a decade ago. Since then, derivatives trading has become one of the most profitable businesses for the nation’s big banks. The looming fight over regulation is the beginning of a broader debate over the future of the financial industry. At the center of the argument: What is the right amount of regulation?
Those who favor more regulation say it would offer early warning signals when companies take on too much risk and would help avert catastrophic surprises like the huge derivatives losses at the giant insurer the American International Group, which has so far received more than $170 billion in taxpayer commitments. The banks say too much regulation will stifle financial innovation and economic growth. The debate about where derivatives will trade speaks to core concerns about the products: transparency and disclosure.
There are two distinct camps in this argument. One camp, which includes legislative leaders, is pushing for trading on an open exchange — much like stocks — where value and structure are visible and easily determined. Another camp, led by the banks, prefers that some of the products be traded in privately managed clearinghouses, with less disclosure. The Obama administration agrees that more regulation is needed. A proposal unveiled recently by Treasury Secretary Timothy F. Geithner won plaudits for trying to make derivatives trading less freewheeling and more accountable — a plan that hinges in part on using clearinghouses for the trades.
Critics in both the financial world and Congress say relying on clearinghouses would be problematic. They also say Mr. Geithner’s plan contains a major loophole, because little disclosure would be required for more complicated derivatives, like the type of customized, credit-default swaps that helped bring down A.I.G. A.I.G. sold insurance related to mortgage securities, essentially making a big bet that those mortgages would not default.
Mr. Rosen and other bank lobbyists have pushed on Capitol Hill to keep so-called customized swaps from being traded more openly. These are contracts written for the specific needs of a customer, whose one-of-a-kind nature makes them very hard to value or trade. Mr. Rosen has also argued that dealers should be able to trade through venues closely affiliated with banks rather than through more independent platforms like exchanges.
Mr. Rosen’s confidential memo, dated Feb. 10 and obtained by The New York Times, recommended that the biggest participants in the derivatives market should continue to be overseen by the Federal Reserve Board. Critics say the Fed has been an overly friendly regulator, which is why big banks favor it. Mr. Rosen’s proposal for change was similar to the Treasury Department’s recently announced plan to increase oversight. Treasury officials say that their proposal was arrived at independently and that they sought input from dozens of sources.
Even so, market participants, analysts and members of Congress who have proposed stricter reforms worry that the Treasury proposal does not go far enough to close several important regulatory gaps that allowed derivatives to play such a destructive role in the current financial crisis. But increased transparency of derivatives trades would cut into banks’ profits — hence the banks’ opposition. Customers who trade derivatives would pay less if they knew what the prevailing market prices were.
"The banks want to go back to business as usual — and then some. And they have a lot of audacity now that everyone has bailed them out," said Yra Harris, an independent commodities trader who was involved in an effort to regulate derivatives nine years ago. "But we have to begin with the premise that Wall Street doesn’t want transparency, because more transparency means less immediate profits." Legislators in the Senate and the House of Representatives have introduced bills offering stricter controls than those pushed a decade ago. The pending legislation goes even further than Mr. Geithner’s proposals.
"These mathematical geniuses who create these things can find a way to turn anything into a customized swap," said Senator Tom Harkin, an Iowa Democrat, who has introduced legislation that would require all derivatives to be traded on an exchange. "You’d get a loophole big enough to drive a truck through. It could be worth trillions and trillions of swaps." Hotly contested legislative wars are traditional fare in Washington, of course, and bills are often shaped by the push and pull of lobbyists — representing a cornucopia of special interests — working with politicians and government agencies.
What makes this fight different, say Wall Street critics and legislative leaders, is that financiers are aggressively seeking to fend off regulation of the very products and practices that directly contributed to the worst economic crisis since the Great Depression. In contrast, after the savings-and-loan debacle of the 1980s, the clout of the financial lobby diminished significantly. The current battle mirrors a tug-of-war a decade ago. Arguing that regulation would hamper financial innovation and send American jobs overseas, Congress passed legislation in December 2000 exempting derivatives from most oversight. It was signed by President Bill Clinton.
The law passed despite the strenuous objections of Brooksley Born, a former head of the Commodity Futures Trading Commission, who left the government after her unsuccessful effort to impose more regulation. In a recent speech, Ms. Born said big banks are again trying to water down oversight efforts. "Special interests in the financial-services industry are beginning to advocate a return to business as usual and to argue against any need for serious reform," Ms. Born, now a lawyer in private practice, said at the John F. Kennedy Library in Boston, where she received a Profile in Courage Award.
After the 2000 legislation was passed, derivatives trading exploded, helping the biggest traders earn immense profits. The market now represents transactions with a face value of $600 trillion, up from $88 trillion a decade ago. JPMorgan, the largest dealer of over-the-counter derivatives, earned $5 billion trading them in 2008, according to Reuters, making them one of its most profitable businesses. Among the companies that expanded rapidly was A.I.G. Straying from its main business of providing property and life insurance, A.I.G. wrote a type of contract known as credit-default swaps that protected holders of mortgage securities against defaults.
When millions of subprime borrowers stopped paying their mortgages, A.I.G. had to provide cash collateral that it did not have to clients that had bought its insurance. Before the crisis, few market participants knew the size of A.I.G.’s exposure. Some derivatives transactions occur on exchanges, where the value and nature of the contracts are disclosed, but many do not. Credit-default swaps trade privately. This kept risk in these trades under wraps, leaving regulators unaware of how dangerously stretched and poorly managed the market was.
