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The House Financial Services Committee (HFSC) appears primed to strike the first blow against the Obama administration’s nearly two-year effort to mitigate U.S. home foreclosures through its signature Home Affordable Modification Program (HAMP). During a markup this morning, Chairman Spencer Bachus (R-AL) said a final committee vote will occur next week to terminate the program he argues is doing “more harm than good for struggling homeowners.”

Created in March of 2009, HAMP aims to assist struggling homeowners avoid foreclosure by providing federal incentives for borrowers, servicers and investors to modify delinquent home loans through interest rate reductions, mortgage term extensions, and temporary principal forbearance. Although the Obama administration’s initial goal was to permanently modify three to four million home loans, HAMP has led to only 600,000 permanent modifications. According to newly-released Treasury statistics, between April 2009 and the end of January 2011, 1.5 million HAMP trial modifications were initiated – meaning that well over half of all initial modifications have resulted in failure.

Although HAMP was originally provided nearly $30 billion under the Troubled Asset Relief Program (TARP), as of February, only $1.04 billion in incentive payments have been disbursed to mortgage servicers under HAMP, according to the Congressional Research Service.

Critics of HAMP often cite an October 2010 report from the Special Inspector General for the Troubled Asset Relief Program (SIGTARP) asserting that failed loan modifications under the program have led to higher outstanding principal, less home equity, and worse credit score for some participating troubled borrowers. Critics have also noted that no enforcement mechanisms are in place for servicers who violate the HAMP guidelines, largely due to the program’s voluntary nature.

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Resolving a Federal budget impasse that threatens the first government-wide shutdown since 1995 will undoubtedly be Congress’s top priority when it returns on Monday following a week-long President’s Day recess. But who says lawmakers can’t walk and chew gum at the same time? Below is a preview of next week’s critical financial services hearings on Capitol Hill, as both chambers continue to oversee the implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 and discuss various proposals for reforming the housing finance sector.

GSE Reform

Treasury Secretary Timothy Geithner will make his first appearance of the year before the full House Financial Services Committee (HFSC) on Tuesday to discuss the Obama Administration’s long-awaited report to Congress—unveiled on February 11—that details both short-term administration initiatives and long-term options for reforming Government-Sponsored Enterprises (GSEs) Fannie Mae and Freddie Mac. House Republicans have targeted GSE reform as a key agenda item for the 112th Congress, as the HFSC has already conducted three separate hearings related to housing finance this Congress.

In addition, HFSC Chairman Spencer Bachus (R-AL) announced yesterday that his committee will be marking up four separate bills that will seek to terminate Obama administration foreclosure and housing assistance programs that Bachus argues are “doing more harm than good for struggling homeowners.” The Home Affordable Modification Program (HAMP), the Neighborhood Stabilization Program, the FHA Refinance Program, and the Emergency Homeowner Relief Program would all be terminated under the GOP proposals.

Republicans have been particularly critical of HAMP, a program spearheaded in March of 2009 by the Obama administration to assist struggling homeowners avoid foreclosure by providing federal incentives for borrowers, servicers and investors to modify delinquent home loans. HAMP has led to over 500,000 permanently modified home loans, yet has fallen far short of the Obama administration’s initial goal of 3 to 4 million modifications.

Consumer Financial Protection Bureau (CFPB)

On Wednesday, the House Financial Services Subcommittee on Financial Institutions and Consumer Credit – chaired by West Virginia Republican Shelley Moore-Capito – will conduct a hearing entitled "The Effect of Dodd-Frank on Small Financial Institutions and Small Businesses.” The CFPB’s potential impact on U.S. job creation and commercial credit access are likely to dominate the discussion.

The hearing follows the House’s passage on February 19 of a Continuing Resolution (CR) – a bill to fund government operations through September 30, 2011—that would cap the Federal Reserve’s funding for the CFPB at $80 million, representing a steep cut from the $134 million the White House requested for the agency’s FY11 start-up costs. Under the Dodd-Frank legislation, once the CFPB is officially established in July 2011, its funding will derive from the Federal Reserve’s operating expenses budget and could be as high as $500 million in FY12.

During the House budget debate, Chairwoman of the Appropriations Subcommittee on Financial Services Jo Ann Emerson (R-MO) defended the hefty cuts. "Providing half a billion dollars a year without any congressional oversight to the bureau is, I believe, a very irresponsible abdication of a constitutional check and balance," said Emerson.

Derivatives

Newly-minted Chairwoman of the Senate Agriculture, Nutrition and Forestry Committee, Debbie Stabenow (D-MI) will hold a hearing on Thursday to review agency implementation of Dodd-Frank’s provisions related to the regulation of over-the-counter swaps markets.

The hearing will primarily focus on Dodd-Frank’s imposition of enhanced regulatory requirements on the derivative market and its participants, including a requirement for stringent margin and capital requirements for all derivative market participants. During a HFSC oversight hearing on February 15, Commodity Futures Trading Commission Chairman Gary Gensler attempted to alleviate lawmaker and industry concerns that the new derivatives regulations will negatively impact so-called commercial “end-users” – those businesses ranging from farm equipment manufacturers to breweries -- who seek to hedge against interest rates and raw material prices through derivatives contracts. Gensler testified that the CFTC, which has been given broad leeway in determining the businesses who will be exempted under the law, does not intend to target legitimate commercial end-users.

Stay tuned for hearing updates next week.
 

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As an addendum to FRW’s TARP obituary, the Department of the Treasury released today a nearly 100-page report entitled “Two-Year Retrospective” that provides a comprehensive overview of TARP’s two-year history.

Most significantly, the report lowers—yet again—the Treasury’s estimate for TARP’s total cost to the American taxpayer from $105 billion to $51 billion. According to the report, the new estimate reflects last week’s American International Group (AIG) announcement that a deal has been finalized for the Treasury to begin unwinding its nearly $50 billion investment in the company through TARP, mainly through the Treasury’s swapping of its preferred AIG shares for over one billion shares of common stock, which will be sold over time. Treasury states that if the common stock shares held through TARP are sold at the market closing price for October 1 of $38.86 per share, Treasury would take a lower-than-expected net loss of $5.1 billion.

The report does project, however, significant losses in TARP investments for U.S. auto companies and other initiatives to assist homeowners in avoiding foreclosure of $17 billion and $46 billion, respectively.

In addition, outside of TARP, the report projects “substantial losses” from Government Sponsored Enterprises (GSEs) Fannie Mae and Freddie Mac through Treasury Preferred Stock Purchase Agreements (PSPAs).

Download Troubled Asset Relief Program: Two Year Retrospective (PDF).
 

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Troubled Asset Relief Program – 2 years old, of Washington, D.C., passed away quietly on Sunday, surrounded by friends and supporters (excluding elected officials), as the Treasury’s authority to make new investments under the influential, yet politically reviled $700 billion program officially expired.

Offering its pre-written eulogy on Friday, the Treasury Department sought to highlight TARP’s legacy on the U.S. financial sector during its short, active and tumultuous life.

“Looking back, it’s clear that TARP has played a critical role in stabilizing the financial system during a period of historic crisis and has helped put our country on the path to economic recovery – at a fraction of that initiative’s original projected cost,” stated a Treasury press release on October 1, buoyed by recent Congressional Budget Office (CBO) figures that predict TARP losses to the taxpayer of $66 billion, down from the most recent Treasury estimates of $105 billion.

Born in the thick of the 2008 financial crisis, TARP was created under the Emergency Economic Stabilization Act of 2008 (EESA), an expedited congressional response to heightening fears that an economic collapse was imminent. Garnering significant bipartisan support in both congressional chambers, the EESA passed the Senate on October 1 by a vote of 74-25 (with 34 Republicans supporting) and two days later in the House by a vote of 263-171 (with 91 Republicans supporting) and was then quickly signed into law by President Bush.

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The Fourth of July deadline for enacting financial regulatory reform legislation is likely to be postponed, yet again, to the middle or end of July. The House and Senate conference committee completed its work on the Dodd Frank bill in the wee hours of last Friday morning, but the death of Sen. Robert Byrd (D-WV) and the objections of four Senate Republicans are forcing the conference committee back into session this afternoon.

Senate Democratic leadership is now struggling to find the 60 votes necessary to overcome a filibuster. Sen. Byrd was a reliable “yes” vote for the conference report, and his replacement is not expected to be sworn in for at least several weeks. The four Republican Senators who had earlier supported the Senate bill are now likely to oppose the conference report -- Scott Brown (MA), Susan Collins (ME), Charles Grassley (IA), and Olympia Snowe (ME). Sen. Brown yesterday sent a letter to Conference Chairmen Dodd (D-CT) and Frank (R-MA) explaining that he was withdrawing his earlier support of the measure due to the addition of an FDIC assessment on large banks and hedge funds that was inserted at the last minute in order to raise the $18 billion necessary to make the legislation budget-neutral. Senators Snowe and Collins have also expressed reservations about the addition of this provision, and Sen. Grassley is facing additional constituent pressure being generated around a difficult primary challenge that may cause him to reconsider his earlier support.

