[JPRT, 111th Congress]
[From the U.S. Government Publishing Office]


                                     


                     CONGRESSIONAL OVERSIGHT PANEL

                         JUNE OVERSIGHT REPORT

                               ----------                              

                           STRESS TESTING AND
                        SHORING UP BANK CAPITAL

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



                  June 9, 2009.--Ordered to be printed

Submitted under Section 125(b)(1) of Title 1 of the Emergency Economic 
             Stabilization Act of 2008, Pub. L. No. 110-343
          CONGRESSIONAL OVERSIGHT PANEL JUNE OVERSIGHT REPORT
For Sale by the Superintendent of Documents, U.S. Government Printing Office
Internet: bookstore.gpo.gov  Phone: toll free (866) 512-1800; (202) 512ï¿½091800  
Fax: (202) 512ï¿½092104 Mail: Stop IDCC, Washington, DC 20402ï¿½090001
                                     


                     CONGRESSIONAL OVERSIGHT PANEL

                         JUNE OVERSIGHT REPORT

                               __________

                           STRESS TESTING AND
                        SHORING UP BANK CAPITAL



[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



                  June 9, 2009.--Ordered to be printed

Submitted under Section 125(b)(1) of Title 1 of the Emergency Economic 
             Stabilization Act of 2008, Pub. L. No. 110-343
                            C O N T E N T S

                              ----------                              
                                                                   Page
Executive Summary................................................     3
Section One: Stress Testing and Shoring Up Bank Capital..........     6
    A. Overview..................................................     6
    B. The Stress Tests..........................................    13
    C. Immediate Impact of the Stress Tests......................    27
    D. A Comment on the Supervisory Process......................    29
    E. Specific Limitations of the Stress Tests..................    30
    F. Independent Analysis of Stress Tests......................    31
    G. Next Steps................................................    35
    H. Issues....................................................    38
    I. Recommendations...........................................    48
    J. Conclusions...............................................    49
    K. Tables....................................................    50
    Annex to Section One: The Supervisory Capital Assessment 
      Program:
    An Appraisal.................................................    57
Section Two: Additional Views....................................   117
Section Three: Correspondence With Treasury Update...............   131
Section Four: TARP Updates Since Last Report.....................   132
Section Five: Oversight Activities...............................   149
Section Six: About the Congressional Oversight Panel.............   151
Appendices:......................................................
Appendix I: Letter from Chair Elizabeth Warren to Federal Reserve 
  Chairman Ben Bernanke Regarding the Capital Assistance Program, 
  dated May 11, 2009.............................................   152
Appendix II: Letter from Chair Elizabeth Warren to Secretary 
  Timothy Geithner regarding the possibility of the Secretary 
  appearing before a panel hearing in June, dated May 12, 2009...   159
Appendix III: Letter from Chair Elizabeth Warren to Secretary 
  Timothy Geithner and Federal Reserve Chairman Ben Bernanke 
  regarding the Acquisition of Merrill Lynch by Bank of America, 
  dated May 19, 2009.............................................   161
Appendix IV: Letter from Chair Elizabeth Warren to Secretary 
  Timothy Geithner regarding the Temporary Guarantee Program, 
  dated May 26, 2009.............................................   164


 
                         JUNE OVERSIGHT REPORT

                                _______
                                

                  June 9, 2009.--Ordered to be printed

                                _______
                                

                          EXECUTIVE SUMMARY *

    Across the country, many American families have taken a 
hard look at their finances. They have considered how they 
would manage if the economy took a turn for the worse, if 
someone were laid off, if their homes plummeted in value, or if 
the retirement funds they had been counting on shrunk even 
more. If circumstances get worse, how would they make ends 
meet? These families have examined their resources to figure 
out if they could weather more difficult times--and what they 
could do now to be better prepared. In much the same spirit, 
federal banking regulators recently undertook ``stress tests'' 
to examine the ability of banks to ride out the financial 
storm, particularly if the economy gets worse.
---------------------------------------------------------------------------
    * The Panel adopted this report with a unanimous 5-0 vote on June 
8, 2009.
---------------------------------------------------------------------------
    Treasury recognized the importance of understanding banks' 
ability to remain well capitalized if the recession proved 
worse than expected. Thus, Treasury and the Federal Reserve 
announced the Supervisory Capital Assessment Program (SCAP) to 
conduct reviews or ``stress tests'' of the nineteen largest 
BHCs. Together these nineteen companies hold two-thirds of 
domestic BHC assets. As described by Treasury, the program is 
intended to ensure the continued ability of U.S. financial 
institutions to lend to creditworthy borrowers in the event of 
a weaker-than-expected economic environment and larger-than-
estimated losses.
    The Emergency Economic Stabilization Act of 2008 (EESA) \1\ 
specifically requires the Congressional Oversight Panel to 
examine the Secretary of the Treasury's use of his authority, 
the impact of the Troubled Asset Relief Program (TARP) on the 
financial markets and financial institutions, and the extent to 
which the information made available on transactions under the 
TARP has contributed to market transparency. In this report, 
the Panel examines the steps Treasury has taken to assess the 
financial health of the nation's largest banks, the impact of 
these steps on the financial markets, and the extent to which 
these steps have contributed to market transparency. 
Understanding the recently completed stress tests helps shed 
light on the assumptions Treasury makes as it uses its 
authority under EESA. As Treasury uses the results of these 
tests to determine what additional assistance it might provide 
to financial institutions, the tests also help determine the 
effectiveness of the TARP in minimizing long-term costs to the 
taxpayers and maximizing taxpayer benefits, thus responding to 
another key mandate of the Panel.
---------------------------------------------------------------------------
    \1\ Emergency Economic Stabilization Act of 2008 (EESA), Pub. L. 
No. 110-343 (hereinafter ``EESA'').
---------------------------------------------------------------------------
    As part of their regular responsibilities, bank examiners 
determine whether the banks they supervise have adequate 
capital to see them through economic reversals. Typically, 
these bank supervisory examination results are kept strictly 
confidential. The stress tests built on the existing regulatory 
capital requirements, but, because the stress tests were 
undertaken in order to restore confidence in the banking 
system, they included an unprecedented release of information.
    The stress tests were conducted using two scenarios: one 
test based upon a consensus set of economic projections and 
another test using projections based on more adverse economic 
conditions. The only results that have been released are those 
based on the adverse scenario. These test results revealed that 
nine of the nineteen banks tested already hold sufficient 
capital to operate through 2010 under the projected adverse 
scenario; those banks will not be required to raise additional 
capital. Ten of the nineteen banks were found to need 
additional capital totaling nearly $75 billion in order to 
weather a more adverse economic scenario. Those banks that need 
additional capital were required to present a plan to Treasury 
by June 8, 2009, outlining their plans to raise additional 
capital. All additional capital required under the stress tests 
must be raised by November 9, 2009, six months after the 
announcement of the stress test results. Some BHCs have already 
successfully raised billions in additional capital.
    Like the case of the family conducting its own stress test 
of personal finances, the usefulness of the bank stress test 
results depends upon the methods used and the assumptions that 
went into conducting the examinations. To help assess the 
stress tests, the panel engaged two internationally renowned 
experts in risk analysis, Professor Eric Talley and Professor 
Johan Walden, to review the stress test methodology.
    Based on the available information, the professors found 
that the Federal Reserve used a conservative and reasonable 
model to test the banks, and that the model provides helpful 
information about the possible risks faced by BHCs and a 
constructive way to address those risks. The criteria used for 
assessing risk, and the assumptions used in calibrating the 
more adverse case, have typically erred on the side of caution 
and avoided many of the more dangerous simplifications present 
in some risk modeling.
    The professors also raised some serious concerns. They 
noted that there remain unanswered questions about the details 
of the stress tests. Without this information, it is not 
possible for anyone to replicate the tests to determine how 
robust they are or to vary the assumptions to see whether 
different projections might yield very different results. There 
are key questions surrounding how the calculations were 
tailored for each institution and questions about the quality 
of the self-reported data. It is also important to note that 
the stress test scenarios made projections only through 2010. 
While this time frame avoids the greater uncertainty associated 
with any projection further in the future, it may fail to 
capture substantial risks further out on the horizon. Based on 
the testimony by Deutsche Bank at the Panel's May field 
hearing, the projected rise in the defaults of commercial real 
estate loans after 2010 raise concerns.
    In evaluating the useful information provided by the stress 
tests, as well as the remaining questions, the Panel offers 
several recommendations for consideration moving forward:
     The unemployment rate climbed to 9.4 percent in 
May, bringing the average unemployment rate for 2009 to 8.5 
percent. If the monthly rate continues to increase during the 
remainder of this year, it will likely exceed the 2009 average 
of 8.9 percent assumed under the more adverse scenario, 
suggesting that the stress tests should be repeated should that 
occur.
     Stress testing should also be repeated so long as 
banks continue to hold large amounts of toxic assets on their 
books.
     Between formal tests conducted by the regulators, 
banks should be required to run internal stress tests and 
should share the results with regulators.
     Regulators should have the ability to use stress 
tests in the future when they believe that doing so would help 
to promote a healthy banking system.
    The Federal Reserve Board should be commended for releasing 
an unprecedented amount of bank supervisory information, but 
additional transparency would be helpful both to assess the 
strength of the banks and to restore confidence in the banking 
system. The Panel recommends that the Federal Reserve Board 
release more information on the results of the tests, including 
results under the baseline scenario. The Federal Reserve Board 
should also release more details about the test methodology so 
that analysts can replicate the tests under different economic 
assumptions or apply the tests to other financial institutions. 
Transparency will also be critical as financial institutions 
seek to repay their TARP loans, both to assess the strength of 
these institutions and to assure that the process by which 
these loans are repaid is fair.
    Finally, the Panel cautions that banks should not be forced 
into counterproductive ``fire sales'' of assets that will 
ultimately require the investment of even more taxpayer money. 
The need for strengthening the banks through capital increases 
must be tempered by sufficient flexibility to permit the banks 
to realize full value for their assets.
        SECTION ONE: STRESS TESTING AND SHORING UP BANK CAPITAL


                              A. Overview

    The stress test is one of the two core parts of Treasury's 
Capital Assistance Program (CAP). It lays the foundation for 
the second part of the CAP, the infusion of TARP funds to 
support some of the nation's largest financial institutions 
``as a bridge to private capital in the future.'' \2\ The 
publication of the results of the stress tests involves a rare 
release of supervisory information by the Federal Reserve 
Board. EESA specifically requires the Panel to,
---------------------------------------------------------------------------
    \2\ U.S. Department of the Treasury, Treasury White Paper: The 
Capital Assistance Program and its Role in the Financial Stability 
Plan, at 2 (online at www.treasury.gov/press/releases/reports/
tg40_capwhitepaper.pdf) (accessed May 15, 2009) (hereinafter ``CAP 
White Paper'').

          Examine [the] use by the Secretary [of the Treasury] 
        of authority under this Act . . . [t]he impact of 
        purchases made under the Act on the financial markets, 
        and financial institutions, and [t]he extent to which 
        the information made available on transactions under 
        the [TARP] has contributed to market transparency.\3\
---------------------------------------------------------------------------
    \3\ EESA, supra note 1, at Sec. 125(1)(A)(i)-(iii).
---------------------------------------------------------------------------

                            1. INTRODUCTION

    A banking organization's capital is its economic 
foundation. It serves as a cushion against losses and limits a 
bank's ability to grow, including by limiting the degree to 
which a bank can lend, how many deposits it can take, and how 
it can otherwise raise funds in the capital markets. The 
strength of a bank's capital is a barometer of its health, and 
decreases in the strength of its capital or uncertainty about 
that strength can affect the willingness of other financial 
institutions to deal with it. When an individual bank's capital 
is seriously depleted, it can fail. Bank failures and 
uncertainty about the soundness of other banks can spread 
financial contagion across a national financial system, 
freezing lending, fostering uncertainty in the capital markets, 
and perhaps even threatening the deposits of ordinary citizens, 
although, in the United States, the deposit insurance system 
managed by the Federal Deposit Insurance Corporation (FDIC) 
protects against that threat.\4\ A bank's ability to lend is 
directly related to its capital strength.\5\ While government 
intervention has the potential to stabilize the system by 
shoring up bank capital, it can also risk further scaring away 
private capital by creating new forms of risk and 
uncertainty.\6\
---------------------------------------------------------------------------
    \4\ Deposit insurance--currently set at $250,000 per account--
greatly reduces the risk of loss of deposits by individuals in banks 
operating in the United States.
    \5\ Congressional Oversight Panel, Testimony of Vice-President of 
the Federal Reserve Bank of New York (FRBNY) Til Schuermann, Hearing on 
the Impact of Economic Recovery Efforts on Corporate and Commercial 
Real Estate Lending, at 2 (May 28, 2009) (online at cop.senate.gov/
documents/testimony-052809-schuermann.pdf).
    \6\ Once the solvency of a bank is in question, private investors 
may fear that government interference will dilute private capital or 
that the government will pay below-market prices for assets. That, in 
turn, can have a chilling effect on a bank's ability to attract private 
capital. Perhaps in order to mitigate that chilling effect, Treasury 
has signaled its intention: (1) to divest itself of the ownership 
stakes it may acquire in any private firm as quickly as practical; and 
(2) to exert minimal influence on day-to-day operations even if in a 
position to do so. See U.S. Department of the Treasury, Statement from 
Treasury Secretary Timothy Geithner Regarding the Treasury Capital 
Assistance Program and the Supervisory Capital Assessment Program (May 
7, 2009) (online at www.ustreas.gov/press/releases/tg123.htm).
---------------------------------------------------------------------------
    The danger of financial contagion surfaced early in the 
financial crisis. During 2008, two large banking institutions, 
IndyMac Bank ($32.01 billion in assets) \7\ and Washington 
Mutual Savings and Loan ($307 billion) \8\ were taken over by 
federal regulators, and three other banking institutions, 
Wachovia Bank ($812.4 billion),\9\ the nation's fourth largest 
commercial bank, National City Corporation ($143.7 
billion),\10\ and Countrywide Financial Corporation ($211 
billion) \11\ were in danger of failing when they were taken 
over by other institutions at the behest of the regulators.\12\
---------------------------------------------------------------------------
    \7\ Federal Deposit Insurance Corporation, FDIC Establishes IndyMac 
Federal Bank, FSB as Successor to IndyMac Bank, F.S.B., Pasadena, 
California (July 11, 2008) (online at www.fdic.gov/news/news/press/
2008/pr08056.html).
    \8\ Federal Deposit Insurance Corporation, JPMorgan Chase Acquires 
Banking Operations of Washington Mutual (Sept. 25, 2008) (online at 
www.fdic.gov/news//news/press/2008/pr08085.html).
    \9\ Wachovia Corporation, Form 8-K (Oct. 10, 2008) (online at 
www.sec.gov/Archives/edgar/data/36995/000119312508209190/d8k.htm).
    \10\ PNC Financial Services Group, Inc., Form S-4 (Nov. 11, 2008) 
(online at www.sec.gov/Archives/edgar/data/713676/000095012308014864/
y72384sv4.htm).
    \11\ Countrywide Financial Corporation, Form 10-K (Feb. 29, 2008) 
(online at www.sec.gov/Archives/edgar/data/25191/000104746908002104/
a2182824z10-k.htm) (latest asset report available).
    \12\ This was in addition to the government-engineered takeover of 
the investment bank Bear Stearns by JPMorgan Chase & Co., the 
government-engineered takeover of Merrill Lynch by Bank of America, and 
the rescue of the American International Group (AIG) by the Federal 
Reserve Board and Treasury. PNC used $7.7 billion in Capital Purchase 
Program (CPP) funds to aid in financing its acquisition of National 
City Corporation. PNC Financial Services Group, Inc., Form 8-K (Oct. 
24, 2008) (online at www.pnc.com/webapp/unsec/Requester?resource=/wcm/
resources/file/eb0fc043072db70/IR_8K_102408_NCC_Announce.pdf).
---------------------------------------------------------------------------
    Within two weeks after the passage of EESA, Treasury began 
to make direct capital transfers ``to stabilize the financial 
system by providing capital to viable financial institutions of 
all sizes throughout the nation.'' The transfers were made 
through various TARP programs created under the authority of 
the EESA. As of June 3, $199.4 billion had been transferred to 
436 banks under the TARP's Capital Purchase Program (CPP).\13\
---------------------------------------------------------------------------
    \13\ U.S. Department of the Treasury, Troubled Asset Relief Program 
Transactions Report for Period Ending June 3, 2009 (June 5, 2009) 
(online at www.financialstability.gov/docs/transaction-reports/
transactions-report-060509.pdf) (hereinafter ``June 5 TARP Transactions 
Report''). An additional $69.8 billion was transferred under the TARP 
to rescue AIG.
---------------------------------------------------------------------------
    Two institutions, Citigroup and Bank of America, have 
received additional support outside of the CPP. Through the 
Targeted Investment Program (TIP), Treasury purchased from 
Citigroup $20 billion in preferred shares, as well as a warrant 
to purchase common stock. Treasury and the FDIC also guaranteed 
a pool of $306 billion of loans and securities.\14\ Bank of 
America also received capital and guarantees under the TIP. It 
received $20 billion in capital in exchange for preferred stock 
and a warrant. Treasury and the FDIC agreed to guarantee a pool 
of $118 billion in loans, in exchange for preferred stock.\15\
---------------------------------------------------------------------------
    \14\ U.S. Department of the Treasury, Joint Statement by Treasury, 
Federal Reserve and the FDIC on Citigroup (Nov. 23, 2008) (online at 
www.treas.gov/press/releases/hp1287.htm).
    \15\ Board of Governors of the Federal Reserve System, Treasury, 
Federal Reserve, and the FDIC Provide Assistance to Bank of America 
(Jan. 16, 2009) (online at www.federalreserve.gov/newsevents/press/
bcreg/20090116a.htm).
---------------------------------------------------------------------------
    In early February, Treasury and the Federal Reserve Board 
announced an accelerated effort to conduct comprehensive and 
simultaneous reviews of the nation's 19 largest BHCs \16\--
those with more than $100 billion in assets--to determine their 
ability to remain well capitalized if the recession led to 
deeper than expected losses in the face of the nation's 
increasing economic difficulties. The effort, formally called 
the SCAP, is referred to more informally as the ``stress 
tests.'' It is part of the broader CAP that is to be a primary 
mechanism for direct capital assistance to the nation's largest 
BHCs for the remainder of the financial crisis.
---------------------------------------------------------------------------
    \16\ A BHC is essentially a corporation that owns one or more 
banks, but does not itself carry out the functions of a bank. The 
advantage of this type of structure is that it allows the BHC to raise 
capital more easily through, for instance, public offerings. Although 
Federal Reserve Board regulations refer formally to BHCs as ``banking 
organizations,'' the Federal Reserve Board uses the less formal 
designation in the document relating to the SCAP, as does this report. 
See 12 CFR Part 225, at Appendix A Sec. 1.
---------------------------------------------------------------------------
    While federal bank supervisors enforce various capital 
requirements even in times of economic growth,\17\ SCAP 
represents a special supervisory exercise tailored to the 
current crisis. The term ``stress test'' itself sums up the 
government's objective--to create a set of economic and 
operating assumptions to see how much ``stress'' the 
assumptions would place on each BHC's capital position if they 
came to pass. The tests were designed to:
---------------------------------------------------------------------------
    \17\ A corporation's capital consists simply of the amount by which 
the value of its assets exceeds the value of its obligations. See Annex 
to Section One of this report. Specific capital requirements for banks, 
insurance companies, securities broker-dealers, and other regulated 
industries fix a level of capital above that simple margin to create a 
level of safety to help ensure that the regulated companies can meet 
their obligations and avoid failures that spill over into the economic 
system.

