International Implications of the Citigroup Bailout

The Citigroup bailout was a good deal for Citi shareholders (who wouldn’t appreciate a big transfer from the taxpayer during this holiday season?) and a great deal for Citigroup management.  But it also has three global implications that perhaps have not yet been fully thought through.

1. The Citi deal shifts pressure from US financial institutions, at least for a while.  But to the markets it raises the question: who or what is next?  And the indications again point to the eurozone.  Credit default swap spreads indicate increasing differentiation between Germany on the one hand and, say, Greece (or Ireland or Italy or Spain) on the other hand.  I don’t want to single out Greece, but the recent IMF Article IV Report has some very interesting debt path simulations (the report’s Figure 3) – if you update these in the light of current global circumstances, you can see why Greece may well need a bailout before too long (remember: their government debt is in euros and cannot be inflated away, unlike in the US or UK, for example.)  The market view is that some European governments could not really afford the generous bank bailouts they provided in October.

2. For all the increased discussion among politicians and academics about reforming the global system, to preempt the next crisis, why would the most powerful people on Wall Street want this?  The Citi deal shows that the clout of the US financial industry has, if anything, actually increased over the past eighteen months.  “Wall Street owns the upside and the taxpayer owns the downside” is an old saying which seems more appropriate now – and on a bigger scale – than ever.  There is no harm in proposing changes to deficient national regulatory systems and international, rather creaky, Bretton Woods structures.  But strong forces just found out that these structures are completely compatible with rather juicy bailouts (and there may be more to come), so don’t expect rapid or meaningful real reform.

3. If we are now at the next stage of bailouts and of figuring out who can afford to do the bailing, then existing resources – in and around the IMF – for helping emerging markets are really not enough.  The G7’s strategy proposal to emerging markets is clearly: ”finance, don’t adjust (much),” i.e., keep on growing one way or another.  This might or might not be a good idea, but it will only work if backed by enough official loan support when needed – this is what many countries will need to sustain a current account deficit or offset capital outflows and keep growth on track.  IMF available resources, even with the recent loan from Japan, are only around $200bn.  You really cannot save many banks/countries with that amount of money these days – the IMF lent over $40bn this month alone.


Originally published at the Baseline Scenario and reproduced here with the author’s permission.

9 Responses to "International Implications of the Citigroup Bailout"

  1. Anonymous   November 29, 2008 at 7:11 pm

    OK … what I’m understanding from this article is that ‘bailouts’ as a global solution is impractical — no surprise.But that is the current political spin — of course.The pattern of these bailouts seems so far to be a ‘partial’nationalization program. With no real statements or plans ofhow this is intended to be reversed … if it is.Apparently, this is being pushed a a global solution. Sowhat is the next step … WHERE is the money going to come from?Seems to me that the only way to do this globally is to setan new world monetary sytem.Is there another way?

    • Guest   December 2, 2008 at 6:50 am

      If you want to read a really interesting possiblity regarding the reforming of the global monetary system read this article by Larry Edelson: http://www.moneyandmarkets.com/more-on-the-new-monetary-system-6-28166Now I’m no economist or highfalutin MBA but it seems to me that his proposal make eminent sense. His thesis revolves around the central point that more than anything we are in a debt crisis that will drive the international economies into total stagnation and deflation. One way to resolve this debt crisis is for the international monetary system to devalue its currencies across the board. Simply put, this would entail dropping the value of all currencies by an arbitrary amount (eg 50%). By doing so, the value of your dollars, yen, Euros etc. would only purchase 1/2 of what they do now. But in doing so you automatically eliminate the debt crisis. Of course, this would have a catastrophic impact on people with savings and bondholders who invested their money in these investments. To put it bluntly, the savers would get screwed over and the borrowers would benefit because they would only be required to repay their debts in currencies worth only half of what they borrowed in the first place. But it would solve the debt crisis. Banks who lent recklessly would find that their “investments” were suddenly “solvent” because if the value of a home before the devaluation was say $200,000 the new nominal value of the home would be now $400,000. The mortgage on the property would now be less than half the value of the property.Is this likely? Is there a precedent? Apparently there is. FDR devalued the the US dollar by 40% in 1933-1934. Israel has also devalued its currency 5 times.Given the overwhelming nature of this crisis, Governments around the world would have the following choice to make especially if this financial crisis turns into the next Great Depression: Continue to allow the international economies to suffer a never ending and grinding depression or deflate the worlds currencies and lift the international economies out of depression into productivity.Needless to say, these are issues that would not be lightly taken, but may be taken because of necessity. In any event it is wise to be cognizant of what policy solutions are possible and act to protect one’s wealth accordingly.