Of the two Senate Democrats who voted against the bill last time – Senators Russ Feingold (D-WI) and Maria Cantwell (D-WA) – Sen. Feingold continues to oppose the legislation and Sen. Cantwell remains undecided. The leaders are holding today’s conference meeting in an effort to find alternative means to pay for the shortfall and make the bill budget neutral. House Financial Services Chairman Barney Frank and Senate Banking Committee Chairman Christopher Dodd have now proposed to raise the FDIC reserve ratio to 1.35 and divert unused TARP funds to replace the current $18 billion assessment. Of course, the new solution may well alter the support of other Senators.

Paying tribute to Senator Byrd, resolving the assessment issue, lining up the votes, and getting through significant procedural requirements in time to get members of Congress home for their Independence Day events now appears unlikely if not impossible.

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Treasury Secretary Timothy Geithner notified Congress today that the $700 billion Troubled Asset Relief Program (TARP) would be extended until October 3, 2010 – a move that, although expected, adds fuel to an ongoing debate on Capitol Hill whether to wind down the politically unpopular program or utilize its excess funds for broader economic recovery efforts.

In a letter sent to House Speaker Nancy Pelosi and Senate Majority Leader Harry Reid, Geithner sought to quell political concerns by outlining a TARP “exit strategy” and narrowing the program’s focus to three specific areas in 2010: home foreclosure mitigation; small-business lending; and the Term Asset-Backed Securities Loan Facility (TALF) in order to facilitate lending through securitization markets.  According to Geithner, no TARP funds will be spent beyond these specific areas “unless necessary to respond to an immediate and substantial threat to the economy.”  In addition, the Capital Purchase Program – aimed at boosting bank lending through nearly $250 billion in direct capital injections – will cease.

Key to the administration’s TARP extension is the assumption that only $550 billion of the $700 billion program will be necessary for deployment, a figure buoyed by Treasury estimates that TARP-recipient banks could repay as much as $175 billion by the end of 2010.  Sanguine figures such as these have opened the floodgates to recent congressional proposals that would use TARP proceeds to create or expand economic recovery initiatives -- including a job-creation proposal outlined yesterday by President Obama – and, at the same time, remain budget-neutral.

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Not surprisingly, the Federal Reserve announced today that it is extending the TALF program from the December 31, 2009 deadline to March 31, 2010 for newly issued ABS and legacy CMBS and to June 30, 2010 for newly issued CMBS. While the Fed acknowledges that conditions in the financial markets have improved, it still views the markets for asset backed securities and commercial mortgage backed securities as "impaired." The Fed is also leaving the door open to further extensions should conditions warrant. Another outstanding issue is whether to expand the TALF to include other types of eligible collateral. The Fed said in its announcement that it and Treasury will reconsider the issue "if financial or economic developments indicate that providing TALF financing for investors' acquisitions of additional types of securities is warranted."

Federal Reserve Press Release, August 17, 2009

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After nearly four months of delay, the Treasury on Wednesday launched the Legacy Securities program—a key component of the administration’s Public-Private Investment Program (PPIP) aimed at relieving financial institutions of illiquid assets that continue to hamper the flow of credit markets.

Scaling back the scope of the Legacy Securities program as originally envisioned in March, the Treasury, together with the Federal Deposit Insurance Corporation (FDIC) and the Federal Reserve, offered a framework that will provide government investments of up to $30 billion so that private sector fund managers and private investors might purchase legacy commercial mortgage-backed securities (MBS) and non-agency MBS off the balance sheets of banks and other financial institutions.

Selected from a pool of over 100 applicants, below is a list of the nine private fund managers pre-qualified by Treasury to participate in the initial round of the Legacy Securities program:

• AllianceBernstein, LP and its sub-advisors Greenfield Partners, LLC and Rialto Capital Management, LLC
• Angelo, Gordon & Co., L.P. and GE Capital Real Estate
• BlackRock, Inc.
• Invesco Ltd.
• Marathon Asset Management, L.P.
• Oaktree Capital Management, L.P.
• RLJ Western Asset Management, LP.
• The TCW Group, Inc.
• Wellington Management Company, LLP

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Ever since the AIG bonus brouhaha, TARP recipients knew the day would come when federal officials would step in to manage their compensation structure. Several have been scrambling to raise the private capital necessary to repay their TARP loans just to avoid the anticipated executive compensation restrictions. There are reports today that Treasury Secretary Geithner may announce new guidelines as early as this week. However, he is not currently scheduled to appear on Capitol Hill on this topic until the House Financial Services Committee hearing on June 18th. Whenever he makes his announcement, we expect he will explain that the new executive compensation rules will apply to some TARP recipients permanently – those that accepted more than one round of bailout money -- regardless of whether or not they have paid back the federal funds. In addition, it is also reported that Treasury will be suggesting "guidelines" to be used for executive compensation in financial services firms that have not receive TARP assistance.

It appears the restrictions will be imposed on a company’s 25 highest earners. Reportedly, federal bank regulators will also be granted new authority to impose compensation restrictions on banks not in the TARP program whose pay systems encourage too much risk. How much risk is too much and who determines that remain important questions.

The expected move to extend the pay restrictions beyond the life of the TARP involvement in the firms raises some important questions. Are restrictions that outlive TARP money in the firms consistent with the agreements the institutions made originally with the government? Will there be any sunset whatsoever on the proposed restrictions? Where GM is concerned, will the company emerging from bankruptcy be considered a "new" company?

To the extent the new guidelines would reach into companies who have not received TARP funds, it is legitimate to ask the question as to whether these are a legitimate shareholder's rights issues or an overreach by federal regulators into areas best left to the executive suite and the boardroon.

Since there are very few facts available and only rumors, Financial Reform Watch will reserve judgment until the Treasury releases the new rules, however, there is much to ponder in the meantime.

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Investors will have to wait longer than expected for the Legacy Loans Program (LLP), the FDIC half of the Public Private Investment Program (PPIP) to relieve banks of their troubled assets. The LLP pilot, which the FDIC had originally planned to launch in June, will now be postponed indefinitely. In its place, however, the FDIC plans to “test the funding mechanism contemplated by the LLP” by selling receivership assets. The FDIC says it will draw “upon concepts successfully employed by the Resolution Trust Corporation in the 1990s, which routinely assisted in the financing of asset sales through responsible use of leverage.” The FDIC says it will “solicit bids for this sale of receivership assets in July.”

While FDIC Chairman Sheila Bair said the FDIC will continue to work on developing the legacy loans program in order to “offer it in the future,” she explained the reason for the postponement was that banks lately have been raising capital without it, reflecting “renewed investor confidence in our banking system.” She went on to say, “As a consequence, banks and their supervisors will take additional time to assess the magnitude and timing of troubled asset sales as part of our larger efforts to strengthen the banking sector.”

There was no mention whether or not the Legacy Securities Program, which is managed by the Federal Reserve and Treasury, would be delayed. One could reasonably guess, reading between the lines, that banks have been less than enthusiastic about discounting and selling loans through the LLP.
 

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Occasionally, the FRW team ventures out to take the pulse of the country on key issues coming up. Based on several days talking to journalists, business leaders, and government officials in California, we bring to our readers words of caution: the fiscal meltdown in California holds no small dangers for the recovery.

When California voters on May 19th rejected the key elements of the budget deal which averted disaster earlier in the year, top officials in Sacramento were sent back to the drawing board for an approach that will stave off a budget gap of more than 15 percent. With observers of the legislature saying that tax cuts, program cuts, and layoffs are all non-starters, where lies the answer?

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Yesterday afternoon, the Federal Reserve announced the expansion of TALF to include "certain high-quality commercial mortgage backed securities issued before January 1, 2009 (legacy CMBS)" as eligible collateral for TALF loans. When the Fed originally announced the expansion of the program to include CMBS, it limited eligible CMBS to those issued after January 1, 2009.  Noting the CMBS market "came to a standstill in mid-2008," the Fed's move to include legacy CMBS is aimed at promoting price discovery and liquidity in the CMBS market in the hopes of reviving the market and stimulating the issuance of new CMBS. That would then enable borrowers to purchase new commercial properties or refinance existing mortgages. The TALF Terms and Conditions list the criteria for legacy CMBS to be eligible TALF collateral.  A few noteworthy ones are that legacy CMBS must be senior in payment priority to all other interests in the underlying pool of commercial mortgages; they must have at least two triple-A ratings from DBRS, Fitch Ratings, Moody's Investors Service, Realpoint, or Standard and Poor's; and they must not have a rating below triple-A from any of those rating agencies.
 

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The news last week that six insurance companies had been preliminarily approved for TARP money was viewed as the culmination of a process that began under the Bush Administration through which insurers sought assistance from the Federal government. In the six months since they initially applied for TARP funds, the companies' ardor for this sort of federal investment seems to have cooled somewhat.

The insurance companies approved for TARP money are being consistently cautious about accepting it. One, Ameriprise Financial, announced it would decline the funds. The others -- Prudential, Hartford, Lincoln National, Principal, and Allstate -- released statements to the effect that they are still evaluating their options.

The companies’ reactions could be viewed as a positive sign that, unlike in November when they submitted their applications, there are now alternatives to the TARP for raising capital. It may also be that companies are wary of getting too entangled with the government in light of issues surrounding executive compensation and business structure that have been faced by banks and auto companies who have taken federal assistance. In any case, it may be that they will view it as sign of strength to turn down assistance from Washington. While Treasury Department officials might see that as a "bait and switch" strategy, the companies have a legitimate case to make that things have changed between November and now.