          evaluat[e] expected losses and [whether the stress-
        tested BHCs have] the resources to absorb those losses 
        if economic conditions were to be more adverse than 
        generally expected [,] . . . determine whether an 
        additional capital buffer today, particularly one that 
        strengthens the composition of capital, is needed for 
        the banking organization to comfortably absorb losses 
        and continue lending even in a more adverse 
        environment.\18\
---------------------------------------------------------------------------
    \18\ CAP White Paper, supra note 2, at 2.

BHCs in need of a buffer have six months to raise the necessary 
capital; the capital can in some cases come from additional 
TARP investments made under the CAP.
    The results of the stress tests were released in early May. 
The Panel is devoting its June report to the details and 
results of the tests for several reasons. The first is the 
crucial one: the weaknesses of America's large banks, among 
other things, are at the core of the financial crisis and the 
breakdown in lending that was the immediate result of the 
crisis; while some believe that government policies contributed 
to the crisis, it is critical that government policies to deal 
with this weakness are soundly conceived and well-executed.
    There are several additional reasons to examine the stress 
tests. These include the perspective they provide on the manner 
in which the government is dealing with the country's major 
lending institutions, as well as the information they have 
generated about the condition of the BHCs themselves at a time 
when economic conditions continue to deteriorate.
    Thus, the report sets out the way the stress tests work and 
the assumptions on which they rest, evaluates those assumptions 
and the models used to conduct the tests, seeks to understand 
the stress test results, and makes recommendations about the 
future of the testing process.

                             2. BACKGROUND

a. Capital requirements

    Capital requirements exist to protect against bank 
insolvency and to reduce systemic risk. By enforcing these 
requirements, regulators: (1) ensure that banks have adequate 
capital to weather unexpected losses; (2) counteract market 
pressures on banks to take excessive risks; (3) promote 
confidence among bank investors, creditors, and counterparties; 
and (4) minimize the scale and length of economic downturns. 
Capital requirements also protect against what is called 
``moral hazard,'' that is, the risk that a bank will take undue 
risks because it believes any benefits will go to the BHC 
executives and shareholders and any losses it suffers will be 
covered either by deposit insurance or by the notion that the 
institution will be supported with government funds rather than 
allowed to fail.\19\
---------------------------------------------------------------------------
    \19\ Minimum capital ratios are used by banking regulators to 
assign banks to one of five categories: (1) well capitalized; (2) 
adequately capitalized; (3) undercapitalized; (4) seriously 
undercapitalized; and (5) critically undercapitalized. Under banking 
regulations, insured depository institutions falling in the last three 
categories are subject to a variety of ``prompt corrective actions.'' 
However, BHCs are not currently subject to the prompt corrective action 
regimen.
---------------------------------------------------------------------------
    Because the stress tests focus on the adequacy of BHC 
capital, a short look at how BHC capital works is appropriate. 
A BHC's capital is generally measured as the ratio of specified 
core (tier 1) and supplementary (tier 2) capital elements on 
the firm's consolidated balance sheet to its total assets. To 
compute the tier 1 ratio, for instance, the firm's tier 1 
capital elements are included in the numerator and the ``risk-
weighted'' value of its assets are included in the denominator.
    For this purpose, tier 1 (core) capital is the sum of the 
following capital elements: (1) common stockholders' equity; 
(2) perpetual preferred stock; (3) senior perpetual preferred 
stock issued by Treasury under the TARP; (4) certain minority 
interests in other banks; (5) qualifying trust preferred 
securities; and (6) a limited amount of other securities. Tier 
2 (supplementary) capital is made up of the following capital 
elements: (1) the amount of certain reserves established 
against losses; (2) perpetual cumulative or non-cumulative 
preferred stock; (3) certain types of convertible securities; 
(4) certain types of long-, medium-, and short-term debt 
securities; and (5) a percentage of unrealized gains from 
certain investment assets.
    The SCAP capital buffer includes a four percent tier 1 
common capital ratio. Federal Reserve Board rules do not 
specifically define tier 1 common capital, but this is the 
element of tier 1 capital that is voting common stockholders' 
equity (i.e., it excludes qualifying trust and perpetual 
preferred stock, and qualifying minority interests). The 
supervisors have encouraged BHCs to hold as much of their tier 
1 capital in the form of common shareholder equity as possible 
as this is the ``most desirable capital element from a 
supervisory standpoint.'' \20\
---------------------------------------------------------------------------
    \20\ Board of Governors of the Federal Reserve System, BHC 
Supervision Manual, at 4060.3.2.1.1.3, 1281 (Jan. 2008) (online at 
www.federalreserve.gov/boarddocs/SupManual/bhc/200807/bhc0708.pdf).
---------------------------------------------------------------------------
    The risk-weighted assets of an institution, which form the 
denominator of the capital ratio, represent the value of the 
institution's assets, adjusted in some cases to reflect 
possibilities that the assets will lose value after the 
computation is made. For example, cash is assigned no risk 
``haircut,'' because its face value cannot vary. Similar 
adjustments are made for certain portions of an institution's 
capital elements.\21\
---------------------------------------------------------------------------
    \21\ See 12 CFR Part 225, at Appendix A III.C, Appendix E, Appendix 
G.
---------------------------------------------------------------------------
    General regulatory rules require a BHC to have a tier 1 
capital ratio of four percent, and a total (tier 1 plus tier 2) 
capital ratio of eight percent of the holding company's risk-
weighted assets.\22\
---------------------------------------------------------------------------
    \22\ See 12 CFR Part 225, at Appendix A IV.A. BHCs are also 
required to maintain a leverage ratio of three percent of tier 1 
capital to total capital.
---------------------------------------------------------------------------

b. Efforts to shore up bank capital under the TARP

    The initial method chosen by Treasury to shore up bank 
capital emphasized the direct transfer of TARP funds to BHCs in 
exchange for preferred stock. A special change in banking 
regulations permits preferred stock purchased under the TARP to 
count as tier 1 capital.\23\ It does not, however, count as 
tier 1 common capital, which the banking regulators are looking 
to bolster through the stress tests.\24\
---------------------------------------------------------------------------
    \23\ Board of Governors of the Federal Reserve System, Capital 
Adequacy Guidelines: Treatment of Perpetual Preferred Stock Issued to 
the United States Treasury Under the Emergency Economic Stabilization 
Act of 2008, 74 Fed. Reg. 26081 (June 1, 2009) (final rule) (online at 
edocket.access.gpo.gov/2009/pdf/E9-12628.pdf).
    \24\ Board of Governors of the Federal Reserve System, The 
Supervisory Capital Assessment Program: Overview of Results, at 2 (May 
7, 2009) (online at www.federalreserve.gov/newsevents/press/bcreg/
bcreg20090507a1.pdf) (hereinafter ``SCAP Results'').
---------------------------------------------------------------------------
    The first set of programs--the CPP, the Systemically 
Significant Failing Institutions (SSFI) program, and the TIP--
followed that model. While the CPP was described as the 
``Healthy Banks Program,'' it was in fact targeted at a broader 
range of banks. In contrast, the SSFI program and the TIP 
targeted institutions in financial distress.\25\
---------------------------------------------------------------------------
    \25\ In addition to equity purchases, which are designed to shore 
up the capital position of troubled institutions, Treasury's strategy 
includes programs that directly address the assets affecting bank 
balance sheets. One of the primary reasons banks are currently 
constrained in their ability to lend to creditworthy borrowers is that 
they have a number of assets on their books that have lost, or could 
lose, substantial value. In effect, they are conserving funds to cover 
these losses (and thereby limiting the availability of credit in the 
economy). The Public-Private Investment Program (PPIP) is basically 
designed to get these bad or ``toxic'' assets off the banks'' balance 
sheets. Under the program, a number of investment funds will be created 
with a combination of TARP funds and private capital; these funds will 
then buy existing, bad assets from banks. There will be two kinds of 
investment funds under PPIP: one backed by FDIC guarantees that will 
purchase legacy loans; another that will be able to borrow from the 
Federal Reserve Board in order to purchase legacy securities. The FDIC 
recently announced it would postpone the implementation of the legacy 
loans program, and it is not yet clear when this program will be put 
into effect. Federal Deposit Insurance Corporation, FDIC Statement on 
the Status of the Legacy Loans Program (June 3, 2009) (online at 
www.fdic.gov/news/news/press/2009/pr09084.html) (hereinafter ``FDIC 
Loans Program Statement''). Another part of Treasury's strategy is the 
Term Asset-Backed Securities Loan Facility (TALF), a joint program 
between Treasury and the Federal Reserve Board. Through the TALF, the 
Federal Reserve Board provides loans to investors that are secured by 
newly-issued, asset-backed securities (that are surrendered to the 
Federal Reserve Board if the borrower defaults). In case of default, 
Treasury buys the surrendered securities from the Federal Reserve 
Board, in effect guaranteeing a certain amount of losses the Federal 
Reserve Board potentially faces.
---------------------------------------------------------------------------
    In February 2009, Secretary of the Treasury Geithner 
introduced the CAP as a key component of the new 
Administration's Financial Stability Plan.\26\ The CAP has two 
fundamental components. The CAP introduces a new, additional 
mechanism for Treasury to make capital infusions. In exchange 
for capital injections through the CPP, Treasury generally 
receives preferred stock and warrants to purchase common stock. 
In exchange for capital injections through the CAP, Treasury 
will receive mandatory convertible preferred securities (i.e., 
securities that the recipient bank can convert into common 
equity), as well as warrants to buy additional common stock of 
the institution receiving the infusion.\27\ Through conversion, 
recipient banks will be able to increase their tier 1 common 
capital position as necessary if economic conditions 
deteriorate. The ability to convert preferred stock to common 
equity is intended to help institutions weather continued 
turbulence, but it also increases taxpayer risk without adding 
any new capital to the banks, since the conversion is 
essentially a reorganization of a BHC's capital structure 
moving the former preferred stockholders to a lower priority of 
payment in the event the BHC is liquidated.
---------------------------------------------------------------------------
    \26\ U.S. Department of the Treasury, Fact Sheet: Financial 
Stability Plan (online at www.financialstability.gov/docs/fact-
sheet.pdf) (accessed May 15, 2009) (hereinafter ``Financial Stability 
Plan Fact Sheet''); U.S. Department of the Treasury, U.S. Treasury 
Releases Terms of Capital Assistance Program (Feb. 25, 2009) (online at 
www.ustreas.gov/press/releases/tg40.htm).
    \27\ Financial Stability Plan Fact Sheet, supra note 26, at 3. The 
issuance of warrants to purchase common stock in any financial 
institution receiving assistance under the TARP is required by EESA, 
supra note 1, at 114(d).
---------------------------------------------------------------------------
    The other component of the CAP, and the basis upon which 
decisions regarding the need for capital infusions will be 
made, is the stress tests under the SCAP. The stress tests are 
essential to the CAP because they allow regulators to determine 
which institutions may need additional capital over the next 
two year period and require the institutions that may need more 
capital to obtain that capital now. Equally important, they 
increase the level and composition of the capital required, 
building banks' capital buffers ``to ensure the continued 
ability of U.S. financial institutions to lend to creditworthy 
borrowers in the face of a weaker than expected economic 
environment and larger than expected potential losses.'' \28\
---------------------------------------------------------------------------
    \28\ CAP White Paper, supra note 2, at 1.
---------------------------------------------------------------------------
    The stated purpose of CPP infusions is to build up the 
capital bases of BHCs so they can continue lending.\29\ CAP 
infusions are specifically aimed at increasing capital 
buffers--in some cases beyond existing regulatory 
requirements--to safeguard against worse-than-expected economic 
conditions.\30\ It is not yet clear, however, exactly how that 
more focused objective will affect Treasury's criteria for 
selecting recipients of infusions under the CAP.\31\ 
Nonetheless, what is clear is that Treasury is no longer 
applying the same approach toward all BHCs (or at least those 
not in danger of imminent collapse), as it did in its initial 
rounds of CPP infusions. Instead, Treasury is seeking to 
distinguish BHCs with weak capital positions from BHCs with 
strong capital positions so that it can tailor its actions 
accordingly.
---------------------------------------------------------------------------
    \29\ U.S. Department of the Treasury, Treasury Releases March 
Monthly Bank Lending Survey (May 15, 2009) (online at www.treas.gov/
press/releases/tg135.htm).
    \30\ The bank supervisors will also require CAP applicants to 
submit a plan for how they intend to use taxpayer funds. This 
requirement did not exist for CPP infusions.
    \31\ The Panel has called on Treasury to be clearer about its 
criteria for selecting TARP recipients since its first report in 
December 2008. See Congressional Oversight Panel, Questions About the 
$700 Billion Emergency Economic Stabilization Funds, at 4-8 (Dec. 10, 
2008) (online at cop.senate.gov/reports/library/report-121008-cop.cfm).
---------------------------------------------------------------------------
    The key to the CAP is the effort to measure bank capital, 
through the stress tests, and then to shore up that capital 
before more is needed. It is to the stress tests themselves 
that the report now turns.

