In 1996 the United States faced a well-heeled financial crisis. The Savings and Loan crisis caused the failure of more than 700 financial institutions and led to $400 billion being written off. This loss was more money than the banking industry had mad cumulatively over the past century. Of course the cost of this crisis was borne by the American taxpayer. This situation happened again in 2008. While the Federal Reserve did eventually turn a profit on the mortgage-backed securities it held, the U.S. government still spent $800 on a fiscal stimulus package that was never recovered. This system of huge irrecoverable losses covered by the U.S. government will inevitably fail. This same problem is happening again.
The domestic Airline industry, and every other industry, are asking for a fiscal bailout. Does this fiscal stimulus make sense? The airline industry over the past year spent 96% of free cash flow on share buybacks. Why should the American government be responsible for bailing out an industry that failed to capitalize themselves? Management, not just of the Airline industry, must be prepared for large unforeseen exogenous threats to their business. While the probability any individual Black Swan occurs in low, there is a very high probability that some Black Swan event will happen. It may be impossible to know the exact nature of the event but the effects of the crisis are clear and possible to navigate.
The fiscal package that will inevitably be passed cannot allow for a resumption to business as normal. There must be change. The shape of this fiscal bailout must make clear that the government will not allow shareholders to realize returns while the government bears most of the risk. America needs to become comfortable with failure. Failure and competition, not government packages and bailouts, fostered innovation. Natural selection, over a long time horizon, favors a conservative approach towards success. The most successful companies have not needed government help and have been able to whether these “unprecedented” storms because they were prepared. For example, Berkshire Hathaway is a financial fortress. Warren Buffett has ensured that his company – and by extension, his shareholders – do not bear unnecessary risk, and are always prepared in times of crisis. Another (less savy) institution that has survived the test of time is Kroger. These companies survived because they were prepared. These companies do not and have not required government assistance. The rewards of the economic system are being unfairly parcelled out when the government throws the fiscal policy sink at these “unpredictable crisis .”
I strongly believe that the government should not be responsible for these companies’ short-sightedness. Regardless of their irresponsibility however, the government should push for better governance at these companies. Instead of tying management compensation to share price ( which over the short term they have very little control over), compensation should be determined by an independent board ( not these fishy you scratch my back I scratch your back, boards we have today). Also, management compensation needs to be smaller. Why should Oil executives, who have almost no control over the price of oil, be compensated when net income soars? This makes no sense. Management is being compensated for things they have no control over. This story of compensation which is tied to luck is a pervasive one. It will inevitably doom the continuation of American economic dominance unless we act.