We will be following the insurance industry's relationship with Treasury and the TARP and will keep our readers posted on developments.
 

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Treasury Secretary Timothy Geithner announced this morning that, in anticipation of some large institutions paying back their TARP money, the department plans to re-open the Capital Purchase Program (CPP) for small banks with total assets under $500 million. Since the launch of the program in November, 579 institutions have received money through the CPP, 300 of which are small banks. Treasury will soon open a six month window during which new banks can apply, current CPP participants can reapply, and small banks can “form a holding company for the purposes of CPP.” Participants already in the CPP will have an “expedited approval process.” Treasury is raising the amount for which qualifying institutions can apply from 3 percent to 5 percent of risk-weighted assets. Presumably more details about the re-opened program will be forthcoming.

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At 5 p.m. Eastern Daylight Time today, the Federal Reserve and Treasury unveiled the official results of the Supervisory Capital Assessment Program (SCAP), revealing that ten of the 19 participating banks need to increase their capital buffers for a combined total of $74.6 billion. The SCAP conducted stress tests on the nation’s largest bank holding companies to predict “potential losses, the resources available to absorb losses, and the resulting capital buffer needed” based on various economic scenarios.

The banks needing to increase their capital buffers will have to work with their primary regulators, in consultation with the FDIC, to develop a capital plan sometime in the next 30 days (by June 8, 2009), and they will have six months to implement the plans (by November 9, 2009).

Each capital plan must contain the following three elements:

• A detailed description of specific actions the bank will take to increase capital in order to satisfy the capital buffer requirement. Treasury and the Fed encourage banks to raise new capital from private sources.
• A list of steps to address weaknesses in the bank’s internal processes for assessing capital needs and engaging in capital planning.
• An outline of steps the bank will take over time to repay government-provided capital.

As part of their 30 day review process, banks are also directed to evaluate their existing management and board of directors to make certain their leadership has the capability to “manage the risks presented by the current economic environment and maintain balance sheet capacity sufficient to continue prudent lending to meet the credit needs of the economy.”

The banks needing to increase their capital buffer (amounts in billions) are Bank of America ($33.9); Citi ($5.5); FifthThird ($1.1); GMAC ($11.5); KeyCorp ($1.8); Morgan Stanley ($1.8); PNC ($0.6); Regions ($2.5); SunTrust ($2.2); and Wells Fargo ($13.7). See the Fed report for more details.

Federal Reserve: Supervisory Capital Assessment Program - Overview of Results (PDF)

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Call it green shoots or mustard seeds or hope, but according to some of the nation's leading economic experts, the outlook for the American economy is improving. These experts are venturing the opinion that the economy has hit bottom and the recession is ending. Some of the evidence cited is the fall in unemployment claims from March to April; the first quarter increases in consumer spending and consumer prices; and the stabilization in sales of existing and new homes over the past couple of months. Even Federal Reserve Chairman Ben Bernanke sounded optimistic (for a Fed Chairman) about the recovery. During testimony before the Joint Economic Committee this morning, Bernanke said, “We continue to expect economic activity to bottom out, then to turn up later this year.” Although he qualified his statement as dependent on a restored and healthy financial system, that too could be interpreted as a positive sign since the Fed is supposed to go over stress test results with the affected banks today.

Bernanke did not comment on the test results, but media leaks suggest that ten of the 19 banks will need to find more capital. The results are not supposed to be publicly available until later this week, but markets rallied somewhat yesterday based on White House spokesman Robert Gibbs’ comments that the administration does not anticipate needing more financial bailout money from Congress and suggesting the banks will be able to raise private capital.

Since unemployment is a lagging indicator, most experts predict it will be a few months before people feel the effects of an economic upturn. If the economy is pronounced in recovery by the fall, it will be far enough into his presidency that President Obama will likely receive appreciable credit . The potential return to better times could add momentum to a major administration priority: health care reform. Despite the White House Chief of Staff’s strategy of capitalizing on a crisis, we suspect the White House will find it is much easier to score congressional victories when there is hope on the horizon rather than fear.

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The Federal Reserve announced this afternoon that starting in June, commercial mortgage backed securities (CMBS) would be eligible assets for the Term Asset Backed Securities Loan Facility (TALF). The Fed is also expanding the term on some CMBS TALF loans to five years, up from three year terms for other assets. The Federal Reserve Bank of New York plans to set up a separate TALF subscription cycle for CMBS, which will occur later each month than the regular TALF cycle. The longer-term CMBS loans will also have larger haircuts.

Term Asset-Backed Securities Loan Facility (CMBS): Terms and Conditions

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The Treasury Department yesterday released its new improved “Making Home Affordable” (MHA) program that will now offer assistance for second mortgages, such as home equity loans, in addition to assistance with first mortgages. The administration announced the MHA in February and released the details in early March. Tuesday’s announcement addressed the expansion of MHA as well as more support for the Hope for Homeowners program. Treasury estimates that 50 percent of “at risk” mortgages also have second liens. Under the new program, both first and second mortgages would be modified “in tandem.” Interest rates on second loans would be reduced to one percent, unless they are interest-only loans, in which cases the rate would be two percent. The term of the modified second loan would be extended to match the term of the modified first mortgage. After five years, the interest rate on the second would be adjusted to the same rate as the modified first mortgage, and the second mortgage would be re-amortized over the remaining term at the higher rate. The MHA also includes “pay for success” incentives for servicers and borrowers similar to those announced for first mortgage relief.

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This afternoon, the Federal Reserve released its white paper explaining the “design and implementation” of the Supervisory Capital Assessment Program (SCAP), more popularly known as the stress tests applied to the nation’s largest banks. The Fed said most banks have capital “well in excess of the amounts required to be well capitalized.” That said, it found that the nation’s 19 largest banks, including the banks they acquired, have together lost approximately $400 billion in the six quarters leading up to the end of 2008.

The SCAP required the banks to submit data and projections to their financial regulators in early March. The bank supervising agencies assigned over 150 of their supervisors, examiners, analysts, and economists working in teams to “conduct a comprehensive and consistent assessment simultaneously across the 19 largest BHCs [bank holding companies] using a common set of macroeconomic scenarios, and a common forward-looking conceptual framework.”

The goal of the SCAP is to determine how much capital these systemically significant banks should hold in order to “absorb losses should the economic downturn be longer and deeper than now expected.” Firms that will be required to “augment” their capital to create a buffer, will have the options of tapping the Treasury’s Capital Assistance Program; applying “to Treasury to exchange their existing Capital Purchase Program Preferred stock to help meet their buffer requirement;” and/or raising private capital. The Fed stressed that SCAP results requiring a bank to build a buffer should not be viewed as “a measure of the current solvency or viability of the firm.”

The SCAP results will not be made public until May 4th.

Federal Reserve: The Supervisory Capital Assessment Program - Design and Implementation (PDF)

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The Treasury Department this week released the terms for mutual holding companies and mutual banks to apply for TARP Capital Purchase Program funds. The application deadline is May 7, 2009 for mutual holding companies and May 14th for mutual banks. Links to the detailed documents are below.

Treasury Releases Capital Purchase Program Term Sheets for Mutual Holding Companies

Treasury Releases Capital Purchase Program Term Sheet for Mutual Banks

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Participation by insurance companies in the TARP program appears to be back on the front burner at Treasury. However, eligibility standards for receiving assistance and the requirements that come along with it are very much under discussion.

Back in the fall , several big-name insurance companies rushed to make the November 14 deadline to apply for assistance from the TARP program. A few were in the news for buying small banks or thrifts in order to qualify for TARP funds, since only federally regulated deposit institutions are eligible for the TARP’s Capital Purchase Program. (AIG has its own special category for TARP assistance—Systemically Significant Failing Institutions.) But as November turned to December it became clear the Bush Administration was not going to move on assistance to insurers.

Now, almost five months later, some life insurance stocks are seeing significant gains on rumors that Treasury is about to provide billions of bailout dollars to their companies.

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The House of Representatives approved yesterday, by a vote of 247 to 171, the “Pay for Performance” bill (H.R. 1664), which would prohibit TARP recipients from paying “unreasonable or excessive compensation” to its employees. The legislation tasks the Treasury Department with defining exactly what is “unreasonable or excessive.” The bill also repeals the controversial amendment in the American Recovery and Reinvestment Act that exempted bonuses based on employment contracts dated prior to February 11, 2009. While this is a far cry from the AIG-targeted bill the House passed earlier— imposing a 90 percent excise tax on AIG bonuses—H.R. 1664 is one more example of government treading into traditionally private sector turf.

The legislation applies to companies that have outstanding capital investments from the TARP or through the Housing and Economic Recovery Act, which covers Fannie Mae, Freddie Mac, and the Federal Home Loan Banks. In addition to prohibiting unreasonable or excessive compensation, affected companies could not pay bonuses or other supplemental payments not directly based on performance standards set by Treasury. The Treasury Secretary has the authority to exempt community investment institutions and institutions receiving less than $250 million from the TARP. The legislation also directs Treasury to establish a payback process for those institutions that would prefer to return the government’s money rather than be subject to the new compensation rules. For those institutions subject to the rules, the bill requires them to submit an annual report to Treasury with the number of employees whose compensation falls into each of these categories: over $500,000; over $1 million; over $2 million; over $3 million; and over $5 million.