                          B. The Stress Tests


                               1. PURPOSE

    According to the bank supervisors, and in some cases only 
after very large infusions of capital by the U.S. taxpayer, 
most U.S. banks now have capital levels in excess of the 
amounts required under banking rules, though in the case of 
Citigroup and Bank of America among others, only after large 
infusions of capital and even larger asset guarantees from the 
federal government through the TARP.\32\ Nonetheless, the 
realized and prospective losses created by the financial crisis 
and the impact of the country's economic condition on banks' 
revenues have substantially reduced, and are expected to 
further reduce, the capital of some major banks. Falling 
capital levels at major banks can lead to a broad loss of 
confidence in bank solvency, particularly if there is a lack of 
clear information as to the financial condition of the major 
banks. Loss of confidence can become a self-fulfilling 
prophecy, leading to the reluctance of banks to lend to one 
another (a key component of the banking system's operation), 
causing individual banks to tighten credit by cutting back on 
lending in general, and forcing regulators to pump funds into 
one bank or BHC after another on an ad hoc basis.
---------------------------------------------------------------------------
    \32\ Board of Governors of the Federal Reserve System, The 
Supervisory Capital Assessment: Design and Implementation, at 3 (Apr. 
24, 2009) (online at www.federalreserve.gov/newsevents/speech/
bcreg20090424a1.pdf) (hereinafter ``SCAP Design Report''). Views that 
major U.S. banks are not in fact well capitalized lie at the heart of 
disputes about the health of the nation's financial system. These 
disputes are discussed further in Part H of Section One of this report.
---------------------------------------------------------------------------
    Treasury has described the stress testing program as a 
response to these threats. First, it looks ahead, to build up 
bank capital in advance to provide additional levels of 
protection against future potential losses. Second, by 
providing clear statements of the prospective condition of the 
BHCs tested--a departure from the past practice of keeping 
supervisory examination results strictly confidential--Treasury 
sought to restore confidence in the nation's largest banking 
organizations. Ultimately, stress testing has the potential to: 
(1) establish confidence that BHCs with weaker capital 
positions will be better equipped to weather future turbulence; 
and (2) signal to the capital markets that some BHCs have 
strong capital positions.

                         2. THE ENTITIES TESTED

    The SCAP applied exclusively to the 19 largest BHCs.\33\ 
Treasury and the Federal Reserve Board state that they believe 
that those institutions, which the agencies estimate hold 
approximately two-thirds of domestic BHC assets and over one-
half of the loans in the U.S. banking system, must be strong if 
the ``banking system [is] to play its role in supporting a 
stronger, faster, and more sustainable economic recovery.'' 
\34\ (The regulators have announced that they do not intend to 
conduct stress tests for smaller BHCs, stating in joint 
comments on the results of the stress tests that ``smaller 
financial institutions generally maintain capital levels, 
especially common equity, well above regulatory capital 
standards.'' Regulators should nevertheless continue to closely 
monitor capital levels at the smaller institutions as part of 
the supervisory process, especially in light of the failures of 
small banks that have already occurred.\35\)
---------------------------------------------------------------------------
    \33\ Id. at 1.
    \34\ SCAP Results, supra note 24, at 5; SCAP Design Report, supra 
note 32, at 4 (``This capital buffer should position the largest BHCs 
to continue to play their critical role as intermediaries, even in a 
more challenging economic environment.''). Among the BHCs subject to 
the stress tests were several companies that had recently concluded 
significant mergers or acquisitions, including acquisitions of troubled 
institutions with the potential to impact the capital reserves of the 
BHCs participating in the stress tests. This group included: (1) Bank 
of America, which acquired Merrill Lynch in September 2008 and had 
purchased Countrywide Financial earlier last year; (2) JPMorgan Chase, 
which bought Bear Stearns and Washington Mutual; (3) Wells Fargo, which 
currently holds Wachovia; and (4) PNC, which acquired National City 
Bank.
    \35\ See Parts C and H of Section One of this report; Robert B. 
Albertson, Stress Test Consequences, Sandler O'Neill Partners (May 11, 
2009) (online at www.sandleroneill.com/pdf/financials_051109.pdf) 
(hereinafter ``Stress Test Consequences''). Fifty-one banks have failed 
since September 2008. Federal Deposit Insurance Corporation, Failed 
Bank List (June 4, 2009) (online at www.fdic.gov/bank/individual/
failed/banklist.html).
---------------------------------------------------------------------------
    While the majority of institutions to whom stress tests 
were applied are traditional BHCs, several others are not. Two 
of the largest ones, Goldman Sachs and Morgan Stanley, are 
investment banking organizations that became BHCs in September 
2008, at the height of the financial crisis, in order to access 
the increased capital that BHCs can obtain from the Federal 
Reserve Banks. However, the primary activity of these companies 
remains investment rather than commercial banking.\36\ The 
credit card company American Express and the former financial 
services arm of General Motors, GMAC, also converted to BHCs 
for similar reasons in November and December of 2008, 
respectively, and qualified for the stress tests based on their 
total assets at the end of 2008.\37\ In addition, the insurance 
company MetLife qualified as one of the largest BHCs, having 
become a BHC in 2001.\38\ Of course, by becoming BHCs, these 
institutions subjected themselves to the more stringent capital 
requirements that apply to banks and to which they were not 
previously subject.
---------------------------------------------------------------------------
    \36\ Board of Governors of the Federal Reserve System, Press 
Release (Sept. 21, 2008) (online at www.federalreserve.gov/newsevents/
press/bcreg/20080921a.htm) (approving the applications of Goldman Sachs 
and Morgan Stanley to become BHCs).
    \37\ Board of Governors of the Federal Reserve System, Press 
Release (Nov. 10, 2008) (online at www.federalreserve.gov/newsevents/
press/orders/20081110a.htm) (approving the application of American 
Express to become a BHC); Board of Governors of the Federal Reserve 
System, Press Release (Dec. 24, 2008) (online at 
www.federalreserve.gov/newsevents/press/orders/20081224a.htm) 
(approving the application of GMAC to become a BHC).
    \38\ Board of Governors of the Federal Reserve System, Order 
Approving Formation of a Bank Holding Company and Determination on a 
Financial Holding Company Election, at 7 (Feb. 12, 2001) (online at 
www.federalreserve.gov/boarddocs/press/BHC/2001/20010212/
attachment.pdf).
---------------------------------------------------------------------------
    The 19 BHCs taking part in the stress tests as part of the 
CAP have already been the recipients of $217 billion in 
assistance through various TARP programs. These include the 
CPP, and, in the case of Citigroup and Bank of America, the 
TIP, and, in the case of GMAC, the Automotive Industry 
Financing Program,\39\ although it should be noted that there 
are reports indicating that not all of them actively sought 
such funds.\40\ (MetLife was the only BHC that participated in 
the stress test that has not received TARP aid.) In addition, 
Bank of America and Citigroup have received government 
guarantees on pools of their assets--totaling up to $97.2 
billion in the case of Bank of America and up to $244.8 billion 
for Citigroup.\41\ A significant share of the preferred stock 
that Treasury purchased in Citigroup is expected to be 
converted to common equity in order to strengthen that 
company's capital structure.\42\
---------------------------------------------------------------------------
    \39\ See June 5 TARP Transactions Report, supra note 13. See also 
Part J of Section Two of this report.
    \40\ See, e.g., Damian Paletta, et al., At Moment of Truth, U.S. 
Forced Big Bankers to Blink, Wall Street Journal (Oct. 15, 2008) 
(online at online.wsj.com/article/SB122402486344034247.html).
    \41\ U.S. Department of the Treasury, Summary of Terms: Eligible 
Asset Guarantee (Jan. 15, 2009) (online at www.treas.gov/press/
releases/reports/011508bofatermsheet.pdf) (hereinafter ``Bank of 
America Asset Guarantee'') (granting a $118 billion pool of Bank of 
America assets a 90 percent federal guarantee of all losses over $10 
billion, the first $10 billion in federal liability to be split 75/25 
between Treasury and the FDIC and the remaining federal liability to be 
borne by the Federal Reserve Board); U.S. Department of the Treasury, 
Summary of Terms: Eligible Asset Guarantee (Nov. 23, 2008) (online at 
www.treasury.gov/press/releases/reports/cititermsheet_112308.pdf) 
(hereinafter ``Citigroup Asset Guarantee'') (granting a 90 percent 
federal guarantee on all losses over $29 billion of a $306 billion pool 
of Citigroup assets, with the first $5 billion of the cost of the 
guarantee borne by Treasury, the next $10 billion by FDIC, and the 
remainder by the Federal Reserve Board). See also U.S. Department of 
the Treasury, U.S. Government Finalizes Terms of Citi Guarantee 
Announced in November (Jan. 16, 2009) (online at www.treas.gov/press/
releases/hp1358.htm) (hereinafter ``Final Citi Guarantee Terms'') 
(reducing the size of the asset pool from $306 billion to $301 
billion).
    \42\ U.S. Department of the Treasury, Treasury Announces 
Participation in Citigroup's Exchange Offering (Feb. 27, 2009) (online 
at www.financialstability.gov/latest/tg41.html).
---------------------------------------------------------------------------

                     3. HOW THE STRESS TESTS WORKED

a. Overview

    The stress tests first estimated the losses that the 19 
BHCs would likely suffer between now and the end of 2010 based 
on specified economic assumptions, resulting from:
           debtors defaulting on loans the BHCs had 
        made to them;
           decreases in value in the securities the 
        BHCs held as investments;
           (for the BHCs with large securities trading 
        businesses) losses on the trading of securities; \43\ 
        and
---------------------------------------------------------------------------
    \43\ These calculations included (under accepted accounting rules) 
the results of other entities and businesses that the BHCs had recently 
acquired.
---------------------------------------------------------------------------
           the impact of revenues of falling 
        transactional volume on a fixed cost base, such as in 
        the credit card market.
    The tests then projected how much capital each BHC would 
have after absorbing the estimated losses, at the end of 2010. 
It was at this point that the supervisors determined the need 
for a capital buffer. If the test resulted in tier 1 capital 
being less than six percent of risk-weighted assets, or tier 1 
common capital being less than four percent for a particular 
institution, that institution was required to obtain additional 
capital by November 2009.\44\
---------------------------------------------------------------------------
    \44\ U.S. Department of the Treasury, Joint Statement by Secretary 
of the Treasury Timothy F. Geithner, Chairman of the Board of Governors 
of the Federal Reserve System Ben S. Bernanke, Chairman of the Federal 
Deposit Insurance Corporation Sheila Bair, and Comptroller of the 
Currency John C. Dugan: The Treasury Capital Assistance Program and the 
Supervisory Capital Assessment Program (May 6, 2009) (online at 
www.ustreas.gov/press/releases/tg121.htm). The various general 
components of capital are described supra.
---------------------------------------------------------------------------
    The process builds on existing regulatory and accounting 
requirements \45\ and does not introduce new measures of risk 
or change the way banks' risk is measured. The tests were 
affected only to a limited extent by new accounting rules. 
Recent accounting guidance that allows more flexibility in 
calculating the value of securities portfolios \46\ was not 
taken into account in estimating losses. \47\ On the other 
hand, accounting rules not yet in effect that will require off-
balance sheet assets (such as special-purpose vehicles formed 
to securitize banks' assets) to be brought onto banks' balance 
sheets were treated as already in effect, resulting in a more 
conservative calculation.\48\
---------------------------------------------------------------------------
    \45\ This issue is discussed supra in Part A of Section One of this 
report. See also 12 CFR Part 225, at Appendix E Sec. 4(b)(3).
    \46\ Financial Accounting Standards Board, Determining Fair Value 
When the Volume and Level of Activity for the Assets or Liability Have 
Significantly Decreased and Identifying Transactions That Are Not 
Orderly (Apr. 9, 2009) (FSP FAS 157-4) (online at www.fasb.org/cs/
BlobServer ?blobcol=urldata &blobtable=MungoBlobs 
&blobkey=id&blobwhere= 1175818748755 &blobheader= application%2Fpdf) 
(hereinafter ``FASB Fair Value Staff Position''); Financial Accounting 
Standards Board, Recognition and Presentation of Other-Than-Temporary 
Impairments (Apr. 9, 2009) (FSP FAS 115-2 and FAS 124-2) (online at 
www.fasb.org /cs/BlobServer ?blobcol=urldata &blobtable= 
MungoBlobs&blobkey= id&blobwhere= 1175818748856 &blobheader= 
application%2Fpdf).
    \47\ The accounting guidance did affect the reduction in estimated 
capital required for those BHCs whose first quarter performance 
exceeded original estimates, but the aggregate impact of the accounting 
change appears to be limited. See further discussion later in this 
report, infra note 79.
    \48\ Financial Accounting Standards Board, Briefing Document: FASB 
Statement 140 and FIN 46 (May 18, 2009) (online at www.fasb.org/news/ 
051809_fas140_ and_ fin46r.shtml); SCAP Results, supra note 24, at 16.
---------------------------------------------------------------------------
    In estimating the losses, the banking supervisors took a 
``horizontal'' approach, with specialized teams of personnel 
assessing losses with respect to the same asset classes across 
all institutions, in order to ensure that comparable assets 
were valued the same way (or that differences were consistently 
and rationally applied) for each BHC.\49\
---------------------------------------------------------------------------
    \49\ Id. at 4.
---------------------------------------------------------------------------

b. Economic assumptions

    The process used two sets of economic assumptions to create 
the scenarios against which BHCs were ``stress tested.'' These 
were: a ``baseline'' scenario that assumed that economic 
conditions during 2009 and 2010 would follow the February 2009 
``consensus estimate'' of those conditions and a ``more 
adverse'' scenario that assumed that those conditions would be 
worse.
    The two scenarios used different assumptions for the 
following macroeconomic metrics: real Gross Domestic Product 
(GDP) growth, unemployment rate, and housing price changes.

  FIGURE 1: ECONOMIC SCENARIOS: BASELINE AND MORE ADVERSE ALTERNATIVES
                                  \50\
------------------------------------------------------------------------
                                                    2009         2010
------------------------------------------------------------------------
Real GDP Growth:
Average baseline \51\.........................         -2.0         -2.1
    Consensus Forecasts.......................         -2.1          2.0
    Blue Chip.................................         -1.9          2.1
    Survey of Professional Forecasters........         -2.0          2.2
Alternative more adverse......................         -3.3          0.5
Civilian unemployment rate: \52\
Average baseline..............................          8.4          8.8
    Consensus forecasts.......................          8.4          9.0
    Blue Chip.................................          8.3          8.7
    Survey of Professional Forecasters........          8.4          8.8
Alternative more adverse......................          8.9         10.3
House Prices: \53\
Baseline......................................          -14           -4
Alternative more adverse......................          -22          -7
------------------------------------------------------------------------
\50\ SCAP Design Report, supra note 32, at 6.
\51\ Baseline forecasts for real GDP growth and the unemployment rate
  equal the average of the projections released by Consensus Forecasts,
  Blue Chip, and Survey of Professional Forecasters in February.
\52\ Unemployment data is collected monthly; the rates used here are
  projected averages for the year.
\53\ Percent change in the Case-Shiller 10-City Composite index from the
  fourth quarter of the previous year to the fourth quarter of the year
  indicated.

