Risk management in a world without bailouts

This week, the U.S. government signed the largest stimulus bill in history allocating $2.2 trillion to resuscitate an economy crippled by the coronavirus. Of that, over $500 billion is going towards corporations with $61 billion going towards airlines. While industries such as airlines are obviously in dire need of help, it raíses some questions - Was there anything they could’ve done to prepare for an expected event like this? Is it really justified spending 2.5% of the entire country’s GDP?

Considering the top six airlines spent on average 60% of their free cash flows on buybacks (and that’s excluding the worst offender American), you could make an argument that yes, there were in fact measures to be taken to alleviate the stress from an event like this and no, it is not justified spending taxpayer money to bail them out.

There’s nothing inherently wrong with share buybacks. They can be a tax-efficient means of returning capital to investors. But when a disproportionate amount of a company’s cash is used to prop up the equity value rather than on proper risk management tools, then it becomes a problem.

What’s most concerning is that it’s less a result of airline greed and more of a byproduct of the pretend capitalist system we live in. If a company knows they are deemed “systemically important” then why bother purchasing something like pandemic insurance when you can spend that capital elsewhere knowing the government will be there for you in the event of a crisis? This isn’t specific to airlines either. We saw the exact same structural flaws bring the world economy to its knees in ‘08 as banks were similarly disincentivized from adequately protecting themselves against risk.

In an alternate reality where the government decided not to step in these companies would go bankrupt. Equity holders would be wiped out and debt holders would be left picking up the scraps as we’d likely spiral further into a depression. The underlying issue is that since that hasn’t happened in the past, companies know they’ll have this backstop in the future. This leaves us with a never-ending system of poor risk management and subsequent bailouts.

If only there were a system designed with the direct intention to fix these structural flaws…