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In a more subdued response to the AIG bonus brouhaha than last week, the House Financial Services Committee yesterday approved legislation that would amend the Emergency Economic Stabilization Act to prohibit companies receiving TARP money from paying “unreasonable and excessive compensation and compensation not based on performance standards.” Two Republicans, Reps. Ed Royce (CA) and Walter B. Jones (NC), broke ranks to vote with the committee’s Democrats in favor of the bill (H.R. 1664). Some of our Congressional sources have said the full House may vote on H.R. 1664 as early as next week. The Senate, however, is almost certain not to address executive compensation until after it returns on April 20th from the spring Congressional recess. Democratic leaders from both sides of the Capitol have greatly dialed down the executive compensation rhetoric since last week.

Under H.R. 1664, the Treasury Secretary, with the members of the Financial Institutions Examination Council, would have a month to define “unreasonable and excessive compensation” and set performance based standards that companies would use to determine circumstances under which a bonus or retention payment would be allowed. Examples of the standards Treasury is to include are the stability of the financial institution; its ability to repay the government; individual performance; employees’ adherence to risk management requirements; and any others that would provide greater accountability to shareholders and taxpayers.

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At last Treasury has come forward with its Public Private Investment Program for dealing with toxic assets, only now that there is a plan, the proper term is “troubled legacy assets.” Stocks have rallied since Treasury announced the plan this morning, and legislators on Capitol Hill have halted their rush to claw back the AIG bonus money, some say partly in order to study the new plan. The Treasury Secretary is scheduled to testify before the House Financial Services Committee on Thursday. Will the positive momentum continue up to and following his hearing performance? Secretary Geithner has a lot riding on this week.

The plan, which will use $100 billion of TARP funds, has two parts intended to revive the anemic financial system—the Public Private Investment Fund (PPIF) for Legacy Loans and the PPIF for Legacy Securities. Both are aimed at residential and commercial real estate-related assets. Banks tend to hold the assets as loans and entities such as insurers, pension funds, mutual funds and individual retirement accounts tend to hold the assets as securities backed by loans. The Federal Deposit Insurance Corporation with Treasury will work to create PPIFs that will purchase “loans and other asset pools” from participating banks, and the FDIC will determine eligibility criteria. The FDIC will also be using contractors to help it analyze loan pools and determine the level of debt to be issued by the PPIFs (with leverage not exceeding a 6 to 1 debt-to-equity ratio). The FDIC will then auction off each loan pool to the highest bidder. Treasury will provide 50 percent of equity financing and the private sector auction winner will provide the other 50 percent. The private sector winner can obtain financing by issuing new debt, which the FDIC will guarantee, that is collateralized by the purchase.

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Congress took the first major step yesterday in levying heavy taxes on bonuses paid to executives of AIG and to institutions who have been recipients of significant (more that $ 5 billion) assistance from the Troubled Asset Relief Program (TARP) in recent months. In a move best described as spasmodic, the House voted 323-93 to place a 90 percent tax on the bonuses of TARP-recipient executives with adjusted gross incomes over $250,000.

Senate Majority Leader Harry Reid (D-NV) moved to bring the legislation to the floor yesterday, but Sen. Kyl (R-AZ) blocked the attempt, saying the Senate needs more time to consider the ramifications. Senate Finance Committee Chairman Max Baucus (D-MT) and Ranking Member Chuck Grassley (R-IA) introduced a bill late yesterday that would impose a 70 percent excise tax—35 percent on the TARP recipient companies and 35 percent on their executives—on excessive bonuses, defined as anything exceeding $50,000 in a calendar year.

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There was plenty of activity in Washington this week but none of it enough to settle the roiling stock market, which keeps sinking like a rock. Is there too much activity or not enough of the right kind of activity?

From the White House and the Treasury—The Obama Administration released the details of its “Making Home Affordable” program, which was introduced in February. With incentives for mortgage holders and servicers, audit and documentation requirements, and qualification limits, major industry players such as the Mortgage Bankers Association and the American Bankers Association reacted positively to the new details.

From the Treasury—Secretary Tim Geithner was on Capitol Hill most of the week defending and explaining the president’s budget proposal, especially the $250 billion “contingent reserve” amount in the Treasury budget to support up to $750 billion worth of asset purchases. Geithner assured the Senate Finance Committee that the $750 billion is not an estimate of future rescue efforts, but rather “just a recognition of reality that it’s possible we’re going to need to do this with more resources.” The Secretary promised to provide more details in the coming weeks on future bailout efforts, including plans for the remaining $300 billion of TARP funds, and the eagerly anticipated public private partnership to take on troubled assets.

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Some surprises were included in today's announcement by the Federal Reserve and the Treasury on new developments with the soon-to-be $1 trillion Term Asset-Backed Securities Loan Facility (TALF). Of particular note is the statement that the two agencies will push for legislation to re-tool the program.

According to the joint release, the TALF is “designed to catalyze the securitization markets by providing financing to investors to support the purchase of certain AAA-rated asset-backed securities” and will at first be limited to newly and recently originated auto, credit card, student, and SBA-guaranteed small business loans. The TALF funds will go out monthly starting in March, and they are already anticipating a program expansion for April that will include “asset backed securities (ABS) backed by rental, commercial, and government vehicle fleet leases and ABS backed by small ticket equipment, heavy equipment, and agricultural equipment.” The Treasury and the Fed are also analyzing how to expand the program in future months to include commercial mortgage backed securities and other AAA-rated, newly issued ABS.

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The Treasury Department yesterday afternoon began to release some much anticipated details of the Obama Administration’s Financial Stability Plan first announced on February 10th—TARP re-branded. Yesterday was all about the Capital Assistance Program (CAP) and the related "stress test" that regulators will perform on the 19 largest banks, those with consolidated assets in excess of $100 billion. Treasury announced,

"The purpose of the CAP is to restore confidence throughout the financial system that the nation’s largest banking institutions have a sufficient capital cushion against larger than expected future losses, should they occur due to a more severe economic environment, and to support lending to creditworthy borrowers."

If the stress test shows that a bank needs a larger capital buffer, then the bank has six months to raise the necessary amount of private capital or access the CAP, which Treasury describes as "a bridge to private capital in the future." The CAP funds would be available to the bank immediately.

The administration stressed it wants to keep government ownership temporary and will encourage replacing the government’s stake with private capital. Additionally, the Treasury announced it would set up a separate trust "to manage the government’s investments in US financial institutions."  There were no further details about the trust, but Financial Reform Watch will continue to monitor this.

Treasury:  The Capital Assistance Program and its role in the Financial Stability Plan (PDF)

Treasury: Capital Assistance Program FAQs (PDF)

Treasury: Capital Assistance Program Term Sheet (PDF)

Federal Reserve/FDIC: Supervisory Capital Assistance Program FAQs (PDF)

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It appears the Federal Reserve will announce this week a substantial round of investments through the Term Asset Backed Securities Loan Facility (TALF) program in securitized credit card, auto loan, student loan, and other consumer debt. These investments will be from the initial TALF program allocation of $200 billion. The Fed is now turning its attention to the commercial real estate sector and they appear to recognize this is the next "shoe about to drop" as mortgage holders are unable to refinance in today's marketplace. We anticipate the next round of TALF investments—made available by increasing the facility up to $1 trillion—will include a focus on the commercial sector.

In addition to its efforts on asset-backed loans, the Fed is also working, in concert with Treasury, to reassure dubious investors and potential investors in the banking sector that no institutions are going to fail and that nationalization of banks is not on the agenda. Reports in today's media that the government is contemplating taking up to a 40 percent stake in Citicorp may not allay these concerns however.

Another development of interest over the weekend was the assessment of the economy that emerged from the nation's governors after they met separately in Washington on Saturday with Federal Reserve Chairman Ben Bernanke and with Mark Zandi of Moody'sEconomy.com. In the hallways of the National Governors Association conference and in pages of newspapers like the New York Times, one could see that the combined effect of the two briefings to the Governors was to intensify their sense that recovery will be a very slow process. The Times article appearing in the paper on Sunday, cited pessimistic assessments from Democratic and Republican governors alike. Public pronouncements by both the Fed and Zandi have been diverging in recent weeks, with the Fed indicating the economy will begin to turn around in the second half of 2009 and with Zandi saying that is not likely until late in 2010. One can infer from the articles that followed the meetings that the Governors gave somewhat more weight to the Zandi assessment.

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Congress was out of town when President Obama unveiled his “Homeowner Affordability and Stability Plan” this week, but that has not stopped key Members of Congress from weighing in on the plan and handicappers from starting to take odds on how reaction to the plan will affect other issues at play in the Capital.

Unsurprisingly, Speaker of the House Nancy Pelosi (D-CA) applauded the Obama plan and promised more relief, saying,

“Congress stands ready to complement the Administration’s efforts by acting on Judiciary Committee Chairman John Conyers’ legislation to reform our bankruptcy laws, so that judges can modify mortgages and responsible homeowners can stay in their homes.”

