I spent part of the week in my old home town of Bethesda, Maryland, transformed beyond recognition by the boom in all things government (the 1500 square-foot-houses in my parents’ neighborhood have been torn down and replaced by 5000-square-foot $1.5M homes for lobbyists, lawyers, etc.; the Chevy wagons in the driveways have been replaced by Porsche Panameras and big Mercedes sedans and SUVs). I had dinner with a woman who joined the FDIC a year ago to work as a commercial litigator. What kind of work was she doing?
“After a bank fails and we take them over, we step into their shoes,” she explained. “So if they were involved in a legal action of some kind before we have to finish it. But mostly I handle new lawsuits being brought by former executives. Each was entitled to millions of dollars in retention bonuses and other extra pay had their bank stayed in business. Now that the bank has failed they are arguing that they, who ran the bank into insolvency, are entitled to higher priority than general creditors.”
Aren’t they legally eligible for them anyway? I’m sure they were smart enough to have their contracts written in a way that they get their bonuses regardless of ANY mitigating event.
Or are you claiming that the government should have the power to nullify those clauses in their contracts in this extreme case? Weren’t you arguing the opposite when GM and Chrysler went bankrupt, and unions got payouts before other bondholders, in violation of normal bankruptcy procedures?
Joshua: Of course they were legally eligible for the money, just as any other creditor of the bank was. The standard rule in bankruptcy, however, is that deferred compensation gets the same priority as any other obligation of the failed enterprise. So if the landlord gets paid off at 10 cents on the dollars, so does the executive. There really isn’t any other way to do it since the failed enterprise does not have enough money to pay everyone all that they were theoretically owed.
The main difference here is that the federal government has infinite money. So there is a possibility of getting paid if they win their suit. So the executives are making a legal argument that perhaps nobody has ever bothered to make before. In any case, if they succeed it will be a big change in the treatment of creditors following a bankruptcy (i.e., insiders will get a better deal than outsiders).
So it would make quite a bit of sense for a small bank president to write himself $100 billion in deferred compensation, which will obviously cause the bankruptcy of his institution. Then the government will be forced by law to cover it. By Jove, Philip, you are a genius!