“One of the greatest disservices you can do to a man is to lend him money that he can’t pay back” Jesse H. Jones (1874-1956).
Lending, like any other function in business is guided by some cardinal rules. One of such rules of credit is Capacity. For a prospective borrower to qualify for a loan, he must convince the lender that he is in a position to generate enough income, primarily from the business being funded, to pay back when the loan is due. Beyond capacity, are other rules like character, collateral, condition and capital. These are what are referred to as the 5 Cs of lending. The issue of capacity seats very well within the statement quoted above.
Bail outs are not new in macroeconomic management. The first bail out recorded in US history happened in the year 1792 when the US government rescued 13 states that were in debt crises following the American War of Independence. One of the bail out schemes that has remained memorable even decades after, occurred during the Great Depression of 1929. Prior to this period, economists had believed that there was an in-built self-regulating mechanism that protected the economy from the adverse effects of the interplay of demand and supply. The theory was that all things being equal, price was determined by demand and supply and anytime prices went up, supply would respond by going up to take advantage of high prices. Increase in supply would then force prices down until that desirable level, called equilibrium, was attained. Conversely, a drop in prices would engender a commensurate rise in demand leading to the attainment of equilibrium, where demand and supply would meet and the market would clear. With the Great Depression setting in, it was clear that the claims of the in-built self regulating mechanism had become a farce. Secondly, the assumption of ‘all things being equal’ no longer held water, as in reality, it was clear that all things can never be equal. Then entered John Maynard Keynes (1883-1946) who argued that government intervention was necessary to moderate the negative effects of the free economy. So, following a prolonged period of economic stagnation and subsequent decline, government had to intervene to bail out the economy.
There has been a myriad of opinions as to the propriety of using tax payers’ money to rescue private businesses who sometimes are actually the architects of their own misfortune. There is also the very sensible argument about private businesses paying extremely huge salaries and dividends to employees and owners when things are good and passing their problems to the public when they run themselves into trouble. That not withstanding, however, it is generally believed that bailouts will remain with us if we must tame or eliminate instability and risk in the financial system, irrespective of where one comes out in the debate. This belief is reinforced by another belief that the entire economy could be brought down by distress in one of the sectors, especially the financial sector, upon which, in fact, every other sector, depends.
The most recent bail out in the US was some 10 years ago after the global economic crisis of 2008. The US Emergency Economic Stabilization Act was enacted on October 3, 2008, to protect the global economy from collapse. Commonly referred to as Bailout of the U.S. Financial System Act, it was a law enacted following the adverse fallouts of the subprime mortgage crisis. The act authorizied the United States Treasury Secretary to spend up to $700 billion to purchase distressed assets, especially Mortgage-Backed Securities (MBS), and supply cash directly to banks. The funds for purchase of distressed assets were mostly redirected to inject capital into banks and other financial institutions while the Treasury continued to examine the usefulness or lack thereof of targeted asset purchases.
Before then, the banks had become bullish in creating risk assets backed by mortgage. First, the banks were indiscriminately giving out loans to many unqualified borrowers to purchase houses. As the mortgages were created, many of the beneficiaries could not meet their repayment obligations. The widely held assumption was that houses never went down in value and it was therefore expected that even if those who took the loans for the purchase of houses did not pay, the value of the underlying asset, meaning the houses, would be enough to pay back the loan. Just as there was the wrong assumption about supply and demand interfacing all the time to create an equilibrium, the analysts were wrong this time. In response, the creative financial engineers started designing synthetic credit products that simply delayed the evil day. The price of houses remained sluggish and this naturally led to a bubble in the market and, and like all bubbles, that one also burst at some point and the banks were left carrying the can.
To save the collapsing system, the government of President George W. Bush passed the Economic Stabilisation Act in the twilight of its regime, which Barack Obama had to inherit. Records show that Mr. Obama diligently implemented this Act which, in turn, helped to rescue the economy. The bail out scheme was even extended to motor vehicle manufacturers including General Motors, amongst other companies that were at the verge of collapse. While the measure was largely successful in rescuing many of the big firms in the global economy, some companies like Lehman Brothers, AIG Insurance and government schemes like Fannie Mae and Freddie Mac, could not be saved..