The Conyers’ legislation would alter bankruptcy laws so that judges could reduce or “cram-down” the mortgage principal and/or payments on a borrower’s primary residence.

Just as unsurprising was the reaction of Pelosi’s counterpart, House Minority Leader John Boehner (R-OH) who, along with House Minority Whip Eric Cantor (R-VA), sent a letter to the president with a list of  “key questions” about the plan. Their questions are compelling regardless of where people stand on the plan.

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While the results of the G7 meeting in Rome may have been disappointing to some, due to a communiqué light on substance, it can be argued it made a step in the right direction in combating protectionism. The communiqué included this statement:

"An open system of global trade and investment is indispensable for global prosperity. The G7 remains committed to avoiding protectionist measures, which would only exacerbate the downturn, to refraining from raising new barriers and to working towards a quick and ambitious conclusion of the Doha Round.”

 Another development at the meeting was the apparent softening of the German government's attitude about "bailouts" of euro-bloc nations needing to refinance debt. Whereas German Finance Minister Peter Steinbreuck said before the G7 meeting that Austria would have to solve its own problems, Steinbreuck's post-G7 statements appear to open the door for assistance to Austria as well as Ireland and Greece, who may also soon need help.

The EU states are now working hard to find a solution that would essentially be a preemptive de facto bailout, bearing in mind the legal limitations of the EU Treaty which has a "no bailout" clause. A common EU policy on state and bank bailouts would constitute a huge leap forward for EU integration.

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Buried in the American Recovery and Reinvestment Act (ARRA), which is making its final march through Congress on its way to the president’s desk, is a section imposing limits on executive compensation for Troubled Asset Relief Program (TARP) recipients. The White House and the Treasury Department announced new executive compensation restrictions last week, but Congressional leadership obviously believed there was a need to codify some of those rules and strengthen others.

Here is an overview of the legislative provisions that, when enacted, will apply to companies until they repay their TARP money.

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U.S. Treasury Secretary Tim Geithner today announced the administration’s new “Financial Stability Plan” but revealed few details beyond the plan’s overarching principles. The new plan aims to provide more capital for banks while holding them to higher lending and accountability standards, establish a public-private investment fund to deal with “troubled” assets, provide more assistance to homeowners and small businesses, and increase the transparency of the program in order to protect taxpayers.

After an unusual introduction by Senate Banking Committee Chairman Chris Dodd—presumably intended to underscore the administration’s dual commitment to the economic stimulus legislation intended to jump start the economy and fixing the financial system—Geithner described the current situation. He said credit markets are not working, which has led to serious business cut backs and resulted in a financial system “working against recovery.” Geithner criticized the government’s efforts thus far as “absolutely essential, but they were inadequate.”

Following the Treasury announcement, the stock market nose-dived all afternoon, with the Dow Jones industrial average dropping 4.6 percent and the Standard and Poor’s 500-stock index slipping 4.9 percent. Several financial analysts directly linked the market’s poor performance to the plan’s lack of detail, especially regarding the Public Private Investment Fund intended to leverage private capital with government financing. Some analysts contend that today’s announcement exacerbated the uncertainty plaguing the markets. When reporters questioned Geithner about filling in the blanks around the public private partnership, he responded that the administration does not want to release details until they are fully confident they have the right structure. He said they are very committed to bringing in private capital.

Here is a brief overview of the Financial Stability Plan:

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Next week President Obama and Treasury Secretary Geithner will unveil the administration’s broad financial reform agenda—a strategy to get credit moving again—but yesterday offered a preview as they unveiled new restrictions on executive compensation. The announcement was in direct response to public outrage over the use of taxpayer funds to subsidize “excessive compensation packages on Wall Street.” The president railed against “lavish bonuses” and a “culture of narrow self-interest and short-term gain at the expense of everything else.” It will be interesting to see if this policy, which could affect compensation policies at industry-leading institutions, will result in a reduction and/or restructuring of executive compensation throughout the financial services industry. Even though the new policy appears intended to have just such a leavening effect on compensation, President Obama tried to reassure free-marketers by saying: “This is America. We don’t disparage wealth…and we believe success should be rewarded.”  But he went on to say that executives being rewarded for failure, especially with taxpayer money, is wrong.

The Treasury executive compensation reform guidelines fall into three categories covering:

• all TARP recipients;
• participants in a “generally available capital access program,” such as the Capital Purchase Program; and
• institutions that receive “exceptional assistance,” such as Citigroup, Bank of America, and AIG. 

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Lest anyone think Congress was not giving the financial crisis enough time and attention, the House Financial Services and Senate Banking Committees are holding no less than six hearings on financial regulatory reform and oversight this week. Down the avenue, the Treasury Department is hard at work crafting plans to release the second half of the Troubled Asset Relief Program (TARP), also known as TARP II. Rumors have it that TARP II will require recipients to dedicate a percentage of the federal funds received to consumer, auto, student, and small business loans. The good “bad bank” or aggregator bank proposal also still seems to be in the works, and the Beltway buzz is that it will not emerge until next week. Perhaps the administration is waiting to see what this week’s Congressional hearings yield.

The General Accountability Office (GAO) just issued its second TARP status report and concluded that while Treasury is making limited progress implementing the recommendations of the last GAO report, there is much work to be done. GAO’s major criticism is that Treasury has no overarching TARP strategy, which is the source of most of the TARP’s other problems. Specifically, the report concluded: “While GAO does not question the need for swift responses in the current economic environment, the lack of a clearly articulated vision has complicated Treasury’s ability to effectively communicate to Congress, the financial markets, and the public on the benefits of TARP and has limited its ability to identify personnel needs.” The Office of Financial Stability (OFS), which oversees TARP, has hired only 38 of the approximately 131 staff members needed.

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There is a new team in town, and in one of his first public acts as Treasury Secretary, Tim Geithner established a policy aimed at increasing the transparency and accountability of the Troubled Asset Relief Program (TARP). Treasury will now post all TARP contracts on the Internet. New contracts will go on Treasury’s website within five to ten business days, and the department will post existing agreements on a rolling basis. At the time of the Secretary’s announcement, Treasury had already posted the agreements of the major nine institutions that first partook in the Capital Purchase Program; the Citigroup contract under the Targeted Investment Program; the AIG deal under the Systemically Significant Failing Institutions Program; and the GM, GMAC, and Chrysler contracts under the Automotive Industry Financing Program. At the request of individual institutions, the department will redact confidential and proprietary information.

The Secretary also met today with the individuals tasked with TARP oversight – the head of the General Accounting Office, the TARP Special Inspector General at Treasury, and the TARP Congressional Oversight Panel. Geithner promised to unveil more reforms in the coming weeks.

U.S. Department of Treasury, EESA Contracts

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The TARP may soon come full circle as the notion of a “bad bank” for taking control of toxic assets gains momentum on Capitol Hill. The bad bank, sometimes referred to as an “aggregator bank,” would purchase bad securities from healthy banks and from those unhealthy institutions requiring major restructuring or more drastic measures. The theory is that moving the bad assets off of bank balance sheets would enable them to lend money again while still maintaining their capital requirements. Under the TARP model developed under Secretary Paulson, the federal government became the banks’ preferred shareholder, and some argue that hindered banks’ lending capacity because of the expectation that those shares would be bought back and, in effect, repaying the government. The bad bank model removes that burden but is likely to have stringent lending requirements to get loans flowing again on Main Street.

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The U.S. Treasury today announced a $1.5 billion, five-year loan to Chrysler Financial to help fund Chrysler auto loans made on or after January 1, 2009. This is a new loan made through the TARP’s Automotive Industry Financing Program, which was established as part of the December auto bailout. News outlets reported that shortly following Treasury’s announcement, Chrysler began offering zero percent interest financing for up to 60 months on several of its vehicles.

According to Treasury, the Automotive Industry Financing Program is intended to “prevent a significant disruption of the American automotive industry that poses a systemic risk to financial market stability and will have a negative effect on the real economy of the United States.” Treasury evaluates each application on a case-by-case basis and requires participants to conform to executive compensation standards, expenditure limitations, and other corporate governance requirements deemed necessary to protect taxpayers’ interests. The terms of the Chrysler loan are attached.

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President-elect Obama and his economic team can celebrate an unusual pre-inaugural, legislative victory tonight. This afternoon, the Senate voted 42 to 52 to reject a “resolution of disapproval” aimed at blocking the release of the second tranche of the Troubled Asset Relief Program (TARP) funds. Obama made the right call in waging the battle in the Senate rather than the House where the vote count was less certain.

While the Senate vote was largely along party lines, there were nine Democrats who opposed and six Republicans who supported releasing the remaining $350 billion of TARP funds. Sen. Tester (D-MT) and Sen. Hatch (R-UT) each voted “present.” Three Senators—Brown (D-OH), Bunning (R-KY), and Kennedy (D-MA)—did not vote.

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At the request of President-elect Obama, President Bush today agreed to ask Congress for the remaining $350 billion of the Troubled Asset Relief Program (TARP) funds. Steps taken by the Obama economic team over the weekend appear to have smoothed the path for the release of the funds. Congressional posturing began late last week and into this weekend in anticipation of the request. The funds are released unless Congress passes a resolution of disapproval within 15 days. If Congress wants to take formal action to put strings on the money, they would need to enact a resolution detailing them within that time frame.