    As noted above, the baseline scenario was based on 
consensus economic forecasts available in February 2009, and 
the adverse scenario was projected from that baseline. As 
further discussed below, there was some criticism that both 
sets of assumptions were too optimistic at the time, and there 
was additional criticism when the economy deteriorated further 
after the SCAP exercise began.\54\ The final SCAP results were 
primarily reported on the basis of the ``more adverse'' 
scenario. While the Federal Reserve Board's paper on the 
methodology of the SCAP states that ``[p]rojections under two 
alternative scenarios allow for analysis of the sensitivity of 
a firm's business to changes in economic conditions,'' \55\ it 
is not clear whether, with only one set of data, there is 
sufficient information for analysts to run their own models 
based on alternative macroeconomic assumptions.
---------------------------------------------------------------------------
    \54\ See, e.g., Ari Levy. `Stress Testing' for U.S. Banking 
Industry May Not Live Up to Name, Bloomberg (Feb. 26, 2009) (online at 
www.bloomberg. com/apps/news?pid=20601110&sid =a.DoUvyCa0cE); John W. 
Schoen, Bank `Stress Test' Draws Fire From Critics, MSNBC (Apr. 24, 
2009) (online at www.msnbc.msn.com/id/30368110); Nouriel Roubini, 
Stress Testing the Stress Test Scenarios: Actual Macro Data Are Already 
Worse than the More Adverse Scenario for 2009 in the Stress Tests. So 
the Stress Tests Fail the Basic Criterion of Reality Check Even Before 
They Are Concluded (Apr. 13, 2009) (online at www.rgemonitor.com/
roubini_ monitor/256382/stress_ testing_ the_ stress_ test_ scenarios_ 
actual_ macro_ data_ are_ already_ worse_ than_ the_ more_ adverse_ 
scenario_ for_ 2009_ in_ the_ stress_ tests_ so_ the_ stress_ tests_ 
fail_ the_ basic_ criterion_ of_ reality_ check_ even_ before_ they_ 
are_ concluded). See also Part H of Section One of this report.
    \55\ SCAP Design Report, supra note 32, at 5.
---------------------------------------------------------------------------
    While the stress tests assumed stronger BHC future earnings 
than the International Monetary Fund (IMF) has projected, the 
tests adopted loan loss assumptions that were more conservative 
than those used in the IMF model.\56\ The differences between 
various projections are summarized in Figure 2.
---------------------------------------------------------------------------
    \56\ See generally Douglas J. Elliot, Implications of the Bank 
Stress Tests, Brookings Institution, at 8-9 (May 11, 2009) (online at 
brookings.edu//media/Files/rc/papers/2009/0511_ bank_ stress_ tests_ 
elliott/0511_ bank_ stress_ tests_ elliott.pdf).

                                                        FIGURE 2: ALTERNATIVE ECONOMIC ASSUMPTIONS
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                          Baseline            More adverse      IMF projections \57\   Current data \58\
--------------------------------------------------------------------------------------------------------------------------------------------------------
                              Metric                                   2009       2010       2009       2010       2009       2010       (Most recent)
--------------------------------------------------------------------------------------------------------------------------------------------------------
GDP Growth........................................................       -2.0        2.1       -3.3        0.5       -2.8        0.0           -5.7 \59\
Unemployment......................................................        8.4        8.8        8.9       10.3        8.9       10.1           9.4 \60\
--------------------------------------------------------------------------------------------------------------------------------------------------------
\57\ International Monetary Fund, World Economic Outlook: Crisis and Recovery, at 65 (Apr. 2009) (online at www.imf.org/external/pubs/ft/weo/2009/01/pdf/
  text.pdf).
\58\ Because the baseline and adverse scenarios are projected as annual averages, they are not directly comparable to monthly or quarterly data.
\59\ First quarter 2009, percent change from preceding quarter in chained 2000 dollars (preliminary figure). U.S. Department of Commerce, Bureau of
  Economic Analysis, Gross Domestic Product, 1st quarter 2009 (preliminary) (May 29, 2009) (online at www.bea.gov/newsreleases/national/gdp/2009/
  gdp109p.htm) (hereinafter ``Gross Domestic Product''). This figure is up from the 6.3 percent decline in the fourth quarter of 2008. Id.
\60\ U.S. Department of Labor, Bureau of Labor Statistics, The Employment Situation: May 2009 (June 5, 2009) (USDL 09-0588) (online at www.bls.gov/
  news.release/pdf/empsit.pdf) (hereinafter ``Employment Situation''). This figure is the unemployment rate through April 2009, the last month for which
  data is available. The year-to-date average unemployment rate stands at 8.5 percent. See id. at 10.

    The stress-tested BHCs were told to adapt the scenarios' 
macroeconomic assumptions to their specific business activities 
when projecting their own losses and resources over 2009 and 
2010. This process included adapting assumptions for housing 
price changes to account for local conditions, and, where the 
BHCs had international operations, adjusting the assumption 
that international conditions would be as bad as those assumed 
for the United States. In making these adaptations, the 
institutions were encouraged to make additional appropriate 
assumptions of macroeconomic conditions based on the three 
governing metrics, and several BHCs developed their own 
assumptions as to interest rates, yield curves, etc.

c. Loan loss projections

    The BHCs were instructed by the supervisors to estimate 
losses from failure to pay obligations through the end of 2012 
for 12 separate loan categories,\61\ based on the value of the 
loans shown on the BHCs' books at the end of 2008. Accounting 
and banking rules require that banks carry loans on their books 
at their unpaid principal amount, reduced by a percentage 
reflecting the credit history of the borrower and the general 
risk of nonpayment for loans of the particular type. The 
remaining principal amount, less these provisions, is the 
amount that a BHC shows as assets on its balance sheet. Loans 
are not ``marked-to-market,'' that is, they are not revalued by 
estimating what a BHC could receive for those loans if it sold 
them. Thus, the losses the BHCs were required to estimate were 
losses arising from borrowers' failure to pay their 
obligations, not losses arising from a drop in market value of 
existing loans, and the use of a different valuation method for 
these loans might have resulted in a rather different estimate 
of the required capital buffer.\62\
---------------------------------------------------------------------------
    \61\ These categories were: first lien (1) prime, (2) Alt-A, and 
(3) subprime mortgages; (4) closed-end junior liens; (5) home equity 
lines of credit; (6) commercial & industrial loans; commercial real 
estate (7) construction, (8) multifamily, and (9) non-farm, non 
residential loans; (10) credit card loans; (11) other consumer loans; 
and (12) other loans. SCAP Design Report, supra note 32, at 18.
    \62\ See Part H of Section One of this report.
---------------------------------------------------------------------------
    With respect to this method of valuation of loans, see 
commentary in the Panel's April Oversight Report:

          Treasury has not explained its assumption that the 
        proper values for these assets are their book values--
        in the case, for example, of land or whole mortgages--
        and more than their ``mark-to-market'' value in the 
        case of ABSs, CDOs, and like securities; if values fall 
        below those floors, the banks involved may be insolvent 
        in any event.\63\
---------------------------------------------------------------------------
    \63\ Congressional Oversight Panel, April Oversight Report: 
Assessing Treasury's Strategy: Six Months of TARP, at 75 (Apr. 7, 2009) 
(online at cop.senate.gov/reports/library/report-040709-cop.cfm) 
(hereinafter ``Panel April Oversight Report'').

    In assessing their loan losses, the BHCs were told to add 
to their loan inventory potential additional loans that could 
result from the drawing down of existing credit lines by 
borrowers, and to add to their balance sheets liabilities held 
in ``special purpose vehicles'' (SPVs) that had previously been 
excluded from capital calculations and that might have to be 
taken back onto the balance sheets in a stressed economic 
environment or due to accounting changes.\64\ It should be 
noted that the unanticipated on-boarding of off-balance sheet 
assets played a significant role in the current financial 
crisis,\65\ and with consumer defaults rising, on-boarding SPVs 
might be expected to account for a large proportion of 
estimated losses. The proportion of estimated losses due to on-
boarding SPVs was not disclosed by the supervisors.
---------------------------------------------------------------------------
    \64\ SCAP Results, supra note 24.
    \65\ See, e.g. Citigroup Inc., Citigroup's 2008 Annual Report on 
Form 10-K, at 6-18 (online at www.citigroup.com/citi/fin/data/
k08c.pdf?ieNocache=677).
---------------------------------------------------------------------------
    Against this expanded loan inventory, BHCs were required to 
estimate their losses in each of the 12 loan categories under 
both scenarios. The banking supervisors provided the BHCs with 
a range of indicative two-year cumulative loss rates for each 
category and each scenario to guide their projections. For 
example, the supervisors provided an indicative loan loss rate 
of 7-8.5 percent for first lien mortgages in the more adverse 
scenario. The BHCs adapted this guidance to their particular 
situations to estimate the loan losses they would suffer in 
each category of loans under each scenario. These estimates 
were provided to supervisors. In addition, the BHCs were 
required to provide granular data about the particular 
characteristics of their portfolios (such as underwriting 
practices, FICO scores and refreshed LTV information) so that 
the supervisors could assess the reasonableness of the BHCs' 
loan loss estimates. BHCs were permitted to predict loss rates 
outside the indicative ranges if they could provide strong 
supporting evidence for the deviation, especially if their loan 
loss estimate fell below the range minimum. Therefore, in 
certain categories and scenarios some BHCs estimated that their 
loan loss rates would be above the indicative range, while 
others ended up making estimates that fell below the range.
    Using the data presented by the BHCs, the supervisors made 
their own estimates of loan losses on an asset-class-by-asset-
class basis, comparing loss projections for similar asset 
classes across institutions so that, for example, losses with 
respect to subprime loans in a particular area originated in a 
particular period would be estimated at the same rate for 
different BHCs, even if those BHCs' own estimates differed. 
Therefore, a divergence in loss rates between BHCs in a given 
category of loans should indicate differences in portfolios, 
not differences in the BHCs' own estimates. Each BHC's loss 
estimates ultimately relied on portfolio-specific data 
regarding past performance, origination year, borrower 
characteristics and geographic distribution. These differences 
led to significant variation between BHCs in the ultimate loan 
loss estimates used by supervisors. For example, Capital One's 
estimated loss rate for first lien mortgages was 10.7 percent 
and BB&T Corporation's rate was 4.5 percent.\66\
---------------------------------------------------------------------------
    \66\ SCAP Results, supra note 24, at 21, 23.
---------------------------------------------------------------------------

d. Projections of losses on securities

    The BHCs were also required to estimate the losses that 
their securities portfolios would suffer through 2010 under 
both economic scenarios.
    The way securities are valued on a BHC's balance sheet 
differs from the way loans are treated and depends on what the 
BHC intends to do with those securities. Securities may be 
categorized as: (1) ``held to maturity'' (HTM); (2) trading, 
that is, held for sale in the near future; or (3) ``available 
for sale'' (AFS). Securities held to maturity are carried on 
the BHC's balance sheet at ``amortized'' cost (roughly, 
principal minus repayments), with that value further reduced if 
the value of the security is considered subject to ``other than 
temporary impairment'' (OTTI). Securities available for sale or 
in the trading portfolio are carried at ``fair value,'' which 
means market value if there is a trading market for them, or at 
a value estimated by the BHC if there is not.\67\
---------------------------------------------------------------------------
    \67\ ``Fair value'' is established in accordance with accounting 
rules. Where there is a market for the securities, that market value is 
used. Where the market is illiquid, the rules permit the owner to use 
other inputs to establish a price for its securities, taking into 
account current market pricing and conditions. In the recent market 
turmoil, the need to take market conditions into account in creating 
valuation models for their securities meant that some institutions had 
to realize significant losses on their portfolios of securities such as 
mortgage-backed ABSs, even though those securities were still 
continuing to generate cash flow. In response to this situation, the 
accounting authorities released guidance in April 2009, that permitted 
more flexibility in the valuation of securities for which there was no 
liquid market. FASB Fair Value Staff Position, supra note 46. This 
guidance applied to financial statements for periods after June 15, 
2009, with an early-adoption provision for periods ending no earlier 
than March 15, 2009. Thus, the BHCs' financial statements for the year 
ending December 31, 2008, were not affected by the April FASB guidance.
---------------------------------------------------------------------------
    All 19 BHCs were instructed to estimate possible impairment 
with respect to net unrealized losses on securities that they 
categorized as held to maturity and securities that they 
classified as available for sale under both scenarios. For this 
analysis, securities carried at fair value were marked to 
market as of December 31, 2008. Since a loss from impairment 
when a security is marked down is recorded on the BHC's income 
statement as a charge to income, the BHCs were also told to 
estimate the decrease in income that would result from these 
devaluations.\68\
---------------------------------------------------------------------------
    \68\ SCAP Design Report, supra note 32, at 8. In deciding which 
securities should be treated as having suffered an OTTI and thus need 
to be revalued at fair value as of December 31, 2008, the supervisors 
took a conservative approach in the more adverse scenario, in that BHCs 
were required to take into account the possibility that in adverse 
economic conditions they might not be able to hold all their HTM 
securities until they matured, and may need to sell them before 
recovery of their cost basis. The total impact of this requirement was 
small, as most HTM securities in the BHCs' portfolios were low-risk 
Treasury securities and the like, but this approach illustrates the 
conservative approach taken by the supervisors.
---------------------------------------------------------------------------
    The recent FASB guidance on establishing ``fair value'' in 
illiquid markets, which gave BHCs greater flexibility in 
valuing securities, was not taken into account in estimating 
losses under the more adverse scenario in order to reflect 
greater uncertainty about realizable losses in stressful 
conditions.\69\ (The FASB guidance was taken into account in 
estimating losses in the baseline scenario, but the baseline 
scenario results were not published.) \70\
---------------------------------------------------------------------------
    \69\ Critics have argued that the principal effect of the FASB rule 
change would be to allow BHCs to simply avoid recording decreases in 
the value of their assets, undermining investor confidence and perhaps 
prolonging the crisis. See, e.g., House Committee on Financial 
Services, Subcommittee on Capital Markets, Insurance and Government 
Sponsored Enterprises, Testimony of Executive Director of the Center 
for Audit Quality Cynthia Fornelli, Mark-to-Market Accounting: Problems 
and Implications, 111th Cong. (Mar. 12, 2009) (online at www.house.gov/
apps/list/hearing/financialsvcs_dem/fornelli031209.pdf). In other 
words, the rule change may allow BHCs that are actually insolvent to 
continue operating, a situation analogous to Japan's elimination of 
mark-to-market accounting early in its so-called ``Lost Decade.'' Id. 
However, this debate largely turns on the question of whether the 
fundamental problem facing the financial system is one of liquidity or 
valuation.
    \70\ SCAP Design Report, supra note 32, at 14.
---------------------------------------------------------------------------
    BHCs with trading securities of $100 billion or more--Bank 
of America, Citigroup, Goldman Sachs, JP Morgan Chase, and 
Morgan Stanley--were asked to provide projections of trading-
related losses for the more adverse scenario, including losses 
from their ``counterparty'' exposure risk with regard to credit 
default swap and similar transactions. To calculate these 
losses, the BHCs conducted a stress test of their trading book 
positions and counterparty exposures as of market close on 
February 20, 2009. BHCs were told to disclose the positions 
that they included in this analysis, the risk factors that were 
stressed, and the changes in variables that they used (such as 
changes in interest rates, spreads, exchange rates, etc.).\71\
---------------------------------------------------------------------------
    \71\ The estimates of losses took into account the severe market 
stresses that occurred between June 30, 2008 and December 31, 2008. 
This process goes beyond usual mark-to-market rules and, in requiring 
the use of data from the most stressed markets in recent decades, might 
be termed ``mark to mayhem.''
---------------------------------------------------------------------------
    As with estimates of loan losses, the supervisors made 
their ultimate estimates of losses from securities portfolios 
using the estimates provided by the BHCs and applying 
``horizontal testing'' across asset classes to ensure 
consistency.

e. Resources available to absorb losses

    In addition to drawing on their capital, banks can absorb 
losses with offsetting income and loss reserves set up 
precisely for that purpose. The tests ``stressed'' both items.
    The BHCs were instructed to project the main components of 
their ``pre-provision net revenue'' (PPNR), which is net 
interest income plus non-interest income minus non-interest 
expense, under both economic scenarios. The stress test review 
required BHCs to explain in detail the assumptions they made in 
computing PPNR, especially if those assumptions included an 
increase in business, and any projections in excess of 2008 
levels required strong supporting evidence.
    A bank sets aside reserves in a current period to absorb 
anticipated future loan losses so that those losses do not 
affect overall capital in the future period. The BHCs were 
instructed to estimate the resources they would have available 
to absorb projected losses. This would include the revenue that 
they earned in 2009 and 2010, the reserves that they had set 
aside for losses at the end of 2008, and any additions to those 
reserves projected to be made during 2009 and 2010. They were 
then asked to estimate the portion of the year-end 2008 
reserves that they would need to absorb credit losses on their 
loan portfolio under each scenario while still ending up on 
December 31, 2010, with sufficient reserves in light of their 
loan portfolio on that date to absorb future losses at an 
elevated (that is, stressed) rate. To the extent additional 
reserves would likely be needed, income available to absorb 
losses (i.e., PPNR) was reduced accordingly.

f. Adjustments

    At the end of the first stage of the stress testing, the 
supervisors translated the gains and losses they projected for 
each BHC into changes in that BHC's projected capital levels.
    These amounts were first calculated on the basis of the 
BHCs' results to December 31, 2008. As discussed in more detail 
below, the initial results suggested that the aggregate capital 
needed for the 19 BHCs to reach capital buffer targets in the 
more adverse scenario would be $185 billion, ``much of which'' 
would have to be in the form of tier 1 common capital.\72\
---------------------------------------------------------------------------
    \72\ The summary of SCAP results does not specify the amounts of 
tier 1 common and other tier 1 capital that comprise each holding 
company's required buffer. The release says simply that:

    [c]apital needs are mainly in the form of tier 1 common capital, 
which reflects the fact that while many institutions have a sufficient 
amount of capital, they need to take steps to improve the quality of 
that capital .  .  . For ten of the participating BHCs, supervisors 
expect these firms to raise additional capital or change the 
composition of their capital. As noted above, much of this need is for 
additional tier 1 common. For all of these firms, a raise of new common 
equity of the amount indicated would be sufficient to ensure they will 
also have at least a six percent tier 1 ratio at the end of 2010.