Our own version of the bailout scheme started in 2009 with the appointment of the current Emir of Kano, the then Sanusi Lamido Sanusi as the Governor of the Central Bank of Nigeria. He immediately started reforms in the banking industry that led to the removal and prosecution of some bank executives and the appointment of new helmsmen for those banks. He set up the ‘Bad Bank’; the Asset Management Company of Nigeria (AMCON). The Bad Bank was the vehicle through which bad loans were taken off the books of the banks that either came under the CBN hammer or had challenged loans in their books. According to Ahmed Kuru, the current CEO of AMCON, the company has an outstanding N5.3trillion purchased from the banks relating to 14, 000 customers of banks. Out of this number, 350 of the loans represent 85% of its total exposure. What this means is that AMCON, following the Pareto principle of 80:20, could simply focus on the 2.5% of its debtors to recover 85% of its exposure.
It is interesting that over 50% of this year’s budget has been used to save private businesses in the country. The question of the fairness and appropriateness of this action remains unanswered. Some more fundamental questions include; what has been the attitude of the beneficiaries of these bailouts? Have they shown any willingness to pay? Do they have the capacity to pay? Is there a way to ensure compliance by those who have capacity to pay but have so far failed to so do? Is it not justified to fear that they have simply ‘bailed’ with the bailout funds, which, like we had explained earlier, is tax payer’s money?
The popular and ongoing bailout scheme in Nigeria is actually the main reason for this intervention. By the time the Muhammadu Buhari government came into power in 2015, it discovered that some states were in arrears of several months of the salary of civil servants. The federal government therefore decided to give bailout funds to such states to enable them be up to date in their payment of salaries. Recently published reports indicate that the total amount of bail out funds extended to the states was in the region of N1.75trillion. This amount is close to 20% of the 2018 national budget. The loans were structured to be repaid over a twenty year period at an interest of 9% per annum. About 20 out of the 36 states of the Federation benefitted from the bail out funds programme.
Analysts have raised concerns about the fact that the loans were drawn from the Federation Account without going through the due process of Appropriation. Others have also queried the Federal Government for not scrutinizing why the states that benefitted from bail outs got themselves into that situation in the first place. Some analysts have also insisted that the Federal Government did not set up any mechanism to ensure that the bail out funds were actually deployed to the settlement of outstanding salary areas. In fact, it is on record that some of the states that received bail out funds have literally bailed with such funds, leaving behind even more salary arrears. There is also the concern that the current governments of the debtor states are sadly leaving these debts behind for future generations of its citizens to settle. The states themselves have also been seeking even more bail out funds as they continue to sink deeper into more economic crises and financial instability. Meanwhile, nothing seems to have changed in the personal lifestyles of the leadership of the bailed out states. Some of them are still living large and investing in white elephant projects.
Matters are not helped by the declining oil prices which currently is trading at slightly over $50 per barrel. What is staring everyone in the face is the imminent insolvency of many of the states that were bailed out unless the federal government puts itself in a position to continue to bail them out in perpetuity.
So, what should be done? I am of the firm belief that even though bail outs are one way to rescue a challenged company or government, it is important that emphasis should be on adopting sustainable approaches. Truth be told, some of the states that have been created in Nigeria are not viable and cannot operate without hand outs. The problem, therefore, is more fundamental than we want to believe. A state which has little or no economic activity and makes infinitesimal contribution to the GDP of the country can hardly survive. In an era of high oil prices, such states could be coasting along. However, it takes a little shock in the oil market to expose their underbelly. Strictly speaking, we must begin to ask ourselves what happens when oil dries up some day or if with technology advancement, the world finally has no use for oil. Of course, it is already happening in many countries in Europe and elsewhere. In some of those countries they have begun to set deadlines for phasing out hydrocarbon-fired vehicles and replacing them with electric vehicles. The big challenge facing our states and even the Centre is that we need to begin to ask ourselves hard questions and even question our existence as governments. If states can’t perform basic functions like payment of salaries, do we really believe that they should be called governments? It is interesting that these days, payment of salaries is listed by some state Governors as part of their achievements in office. This, to me, is the compulsory job of employers, be they in the private or the public sector. Where this does not happen, such an employer should consider itself, a failure. State governments should look at themselves and think of the economic activities they can promote in their domains to ensure that they generate enough internal revenue to run their governments. Bad governance which has been the bane of a lot of States in the country is encouraged by what someone referred to as “feeding bottle federalism” where at the end of every month, full grown men gather in Abuja, waiting to suck from the feeding bottle.
The Federal Government should also apply a little more rigour before handing money to people who have either mismanaged their states’ resources, or have refused to put on their thinking caps to come up with strategies to generate revenue to run those states. Dolling out cash by way of bail out funds would simply encourage docility and laziness. Worse still, it will help perpetuate the culture of impunity and corruption, which has been the bane of our society.
Permit me to use this opportunity to wish my readers a merry Christmas and a prosperous 2019.