On Capitol Hill, banking lobbyists have argued that derivatives should be traded on clearinghouses rather than exchanges, legislative leaders and their staffs say. The Geithner plan favors clearinghouses, where an intermediary would guarantee trades between participants, instead of participants dealing directly with one another as in an exchange. A major New York clearinghouse is ICE U.S. Trust, an entity closely affiliated with banks that are also members of Mr. Rosen’s group, the CDS Consortium.
Although the Chicago Mercantile Exchange is a more established place for derivatives trading and is independent from the big New York banks, ICE seems to be the clearinghouse of choice, especially among policy makers in Washington, said Brad Hintz, a brokerage firm analyst at Bernstein Research. That is because under the Treasury proposal, the Federal Reserve Bank of New York would oversee ICE, while the Commodity Futures Trading Commission would oversee the Chicago Mercantile Exchange. Critics say the Fed has been too easy on those it oversees.
Theo Lubke, a senior New York Fed official, countered Mr. Hintz’s view, saying the Fed wants a market where a variety of clearinghouses can succeed. Analysts say that because major banks that deal derivatives are so closely affiliated with ICE, they could seek to have many of the products classified as "customized" — the only category that would keep them off regulators’ radar screens under Mr. Geithner’s proposal. This worries Mr. Harkin, the Iowa Democrat, whose constituents include agricultural concerns that want better oversight of trading. This is needed, he said, to "add openness, transparency and integrity in futures trading to rebuild the financial system."
Letting "customized" derivatives — like many credit-default swaps — trade without detailed disclosure is a way to keep regulators in the dark, he said. Mr. Harkin said Mr. Geithner visited the Democratic caucus on Capitol Hill three weeks ago. At that meeting, Mr. Harkin said, he challenged Mr. Geithner to "define customized swaps." Mr. Harkin said the Treasury secretary told him he would have to get back to him. The big dealers, including major banks, say exchange trading would impose overly strict rules. But requiring exchange trading would have another effect: it would reduce the profits dealers make on derivatives.
Members of Congress say the lobbying efforts by big banks promise to produce one of the most intense political face-offs in Washington in years. "The swaps and derivatives people are all over the place up here," Mr. Harkin said. "They sure are trying hard to win. A lot of money is on the line." Lobbyists for the banks plan to make a renewed push on Capitol Hill this week. Through political action committees and their own employees, securities and investment firms gave $152 million in political contributions from 2007 to 2008, according to the most recent Federal Election Commission data.
The top five companies — Goldman Sachs, Citigroup, JP Morgan Chase, Bank of America and Credit Suisse — gave $22.7 million and spent more than $25 million combined on lobbying activities in that period, according to election data compiled by the Center for Responsive Politics. All five companies are members of the CDS Dealers Consortium, the lobbying group formed in November. Lobbying records show that the group has paid Mr. Rosen, the Cleary Gottlieb partner, $430,000 for four months’ work. Mr. Rosen declined to comment, a spokeswoman said, citing "client sensitivities."
Mr. Rosen, co-author of a treatise on derivatives regulation, frequently counsels the industry on these complex contracts. In late January, according to e-mail messages, he asked the members of the CDS dealer group if they would support his testifying before Congress on behalf of the Securities Industry and Financial Markets Association, a trade group. The CDS dealers are a much smaller group with a far larger interest in derivatives than Sifma as a whole. Mr. Rosen received an e-mail response from Mary Whalen, managing director for public policy at Credit Suisse, the Swiss bank, which is active in the derivatives market:. "It is a good idea for Ed to write the testimony and if necessary testify.
That way we can be sure that the banks’ point of view is expressed, rather than taking a chance on testimony that Sifma might craft. Sifma’s members include 650 firms of varying size and interests, many of which do not trade complex derivatives. By taking the lead, Mr. Rosen was able to position himself as the main advocate on derivatives for the securities industry and to make sure that the group of nine banks in the CDS Dealers Consortium had a loud voice within Sifma.
At a House Agriculture Committee hearing on derivatives in February, Mr. Rosen testified on behalf of Sifma. He did not mention that he was also a paid lobbyist for the CDS Dealers Consortium, whose interests might be different from Sifma’s. Those testifying at such hearings are not required to disclose all of their affiliations. But when asked, Representative Collin C. Peterson, a Minnesota Democrat and the chairman of the House Agriculture Committee, said he had not known of Mr. Rosen’s relationship to the consortium. He said he would have liked to have known because it would have guided his questioning and interpretation of Mr. Rosen’s testimony, given that his clients in the smaller CDS group represented a narrower interest group with a more specific agenda.
Mr. Peterson, whose constituents include farmers, who are historically suspicious of Wall Street and whose livelihoods depend on efficient markets, is a longstanding critic of loose regulation. And since his committee oversees the Commodity Futures Trading Commission, he would retain more of his prerogatives overseeing the market if the C.F.T.C. were the main regulator. Mr. Peterson’s bill specifically bars derivatives trading in a clearinghouse regulated by the New York Federal Reserve, which he said in an interview "is a tool of the big banks" that "wouldn’t do much" to regulate the contracts.
Because the banks’ lobbyists persuaded some of his Republican colleagues to resist more sweeping changes, Mr. Peterson said, he has had to modify a bill he introduced that is similar to Mr. Harkin’s in calling for wide-ranging limits on derivatives. "The banks run the place," Mr. Peterson said. "I will tell you what the problem is — they give three times more money than the next biggest group. It’s huge the amount of money they put into politics."
As a result of the lobbying efforts, champions of broad-based regulation are concerned that proposals will be significantly limited by banking interests. "The outrage among the public means that things have a chance to change, if things move quickly," said Michael Greenberger, a professor at the University of Maryland Law School and a former director of trading and markets at the C.F.T.C. "We’re in this brief moment of time when the average citizen is on a level playing field with the lobbyist."