Today’s page 1 story in the Wall Street Journal is entitled “GM Seeks $16.6 Billion More in U.S. Aid”. After reading the article, I was mostly surprised and disturbed by Rick Wagoner’s claim that “bankruptcy scenarios are ‘risky’ and ‘costly,’ and would only be pursued as a last resort” (Mr. Wagoner is GM’s chairman and chief executive officer). While it is certainly plausible that GM and Chrysler would need $100 billion and $24 billion respectively in order to go through the Chapter 11 bankruptcy, it seems like false accounting to me for these companies’ top executive officers to argue that bankruptcy would be more expensive for the U.S. taxpayer than bailout loans. This is a very self-serving argument which is motivated more by enlightened self-interest than concern for the public good.

If these companies were to go through Chapter 11 bankruptcy, there is no question that they would need so-called “Debtor-in-possession or DIP financing“. Given their impaired credit statuses, both companies would find it difficult, if not impossible, to obtain DIP financing from private investors. However, it does not therefore follow that the U.S. taxpayer should have to fund these loans. A better (and far less expensive) strategy for the government to follow would be to simply provide DIP financing guarantees to private investors. These investors would have compelling incentives to closely monitor the bankruptcy processes for both firms so as to maximize the likelihood that they emerge from Chapter 11 bankruptcy protection as viable organizations. Although insurance is never “free”, the ex ante cost of a contingent guarantee backstop for the DIP financing would be substantially less than the cost of a bailout loan, and such a strategy would have a far better chance (due to better incentives for monitoring by investors and for the companies themselves to work out sensible deals with their various stakeholders) at producing the policy outcome that the government wants; i.e., a viable U. S. automobile industry.

On their new blog, Fama and French note the following concerning market volatility (see “Q&A: The Value of Historical Data”):

“Large declines in stock prices occur several times during the last 80 years. The nearby plot of the volatility of daily market returns shows that the current high volatility also has precedents in 1987 and in the 1930s, and to a lesser extent in 2000-2002. Periods of business uncertainty (for example, the onset of a recession) are typically associated with stock price declines and increases in volatility.”

Here’s the graph which goes along with their verbal description:

One can obtain a rough estimate of annualized volatility from this graph by multiplying daily volatility by 19.1, which is the square root of the number of days (365) in a year. Thus the October 1929, October 1987, and October 2008 spikes correspond to annualized volatility of 86% to 95%. Putting this into perspective, the long run average annualized volatility for the S&P 500 since 1926 has been more like 20%.

See also my earlier posts on market volatility; specifically, “Frequency Diagram for the Implied Volatility Index, January 2, 1990 – October 10, 2008” and “Volatility“.

Our good friends at the National Bureau of Economic Research have made it official; the U. S. economy has been in recession since December 2007. For what it’s worth, the US.RECESSION.08 contract is up 5.5 points on this news, with the last trade occurring at 97.4. The contract rules define recession as constituting two consecutive quarters of negative GDP growth, and since this information has yet to be officially released by the government, it is still an actively traded contract.

Since we are nearly 1 year into this recession, this already qualifies as one of the longer recessions since the Great Depression. Apparently the longest one since then occurred 1973-1975 and lasted around 15 months. At this point, it would appear highly likely that we’ll be setting a new record with this recession. The “good” news is that the Intrade US.DEPRESSION.09 contract (which defines depression as a cumulative decline in GDP of more than 10.0% over four consecutive quarters) last traded at 13.6, which represents a 1.3 point drop on the day.

I highly recommend Mark Perry’s blog posting entitled “A Cancer on the Big Three: The $29/Hr. Pay Gap“. This gap is graphically illustrated in the figure posted on Mark’s Perry’s weblog, which I reproduce here: