Warren Buffett Thanks Uncle Sam

Wednesday, November 17, 2010

Warren BuffettPretty Good for Government Work

DEAR Uncle Sam,

My mother told me to send thank-you notes promptly. I’ve been remiss.

Let me remind you why I’m writing. Just over two years ago, in September 2008, our country faced an economic meltdown. Fannie Mae and Freddie Mac, the pillars that supported our mortgage system, had been forced into conservatorship. Several of our largest commercial banks were teetering. One of Wall Street’s giant investment banks had gone bankrupt, and the remaining three were poised to follow. A.I.G., the world’s most famous insurer, was at death’s door.

Many of our largest industrial companies, dependent on commercial paper financing that had disappeared, were weeks away from exhausting their cash resources. Indeed, all of corporate America’s dominoes were lined up, ready to topple at lightning speed. My own company, Berkshire Hathaway, might have been the last to fall, but that distinction provided little solace.

Nor was it just business that was in peril: 300 million Americans were in the domino line as well. Just days before, the jobs, income, 401(k)’s and money-market funds of these citizens had seemed secure. Then, virtually overnight, everything began to turn into pumpkins and mice. There was no hiding place. A destructive economic force unlike any seen for generations had been unleashed.

Only one counterforce was available, and that was you, Uncle Sam. Yes, you are often clumsy, even inept. But when businesses and people worldwide race to get liquid, you are the only party with the resources to take the other side of the transaction. And when our citizens are losing trust by the hour in institutions they once revered, only you can restore calm. Read on...
Buffett is dead-on in his praise. While many are ready to critique the bailouts and specific proposals enacted during the crisis, I think they are significantly downplaying or ignoring how close to the precipice we were and not recognizing the critical impacts of the behind-the-scenes reactions by key government officials. I am the first to criticize some of the actions taken: for instance the ban on short selling was a very poor choice as it removed all the natural buyers from financial companies in one fell swoop. The disorderly bankruptcy of Lehman Brothers was also probably a mistake for which we paid dearly. In hindsight, a controlled wind down procedure would have been a much better path. But overall I am a big fan of how smart the government was and how quickly they recognized the peril we faced.

Notably, raising the FDIC-insured limit to $250,000 from $100,000 went unnoticed by many but halted a great deal of panic for businesses with large checking accounts. The guarantee of money markets after the Primary Reserve Fund 'cracked the buck' by dropping below $1.00 for the first time in history stemmed the flood of billions out of the fund. While its exposure to Lehman proved to be ill-advised, reassurances from the fund's management did nothing to stop the overwhelming tide and $40 billion in redemptions out of the $63 billion fund came through in just days. The fund could not liquidate holdings nearly fast enough to meet the panic. Cash was no longer safe!

Re-capitalizing the country's banking institutions was the final step needed and Paulson's $700 billion TARP accomplished just that. Once again we can say that ideally they should have had greater management shakeups or pay restrictions ahead of time but either way, the government calmed the markets. The government became the lender of last resort when it was needed most, when the entire world wanted liquidity at the same time. The panic resulted in the first major deflationary spiral in many decades and firms would have gone bankrupt because of a financial panic. The federal government, for all its missteps, wisely and effectively stepped in to halt the economic freefall. Indeed, the world would be a very different place today had they opted out of this duty.

Brandon R. Rowley
"Chance favors the prepared mind."

*DISCLOSURE: Nothing relevant.
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