death of the contract = death of private industry
Expectations. The most basic yet important concept in maintaining stability is managing expectations. Rational people gauge expectation based on past experiences. The consistency of a particular outcome helps us predict future events and evaluate risk. In a society, the collective experiences of individuals conspire to drive macroeconomic behaviors. However, if the outcome of a particular action cannot be easily predicted based on experience, that event is said to be chaotic, and chaos is the basis for unstable markets.
In a effort to maintain stability, governments create laws designed to manage expectations. These laws create the even playing field necessary to maintain order. When you take out a loan the law requires the bank to disclose the costs and interest associated with the transaction. In addition, the law requires the bank to layout your responsibilities and the penalties for delinquency. These disclosers help you effectively manage expectations, and are a deciding factor for whether or not it makes sense for you to make the deal or not. If the terms are satisfactory, you enter into a contract and execute the agreement. Both you and the bank are protected by the contract. Without a contract both sides are exposed to unforeseen risks and unsettled expectations. Contracts are the currency in which business survives. However, contracts are meaningless if there isn’t a government there to enforce them.
Normally when a contract is broken, the grieving party petitions the government for a remedy. Courts have been established to settle these disputes, and in a effort to maintain a predictable and fair outcome, the courts must follow previously established laws. This system is as old as society.
As long as the government is willing to uphold contracts, stability is maintained and markets flow freely. However, what happens when the government is no longer willing to enforce contracts? We are in the midst of finding out.
This is exactly what is happening now to the secured creditors of Chrysler Corp. They have contracts guaranteeing them collateral for their loans. When Chrysler was on the verge of bankruptcy four years ago, several lenders bailed them out (allowing them to survive) in the form of large loans. Since no one in their right mind would lend money to a failing company without a guarantee of repayment via secured collateral, these lenders entered into contracts with Chrysler that guaranteed them 100% repayment of the loans in the event of failure before any other party could get paid. These terms were the only reason it made sense to lend to the struggling company at the time.
Now, Chrysler has failed and the unthinkable has happened. The government is refusing to uphold the contracts that allowed Chrysler to survive up until this point. The result is actual theft from these lenders and their investors (probably you if you have a 401k). Obama is voiding these contracts and forcing these secured lenders to take 33 cents on the dollar while giving the United Auto Workers 55 cents on the dollar (even though they are legally entitled to nothing). In addition, not only are they refusing to uphold the law, Obama is taking it a step further by confusing the public into thinking these lenders are greedy speculators who are unwilling to play fairly. When in fact, it is Obama who is not playing by the rules (6o years worth of established bankruptcy law). The president is playing on the public’s emotions, pitting one class of people (the workers) against another (the secured lenders). This is all a side show designed to create a mob mentality and has no place in an orderly society, especially coming from the president. This is unheard of government intervention.
The ramifications of this act will leave a destabilizing wake in financial markets and the broader economy in general. Our collective experience just went from, contracts are concrete instruments designed to protect all parties involved, to the government can change the rules of the game at any point to favor those who are deemed more deserving or who have more political influence. What private bank in their right mind would loan money to a struggling company in the future now that contracts are no longer expected to be upheld? Obama has just established the government as the de facto source for all future financing of struggling industry by scaring off private capital. We have just entered scary uncharted territory. How can we expect the economy to recover while he continues to wage a war against the investor class?