Under the PB™ plan, the pirates would be paid up front one giant lump-sum payment — say $5 billion or so — in return for promises not to engage any further in this untoward trade. The present value is $5 billion, and at a discount rate of 5 percent, of 20 years worth of piracy yielding total ransom payments of $150 million a year. With $5 billion in cash to enjoy, piracy would be the furthest from the pirates’ minds.
The $5 billion could be gotten in one of two ways.
Option A would be to levy a small surcharge on the trillions of dollars our government is bent on shoveling toward Wall Street one way or the other. President Obama’s Office of Management and Budget would not even notice the $5 billion for the PB™ plan.
Option B would be to engage once again the world-renowned genius of America’s financial sector. The federal government would appeal to the patriotism and know-how of Goldman Sachs, J.P. Morgan, Morgan Stanley and other survivors of the recent banking fiasco to securitize the expected future ransom money form piracy into structured securities called ransom-backed securities (RBS). The principal and interest payments due on these RBS’s would be secured by the expected ransom cash flow from Somali piracy. By exaggerating expected ransom payments only a tad in marketing these RBS’s to investors, the banks probably could net $7 billion from their sale — $5 billion for the pirate buyout and a modest service fee of $2 billion for the bankers.
Could this be done? Why not? The ransom money from Somali piracy surely has been a much more stable and reliable cash flow than that from the subprime mortgages that these same bankers so happily securitized and peddled in the last few years in the form of mortgage-backed securities. That stability would make the RBS’s much more marketable.
But would any investor buy these RBS’s, since the ransom money would stop flowing if the pirate buyout plan worked?
Why not, if these derivatives were fully insured against default through the credit default swaps (CDS’s) the banks (and AIG) were so expert at selling on such structured securities during the past few years. There are now thousands upon thousands of unemployed young CDS issuers, many of them Princetonians, who would be only too happy to write CDS’s again, which is all they ever learned to do on Wall Street.
But wouldn’t the CDS sellers literally have to keep $7 billion in cash reserves for the certain claims in that amount on the CDS insurance they wrote on the RBS’s, in anticipation of their certain default if the pirate buyout plan worked and piracy ceased?
Young idealists may think so, but they do not know the world of seasoned adults into which the graduating Class of 2009 is about to enter.
If the financial sector and the rest of America have learned anything from the recent banking fiasco in the world of seasoned adults, it is that sweet Ben Bernanke of the Federal Reserve, the White House (whoever occupies it) and the Congress (whoever peoples it) jointly are the cash reserves for whatever inane CDS insurance the private sector has written. Just ask Goldman Sachs, which was paid close to $13 billion by taxpayers on structured securities for which AIG had written default insurance that it could not cover. This is how the nouveau socialist American capitalism works.
Now, the only other workable alternative to my PB™ plan is my RM™ plan, where RM stands for “Rent a Marine.”
Under this approach, we would station a squad of heavily armed U.S. Marines on every ship sailing anywhere near the Somali coastline. They would board the ship at its last port of call before it ventures into pirate-infested waters and disembarks at the port of destination. These Marines would be only too happy to blast into nirvana any boat approaching the ship with hostile intentions.
U.S. flag carriers would receive the RM™ service free of charge, as a courtesy of the U.S. taxpayer. Foreign flag ships would pay a rental fee of $X per Marine per day. These X rentals would be shadow-priced a shade below the actuarial value of the ransom the foreign carriers would otherwise face. The proceeds would be used to buy the Marines the needed equipment the Pentagon routinely denies them.
With my RM™ approach, I am sure, piracy on the high seas would stop within a year.
Uwe E. Reinhardt is the James Madison Professor of Political Economy and a professor in the Wilson School. He can be reached at reinhard@princeton.edu. The author wishes to thank Tom Frazier of L.H.P. Hospital Partners for his contribution to this opus.
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