Balkinization  

Monday, September 22, 2008

The Dodd Bill

JB

Here is Senator Dodd's proposed bill to deal with the fiscal crisis (hat tip Politico via Paul Krugman). Note the focus on the government's ability to purchase equity shares rather than merely debt, the creation of a insurance program for money market funds and various sunset provisions.

Notice also the creation of an oversight board, the requirement of findings of fact and regular audits.

It's not perfect, but it's a start. And it's far more responsible than Hank Paulson's one pager, the shorter version of which is "Trust me, I'm really smart and I work for George W. Bush."


Comments:

What's going on in Section 17? Limits on compensation may be set, but if so, they'll be set by Paulson, who will never set limits? I guess Dodd's banking on Obama winning the election?
 

Also, I don't read many statutes, but is it standard practice to include cant about 'American families' in the text? I can see a place for that in statements of purpose, but not outside of that.
 

The provision for reporting transactions to Congress should include making all these transactions public.

The executive compensation should limit all executive salaries to no more than 100 times the average salary/wage of employees of the enterprise
 

This comment has been removed by the author.
 

Meaningful limits on compensation will simply make it impossible to hire high-level executives. What qualified person, offered a choice between making $1 million at a hedge fund and $400,000 at a bank, would choose the bank?

It would be like starting a university that didn't offer tenure. Obviously, there would be junior faculty who might accept such an offer, but no one who had tenure at an Ivy League university would work at a university where he or she didn't get it.
 

@tray: Some of the commenters at Sunlight have jumped on this same point (Sec 17's along with the oversight section in Dodd's bill have gotten the most comments so far; people arguing that someone other than the Sec'y should decide what's excessive.)

Sunlight Foundation has posted Paulson's bill along with Dodd's for markup and comment .

(Sunlight's proposed Transparency in Govt Act was up for comment from April through July of this year, and their staff has met with numerous Members of Congress on it since. They'll do the same thing with these two bills, and more as they are proposed).
 

Dodd's bill is a half-measure. It seems good only because Paulson's is so bad. It provides for the government to take common stock with a trading market. That allows for recoupment of some upside through a sale of the shares in the secondary market. How much of an upside is uncertain. But a preferred equity investment would make a lot more sense.

A distressed company desperate for financial relief is often reduced to issuing preferred stock with tough terms. Beyond restrictions on common dividends until the preferred gets its stated return – the very definition of preferred equity – they can include governance provisions of the sort the bill mentions that limit compensation and severance; provide for clawbacks; and so forth. They can even restrict common dividends under financial formulas if the road to rehabilitation calls for retention of earnings.

Apart from this, the preferred stock route would close a glaring loophole in the bill. Preferred stock binds the issuer as long as it remains outstanding. Dodd's bill requires a firm to clean up its act in order to qualify for a handout, but once it sheds its toxic assets, all bets are off. The firm is then on its honor, and we all know what that means: execs riding into the purchase and sale negotiations on public transportation and leaving in sedan chairs.

As for an exit in the common equity market with an upside, a preferred security can provide for this by making it convertible into common stock. If an upside is not needed, a preferred stockholder can be given a put right allowing it to redeem at its option for a formula price when stated conditions are satisfied.

An alternative would be for the government to buy debt securities with governance and financial covenants. That too would eliminate the upside, but it would give us the power to enforce the terms by declaring an event of default that required tje ossier to declare bankruptcy. The bill allows for debt, apparently as a fallback to common equity failing a trading market, but covenants go unmentioned.

In short, the bill limits the public interest unduly, treating us as liquidators of someone else's problem with a small stake in what redounds to that someone's benefit for our trouble. This is not how things go at arm's length in situations as bad as this one, that is, if things are as bad as claimed. Yes, we're talking about powerhouse corporations, not Silicon Valley start-ups whose 20 something CEOs have bright ideas but have run out of dough. But then the United States capitalized with $700 billion of cash is not your typical vulture fund.

Dodd's bill shows the advantages of starting out with an outrageous first bid, which Paulson's surely was. A party to negotiations can be cowed into thinking it has no bargaining power simply because the opposing party acts as if it had none, even if the exact opposite is true. Another word for this is "bluff." The Maverick brothers would see this instinctively. Let's see if either presidential candidate earns the label.

A strategy along these lines would put the Secretary and the board under something like a fiduciary duty to the public. They would have to drive a hard bargain. Parameters limit the discretion of the "Federal property manager" charged with selling off the toxic assets under the Dodd bill. I see no reason why a paragraph could not do the same for the initial asset purchase. There'll be a whole lot fewer of those, so it can't be a matter of transaction costs. Such a paragraph would be a basis for Congressional oversight and guard against sweetheart deals.

In short, this is a halfway house, socializing the sick part of the financial sector without the command. But of course that would be communism. As we all know, Lenin's dream at the Finland Station was to get the Czar to issue him preferred stock.
 

Meaningful limits on compensation will simply make it impossible to hire high-level executives. What qualified person, offered a choice between making $1 million at a hedge fund and $400,000 at a bank, would choose the bank?


I'd take the job for $400,000, and I bet I wouldn't run my bank into the ground like those "high-level executives" have done.
 

@tray: Some of the commenters at Sunlight have jumped on this same point (Sec 17's along with the oversight section in Dodd's bill have gotten the most comments so far; people arguing that someone other than the Sec'y should decide what's excessive.)

I don't think compensation should be in this bill at all, but if I did want to limit compensation, I wouldn't leave it to Paulson.
 

Sean:

What qualified person, offered a choice between making $1 million at a hedge fund and $400,000 at a bank, would choose the bank?

There's plenty of people more qualified than these crooks and eedjits that would jump at the chance to earn even the $400K.

Cheers,
 

Post a Comment

Older Posts
Newer Posts
Home