December 30, 2008 - General Motors, Detroit MI

The bailout for American automakers is skidding down a slippery slope.

To rescue General Motors, the Treasury Department has set aside $6 billion to prop up G.M.’s finance affiliate, GMAC. But for GMAC to ratchet up its lending, the Federal Reserve may have to take a liberal view of its capital levels. There are other disquieting signs that the Treasury and Fed are not totally in accord, which may further damage the government’s credibility.

The Fed required GMAC to scrape together about $30 billion of equity in order to be considered “well capitalized.” And the Fed imposed further tough conditions on the company last week when it approved its application to become a bank holding company, giving it access to oodles of government lending. It is requiring GMAC’s owners, Cerberus and G.M., to cut their stakes sharply over time.

But the Treasury seems to be pushing in the opposite direction. It has lent $1 billion of the total to G.M. so that the automaker can participate in a rights offering by GMAC. That will actually increase G.M.’s stake.

There are several reasons the Treasury may have done so. The government is already purchasing $5 billion of preferred stock and warrants; by lending to G.M. rather than buying GMAC common stock directly, it gets a higher position in the pecking order if the automaker and finance company fail.

More worrying is the possibility that this $6 billion is the first of many trips to the well. After all, GMAC is still losing money, after hemorrhaging almost $7.5 billion since the start of 2007. It had $9 billion at the end of September, is raising $2 billion from shareholders, including the rights offering, and now has the $5 billion Treasury investment.

It just concluded a debt for debt-and-preferred exchange offer, the deadline for which it had to extend several times. It says enough bondholders swapped their debt for it to meet the Fed’s capital requirement, but that probably doesn’t leave it with a huge amount of extra cash to back new loans or act as a buffer against future losses.

If GMAC’s woes pull taxpayers deeper into Detroit’s mire, it’s just one more reason the government should stand firm and force the automakers and their affiliates to reorganize under Chapter 11 bankruptcy protection.

Original Story - New York Times