Congressional Democrats are divided over whether or not to release the remaining funds and what strings to attach. Despite the fact that the Obama Treasury Department will oversee the funds, House and Senate Democrats want to ensure the release of the remaining TARP money has strict conditions attached. They are struggling with how to impose new conditions outside of passing legislation, which requires too much time. Both House Financial Services Committee Chairman Barney Frank (D-MA) and Senate Banking Committee Chairman Chris Dodd (D-CT) indicated over the weekend that a written pledge of reform by the incoming administration would give them enough assurances to release the second half of the TARP.

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As President-elect Obama made the case yesterday for an expensive economic recovery plan, Democrats on Capitol Hill announced a renewed effort to empower bankruptcy judges to restructure home mortgages. This change to bankruptcy law could be attached to the economic recovery package as it moves through Congress.

The Obama announcement yesterday was designed to state the need for a large package of tax cuts and investment in order to halt the momentum of the recession and to save and create jobs. He offered few specifics. Because he has yet to specify how he plans to spend the funds, more and more advocates for different programs are coming forward to seek inclusion in the plan. In just the last week, a group of governors initiated a push for an education block grant and other education advocates stepped-up a push for Head Start funding for early childhood education. This kind of pressure will continue to build until the President-elect outlines his own plans. The only part of the plan on which the Obama team has committed itself is $300 billion in tax cuts and incentives. The overall size of the program—widely rumored to be $ 775 billion—has yet to be confirmed.

As we indicated in Financial Reform Watch on Monday, there are several connections from a policy and political standpoint between the economic recovery plan in formation and the financial industry rescue program already underway. However, the connection between the two issues became even more concrete yesterday with the announcement by Senators Dick Durbin (D-IL) and Chuck Schumer (D-NY) of their intention to include the bankruptcy law changes relating to mortgages—referred to as "cramdown"— in the economic recovery bill (S.1) that Congress will take up in the next few weeks.
 

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The 111th Congress convenes tomorrow and repairing the damage left by the financial crisis of 2008 will be at the top of the agenda. The early talk and action will center on what President-elect Obama has dubbed the "American Recovery and Reinvestment Plan (ARRP). Even the pronounciation of the acronym tends to draw a connection to "TARP"—the $700 billion package Congress passed and the Treasury reinvented in the fall and early winter of 2008.

The two packages are tied beyond just their rhyming acronyms. Discussions within the Obama transition team—and between the team and Congressional leaders—over the size of the recovery package are pivoting on the question: "Can the recovery plan for Main Street be smaller than the bailout plan for Wall Street?" House Speaker Nancy Pelosi (D-CA) has indicated she is pointed at a $600 billion program, smaller than the TARP. However, the Obama transition team appears to be aiming at a target of $775 billion and the nation's Governors have been pushing for a number above the TARP number. Our sense is the ultimate proposal from the Obama team and Democratic Congressional leaders will be closer to the $775 billion number, so more for Main Street than for Wall Street...at least for now.

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Just in time for the holidays and for their survival, General Motors and Chrysler will get $13.4 billion in short-term (three year) financing from the Troubled Asset Relief Program (TARP) as announced by President Bush this morning. Another $4 billion in loans will be available for the companies in February, if necessary. By March 31, 2009, the companies must demonstrate they are financially viable or else immediately repay the loans. Treasury Secretary Hank Paulson issued a statement asserting that, "As a result of this decision, Treasury has effectively allocated the first $350 billion from the TARP." He went on to urge Congress to release the "remainder of the TARP to support financial market stability." News outlets are reporting the automakers will sign the loan agreements later this morning. The term sheets can be downloaded here (Chrysler, General Motors).

The money comes with several conditions:

• warrants for non-voting stock;
• executive compensation limits;
• no dividend distribution until TARP loans are repaid;
• government approval required for transactions over $100 million;
• labor agreement modifications; and
• debt reduction by two-thirds.

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When the General Accountability Office (GAO) reports, Congress listens. The GAO is the non-partisan investigating and auditing arm of Congress, and in its first bi-monthly TARP oversight report, it provides a comprehensive overview of the financial crisis and Treasury’s response to it. As the subtitle conveys, the GAO recommends “Additional Actions Needed to Better Ensure Integrity, Accountability, and Transparency.” There is no scandal or surprise in the 60-plus page report. While GAO acknowledges that Treasury’s Office of Financial Stability (OFS), which is charged with executing the TARP, has only existed for 60 days, the report points to critical areas for improvement. In its analysis, the GAO said that the Treasury Department generally agrees with eight of the nine GAO recommendations.

Despite the lack of drama, however, the report is an important guide for the OFS. Upcoming congressional hearings are likely to focus intensely on the following nine recommendations and how (quickly) Treasury can implement them. The GAO recommends that Treasury should:

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The Federal Reserve announced two new programs today, committing an additional $800 billion in order to spur lending. U.S. Treasury Secretary Hank Paulson also announced that $20 billion from the Troubled Asset Relief Program (TARP) would be used to support one of the programs. The first, worth $600 billion, is aimed at helping the housing market; and the second Fed program, worth $200 billion, is directed at thawing the frozen consumer credit markets.

The Fed announced this morning that it will "initiate a program to purchase the direct obligations of housing-related government-sponsored enterprises (GSEs)—Fannie Mae, Freddie Mac, and the Federal Home Loan Banks—and mortgage-backed securities (MBS) backed by Fannie Mae, Freddie Mac, and Ginnie Mae." The Fed will work with "primary dealers through a series of competitive auctions" for purchases of up to $100 billion in "GSE direct obligations" beginning next week. For purchases of up to $500 billion in MBS, the Fed will select asset-managers through a competitive process and plans to start these purchases before the end of the year. The Fed said in a release that it will provide operational details after "consultation with market participants," and added that "Purchases of both direct obligations and MBS are expected to take place over several quarters."

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What will it take to jolt the U.S. economy back into shape? Congressional leaders have floated ideas for an economic stimulus package ranging from $500 to $700 billion. President-elect Obama is not espousing numbers yet but has assembled his economic team and charged it with developing recommendations for restoring economic growth and creating 2.5 million jobs. While serious rumors about his economic advisors started circulating last week, Obama officially presented the group at a noon press conference today:

• Treasury Secretary—Timothy F. Geithner, President and CEO of the Federal Reserve Bank of New York and former long-time Treasury official
• Director of the National Economic Council—Lawrence H. Summers, former Clinton Administration Treasury Secretary and Harvard economist
• Director of the Council of Economic Advisors—Christina D. Romer, University of California at Berkeley economics professor
• Director of the Domestic Policy Council—Melody C. Barnes, former counsel to Sen. Edward Kennedy (D-MA) and policy director of the Center for American Progress
• Deputy Director of the Domestic Policy Council—Heather A. Higginbottom, former legislative director and presidential campaign advisor to Sen. John Kerry (D-MA)

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In another indication of the knock-on effects of the financial crisis, the auto industry's number one supporter in Congress suffered a preliminary defeat today in his effort to retain a powerful House committee chairmanship. House Energy and Commerce Committee Chairman John Dingell (D-MI) failed to get enough Democratic leadership votes today to retain his chairmanship over challenger Rep. Henry Waxman (D-CA). The Democratic Steering Committee, a leadership organization responsible for determining Democratic committee assignments, voted for Waxman by a vote of 25-22. Waxman is one of the most liberal members of Congress and a champion of environmental issues. Many environmental activists believe that Dingell has spent too long protecting the auto industry, which has resulted in a weakened industry that has failed to produce the cleaner, more efficient cars that consumers want.

The good news for Dingell is he gets a do-over with the full Democratic Caucus which is likely to vote tomorrow to accept or reject the steering committee decision. Dingell believes he has enough votes to prevail over Waxman. The two-dozen incoming Democratic freshmen will participate in that vote, and some believe that Waxman, who endorsed Barack Obama in the Democratic primary, will have more sway with the freshman class. Dingell, who endorsed Hillary Clinton, is expected to draw support from politically moderate members and older members, who are committed to preserving the seniority system.

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While the machinery to oversee Treasury's management of the programs under the Emergency Economic Stabilization Act (EESA) has been slow to gear up, there are signs that the pieces are beginning to fall into place. This comes not a moment too soon, as the clamor from the media and from Capitol Hill for more transparency has been building in the past ten days.

On Friday, November 14th, House Speaker Nancy Pelosi (D-CA) and Senate Majority Leader Harry Reid (D-NV) announced they have picked three of the five members of the Congressional Oversight Panel (COP) established by the EESA. The other two members are to be chosen by House Minority Leader John Boehner (R-OH) and Senate Minority Leader Mitch McConnell (R-KY). The fact that the Democratic leaders did not coordinate the announcement of appointments with their Republican counterparts makes it clear that the day of bipartisan cooperation on Capitol Hill has not yet dawned.

