We're All In This Together…Except For Bondholders

by Odysseas Papadimitriou on April 8, 2009

Boat WavingAs more and more big name companies become insolvent, taxpayers and shareholders in these companies are losing money.  Bondholders, on the other hand, are not feeling the hit and are actually making money out of bailed out companies.  Given the size of America’s economic problems and the ways in which these problems seem to affect all of us, it makes no sense that bondholders aren’t feeling the effect as well.

A bondholder is essentially someone who has loaned money to a company.  When a company needs cash, it either issues stock to shareholders or takes out loans.  Thus far, if the stock goes down, investors take the hit.  If the company requires government bailout, taxpayers must pay for the company.  However, even when a company is on the brink of total collapse, and must be brought under federal regulation to keep it from failing, that company is still expected to pay off its debt at the rate set at the time of the loan.  So long as the company has not gone bankrupt, it must still repay its creditors, including its bondholders.

The government’s refusal to let insolvent companies go into bankruptcy has created a class of economic investors that are artificially immune to risk.  While it is reasonable that the government prop companies up if their collapse threatens a domino effect of devastation across the economy, this practice shouldn’t mean that everyone suffers except for bondholders.  These companies’ healths are illusory; they are still insolvent and are still perfect candidates for bankruptcy—we just won’t let them.  As a result, bondholders are still making profits off of their investments in companies like GM, Chrysler, Bank of America, and Citibank, while shareholders and taxpayers are carrying all the burden.

It is time to force bondholders to make sacrifices like everyone else by forcing them to renegotiate the terms of their debt with bailed out companies, or to call their bluff by organizing pre-packaged bankruptcies for the bailed out companies, which is what we previously suggested for AIG.

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