    SCAP Results, supra note 24, at 16, 17.
---------------------------------------------------------------------------
    The final calculation of the capital buffers reflected the 
effects of acquisitions, new capital raised, and operating 
performance in the first three months of 2009. These 
adjustments were substantial, and reflected actions taken by 
some BHCs prior to the conclusion of the stress tests to raise 
capital by selling subsidiaries or businesses, converting 
preferred stock into common stock or issuing common shares, 
and, to a lesser extent, strong operating results generated by 
some BHCs during the first quarter.\73\ Where a BHC's first 
quarter performance exceeded the supervisors' estimate of PPNR 
for that period, the amount by which it exceeded estimates was 
added to the estimate of resources available to absorb losses, 
thus decreasing the required capital buffer.\74\ The impact of 
``Capital Actions and Effects of Q1 Results'' is presented on a 
net basis for each BHC, so it is not possible to see the 
specific effect of each of these actions or results on a BHC's 
capital or even whether a particular BHC experienced an 
adjustment because of its operating results.\75\ For the 19 
BHCs, the total impact of Q1 2009 adjustments was to reduce the 
capital buffer needed by $110 billion, $87.1 billion of which 
was attributable to Citigroup, Inc.\76\
---------------------------------------------------------------------------
    \73\ Federal Reserve Board officials have informed Panel staff that 
the aggregate impact of all first quarter 2009 PPNR on the required 
capital buffer was only $20 billion.
    \74\ Id.
    \75\ See Part H of Section One of this report.
    \76\ This issue is discussed infra in Part B of Section One of this 
report.
---------------------------------------------------------------------------
    The adjustments for the additional three months reflects 
certain accounting changes adopted in April 2009, to provide 
flexibility as to the ``fair value'' that must be assigned to 
securities for which no liquid market exists (for example, 
asset-backed securities for which there is no market, or over-
the-counter credit default swaps). Seven BHCs adopted these 
accounting changes for their first quarter financial 
statements.\77\ Some securities that those BHCs had been 
carrying on their books at ``fair value'' were revalued at a 
higher price in light of the accounting changes, and the 
increase in these values was recognized as income. On the other 
hand, some liabilities of those BHCs were also revalued as a 
result of the accounting change, and the increase in these 
liabilities decreased the BHCs' income. Where a BHC's income 
for the first quarter of 2009 exceeded the supervisors' 
original estimates for its revenues, as discussed above,\78\ 
these revaluation-related increases (or decreases) would have 
decreased (or increased) the amount of the capital buffer 
required. It is not possible to quantify the impact of these 
changes on the basis of the information published, however. 
Because adjustments to the required capital buffer resulting 
from first quarter performance are presented on a net basis, 
reflecting both revenues and capital actions, it is not 
possible to identify which BHCs had their buffer requirement 
reduced due to first quarter performance, and thus whether any 
members of that group of BHCs adopted the accounting guidance. 
It appears that the maximum possible impact of the accounting 
changes on required capital buffers would have been 
approximately $5.6 billion.\79\
---------------------------------------------------------------------------
    \77\ These BHCs are: Bank of America, Bank of New York Mellon, 
Citigroup, JPMorgan Chase, PNC, U.S. Bancorp, and Wells Fargo. The 19 
BHCs tested report to the Securities and Exchange Commission (SEC) and 
thus their financial statements are publicly available.
    \78\ This issue is discussed infra in Part B of Section One of this 
report.
    \79\ Based on SEC filings by the BHCs, which do not present such 
data in a standardized form, the possible aggregate impact on required 
capital buffer ranges from an increase of approximately $240 million 
(if only the BHCs that recognized losses resulting from the accounting 
change were allowed adjustments due to first quarter performance) to a 
decrease of approximately $5.6 billion (if only the BHCs that 
recognized income from accounting changes were allowed such 
adjustments. Of the latter figure, approximately $5 billion relates to 
Wells Fargo alone. It should be noted that because the FASB guidance 
was not taken into account in estimating losses under the more adverse 
scenario (which was the only scenario for which results were reported), 
the impact of the FASB guidance is limited to this measure alone (the 
increased resources available to absorb losses) and only to the BHCs 
whose PPNR for the first quarter of 2009 exceeded the supervisors' 
estimates.
---------------------------------------------------------------------------
    While several BHCs published income statements for the 
first quarter of 2009 that included as revenue credit value 
adjustments (CVA) resulting from the revaluation of their own 
debt, this ephemeral ``revenue'' was not included in the 
calculation of the PPNR available to absorb losses.\80\
---------------------------------------------------------------------------
    \80\ Revenue from such CVAs is routinely excluded from the 
calculation of tier 1 capital. See generally 12 CFR part 225, at 
Appendix A Sec. II.
---------------------------------------------------------------------------

g. Calculation of the SCAP buffer

    After making the adjustments just described, the 
supervisors computed the additional amount, if any, required so 
that the BHCs would reach the capital buffer ratio of six 
percent tier 1 capital and four percent tier 1 common capital. 
The computation began with measures of these capital elements 
at December 31, 2008, calculated in accordance with Federal 
Reserve Board rules.\81\ Using the loss and revenue estimates 
discussed above, the supervisors calculated the necessary 
capital buffer. In doing so, they examined a range of capital 
metrics and factors, including tier 1 common and overall 
capital, and including the composition of capital. The initial 
assessment of capital need (relating to the BHCs' capital 
position as of December 31, 2008) was communicated to the BHCs 
in late April.
---------------------------------------------------------------------------
    \81\ This calculation starts with shareholders' capital adjusted to 
remove certain accounting adjustments that may obscure the true value 
of shareholder equity. See 12 CFR part 225, Appendix A Sec. II.
---------------------------------------------------------------------------
    As discussed below, Treasury released the results of the 
stress tests on May 7, 2009. The reason for the time lag 
between communication to the banks and release of the results 
publicly may have been due to the need to check for errors, 
omissions, and double counting, but the Panel has not had 
access to documents that would establish this fact. Nor is it 
possible to tell whether, or to what extent, the numbers 
communicated to the banks in late April differed from those 
released publicly.

                     4. RESULTS OF THE STRESS TESTS

    On May 7, 2009, Treasury released the results of the stress 
tests.\82\ (The results released dealt only with the impact of 
the ``more adverse'' economic scenario, not the baseline 
scenario.) Those results showed that ten of the 19 BHCs 
required additional capital to weather a ``more adverse'' 
economic scenario and that nine of the 19 BHCs already held a 
sufficient capital buffer and would not be required to raise 
additional capital as a result of the stress test.\83\
---------------------------------------------------------------------------
    \82\ SCAP Results, supra note 24.
    \83\ These nine banks are American Express, BB&T, Bank of New York 
Mellon, Capital One, Goldman Sachs, J.P. Morgan Chase, MetLife, State 
Street, and USB.
---------------------------------------------------------------------------
    The results estimated that in aggregate the 19 BHCs 
included in the SCAP would incur approximately $600 billion of 
additional losses by the end of 2010.\84\ Residential mortgage 
and consumer loans accounted for $322 billion, or 53.7 percent, 
of this $600 billion.\85\
---------------------------------------------------------------------------
    \84\ SCAP Results, supra note 24, at 3. This $600 billion is in 
addition to losses recorded on the banks' balance sheets in the six 
quarters ending December 31, 2008.
    \85\ SCAP Results, supra note 24, at 6.
---------------------------------------------------------------------------
    The ten BHCs requiring capital are: Bank of America ($33.9 
billion), Citigroup ($5.5 billion), Fifth Third Bancorp ($1.1 
billion), GMAC ($11.5 billion), KeyCorp ($1.8 billion), Morgan 
Stanley ($1.8 billion), PNC ($600 million), Regions Financial 
Corporation ($2.5 billion), SunTrust ($2.2 billion), and Wells 
Fargo & Company ($13.7 billion).\86\ These BHCs must raise the 
capital by November 9, 2009, six months after the announcement 
of the test results, and they must submit a capital plan to 
their supervisors in early June outlining how they will do so.
---------------------------------------------------------------------------
    \86\ SCAP Results, supra note 24, at 9.
---------------------------------------------------------------------------
    The supervisors broke BHCs' assets into categories, or 
``buckets,'' and disclosed the BHCs' estimated losses for each 
bucket. Besides first lien mortgages, the other buckets were 
second/junior lien mortgages, commercial and industrial loans, 
commercial real estate loans, credit card loans, securities 
(AFS and HTM), trading and counterparty, and other, which 
included ``other consumer and non-consumer loans and 
miscellaneous commitments and obligations.'' \87\
---------------------------------------------------------------------------
    \87\ SCAP Results, supra note 24, at 10. The BHCs expected losses 
were actually calculated more granularly. The supervisors estimated BHC 
loan losses for 12 categories of loans and multiple categories of 
securities. The eight buckets that were disclosed were netted figures 
for some of these smaller categories.
---------------------------------------------------------------------------
    Loss estimates within each bucket varied significantly 
between the BHCs. For example, as noted above, BB&T's estimated 
loss rate on first lien mortgages through the end of 2010 was 
4.5 percent, while Capital One was estimated to have a 10.7 
percent loss rate. This translated into an estimated loss for 
BB&T on first lien mortgages of $1.1 billion, while Capital One 
was estimated to have a $1.8 billion loss on its first lien 
book.\88\ The median loss rate on first lien mortgages for all 
19 participants was eight percent.\89\ The Federal Reserve 
Board explained that such variations reflected ``substantial 
differences in the portfolios across the BHCs, by borrower 
characteristics such as FICO scores, and loan characteristics 
such as loan-to-value ratio, year of origination, and 
geography.'' \90\ An element of judgment was necessary in 
determining these loss rates. It allowed the testing, for 
example, to reflect local conditions with greater accuracy. 
However, because of the judgment involved, the calculations 
cannot be reviewed or replicated. This diminishes the 
reliability of the tests and the confidence that the public is 
able to place in them.
---------------------------------------------------------------------------
    \88\ SCAP Results, supra note 24, at 9.
    \89\ SCAP Results, supra note 24, at 10.
    \90\ SCAP Results, supra note 24, at 10.
---------------------------------------------------------------------------
    The original testing measured capital levels as of the end 
of 2008. Since that time, a number of BHCs have taken steps 
that have increased their capital, and thus, as discussed 
above, decreased the amount of capital buffer that they must 
raise. As of the end of 2008, the 19 BHCs would have had to 
have raised a total of $185 billion in capital. As a result of 
capital actions and the results of Q1 2009 results, this figure 
decreased by $110.4 billion, to a total of $74.6 billion.\91\ 
By far the largest portion of this decrease is attributable to 
Citigroup, whose required capital buffer was reduced from $92.6 
billion to $5.5 billion.\92\ The most important factor in the 
abrupt change in Citigroup's adjustment was a $58.1 billion 
preferred stock exchange offer announced on February 27, 2009. 
This exchange offer involves conversion of up to $27.5 billion 
in Citigroup preferred stock held by Treasury into Citigroup 
common stock \93\ (increasing Treasury's ownership in Citigroup 
to 36 percent).\94\ It also includes two pending sales of 
operating subsidiaries of Citigroup. In addition, Citigroup has 
sold a Japanese subsidiary \95\ and announced a brokerage 
venture for Salomon Smith Barney, for which Citigroup will book 
a gain.\96\
---------------------------------------------------------------------------
    \91\ SCAP Results, supra note 24, at 9.
    \92\ SCAP Results, supra note 24, at 9.
    \93\ SCAP Results, supra note 24, at 9; Citigroup Inc., Form 8-K 
(Feb. 27, 2009) (online at www.sec.gov/Archives/edgar/data/831001/
000095010309000421/dp12698_8k.htm).
    \94\ Citigroup Inc., Citi To Exchange Preferred Securities for 
Common, Increasing Tangible Common Equity to as Much as $81 Billion 
(Feb. 27, 2009) (online at www.sec.gov/Archives/edgar/data/831001/
000095010309000421/dp12698_ex9901.htm). Citigroup did not receive any 
additional government funds as the result of the conversion.
    \95\1A Citigroup Inc., Form 8-K (May 1, 2009) (online at 
www.sec.gov/Archives/edgar/data/831001/000095014209000583/
form8k_050109.htm).
    \96\ Citigroup Inc., Morgan Stanley and Citi To Form Industry-
Leading Wealth Management Business Through Joint Venture (Jan. 13, 
2009) (online at www.sec.gov/Archives/edgar/data/831001/
000095010309000089/dp12289_ex9901.htm).
---------------------------------------------------------------------------
    This unprecedented exercise reported that nine of the top 
19 BHCs were adequately capitalized to withstand a serious 
downturn in the economy over the next two years. It further 
reported to the remaining banks a quantifiable amount of 
capital that they needed to raise to remain well capitalized 
during this potential downturn.

                C. Immediate Impact of the Stress Tests

    The stress tests appeared to have an immediate impact on 
financial markets and public confidence.\97\
---------------------------------------------------------------------------
    \97\ Various measures show the impact of the tests on the markets. 
CDS prices show that the price of protecting against default in the 
large banks fell after the results of the tests were released. Alistair 
Barr and Ronald D. Orol, B. of A., Citi are Stress-Test Winners, CDS 
Prices Suggest, MarketWatch (May 8, 2009) (online at 
www.marketwatch.com/story/b-of-a-citi-are-stress-test-winners-group-
says?dist=TQP_Mod_mktwN) (``The cost of protecting against a default by 
Citigroup and Bank of America dropped by more than a third this week, 
as news of the stress-test results leaked out, according to Credit 
Derivatives Research. The cost of default protection on other banks and 
investment banks, including Morgan Stanley and Goldman Sachs has also 
fallen a lot this week, the research firm said.''). Short interest in 
the 19 banks fell by 20 percent from May 7, 2009 through May 29, 2009. 
DataExplorers, Update: Stress Test for US Financials (May 29, 2009) 
(online at dataexplorers.com/sites/default/files/
Sector%20Focus%20Bank%20Stress%20Test%20-
%20Update%20May%2029%202009.pdf).
    Media reports reflect that many felt a general sense of relief on 
seeing the results. See e.g., After the Financial Stress Tests: Relief 
But Still Some Uncertainty, CNBC (May 8, 2009) (online at www.cnbc.com/
id/30640189); Jim Puzzanghera and E. Scott Reckard, Bank `Stress Test' 
Results Hint at Economic Recovery, Los Angeles Times (May 8, 2009) 
(online at www.latimes.com/business/la-fi-stress-tests8-
2009may08,0,6880257.story).
---------------------------------------------------------------------------
    As soon as the results of the stress tests were announced, 
the BHCs began raising capital to meet shortfalls. The 19 BHCs 
have raised or publicly announced plans for raising $48.2 
billion in new debt and equity. Treasury has claimed that, in 
total, $56 billion in capital-raising was planned as of May 
20.\98\ Debt and equity issuances reported for each BHC so far 
are set out in part K of Section One of this report.
---------------------------------------------------------------------------
    \98\ Senate Committee on Banking, Housing, and Urban Affairs, 
Testimony of Secretary Geithner, Oversight of the Troubled Asset Relief 
Program, 111th Cong. (May 20, 2009) (online at banking.senate.gov/
public/index.cfm?FuseAction=Hearings.Testimony&Hearing_ID =64feeb1d-
f2c3-4f11-a298-800be9bd360d&Witness_ID=ae7c9f56-f16f-4b3c-b4e7-
b5919e3ccd7c) (hereinafter ``Geithner Testimony''). The $8 billion 
difference is the result of Treasury using a more lenient standard to 
decide whether a fund has been ``planned'' yet.
---------------------------------------------------------------------------
    Though the official results were released on Thursday, May 
7, 2009, the results for many of the BHCs were reported in the 
press prior to that date. By early that week, the public knew 
that ten of the 19 BHCs would be required to raise additional 
capital.\99\ It also knew the amount of capital required to be 
raised for some of the BHCs. However, there appears to have 
been some confusion surrounding the reported numbers. Federal 
Reserve Board officials have told the Panel that some of the 
reports revealed only the preliminary required capital, before 
it was adjusted for the effect of capital actions and 2009 
first quarter results. The officials further suggested that, as 
a result of changes in the figures when the official results 
were released, many commentators mistakenly believed that the 
delay in the release was the result of negotiations with the 
BHCs.\100\ To gain a better understanding of the stress tests, 
on March 30, the Panel requested that Treasury provide the 
Panel with documents related to Treasury's work on the stress 
tests. On May 11, the Panel made a similar request of the 
Federal Reserve Board. The Panel followed up with Treasury to 
reiterate its need for access to the documents on May 26. On 
June 5, Treasury made available to Panel staff a number of 
documents related to the stress tests. On June 8, the Federal 
Reserve made additional documents available. Panel staff is 
reviewing the documents and expects to see more documents; the 
meaning of the documents reviewed to date remains unclear. The 
Panel expects to include information resulting from that review 
in a future report or update where appropriate.
---------------------------------------------------------------------------
    \99\ Damian Paletta and Deborah Solomon, More Banks Will Need 
Capital, Wall Street Journal (May 5, 2009) (online at online.wsj.com/
article/SB124148189109785317.html).
    \100\ Arianna Huffington, The Stress Tests Fail the Smell Test, 
Huffington Post (May 5, 2009) (online at www.huffingtonpost.com/
arianna-huffington/the-stress-tests-fail-the_b_196350.html).
---------------------------------------------------------------------------
    Although the SCAP involved only the nation's 19 largest 
BHCs, it spurred the private evaluation of smaller 
institutions. An analysis performed for the Financial Times 
showed that 7,900 U.S. small and medium sized banks would need 
to raise $24 billion in capital to achieve the capital buffer 
levels required of large BHCs in the SCAP.\101\ The firm that 
conducted this analysis stated that it expects that the stress 
test's methodology and capital adequacy focus will migrate to 
the broader U.S. banking system.\102\
---------------------------------------------------------------------------
    \101\ Saskia Scholtes, et al., Smaller US Banks Need Additional 
$24bn, Financial Times (May 17, 2009) (online at www.ft.com/cms/s/0/
79c47ffa-4306-11de-b793-0014feabdc0,dwp_uuid=ffa475a0-f3ff-11dc-aaad-
0000779fd2ac.html) (hereinafter ``Financial Times Study'') (The 
Financial Times-commissioned study used metrics that differed from the 
SCAP in two ways: (1) it did not adjust for first quarter performance; 
and (2) it was not able to estimate loss rates with the same degree of 
individualized precision as the regulators).
    \102\ Stress Test Consequences, supra note 35.
---------------------------------------------------------------------------

                D. A Comment on the Supervisory Process

    The stress tests involved the submission of material by the 
19 BHCs estimating their loss, income, and resource figures for 
the test period. The banking supervisors evaluated the quality 
of the BHCs' submissions and made their own estimates of losses 
and resources to absorb those losses. As part of that process, 
supervisors used supporting information provided by the BHCs, 
as well as the supervisors' own knowledge and supervisory 
information. Supervisors also included their own independent 
benchmarks, such as the indicative loan loss rates discussed 
above.
    The supervisory teams performing the tests involved more 
than 150 examiners from the Federal Reserve Board, the Federal 
Reserve Banks, the Office of the Comptroller of the Currency 
(OCC), and the FDIC. Additionally, specialist teams were 
assigned to examine loss projections for specific asset classes 
across all the BHCs. This ensured that the same or similar 
assets would be valued the same way in the projections for each 
institution, and that counterparty risk, revenue projections, 
and loan loss would be treated consistently across 
institutions. The BHCs had several thousand people working to 
produce the raw data that informed the stress tests. Additional 
advisory groups provided assistance with accounting, regulatory 
capital, and financial and macroeconomic modeling.
    The supervisory process, by its nature, always involves 
constant interaction between the supervisor and the regulated 
entity, and the SCAP process was no exception. The supervisors 
presented the BHCs with indicative guidelines for loan loss 
rates, but the BHCs were able to use alternative measures if 
they could prove to the supervisors (with adequate 
documentation) that the alternative was more appropriate. The 
supervisors alone, however, decided whether the loan loss rates 
used were appropriate. (The supervisors found some BHCs' 
submissions to be of a higher quality than others, and, after 
the supervisors had presented the BHCs with their initial 
estimates, some BHCs presented the supervisors with more 
detailed information in order to correct errors and double-
counting that had been reflected in their results.)
    While SCAP in some ways represents a new and tougher 
approach by federal regulators, it does not constitute a 
genuine break from past supervision methods and tactics, and 
was not intended to be. The fact that regulators did not 
identify emerging systemic risks prior to the crisis 
underscores the importance of scrutiny toward the supervisory 
role generally and the recent round of stress testing.

              E. Specific Limitations of the Stress Tests

    Any evaluation of the stress tests must start with both 
what the tests are and what they are not. Supervisors have 
always regarded regulatory capital as a baseline measure and 
have required additional capital (or changes in capital 
composition) for particular institutions when the situation 
warranted. The stress tests operate under this premise but they 
are also a unique, cross-institution exercise. They are not a 
regulatory examination of the 19 BHCs, focused on capital 
adequacy, and do not test the BHCs' overall safety and 
soundness, as would a regular examination. In this and in more 
granular ways, the SCAP builds from a starting point of 
existing bank supervision and conclusions about the health of 
the institutions at issue.
    It is logical, in view of such a starting point, that the 
supervisors relied on raw data that were produced by the BHCs 
themselves. For example, the stress tests estimated the losses 
that might occur on first lien mortgages held by each BHC but 
did not test whether the BHC held the total amount of mortgages 
that it said it did, or whether it actually had enforceable 
liens on them.\103\ The tests were not re-audits or re-
examinations; they relied on BHC-generated figures whose 
assumptions were tests only. Thus, to a significant extent, the 
stress tests rely on the accuracy of the audit and examination 
process, and the integrity and soundness of the judgments and 
internal processes of the participating BHCs.\104\
---------------------------------------------------------------------------
    \103\ Such matters would be covered by the regular audit and 
examination processes.
    \104\ In its April report, the Panel noted that the success of the 
Reconstruction Finance Corporation in stabilizing the U.S. banking 
system during the Great Depression has since been attributed in large 
part to the forced write-downs of bank assets to realistic values as 
determined by the RFC. Panel April Oversight Report, supra note 63, at 
40. Similarly, the Panel noted that Japan did not emerge from its 
``Lost Decade'' until it began to rigorously examine the valuation of 
bank assets in 2002, as part of a broader plan of uncovering the true 
health of the financial system. Panel April Oversight Report, supra 
note 63, at 57-58.
---------------------------------------------------------------------------
    The stress test results are presented as the estimates of 
the supervisors, not those of the institutions tested. The 
Federal Reserve Board emphasizes that those institutions or 
other outside analysts might have produced very different 
estimates, even using a similar set of economic 
assumptions.\105\
---------------------------------------------------------------------------
    \105\ For example, Bank of America argues that its internal 
projections show that the supervisors underestimated its future income 
over the next two years while, in many cases, overestimating its loan 
losses. Bank of America Corp., Stress Test: Bank of America Would Need 
$33.9 Billion More in Tier 1 Common (May 7, 2009) (online at 
investor.bankofamerica.com/phoenix.zhtml?c=71595&p=irol-
newsArticle&ID=1286200&highlight=).
---------------------------------------------------------------------------

                F. Independent Analysis of Stress Tests

    The Panel asked Professors Eric Talley and Johan Walden to 
review the stress test methodology. Professor Talley is a 
Professor of Law and the U.C. Berkeley School of Law (Boalt 
Hall), and Co-Director, the Berkeley Center for Law, Business, 
and the Economy; he has been a Visiting Professor of Law at the 
Harvard Law School during the 2008-2009 academic year. 
Professor Walden is a Professor in the Haas Finance Group of 
the U.C. Berkeley Haas School of Business. Both are recognized 
experts in finance, asset pricing, economic analysis of risk, 
and economic analysis of law. Their report, ``The Supervisory 
Capital Assessment Program: An Appraisal'' (the Appraisal), 
dated June 2009, is attached as Annex to Section One.
    The Appraisal contains an overview of the dominant 
approaches in the finance literature for measuring risk using 
statistical models, attempting to understand and situate the 
approach used by the Federal Reserve Board. It examines the 
relative strengths and weaknesses of each model, as well as the 
systemic issue of model uncertainty, resulting from the fact 
that there is no single consensus approach to measuring 
financial risk from multiple sources. In this process, the 
Appraisal also highlights a number of statistical measures for 
quantifying risk from single sources, noting their usefulness 
in developing models.
    These models include: the Capital Adequacy Ratio (which 
measures the ratio of a bank's equity capital to the risk-
weighted value of its assets), Value at Risk (VaR) (which 
captures the probability of losses exceeding some specified 
threshold), and the Expected Shortfall (which measures the 
expected amount of losses in the event that losses exceed the 
VaR threshold).\106\ While acknowledging the merits of such 
summary statistical measures, the Appraisal points out that 
these measurements classify risk quite roughly and may neglect 
co-movement among assets, two factors that greatly reduce the 
amount of information contained in the final number.
---------------------------------------------------------------------------
    \106\ Also included are Standard Deviation and Mean Absolute 
Deviation (statistics commonly used to measure risk).
---------------------------------------------------------------------------
    After discussing the methods of evaluating single-source 
risk, the Appraisal treats the problem of calculating a 
portfolio of risks, highlighting three dominant approaches 
within the finance literature: Merton models (in which 
companies default at the maturity of a debt when their total 
asset value is less than the face value of the debt), First 
Passage models (in which a company defaults if its asset value 
drops below a specified default trigger at any time before 
maturity), and Reduced Form models (which rely completely on 
empirical data to model default dependencies between firms in 
discrete periods of time).
    On the basis of the conceptual and mathematical analyses 
that it reflects, the Appraisal makes a number of points about 
the stress tests. At the outset, it states that:

          Based largely on information collected through public 
        document review and conference calls with 
        representatives from the Federal Reserve and the 
        Treasury Department, and taking into account the 
        enormity of the task within a short time horizon, we 
        conclude that the Fed's risk modeling approach has, on 
        the whole, been a reasonable and conservative one . . . 
        For example, the macro-economic scenarios they 
        hypothesized under the adverse case appear relatively 
        extreme by historical standards, and the (purportedly 
        one-time) sizing of the capital buffer was made 
        relatively stringent. Moreover, the general approach 
        undertaken here appears to have avoided some of the 
        more dangerous simplifications manifest in certain 
        types of risk modeling . . . On the whole, then, our 
        assessment is that the SCAP stress tests have provided 
        valuable information to the public.\107\
---------------------------------------------------------------------------
    \107\ See Annex to Section One of this report, at 2, 5.

---------------------------------------------------------------------------
    The authors note that:

          We warn the Panel that our knowledge of the Fed's 
        program is based largely on the same information 
        possessed by the panel, consisting of two reports, the 
        first (describing methodology) was issued on April 24, 
        and the second (describing results) was issued on May 
        7. Beyond these reports, we were privy to a number of 
        conference calls involving the Federal Reserve (twice) 
        and the Treasury department (once).\108\
---------------------------------------------------------------------------
    \108\ Id. at 17.

    The Appraisal begins by explaining that in evaluating any 
model of risk assessment . . . it is more constructive to use 
four criteria:
    1. Intuitiveness: From a practical perspective, given the 
complexity of the problem and the limited time frame with which 
to accomplish it, does the risk model employed appear to make 
intuitive sense?
    2. Robustness: Do the results continue to hold across 
alternative model and/or parametric specifications?
    3. Transparency: Are both the structure of the risk model 
and the data inputs clear and transparent to outsiders? If the 
model is a hybrid of multiple risk models, how clear is the 
hybridization process?
    4. Replicability: Is it possible for a third party to gain 
access to the same data, and to replicate the results within 
conventional standards of error?
    The authors note that the first two of these criteria 
relate to internal design considerations,\109\ while the third 
and fourth criteria, in contrast, bear on how well the Federal 
Reserve Board's approach might be evaluated by outsiders.\110\ 
The Appraisal notes a number of sound elements in the SCAP's 
design. It states that:
---------------------------------------------------------------------------
    \109\ Id. at 18. ``The multiple approaches to financial risk 
modeling, along with the special circumstances under which the SCAP was 
implemented make the first [criterion] extremely important. Due to the 
current high uncertainty in capital markets, and the attendant hazards 
of model risk, the second [criterion] is also relatively crucial.''
    \110\ Id. (``The third [criterion] encapsulates what is, in a 
sense, a minimal condition on observability that need be met; that is, 
so long as one presumes the competence and good faith of Fed 
researchers, satisfying the transparency [criterion] is tantamount to 
understanding the material steps undertaken in the enterprise. The 
fourth criterion--replicability--is a more stringent condition than 
transparency, effectively requiring that an outsider be able to 
directly verify the Fed's conclusions. It should be noted, however, 
that this criterion may be more difficult to satisfy for a program such 
as SCAP, due to confidentiality issues within the BHCs being studied. 
We believe, nevertheless, that the third and fourth [criteria] are 
material considerations, particularly given the high level of market 
uncertainty, the magnitude of resources at issue, and the failure of 
state-of-the-art models to capture the market's risk in 2008.'')
---------------------------------------------------------------------------
           ``The choice of a two year time horizon does 
        not, ipso facto, give us cause for concern (though it 
        may necessarily require updating on a going-forward 
        basis)''; \111\
---------------------------------------------------------------------------
    \111\ Id. at 19.
---------------------------------------------------------------------------
           ``Using econometric models that relate loss 
        rates to differing macroeconomic scenarios (baseline 
        and more adverse) is a sensible way to characterize 
        loss exposure''; \112\
---------------------------------------------------------------------------
    \112\ Id. at 26.
---------------------------------------------------------------------------
           ``Assembl[ing] projections from multiple 
        methodological approaches . . . helped to avoid some of 
        the most extreme problems associated with model risk''; 
        \113\
---------------------------------------------------------------------------
    \113\ Id. at 34.
---------------------------------------------------------------------------
           ``It [was] clearly sensible for the Fed to 
        allow for tailoring of individual BHC's loss rates''; 
        \114\
---------------------------------------------------------------------------
    \114\ Id.. at 29.
---------------------------------------------------------------------------
           ``The Fed's approach in specifying and 
        sizing the required SCAP capital buffer seems sensible, 
        transparent, and replicable [and] . . . within the time 
        and information constraints [in which] they operated, 
        the 6%/4% sizing was, at the very least, a defensible 
        first approximation.'' \115\
---------------------------------------------------------------------------
    \115\ Id. at 31.
---------------------------------------------------------------------------
    However, the Appraisal also states that ``the SCAP's design 
and implementation do leave some open questions in our minds.'' 
\116\ The Appraisal's overriding concern is that, although the 
stress tests involve a mix of quantitative (modeling) and 
qualitative (judgments in application of modeling) elements, a 
lack of transparency in the way the models were applied (even 
illustratively) makes it impossible to replicate--and hence to 
evaluate--the stress tests in any detail. For example, say the 
authors, the Appraisal could only take a ``broad-brush 
approach'' to the SCAP, because:
---------------------------------------------------------------------------
    \116\ Id. at 5.
---------------------------------------------------------------------------
           ``The Fed evidently attempted to synthesize 
        numerous alternative macro-economic models . . . with 
        subjective judgments of experts across different 
        domains''; \117\
---------------------------------------------------------------------------
    \117\ Id. at 3.
---------------------------------------------------------------------------
           ``The process by which the initial [loss 
        models] became tailored to each BHC appeared 
        analogously opaque.'' \118\
---------------------------------------------------------------------------
    \118\ Id. at 6.
---------------------------------------------------------------------------
           The ``Fed's stress test formulation (and 
        particularly the derivation of the adverse case) is 
        potentially subject to criticism as to transparency, 
        its replicability, and its robustness'' (for example, 
        in its omission of interest rate, wage and price 
        inflation, and exchange risk that ``play a significant 
        role in assessing not only prospective default risks 
        within asset classes but potentially also asset 
        valuations today'').\119\
---------------------------------------------------------------------------
    \119\ Id. at 23. Federal Reserve Board staff has told a Panel staff 
member that interest rate assumptions were ``built into'' the macro-
economic assumptions for the stress tests as well to the data banks 
provided to the supervisors, that currency exchange risk was also built 
into that data, and that inflation risk was now so low as to be 
difficult to factor in.
---------------------------------------------------------------------------
           ``[T]here is effectively no way for a third 
        party to replicate (or even, evidently, selectively 
        audit) the [loss projections]'' used to conduct the 
        stress tests.\120\ The Appraisal continues: ``On the 
        basis of our interactions with them, we believe the Fed 
        staff to be both professionally competent and acting in 
        good faith. It may therefore be acceptable to take them 
        at their word. Nevertheless, given the fact that the 
        [loss ranges] constituted an important focal point for 
        the SCAP stress tests, the description of the process 
        did not permit us to pierce through their derivations 
        at anything more than a general level.'' \121\
---------------------------------------------------------------------------
    \120\ Id. at 25.
    \121\ Id. at 25-26.
---------------------------------------------------------------------------
           ``[T]he significant interaction required 
        between supervisors and the BHCs has the potential of 
        undermining the objectivity of the stress tests . . . 
        It may well be that the Fed's efforts [to bolster the 
        objectivity of the tests despite the necessary 
        supervisor-BHC interaction] were wholly successful . . 
        . but we are not in a position to either confirm or 
        reject this hypothesis. Indeed, when queried as to 
        whether it would be possible to walk us through one or 
        two examples of the tailoring process for specific (but 
        anonymous) BHCs, Fed researchers reported that such an 
        exercise was not practically feasible.'' \122\
---------------------------------------------------------------------------
    \122\ Id. at 27-28.
---------------------------------------------------------------------------
           ``To the extent we have a concern [with the 
        Fed's approach in specifying and sizing the required 
        SCAP capital buffer] it likely is rooted in a more 
        general concern with . . . the appropriateness of a 2-
        year time horizon for projecting required capital 
        buffers.'' \123\ This issue might have been dealt with 
        by:
---------------------------------------------------------------------------
    \123\ Id. at 29. See also, Lucian Bebchuk, Near-Sighted Stress 
Tests (May 20, 2009) (online at www.forbes.com/2009/05/20/stress-tests-
banking-opinions-contributors-maturity.html) (hereinafter ``Near-
Sighted Stress Tests'').
---------------------------------------------------------------------------
                   Conducting a longer-term stress test 
                (at least for long-maturing illiquid assets)
                   Quantifying the faction of illiquid 
                and highly risky assets with distant maturities 
                the BHCs as a group, and each BHC separate, 
                have; or
                   Revisiting the SCAP approach 
                periodically to reassess risk profiles of these 
                assets as they become more current.
                   The SCAP does not explore the 
                possibility that BHCs ``may be able to use 
                their own segmented corporate structure to 
                compartmentalize (and thus externalize) risk, 
                even if they have an adequate capital buffer in 
                the aggregate.'' \124\
---------------------------------------------------------------------------
    \124\ Id. at 30.
---------------------------------------------------------------------------