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With each passing day it becomes more apparent that neither the Congress nor the Bush Administration has an appetite for significant new actions to aid the financial system or the economy at large before the end of the year. Congressional leaders on Thursday made it clear that passage of an economic stimulus package or a package to aid the auto industry were looking increasingly difficult. At the Treasury Department, consideration is being given to making Capital Purchase Program assistance available to non-bank financial institutions, but no guidelines for how that might happen or what form the assistance may take have emerged. Meanwhile, congressional Republicans have begun clamoring for more information on the actions Treasury and the Federal Reserve have already taken to assist ailing financial institutions and other companies.

Sen. Chuck Grassley (R-IA), Ranking Member of the Senate Finance Committee, sent a harshly worded letter to the Treasury Secretary and Federal Reserve Chairman "to express concerns and receive answers to questions" he has regarding implementation of the Emergency Economic Stabilization Act of 2008 (EESA). In a statement released along with his letter, Grassley said of the implementation thus far, "When you see so many changes, you wonder if they really know what they’re doing."

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Treasury Secretary Hank Paulson today announced the Treasury Department will assist nonbank financial institutions with Troubled Asset Relief Program (TARP) funds and that the department will not use any funds for the original stated purpose of the program—the purchase of troubled assets from banks. The announcement of his intention to provide assistance to nonbank institutions represents a new step for Paulson. In making the announcement, the Secretary acknowledged that Treasury has not worked through the issue of funding organizations that are not federally regulated, however they are “designing further strategies for building capital in financial institutions,” and he said, “We will also consider capital needs of non-bank financial institutions not eligible for the current Capital Purchase Program.” He focused his remarks on the importance of shoring up the asset-backed securitization market by working with the Federal Reserve to develop a liquidity facility for AAA securities. Paulson acknowledged the need to “get lending going again,” and said, “While this securitization effort is targeted at consumer financing, the program we are evaluating may also be used to support new commercial and residential mortgage-backed securities lending.”

The accompanying announcement that Treasury does not intend to use TARP funds to purchase troubled assets as originally planned was a surprise to most observers. Paulson said he would seek to address the liquidity issues in the mortgage finance market by making additional capital available to banks if those funds were matched with private capital.

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On Wednesday, just one day after Senator Barack Obama won the presidency, the Treasury Department detailed how it planned to borrow a record $550 billion before the end of this year to back the bailout. Treasury said it would sell $55 billion in bonds next week, including a reintroduction of the three-year note—all part of a massive borrowing effort required because of the cost of the bailout and a budget deficit that some believe could hit nearly $1 trillion next year.
The government's surging financing needs are a stark reminder of the challenges awaiting the Obama Administration even as the current administration moves to implement its rescue program and the Fed fine-tunes its approach to the crisis. Treasury Secretary Paulson has pledged to work with incoming administration to ensure a smooth transition.

Treasury gave Congress its first report on the operation of the bailout fund, detailing the $125 billion the government spent last week to buy stakes in nine of the country's largest banks. The bailout legislation requires Treasury to issue reports each time its spending passes a $50 billion marker.

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Based on conversations with sources on Capitol Hill and administration officials, it now seems somewhat less likely the Treasury Department will expand its Capital Purchase Program (CPP) to include the insurance industry. Some life insurers may have publicly overstated their discussions with Treasury, leading to press accounts and misperceptions that the issue had been resolved.
Likewise, sources say Treasury is unlikely to assist the auto industry with funds from the $700 billion financial rescue package unless Congress makes legislative changes.

However, there is one scenario under which two leading auto makers might be able to get some Treasury assistance. GMAC LLC, which is the lending arm of General Motors, is owned 51 percent by Cerberus Capital Management and 49 percent by GM. Cerberus could become a bank holding company in order to qualify for EESA assistance. According to the Wall Street Journal, the federal rules for this would require GM to transfer much of its GMAC holdings to Cerberus so that GM would own less than 24.9 percent of the voting shares and would have no controlling interest in GMAC. Transforming into a bank holding company would enable GMAC to participate in Treasury’s Capital Purchase Program. Additionally, since Cerberus owns 80.1 percent of Chrysler, which is in merger talks with GM, the companies may be able to structure a deal in which Cerberus would exchange Chrysler shares for GMAC shares.

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Developments surrounding the Treasury's Capital Purchase Program (CPP) in recent days are causing the Department to take a hard look at the justifications for federal investment in industries beyond those federally regulated. Appeals from the insurance and the auto industry are both being reviewed.

It appears the insurance industry proposals are getting the strongest consideration at present, but there are clearly some cross-currents at work that are complicating the decision about whether or not to include them in the CPP. Reflecting that duality, Treasury’s assistant secretary for financial institutions, David Nason, appeared on CNBC’s "Squawk Box" this morning and indicated that there is some difficulty for Treasury to assess the capital needs of an industry that does not fall under federal regulation. He noted that while for the banking industry Treasury is relying on federal regulatory agencies, there is no such federal role in the insurance industry. On the other hand, he noted that it may be important for the stability of the financial sector to expand the CPP to cover insurance. Treasury is evaluating that question as well.

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October 23 was a busy day for Federal Deposit Insurance Corporation Chairman Sheila Bair. In the morning, she testified before the Senate Banking Committee and made headlines about what the FDIC is doing to assist homeowners avoid foreclosures. In the afternoon, she presided over an FDIC Board of Directors meeting wherein the board adopted an interim rule for implementing the Temporary Liquidity Guarantee Program.

Under the Emergency Economic Stabilization Act of 2008 (EESA), the Treasury Secretary has authority to modify mortgage loans in order to prevent foreclosures. Senate Banking Committee Chairman Chris Dodd claims authorship of those provisions in the bill. However, in recent days, Congressional Democrats have complained the Bush Administration is putting too much emphasis on shoring up banks and not enough on helping homeowners directly. In fact, earlier in the week, House Financial Services Committee Chairman Barney Frank (D-MA) and Rep. Maxine Waters (D-CA) wrote a joint letter to President Bush urging him to appoint Bair “to head a government-wide effort to supervise and coordinate” a foreclosure reduction program.

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Events of yesterday continued to demonstrate how major elements of the current financial crisis are interrelated. First, with the world waiting to see how a new administration in Washington will approach the financial crisis, President Bush's announcement of a November 15 summit of international leaders puts the discussion of a new regulatory regime for the financial sector squarely in the middle of the U.S. presidential transition. While both Sens. John McCain and Barack Obama praised the summit, it will present the winner of the November 4 election with an interesting quandary—how to participate in and/or react to the event. It may also force the hand of the President-Elect to name his economic team before the summit takes place. Doing so will allow the administration-in-waiting to have a more organized response to the events of the summit.

Second, the impacts of the financial crisis on the U.S. auto industry may be putting additional pressure on the $700 billion rescue package enacted on October 3. As potential car buyers continue to face a credit crunch, bipartisan leaders of the Michigan congressional delegation yesterday urged the Treasury to make a portion of the funds available to back auto loans. The request came from House Energy and Commerce Committee Chair John Dingell (D-MI) and Rep. Fred Upton (R-MI). If Treasury takes up that suggestion, funds available to supply capital to community banks or purchased troubled mortgages would be reduced.

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Reports in the media today indicate that the Treasury Department is considering using part of the $250 billion from the initial tranche of financial rescue money to support acquisitions by stronger banks of weaker ones. In retrospect, there was a foretelling of this strategy in the announcement of the initial round of recapitalization transactions with the "big 9" institutions. At that time, Treasury announced that of the $25 billion given both to Bank of America and Wells Fargo, a $5 billion portion in each case was to support their recent acquisitions.

This new emphasis on restructuring the banking system raises some important questions about how deep the Treasury Department plans to go in assisting banks farther down the food chain. On Monday, Secretary Paulson indicated that all "qualifying" regional and community banks would receive capital under the recapitalization program—implying that assistance would not be limited due to a lack of available funds. At the same time, however, Treasury has made it clear that not all applications for capital infusion will be accepted.

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A short time ago, Treasury Secretary Hank Paulson announced some much-awaited details about the Department’s Capital Purchase Program (CPP). The Treasury will invest $250 billion of capital to U.S. financial institutions in the form of preferred stock. Nine of the largest banks have already agreed to participate in the CPP, which leaves $125 billion remaining. Paulson stressed that the program will not be implemented on a first-come-first-served basis, stating, "Sufficient capital has been allocated so that all qualifying banks can participate."

The Department has developed a single application form for qualified, interested banks to submit to their primary federal regulator—the Federal Reserve, the Federal Deposit Insurance Corporation, the Office of Comptroller of the Currency, or the Office of Thrift Supervision. Once a bank’s primary regulator reviews the application, the regulator will forward the bank’s application to Treasury’s Office of Financial Stability for approval. Paulson said Treasury will "give considerable weight" to the recommendations of the federal regulators. The terms will be the same for all applicants, and regulators will use a standardized review process. Treasury will announce all transactions within 48 hours of execution; however, the Treasury will not publicly reveal any applications that are withdrawn or denied. The application deadline remains November 14, 2008.

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Many unresolved issues continue to surround the financial relief program as evidenced by a flurry of diverse actions today. The nation’s banking regulators—the Federal Reserve, the Federal Deposit Insurance Agency, the Office of the Comptroller of the Currency, and the Office of Thrift Supervision—issued a joint release about tax relief for banking organizations that have suffered losses on their Fannie Mae and Freddie Mac holdings. The regulators will allow banking organizations “to recognize the effect of the tax change enacted in Section 301 of the Emergency Economic Stabilization Act of 2008 (EESA) in their third quarter 2008 regulatory capital calculations.” Without today’s decision, banking institutions would not have seen any tax benefit until the fourth quarter of 2008.