      • Guest   December 5, 2008 at 6:15 am

        “To put it bluntly, the savers would get screwed over and the borrowers would benefit because they would only be required to repay their debts in currencies worth only half of what they borrowed in the first place. But it would solve the debt crisis.”If a terrorist shot me in the head it would eliminate all my problems as well. I’m not sure that qualifies it as a good solution. What do you think all the honest, smart people who didn’t buy into the Ponzi scheme of the financial markets are going to do and say when 1/2 of their life’s work evaporates in this grand plan while someone who borrowed and spent has a better time of it as a result? Do you think it will just stop there? I seriously doubt it. More likely it will cause a civil war and a break up of the country. Sound extreme? Try stealing half my wealth from me using money tricks and see what happens.The greedy and stupid must be punished for their greed and stupidity. The penalties must not be transferred to the smart and honest savers. Let’s make sure the cure is not worse than the disease!

    • CJ Hames   December 5, 2008 at 10:07 am

      I read Mr. Edelsen’s theory on currency devaluation. Like you, I’m no economist or an MBA, but I do own my own business, so I’ve been monitoring this mess like a hawk for months. Here are a few things that jumped off the page to me:1) Let’s say the Treasury Dept hasn’t tipped it’s hand, there is no grand conspiracy and Wall St. Execs and CEO’s of major Financial Institutions haven’t been warned about such a plan. If Mr. Edelsen has the vision to think this is a possible scenario – and FDR has already set the precedent for it – why wouldn’t the Citigroup’s, BofA’s, Wells Fargo’s, Goldman Sachs, etc. of the world know or at a minimum prepare for this as well?2) If they’ve seen the handwriting on the wall, what would be the logical thing for them to do? Buy other banks that have mostly solid, true collateralized debt! Isn’t this like making an equivalent amount of return (whatever the devaluation rate is) on your money while doing nothing? What are these Institutions doing now? We hear they aren’t lending, they are hoarding cash and buying banks with it. File that under “the things that make you go hmmmm” category.3) If I was very wealthy and I knew I was about to lose half of my cash, what would I be doing right now? Trying to make (or take in the form of free U.S. bailout cash) as much money as I could, knowing full well that if I had $10 billion in cash it would soon be worth “only” $5 billion.Just some random thoughts, but there are people out there who are a whole lot smarter than I am. What are your thoughts? Where is the kink in this theory?

  2. Massimo GIANNINI   November 30, 2008 at 6:19 am

    Can we have some update on the international, European, implications of the AIG Bailout?What do we need to know in Europe?

  3. devils advocate   November 30, 2008 at 7:44 am

    the average Joe feels robbedhigh real inflation – fuel and food prices rising before his eyes every week for yearshis stocks/home (if any) crashingrunning to his bank to secure his account:a huge emotional shock to his systemaverage Joe is suffering a personal Great Depressionsome (many?) have taken the Obama cure———-average Joe sees the Robber Barons/Wall Street gouging him more and more every daymany average Joes are exiting the stock/real estate marketsto escape before their remaining $ is “stolen”———–their loss of confidence is a block that even Obama can only chip away at

  4. we don't learn   November 30, 2008 at 11:16 pm

    “Wall Street owns the upside and the taxpayer owns the downside.” for now. Time will come soon where the people in Wall street will have to fess up to a persecutor rolling them all out to court. Yes we know that Enron fraud was covered up by the Justice Department. We also know that what is happening is another Enron in a much broader way.The good thing is that people are learning about the way academics, journalists, politicians and business have formed a fascist relationship within North America and UK and they hope to transfer this dysfunctional way across the globe, by money destruction (financial disaster) or by creating a war on terror scenario (Mumbay, Afghanistan, Iraq, Pakistan, Somalia, Georgia etc). One does not need to be a rock scientist to see the paws of MOSSAD/CIA/M16 at work. Just like “Mano Blanca in Central and South America in the 80’s.

    • Guest   December 5, 2008 at 6:22 am

      AGREE!!!!We need to put them all in jail and the games will stop immediately. Silly corporate fines do nothing except tax the shareholders. Jail time for leadership level individuals is the only way it will stop.WAKE UP AMERICA. You sit there apathetic while the banker screw the crap out of you and then you want to complain. Ron Paul was telling you all this would happen but we as a nation spit in his face and elected one of the 2 Keynesians that were offered up before us. It was the choice between a douche and a $hit sandwhich (I will let you gauge which one of those choice won).The gov’t fvcks up everything. We need smaller gov’t which is NOT running the economy. We need a constitutional gov’t, NOT one which has self elected a money Czar with unlimited powers and no civil liabilities. This is turning into a dictatorship and this will only stop if the people jointly demand it to stop.

  5. Rolliego   December 1, 2008 at 12:15 am

    I have a proposal to restructure the capital of banks. We should introduce and mandate a Multi-Tier Equity (MTE) structure for banks. The present equity should be the Class A common equity. The second (Class B)would be preferred convertibles earning say a fixed rate plus preferred dividends. The third would be Class C which is convertible to Class B when all Class B shares are automatically converted to Class A. Class C shares enjoy top preference and carry a higher interest/dividend rate but no discretionary dividends. Governments can then subscribe to this class. The total of Class A, B, and C should be at least 25% of risk assets. This is the only way to institutionalize an increase of bank capital and make capital attractive to investors and governments without nationalizing banks.