Search This Blog


Sunday, 28 September 2008

Compromised TARP - likely to fail ?

Reuters reports (lunchtime EST & teatime GMT) that (after 9 hours including some through the night and "into the wee hours of Sunday morning") US Congress leaders (both parties) emerged to announce TARP agreed (with provisos to protect Main Street). "We've made great progress," said Speaker Nancy Pelosi (just in time for the opening of East Asia's stock markets). Agreement is subject to a House and Senate vote (Monday). And some further adjustments might appear by then. (The only alternative to not agreeing TARP, or this baby Son of TARP (my take on this sub-version of the original plan), was a back-of-the-envelope insurance proposal by House Republicans, which by Friday's 'Presidential debate #1' had been heaped with derision such that Sen. McCain was in some shock and now recognising that he has to be seen as a promoter not an obstacle to agreement. Nevertheless as a sop to McCain and his party the insurance deal survives as an add-on to TARP! But that's not the only watering-down. Re-election sensitive legislators have been intimidated by constituents' mails on a ratio of about 50-1 against the bail-out.)
As you will see below, I doubt the financial system will be adequately stabilised by this TARP (Troubled Asset Relief Program), even though the lawmakers consulted Warren Buffett (who confirmed his view that markets are verging on melt-down. Note that his $5bn investment in Goldman Sachs may have a clause dependency on TARP, but it now seems Goldmans may not access TARP directly, nor need to,having reduced its sub-prime exposure to a very trivial amount? Instead it is setting yup a $50bn fund to buy distressed financial assets!) There are seven parts to TARP, that are likely to dilute market confidence and undermine the overall purpose of TARP?
1. The first $250bn will be issued on TARP's enactment at US Treasury's discretion but with additional oversight, while another $100bn as The President decides, and $350bn subject to Congressional review. 'troubled assets' will be bought on a partnership basis with the warrant issuing institutions and small banks whereby the Fed/Treasury gain the upside and the warrant issuers bear any net loss.
2. Institutions selling assets (toxic) under the plan will issue stock warrants giving "taxpayers an ownership stake and profit-making opportunities with participating companies," . "Institutions" means pension plans, local governments and small banks. This may leave some big banks who are at the centre of the crisis bereft, to say the least!
3. Given the clamour of the Sans Culottes for de-capitations of executives' bonus-pay, no execs at participating companies may be allowed to get multi-million-dollar severance pay and CEO pay will be capped (a boost for shareholder activism and court cases e.g. "you should have issued stock warrants, but didn't just to defend your salary!", and Boards will have the whip hand over CEOs by threatening to vote to go to TARP and bang goes most of the CEO's pay).
4. An oversight board of top officials, including the Federal Reserve chairman, will supervise the programme, while its management also will be under close scrutiny by Congress' investigative arm and an independent inspector general (independent meaning what, from where?). What is extraordinary about this is that the current oversight of the Fed and US Treasury seem forgotten about and this additional oversight is only for the first $250bn at their discretion, while Congress gets discretion over half the money, $350bn.
5. The deal also requires "meaningful judicial review of the Treasury secretary's actions," which suggests to me that Hank Paulson won't be staying on after January!
6. the Government could use its power as the owner of mortgages and mortgage-backed securities to help more struggling homeowners modify the terms of their home loans (which will require an immense amount of inter-firm database look-up computing when a cleverer deal might have been to create an exchange plus clearing house, but that could still materialise?)
7. Institutions selling toxic assets to the TARP fund can have a supervisory board imposed on them and in an case thereby signal publicly that they are in a condition bordering insolvency, in which case they risk a run on their equity, loss of creditor confidence and probable ratings downgrade. These reputational risk factors will prevent firms from applying to TARP until they have no other choice, in which case the dire implication of the conditions become self-fulfilling!
Meanwhile elsewhere in the forest another tree crashes. Wachovia Corp, the sixth-largest U.S. bank, is in merger talks with potential partners after a 27% drop in its shares on Friday. (US Investors worried about a contagion effect have been shifting funds to Japan and into Europe. But, in Europe big banks are also wallowing, especially Fortis NV whose fate is infecting the Belgian political crisis and lies in the hands of the Dutch National Bank who has the right to cancel its takeover of ABN-AMRO Netherlands in Q3 next year if it has not already had to be taken over before then by possibly ING and a French bank?
In London, regulators are parcelling off Bradford & Bingley. And in Switzerland banks may be capped on both proprietary trading and assets in ratio to equity - a dramatic restriction if it catches on across Europe and/or across the Atlantic!)
The TARP bad bank bailout bill ends a dramatic two weeks (or one week as one banker opined, in which markets have changed more than in the past 70 years, which seems absurdly dramatic and ignorant to me).
On Friday, on Capital Hill at in and out of the Oval Office some involvees were saying presidential politics and politics per se must be kept out of this. But as the caveats above show, politics is in the mix, albeit bipartisan. WAMU's collapse, the classic Main Street bank, concentrated minds as to the idea that Main Street could be protected from Wall Street. The New Deal (ooops) on Tarp looks to be far more biased to saving Main Street than saving the wholesale interbank liquidity crisis. In this respect, it may be that the deal is now 90 degrees off-kilter and will not do at all what Hank Paulson and Ben Bernanke need and want? Remember, we still do not know where all the toxic ABS is held?
And, unbelievably as a final further sop, House Republicans won support for a provision that would create a privately funded insurance programme for mortgage-backed securities.
As with any big money programmes, there are many pigs at the trough but not all get fed. Democrats barred proposals to put money into a trust fund for affordable housing and the idea of allowing court judges the right to alter the terms of mortgage contracts for bankrupt borrowers.
The big shocker (if it is surprising really?) is that the new deal reflects not only popular suspicion of the Bush Administration, but also represents an extraordinary demotion for the Fed and the US Treasury (with all their various arms, Comptroller of the Currency, FDIC, Fannie & Freddy, AIG, regulatory authority, management of the Federal Debt etc.) This may not matter that much to 'TarPaulson' as he may now depart when the Bush Presidency hands over in January, but must be a blow to Ben Bernanke whose authority and prestige are vital to financial market confidence and monetary management, even though he will chair the TARP oversight board.
Paulson and Bernanke have recently spend hundreds of $billions including at least $30bn extended to Europe. This may not be permitted so easily again! The politicians have exacted a mighty price to pass TARP. I would not be surprised if the Fed and the US Treasury would, if they but could, ideally wish to go back to the drawing board and conceive another technical solution that removes the necessity to go forward with politically-motivated provisos, except too late for that?

No comments: