Traffic Rules

Megan McArdle clarifies a point I've been thinking about a lot lately when dealing with the Administration's push to cram down the bondholders in the Chrysler bankruptcy:

The seniority rules have no particular moral priority; like traffic rules, they matter because they are the rules. People make decisions based on what the rules are, and if you change the rules without warning, you get nasty accidents.

Right now, senior debt is cheaper than junior debt; secured debt cheaper than unsecured. If you declare that there are no priority rules, because the government will step in and arrange things so its friends get to cut in line, then everyone will have to pay something close to what the most junior unsecured creditors get now. Not only will interest rates go up, but terms will shorten--no one wants to lend into a period when default risk can't be calculated. And companies that are particularly likely to have administration "friends"--union shops, when Democrats are in office; maybe oil companies or defense contractors for Republicans--are going to find it harder to do debt financing at all.

Most people underestimate just how economically valuable the rule of law is. A roughly stable investment environment that doesn't maximize social justice is undoubtedly better than an unpredictible one that tries to--just as the billions of poor people who live in states that have tried to exchange the former for the latter. The winners were not the dispossessed.