                             G. Next Steps


                           1. CAPITAL-RAISING

    The ten BHCs estimated to require a capital buffer were 
required to give the supervisors a Capital Plan by June 8, 
2009, explaining how they will raise equity capital. Their 
options include: (1) selling stock to the markets or under the 
CAP; \125\ (2) converting existing preferred stock (whether 
privately held or issued under the CPP); or (3) selling assets. 
Some of these options are preferable to others and result in 
higher quality capital. Conversions of preferred to common 
stock are the weakest option (as no new capital is added) and 
new equity offerings for cash are the strongest. Asset sales 
fall in between these options as they raise cash but diminish 
earnings capacity. The plan must include dates by which the BHC 
plans to take these actions, which must be completed by 
November 9, 2009. The plans are not specifically required to 
address plans to repay TARP funds. However, no bank can repay 
its TARP capital if this would cause its capital levels to be 
inconsistent with ``supervisory expectations.'' \126\ It is 
unclear if these expectations will be the same as the capital 
levels demanded by SCAP.
---------------------------------------------------------------------------
    \125\ If there are future CAP transactions, the Panel will need to 
consider a valuation exercise similar to that in the February report.
    \126\ Board of Governors of the Federal Reserve System, Federal 
Reserve Outlines Criteria It Will Use to Evaluate Applications to 
Redeem U.S. Treasury Capital from Participants in Supervisory Capital 
Assessment Program. (June 1, 2009) (online at www.federalreserve.gov/
newsevents/press/bcreg/2009bcreg.htm).
---------------------------------------------------------------------------
    The most direct way for a BHC to increase its capital base 
is to earn net income from its normal banking business and add 
that income to its capital accounts. Estimated PPNR for 2009 
and 2010 (as adjusted by reference to performance in the first 
quarter of 2009) is already reflected in the SCAP calculation 
and therefore BHCs cannot ``earn their way out'' of the capital 
buffer requirements.\127\
---------------------------------------------------------------------------
    \127\ To the extent that the BHCs' revenues are strong, however, 
their ability to sell securities will of course be enhanced.
---------------------------------------------------------------------------
    Next, a BHC can raise capital by selling assets, usually 
businesses or branches. For example, Citigroup recently 
announced that it expects to gain $2.5 billion in tangible 
common equity through the sale of its Japanese securities 
business.\128\ For its part, Bank of America sold nearly a 
third of its stake in China's second largest bank.\129\ 
However, as discussed below, any sale risks a transaction at a 
``fire sale'' price because the buyer knows that the selling 
BHC must raise capital and is counting on the sale to do so.
---------------------------------------------------------------------------
    \128\ Citigroup Inc., Citi to Sell Nikko Cordial Securities to 
Sumitomo Mitsui Banking Corporation and to Forge Alliance with Sumitomo 
Mitsui Financial Group (May 1, 2009) (online at www.citigroup.com/citi/
press/2009/090501a.htm).
    \129\ Amy Or, BofA Raises US$7.3 Bln from CCB Share Sale to 4 
Investors, Wall Street Journal (May 13, 2009) (online at 
online.wsj.com/article/BT-CO-20090513-708215.html?mod=crnews).
---------------------------------------------------------------------------
    A BHC can also raise funds through the sale of additional 
common stock, the approach most in line with the requirements 
of the supervisors following the stress tests. But the sale of 
common stock is not without its own issues. First, existing 
shareholders' interests will be diluted by the new sale--that 
is, part of their investment will in effect be shared with the 
new shareholders, diluting their proportional ownership of the 
BHC and the value of their shares. Of course, that may be a 
completely justified result, since, without an infusion of 
billions of taxpayer dollars, the common stock of at least some 
of these institutions would likely have become worthless.\130\ 
In addition, sale of a large block of shares to a single 
investor may shift control, or at least reconfigure the 
control, of the BHC in question.
---------------------------------------------------------------------------
    \130\ Since warrant holders, including the holders of stock 
options, are generally protected against dilution by the terms of the 
warrants, a paradoxical result might be that the executives who were in 
charge of the troubled institutions would incur far less loss (if stock 
values recovered) than ordinary common shareholders. Thus, where bank 
executives are compensated to any extent by the issuance of stock or 
stock options, they may have a conflict of interest when deciding 
whether common stock, rather than a sale of assets, should be part of 
their BHC's capital plan.
---------------------------------------------------------------------------
    Such sales of common stock may be made to investors in the 
open market or in a private offering, or the BHC may rely on 
the CAP and issue mandatory convertible preferred stock (which 
will be treated as tier 1 common) to Treasury.
    The BHCs may also convert preferred stock into common 
stock, as Citibank is in the process of doing. This conversion 
may include existing preferred stock issued to private parties 
or the preferred stock issued to Treasury under the CPP. Since 
this involves moving Treasury's assets to a more risky class of 
securities, Treasury has stated that it expects such a 
conversion to be accompanied by new capital raises or exchanges 
of private capital securities into common equity.\131\
---------------------------------------------------------------------------
    \131\ U.S. Department of the Treasury, FAQs on Capital Purchase 
Program Repayment and Capital Assistance Program, at 3 (online at 
www.financialstability.gov/docs/FAQ_ CPP-CAP.pdf) (accessed June 8, 
2009) (hereinafter ``CPP FAQs'').
---------------------------------------------------------------------------

                           2. TARP REPAYMENT

    Many banks, including the BHCs involved in the stress 
tests, have indicated their desire to repay funds received 
under TARP programs, and several smaller banks have already 
done so.\132\ The Panel's next report will discuss certain 
issues arising from the TARP repayment process in detail, but 
it is worth discussing the interplay of the SCAP with TARP 
repayment.
---------------------------------------------------------------------------
    \132\ As of May 27, 20 banks have repaid the TARP funds they 
received. Goldman Sachs, Morgan Stanley, BB&T, and JPMorgan, among 
others, have announced their intentions to repay TARP funds as soon as 
possible. Brian Wingfield, Banks Ready To Throw in the TARP, Forbes 
(June 1, 2009) (online at www.forbes.com/2009/06/01/banking-tarp-fed-
business-beltway-tarp.html).
---------------------------------------------------------------------------
    BHCs that do not need to raise additional equity capital 
may be permitted to repay TARP funds. The Federal Reserve Board 
has designed criteria that it will use to determine whether to 
allow a BHC to repay TARP funds.\133\ BHC applications for 
repayment must be first approved by the primary federal 
supervisor before being sent to Treasury. A BHC that wishes to 
repay funds must show that it can issue debt without relying on 
TLGP. It must also show that it has access to the public equity 
markets. Additional criteria that the Federal Reserve Board 
will consider include the bank's ability to continue to act as 
an intermediary for lending to families and businesses, its 
ability to maintain appropriate capital levels, its ability to 
``continue to serve as a source of financial and managerial 
strength and support to its subsidiary bank(s) after the 
redemption,'' and its ability to meet ``funding requirements 
and obligations to counterparties'' while again lessening its 
reliance on government funds and guarantees.\134\
---------------------------------------------------------------------------
    \133\ Board of Governors of the Federal Reserve System, Press 
Release (June 1, 2009) (online at www.federalreserve.gov/newsevents/
press/bcreg/20090601b.htm).
    \134\ Id.
---------------------------------------------------------------------------
    Since the announcement that BHCs will need to use new, non-
guaranteed capital to repay TARP funds, several BHCs have 
issued non-guaranteed debt. However, these BHCs had to pay 
relatively high interest rates on this debt.\135\ In addition 
to repaying the preferred stock issued under the CPP, BHCs will 
have to repurchase the warrants that were issued at the same 
time.\136\ The price at which those warrants will be repaid has 
already become a source of controversy with respect to non-
stress test banks.\137\ This issue is one which the Panel will 
be paying close attention to in the near future.\138\
---------------------------------------------------------------------------
    \135\ Since SCAP, the BHCs have raised $35 billion in stock and $13 
billion in debt. The BHCs' notes ranged from 271 basis points over U.S. 
Treasuries to 562 basis points over U.S. Treasuries. Compare the spread 
on Citigroup's recent non-guaranteed debt offering, 8.765 percent ten-
year notes (562.5 basis points over U.S. Treasuries) with a Citigroup 
debt offering prior to the financial crisis, 5.773 percent ten-year 
notes (130 basis points over U.S. Treasuries). Citigroup Inc., Form FWP 
(May 15, 2009) (online at www.sec.gov/Archives/edgar/data/831001/
000095012309008985/y77311fwfwp.htm); Citigroup Inc., Form FWP (Sept. 6, 
2007) (online at www.sec.gov/Archives/edgar/data/831001/
000095012307012318/y39368afwp.htm). See Figure 5 for other recent BHC 
debt issuances.
    \136\ See, e.g., U.S. Department of the Treasury, Securities 
Purchase Agreement Standard Terms, at 42 (Oct. 26, 2008) (online at 
www.financialstability.gov/docs/agreements/BOA_ 10262008.pdf) (The 
agreement contains terms setting up a direct repurchase by Treasury of 
all bank securities based on a negotiated fair market value. These 
terms cover the repurchase of warrants and do not specifically provide 
for auctions to third parties as a method of pricing the repurchase.).
    \137\ See, e.g., Old National Bancorp, Form 8-K (May 11, 2009) 
(online at www1.snl.com/Cache/c7780441.htm) (first publicly-traded 
company to finalize repurchase of its warrants from Treasury); Linus 
Wilson, Valuing the First Negotiated Repurchase of the TARP Warrants, 
Social Science Research Network (May 23, 2009) (online at 
papers.ssrn.com/sol3/papers.cfm?abstract_ id=1404069) (arguing that, 
based on economic models, that Treasury did not receive fair market 
value for the Old National Bank warrants).
    \138\ The effect on the projected capital buffers of potential 
repayment of CPP infusions was apparently not taken into account in 
computing whether an institution would require a capital buffer or the 
size of that buffer.
---------------------------------------------------------------------------

                               H. Issues


             1. THE CONTEXT AND PURPOSE OF THE STRESS TESTS

    To date, $245 billion has been injected into the banking 
system and an additional $69.8 billion into the American 
International Group (AIG). After raising $75 billion more in 
public or private funds, the nations' largest banking 
institutions will be well capitalized enough to withstand 
further economic difficulties, at least during 2009 and 2010. 
It has to be noted that the $75 billion dollar figure rests on 
existing taxpayer support of the banking system, and the SCAP 
must be understood in this context. The stress tests' stated 
purpose was to ensure that the BHCs were well capitalized 
enough to withstand continued economic bad news and to continue 
lending to qualified borrowers, but the subtext of the tests 
was to calm the markets. The markets have been calmed, but it 
must be understood that the underlying regulatory and legal 
systems that permitted the financial crisis to occur have not 
changed, and the current financial position of the BHCs relies 
on massive amounts of government assistance, the impact of 
which has not been clearly identified in the supervisors' 
assessment of the BHCs' current and future financial viability.
    The supervisors' releases indicate that infusions of funds 
under the CAP may be necessary to make up any failure by the 
ten institutions to raise the necessary capital in the private 
market. But there are other forms of government assistance 
whose impact on the tests was not made clear.
    The loan guarantees provided by Treasury and the FDIC and 
the availability of funds through the various liquidity 
programs established by the Federal Reserve Board during the 
early days of the crisis would appear to lower substantially 
the cost of funds for the 19 BHCs, presumably increasing their 
net income during the testing period. This raises the question 
of how solid those earnings would be if the government programs 
were removed or if external economic conditions caused the 
Federal Reserve Board to tighten the money supply even 
modestly.