Also today, leaders of the Independent Community Bankers Association (ICBA) met with President Bush and Secretary Paulson to discuss the Treasury’s capital purchase program. The FDIC will be the main overseer of that program; however, institutions’ primary regulators (e.g., OCC or OTS) will assist the FDIC. The Treasury has released some details of the program, but according to an ICBA press release, more details are needed. Association leaders urged Treasury to provide “details on how mutual, Subchapter S corporation, privately held and non-publicly traded community banks can participate.”

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As the stock market continues its seesaw sessions this week, the Treasury Department is focusing on implementation of the programs that flow from the financial rescue package assembled in recent weeks.

After Monday's announcement of the capital infusion to the nine largest US banks, attention is turning to the thousands of community and regional banks nationwide that may be eligible for assistance from the capital purchase program. The Treasury Department has announced that November 14 is the deadline for institutions to get their applications in for assistance under the program. Our report on Tuesday, October 14 included the details of the capital purchase program.

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Treasury Department officials confirmed overnight their plan to allocate the first $250 billion of the $700 billion financial rescue package not for the purchase of troubled assets, as originally contemplated, but to inject capital into nine of the nation's largest banks in exchange for preferred shares. Calling it the TARP Capital Purchase Program, President Bush is expected to certify today that the next $100 million of the plan is required for release per the provisions of the Emergency Economic Stabilization Act of 2008.

Here is how the funds will be distributed:

Citigroup $25 billion
JP Morgan Chase $25 billion
Bank of America $25 billion (including $5 billion for its Merrill Lynch acquisition)
Wells Fargo $25 billion (including $5 billion for its Wachovia acquisition)
Goldman Sachs $10 billion
Morgan Stanley $10 billion
Bank of New York $2-3 billion
Mellon Bank $2-3 billion
State Street Bank $2-3 billion
TOTAL $126 - 129 billion.

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World stock markets responded well this morning to the emerging consensus among European and U.S. officials to focus on capitalizing banks with government funds in exchange for an ownership stake in them. Wednesday's announcement from U.K. Prime Minister Gordon Brown that he plans to inject capital directly into banks and to guarantee interbank lending accelerated momentum for similar moves by the United States and European central bankers. Meetings on Friday and over the weekend among the G7 finance ministers and at the International Monetary Fund in Washington helped to bring these key players into alignment.

Meanwhile, the Treasury Department took further steps to implement the Troubled Asset Relief Program (TARP). In a speech this morning before the Institute of International Bankers, acting assistant secretary of the Office of Financial Stability (OFS) Neel Kashkari outlined progress and the seven internal policy teams established to execute the TARP: 

1. Mortgage-backed Securities Purchase Program—will examine which assets to purchase, from whom, and how
2. Whole Loan Purchase Program—will work with bank regulators to determine which loans to purchase first, how to value them, and how to purchase them
3. Insurance Program—on Friday, Treasury solicited public comments on how to insure troubled assets; comments are due within 14 days, at which point OFS will develop the program
4. Equity Purchase Program—will establish a standardized program to buy equity in a broad array of financial institutions; program will be voluntary with attractive terms so healthy institutions will participate and also raise private capital to complement public capital
5. Homeownership Preservation—will work with the Department of Housing and Urban Development to help homeowners when the Treasury purchases mortgages and mortgage-backed securities
6. Executive Compensation Program—will define firms’ participation requirements for three scenarios: auction purchase of troubled assets, broad equity or direct purchase program, and an intervention to prevent the failure of a systemically significant firm
7. Compliance Program—will set up the Oversight Board, the on-site participation of the General Accounting Office, the selection of a special inspector general, and all the reporting mechanisms

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As implementation of the financial rescue package accelerates, Treasury Secretary Hank Paulson today outlined at a press conference steps underway to implement the Troubled Asset Relief Program (TARP). Among those steps is the appointment of Neel Kashkari, a 35-year-old aerospace engineer whose resume includes a Wharton MBA and investment banking for Goldman Sachs, to be the interim head of the new Office of Financial Stability. The process for selecting firms to manage assets and assist in administering the TARP is underway. While it is moving quickly, we anticipate there will be additional opportunities in the near future for asset management firms and other service providers to be involved.

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The president signed the Emergency Economic Stabilization Act of 2008 within hours of the House passing the bill on October 3rd. As the administration begins the important work of implementing the Troubled Asset Relief Program (TARP), we thought it would be instructive to explore the reasons why House Democrats and Republicans shifted their votes so that Monday’s defeat became Friday’s victory.

Although one Democrat switched from a yes to no (Rep. Jim McDermott, D-WA), 33 House Democrats switched their votes to support the rescue plan on Friday. The fiscally conservative Blue Dog Caucus, which had been almost evenly split on Monday added five more to the yes column on Friday. A large number of freshman Democrats and Congressional Black Caucus (CBC) members, many of whom had been skeptical of the bailout plan on Monday, shifted in support of the final package. The 31 of 39 CBC members who voted yes said they did so based on the promises of Sen. Barack Obama, who said he would deliver economic stimulus legislation, a change in bankruptcy laws, and more regulation of Wall Street early in an Obama Administration. Democrats also picked up seven California members due to the escalation of financial problems in their state.

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The Dow Jones Industrial Average is inching up while the House completes the final hours of debate on the financial rescue package. Earlier today, the House agreed to a closed rule for H.R. 1424, which contains the Emergency Economic Stabilization Act along with tax extenders, and mental health parity provisions. The rule for H.R. 1424 does not allow members to amend the legislation in any way, and it also permits the leaders to call for a second vote today, if the first fails.

We are told leadership is planning for a vote at 1 p.m., unless the votes are not yet secured to pass the plan. Momentum appears to be swinging in the direction of passage. Some of our sources are saying as many as 20 members on the GOP side alone may now be switching from "no" to "yes." Only 12 members need to switch to put the measure over the top. On the Democratic side, concerns are ebbing that votes will be lost from the members of the fiscally conservative "Blue Dog" caucus who opposed adding tax breaks that are not "paid for" with corresponding revenue increases.

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With the whole world watching, the House of Representatives this afternoon rejected the Emergency Economic Stabilization Act of 2008 (EESA) by a vote of 228 to 205, after more than three hours of vigorous debate.

This is despite the fact that the administration lobbied hard for passage of the bill, describing the “profound and devastating” consequences of not passing the financial rescue legislation. The White House argued that the $700 billion should not be considered an expenditure, but as an investment that may be recouped in full or turned into a profit for taxpayers, considering that close to 90 percent of the mortgages backing these securities will not default and asset prices will inevitably rise after prices have been stabilized.

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Today is game day in the House of Representatives as members prepare to vote for or against the Emergency Economic Stabilization Act of 2008 at 1 p.m. Early this morning, President Bush appeared before cameras at the White House, urging Congress to adopt the rescue plan, saying “Every member of Congress and every American should keep in mind, a vote for this bill is a vote to prevent economic damage to you and your community.”

The House went into session unusually early this morning to allow for three hours of debate on the bill. Speaker Nancy Pelosi had indicated yesterday that she would like to hold the vote as early as 11 a.m. The currently scheduled 1 p.m. vote suggests members needed more time to shore up support. One positive sign is that Rep. Paul Ryan (R-WI), the ranking member of the House Budget Committee and a chief architect of the Republican alternative, has announced he will vote for the rescue plan.

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Progress towards action in the House and Senate continues apace. House leaders expect a vote on the Emergency Economic Stabilization Act tomorrow. The Senate will take up the measure as well, but action on Monday may be limited to filing a cloture petition, which would mature on Wednesday. The Senate could vote tomorrow if leaders can obtain a unanimous consent agreement, but that is difficult.

While the bipartisan, bicameral leadership appears united on approving the package, there is enough opposition on the right and left to make things interesting. This is particularly true in the House, where some influential members on both ends of the spectrum are organizing opposition.

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This morning’s Senate Banking Committee hearing was still continuing as the Bush Administration, House Banking Committee Chairman Barney Frank (D-MA), and House leadership were making plans for an urgent briefing today at 4 p.m. to convince House members to agree to the Treasury’s Troubled Asset Relief Program (TARP). Press reports about this morning’s House Democratic and Republican conference meetings characterized members’ reactions as “resistant.” Our sources on the Hill and off are saying the meetings were worse than reported, and the mood at both was antagonistic. As of now, the House does not have anywhere near the 218 votes needed to pass the Treasury plan, even with Chairman Frank’s endorsement.

Members of the Senate Banking Committee, including Sen. Chuck Schumer (D-NY), questioned whether the TARP could be funded in installments, precluding the need for Congress to authorize $700 billion in one lump sum. However, both Federal Reserve Chairman Bernanke and Paulson rejected the suggestion, saying that bolstering consumer confidence requires Treasury to have the full $700 billion authority, even if they do not utilize the entire amount. Both Paulson and Bernanke repeated on several occasions that lawmakers must not view the $700 billion as an expenditure, but as an investment that would be recovered – though perhaps not in full – over time.

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