Thursday, November 13, 2008

Saving the Taxpayers II

Regarding my previous post on the corporate raider plan to save GM I should make two points. First, I need to amend my argument to make GM bankrupt without a government bailout. This is easy: I need to suppose that the market currently factors in some amount of bailout with an expected value greater than $1.8 billion. Then the current value of cash flows is less than the value of all its liabilities. The government is still better off buying and selling the company if it can receive enough to offset some of the claims it will face in the event of bankruptcy. I will show this later.

The key point to make is that for the government the legacy costs are sunk. It is going to have to pay them in the event of bankruptcy. So any net revenue it gets lowers the taxpayer burden relative to bankruptcy. This is not true for the private corporate raider. To the private corporate raider the legacy costs are like a tax. But the government can internalize this tax. The private raider cannot.

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