The CIT Rescue And Lehman Bros

CIT (CIT) was rescued on the steps of the bankruptcy court when some of its bondholders put together $3 billion in financing to keep it afloat. It is alarming that the Administration allowed it to get that far. The circumstances that would have followed the failure of CIT would have been unimaginable.

CIT (CIT) is really not like Lehman Bros at all. It does not have an arm that invested in complex financial instruments or a large, leveraged real estate portfolio. It is not part of the web of transactions among the largest investment and banking operations around the world. CIT’s business tends to be fairly simple. It loans money to small and medium sized businesses. It now appears that many of those loans were ill-advised. CIT’s problems are typical of the current unprecedented tight credit markets. CIT has $2.3 billion in debt coming due this year. It has not had access to capital to refinance that.

The one characteristic that Lehman and CIT have in common is that a collapse of institutions with huge numbers of relationships across the financial world have unintended consequences which are, in CIT’s case, likely to be immediate and extremely disruptive. CIT has approximately one million customer relationships. Some of those customers have drawn down on their credit lines in the last few days, which their agreements with the financial firm clearly allowed them to do. Those credit withdrawals have further damaged CIT’s financial position, creating a now familiar situation in the financial system-a financial company faced with customer panic that threatens to shutter it.

The federal government passed on the option of helping CIT out of its bind. That means that there was a reasonable chance that the firm could have gone bankrupt. Its agreements with customers would have been moved to other financial institutions. That could have taken weeks, or even months. Many of CIT’s customers would not have had the luxury of waiting that long.

According to AP, “A primary business of CIT is short-term financing, mostly to small- to medium-sized businesses that can’t afford to wait the 60 to 90 days it takes to get paid for shipments to retailers.”  A recession typically makes collecting bills more difficult, which makes CIT’s services all the more critical. CIT’s failure would have come at the point when its value to its clients was certainly at a multi-year peak.
The Administration has not given any reason for its decision not to aid CIT and not to act as an aggressive broker to find a buyer for the firm. The government has no obligation to keep CIT on two feet, but the consequences to the firm’s customers could have rocked the economy the way that it was late last year when several investment firms and banks were in improbable but terrible situations. The Bush Administration let Lehman Bros fail and rescued several other companies including Citigroup. The collapse of Lehman is widely viewed as the trigger that pulled the credit markets close to the precipice that forced the Fed and Treasury to take unprecedented actions, one of which was to push Congress to create the TARP funds.

CIT’s bondholders acted in their own interest when they stepped in to salvage CIT. They might have lost much of their investment if the company went into Chapter 11 or an outright liquidation. It is a case of self-interest serving the national interest when the national government has been unwilling to do so. The rescue of CIT may be one of the most critical moments on the road to American economic recovery. Small businesses that would have lost temporary access to CIT’s capital could have failed by the thousands, further eroding the business and tax base and putting thousands of people out of jobs.

The Administration is putting the country so deeply into debt, in the name of saving the economy, that it now has to act as a triage nurse making subjective but necessary decisions about what companies and financial institution will live and which will die. It took a tremendous risk by allowing CIT to head toward the door. It is lucky that CIT had one last chance to stay alive. The economic recovery might not have survived its demise.

Douglas A. McIntyre