          2. ISSUES RELATING TO THE DESIGN OF THE STRESS TESTS

    The stress tests are conducted within the bounds of the 
current supervisory context and do not represent a new measure 
or test of risk. They start with the amounts and values 
projected by the tested institutions themselves. The extent to 
which the supervisors delved deeply into the BHC-provided data 
to verify its accuracy is unclear. This is not to question the 
good faith of either the supervisors or the tested 
institutions. But the experience of the last two years cannot 
but cause some to question the adequacy of both the risk 
management practices of many of the nation's largest financial 
institutions and of the scope of the supervisory regime to 
which those institutions were subjected. As one serious 
example, the stress test reports assert that the 19 BHCs tested 
are all well capitalized, but they do not discuss or rebut 
claims by a number of respected economists that at least some 
of the same banks are in fact insolvent.\139\
---------------------------------------------------------------------------
    \139\ Nouriel Roubini, According to Press Reports the IMF May 
Allegedly Be Increasing Its Estimate of Global Bank Losses to $4 
Trillion, a Figure Consistent With Estimates by a Variety of 
Independent Bank Analysts, RGE Monitor (Apr 10, 2009) (online at 
www.rgemonitor.com/roubini-monitor/256364/according 
_to_press_reports_the _imf_may_allegedly_be _increasing_its_estimate_of 
_global_bank_losses__to _4_trillion_a_figure_ 
_consistent_with_estimates_by _a__variety_of_independent 
_bank_analysts).
---------------------------------------------------------------------------
    Reliance on the present system may well be understandable 
in view of the short time frame within which the tests had to 
be done, but the time pressures could have been mitigated by a 
rolling set of tests adjusted for operating results and changes 
in economic assumptions. Failure to do so may be seen as 
limiting the usefulness of the tests.
    A number of issues with the modeling techniques used in the 
stress tests were noted by Professors Talley and Walden in 
their report. These include a lack of sensitivity to the 
ownership structure of BHCs, the exclusion of a number of 
micro- and macroeconomic factors (such as interest rates and 
inflation), and the use of the relatively short time horizon of 
two years. In their opinion, these factors might have affected 
the results of the stress tests.\140\
---------------------------------------------------------------------------
    \140\ See Annex to Section One of this report, at 23, 33, 34.
---------------------------------------------------------------------------
    When the two alternative economic scenarios were announced, 
commentators immediately criticized the scenarios for 
insufficient ``harshness.'' \141\ They stated that the baseline 
scenario especially was too optimistic in light of an economy 
that at that time was deteriorating rapidly and beginning to 
follow the path of the more adverse scenario.\142\ Nouriel 
Roubini, for example, has suggested that policymakers ``used 
assumptions for the macro variables in 2009 and 2010 [for] both 
the baseline and more adverse scenarios that are so optimistic 
that actual data for 2009 are already worse than the adverse 
scenario.'' \143\ He has challenged the GDP, unemployment, and 
home prices assumptions in both the baseline and adverse 
scenarios.\144\ The OECD released baseline real GDP and 
unemployment projections that were equal to the SCAP's more 
adverse scenario assumptions.\145\ On the other hand, some 
comparisons suggest that the assumptions are appropriate. In 
their review of the stress test methodology, Professors Talley 
and Walden state that, ``[t]he criteria used for assessing 
risk, and the assumptions [the Federal Reserve Board] made in 
calibrating the more adverse case have typically erred on the 
side of caution.'' \146\ In the end, it is not clear that we 
know whether the economic assumptions were harsh enough or what 
the BHCs' capital needs would be if the economy continued along 
the path it appeared to be following in February.
---------------------------------------------------------------------------
    \141\ See generally Douglas J. Elliott, Bank Stress Test Results, 
Brookings (May 18, 2009) (online at www.brookings.edu/opinions/2009/
0512_ stress_ test_ results elliott.aspx); Paul Krugman, Stressing the 
Positive, New York Times (May 7, 2008) (online at www.nytimes.com/2009/
05/08/opinion/08krugman.html) (``The regulators didn't have the 
resources to make a really careful assessment of the banks' assets, and 
in any case they allowed the banks to bargain over what the results 
would say. A rigorous audit it wasn't.''); Nouriel Roubini, Ten Reasons 
Why the Stress Tests Are ``Schmess'' Tests and Why the Current Muddle-
Through Approach to the Banking Crisis May Not Succeed, RGE Monitor 
(May 8, 2009) (online at www.rgemonitor.com/roubini-monitor/256694/ten_ 
reasons_ why_ the_ stress_ tests_ are_ schmess_ tests_and_ why_ the_ 
current_ muddle-through_ approach _ to_ the_ banking_ crisis_ may_ not_ 
succeed) (hereinafter ``Roubini Article''); Edmund L. Andrews and Eric 
Dash, Government Offers Details of Bank Stress Test, New York Times 
(Feb. 25, 2009) (online at www.nytimes.com/2009/02/26/business/economy/
26banks.html) (hereinafter ``Andrews and Dash Article'').
    \142\ Unemployment rose to 9.4 percent in April 2009. Employment 
Situation, supra note 60. GDP fell 5.9 percent in the first quarter of 
2009 from the previous quarter. Gross Domestic Product, supra note 59.
    \143\ Roubini Article, supra note 141; Andrews and Dash Article, 
supra note 141.
    \144\ Id.
    \145\ Organization for Economic Cooperation and Development, OECD 
Economic Outlook Interim Report, at 68 (Mar. 2009) (online at 
www.oecd.org/dataoecd/18/1/42443150.pdf).
    \146\ See Annex to Section One of this report.
---------------------------------------------------------------------------
    The ability to extrapolate the data by those wishing to 
modify the model to use their own macroeconomic assumptions is 
somewhat limited. Treasury officials informed the staff of the 
Panel that sufficient data would be available such that private 
analysts would be able to build on the results disclosed, 
substituting their own assumptions with respect to the 
direction of the economy, and working out for themselves what 
the capital needs of the BHCs would be under even more adverse 
conditions. The publicly announced results of the SCAP focused 
only on the more adverse scenario. The model may be 
replicated,\147\ but it is not clear that private analysts 
could use these data to build their own models or to test the 
strength of the supervisors' modeling. Without the ability to 
replicate and re-test, the robustness of the model remains in 
question.
---------------------------------------------------------------------------
    \147\ Stress Test Consequences, supra note 35.
---------------------------------------------------------------------------
    Professor Lucian Bebchuk, among others, has argued that the 
failure to take into account mark-to-market values for ``toxic 
assets,'' necessarily undervalues bank liabilities to the 
extent that those liabilities result in losses after 2010.\148\ 
This point is also echoed in the report from Professors Talley 
and Walden.\149\ Professor Bebchuk notes that the total 
estimate of potential bank losses published by the supervisors 
is as much as $600 billion and that no attempt has been made 
``to come up with a precise estimate of the extent to which, at 
the end of 2010, the economic value of the troubled assets will 
fall below [their] face value.'' \150\ Bebchuk acknowledges the 
Federal Reserve Board's recognition of this problem, but he 
responds that:
---------------------------------------------------------------------------
    \148\ Near-Sighted Stress Tests, supra note 123.
    \149\ See Annex to Section One of this report.
    \150\ Near-Sighted Stress Tests, supra note 123.

          To get a full picture of the banks' situation, bank 
        supervisors should estimate also the decline in the 
        economic value of banks' positions with longer 
        maturities. Only then will the stress tests be able to 
        deliver reliable figures for the additional capital 
        necessary to make the banking sector healthy and 
        vigorous.\151\
---------------------------------------------------------------------------
    \151\ Near-Sighted Stress Tests, supra note 123.

    This approach suggests a useful insight about what the 
stress tests do and do not do. Their purpose is to compute the 
amounts necessary, within the framework of existing supervisory 
and risk management techniques, to keep BHCs well capitalized 
for two years if a specified set of economic assumptions is 
borne out. What they do not do is to compute the point at which 
BHCs will be stressed beyond the breaking point--even under the 
supervisors' view that BHCs are now well capitalized--based on 
their current balance sheets. For example, banks hold $1.068 
trillion in core commercial real estate (CRE) loans.\152\ A 
recent study commissioned by Deutsche Bank suggests that the 
majority of losses on CRE loans will not affect bank balance 
sheets for several more years when poorly underwritten CRE 
loans made in the easy credit years (e.g., 2005-2007) will 
reach maturity and will in many instances fail to qualify for 
refinancing:
---------------------------------------------------------------------------
    \152\ Core CRE does not include construction, multi-family, or farm 
loans.

                FIGURE 3: ESTIMATE OF CORE CRE LOANS NOT QUALIFYING FOR REFINANCE, 2009-18 \153\
----------------------------------------------------------------------------------------------------------------
                                      Maturing loans                  Loans not qualifying for refinance
----------------------------------------------------------------------------------------------------------------
                                          Balance (dollars               Balance (dollars
        Maturing year             #         in  billions)        #         in  billions)       %(#)       %($)
----------------------------------------------------------------------------------------------------------------
2009........................      2,556                18.1        923                 8.0       36.1       44.0
2010........................      3,053                33.0      1,375                21.1       45.0       63.9
2011........................      4,443                42.6      2,510                29.0       56.5       68.2
2012........................      4,340                56.3      2,675                43.7       61.6       77.6
2013........................      5,051                39.1      2,635                25.2       52.2       64.5
2014........................      4,898                47.8      2,986                33.2       61.0       69.6
2015........................      8,807                89.0      5,587                60.9       63.4       68.5
2016........................     10,331               123.9      6,295                88.8       60.9       71.7
2017........................      9,598               127.4      5,827                94.7       60.7       74.3
2018........................        895                 4.2        108                 1.4       12.1       33.7
                             -----------------------------------------------------------------------------------
    Total...................     53,972     581,542,418,727     30,921     406,163,154,040       57.3      69.8
----------------------------------------------------------------------------------------------------------------
\153\ This data is used with permission of Deutsche Bank and was originally compiled in a different form for a
  Deutsche Bank special report. See Richard Parkus and Jing An, The Future Refinancing Crisis in Commercial Real
  Estate, at 3-4 (Apr. 23, 2009) (online at cop.senate.gov/documents/report-042309-parkus.pdf). This report was
  also submitted as written testimony for the Panel's May 28, 2009 hearing on Impact of Financial Recovery
  Efforts on Corporate and Commercial Real Estate Lending in New York.

    As the report explains, the high percentage of loans not 
qualifying for refinancing, and hence in danger of default 
without significant injections of new equity, is attributable 
to the combined effects of stricter underwriting standards, 
steep declines in property values, and reduced income streams 
to finance the loans because of lower rents and increased 
vacancies.\154\ The findings are based on quantitative data for 
commercial mortgage-backed securities (CMBS), which constitute 
25 percent of the core CRE market. While the authors of the 
report state that there was insufficient data to perform a 
detailed study in the larger non-CMBS sector, the authors say 
they expect a similar if not higher level of maturity defaults 
on non-securitized CRE bank portfolio loans because portfolio 
loans typically have shorter maturities (which would not allow 
sufficient time for property values to recover from their 
present depressed levels) and higher risk profiles than 
CMBS.\155\ As another hearing witness explained, however, it is 
possible that a higher proportion of maturity defaults can be 
avoided in the non-CMBS sector because banks face fewer legal 
and practical obstacles in attempting workouts with their 
borrowers.\156\ The extent to which the stress tests, which 
were never intended to look more than two or three years in the 
future, fully grapple with the prospect of massive future CRE 
loan defaults is uncertain.\157\
---------------------------------------------------------------------------
    \154\ Id. at 11.
    \155\ See Congressional Oversight Panel, Oral Testimony of Richard 
Parkus, Hearing on Corporate and Commercial Real Estate Lending (May 
28, 2009) (hereinafter ``Oral Testimony of Richard Parkus'').
    \156\ See Congressional Oversight Panel, Oral Testimony of Kevin 
Pearson, Hearing on Corporate and Commercial Real Estate Lending (May 
28, 2009).
    \157\ At the Panel's hearing in New York on May 28, 2009, there was 
disagreement among Panel witnesses as to whether the stress tests' use 
of a three-year analysis was sufficient to account for the future 
strains on bank balance sheets attributable to a balloon in expected 
maturity defaults for CRE loans. See Oral Testimony of Richard Parkus, 
supra note 155 (``I do, however, understand the timeframe for the 
stress test was, I believe, three years. And that, if that is the case, 
that would, in my view, be fairly short, as many of the mortgages we 
are looking at do not mature for quite a while.''); Congressional 
Oversight Panel, Oral Testimony of Federal Reserve Bank of New York 
Vice President of Bank Supervision Til Schuermann, Hearing on Corporate 
and Commercial Real Estate Lending (May 28, 2009) (``For sure, there 
are going to be some of the losses that will occur after this horizon, 
but I think I feel comfortable that a sizable portion of the commercial 
real estate exposure was, in fact, taken into account in the stress 
test.'').
---------------------------------------------------------------------------
    Several of the institutions tested were not traditional 
banking enterprises, and yet, by choosing to become BHCs, have 
become subject to the higher capital requirements of banks and 
the assumptions and analysis of risk that underlie those 
requirements. Is this appropriate, or should certain BHCs be 
subjected to alternative measures of regulatory capital or be 
assessed for risk using different tests? One issue (discussed 
above in ``Specific Limitations of the Stress Tests'') is that 
the accuracy of the input (the data on which the tests were 
performed) depended on prior supervisory examinations; in the 
present climate the nature of those examinations has itself 
been questioned, and the stress testing may ultimately improve 
the examinations themselves. The supervisors noted that, in 
some cases, data initially presented were inaccurate or 
resulted in double counting and that data was corrected and 
resubmitted. As noted above, no full re-examination of the 
tested BHCs was possible in the time period in which the test 
occurred, but that fact necessarily places some limitation on 
the tests' results.

          3. ISSUES RELATING TO THE PROCESS AND IMPLEMENTATION

    The primary issue identified by Professors Talley and 
Walden with the stress test process is the program's lack of 
``transparency to outsiders and replicability of its results.'' 
They state that it would be ``virtually impossible for the 
third parties to replicate the SCAP's conclusions, or even 
major sub-components of it.'' As a result, while they express 
the utmost trust in the Federal Reserve Board's assessment, 
they are ultimately unable to confirm any of its 
conclusions.\158\
---------------------------------------------------------------------------
    \158\ See Annex to Section One of this report, at 34.
---------------------------------------------------------------------------
    The supervisors informed the staff of the Panel that there 
was no ``negotiation'' of the results of the SCAP and that the 
BHCs were merely informed of the supervisors' estimates, with 
adjustments arising only from the specified first quarter 
adjustments and clear errors and omissions. The range of the 
adjustments permitted, however, and the lack of a full 
explanation of those adjustments necessarily raise questions in 
this regard. For example, it is unclear how large an effect 
accounting changes had on the BHCs' first quarter 
earnings,\159\ and how much of the resulting earnings 
improvements flowed through to the adjustments that were made 
with respect to the capital buffer by reason of earnings 
improvements. This leads to questions regarding whether the 
process could have been better handled and whether there should 
have been more transparency and clearer communication as to 
what exactly was communicated to the BHCs, which BHCs were 
affected, and which numbers were being adjusted.
---------------------------------------------------------------------------
    \159\ For further discussion of the impact of the recent accounting 
changes, see supra note 80.
---------------------------------------------------------------------------
    Securities trading portfolios were specifically 
``stressed'' only for the five BHCs that were the largest 
traders (this is, for those with trading accounts of $100 
billion or more). That process showed very large estimated 
losses in the securities trading portfolios of the five BHCs 
for which the exercise was conducted. Given the size of those 
losses, the way the stress tests take into account estimated 
securities trading losses of the BHCs with trading accounts of 
less than $100 billion is unclear, and it is thus difficult to 
tell how or if those losses have been appropriately accounted 
for.

                    4. THE IMPACT OF Q1 ADJUSTMENTS

    Adjustments were presented on a net basis, and thus it is 
not possible to see how much of the $110 billion reduction in 
capital buffer produced by the first quarter adjustments was 
due to sales of assets and conversions of preferred securities 
and other capital actions and how much was due to ``strong 
PPNR.'' \160\ This approach undercuts the transparency of the 
process. It is also important because many commentators do not 
believe that the strong earnings of the first quarter are 
likely to be repeated. Knowing how much of the first quarter 
adjustments were due to earnings would assist independent 
analysts in running their own versions of the stress tests.
---------------------------------------------------------------------------
    \160\ SCAP Results, supra note 24.
---------------------------------------------------------------------------

                        5. PRESENTATION OF DATA

    While 12 categories of assets were measured, only eight 
categories of assets were reported out in the SCAP results, and 
some assets were grouped together. For example, estimated 
losses on ``First Lien Mortgages'' are reported in aggregate, 
while first lien mortgages were divided into prime, Alt-A, and 
sub-prime for the purposes of estimation. Estimated losses in 
the various categories of securities are also aggregated 
together. It is possible that significant information is 
obscured by the aggregation of data, and since the public knew 
that 12 categories of assets were being measured, some 
expectation of obtaining this information had been raised. This 
aggregation prevented the public from fully replicating the 
tests or from comparing the results of the testing on the 19 
banks, or other banks, with different variables.\161\ Neither 
Treasury nor the supervisors have explained why this 
information was not made available.
---------------------------------------------------------------------------
    \161\ The Wall Street Journal and the Financial Times both applied 
the SCAP methodology to small- and mid-size banks. However, they could 
not exactly replicate the testing. Financial Times Study, supra note 
101; Maurice Tamman and David Enrich, Local Banks Face Big Losses, Wall 
Street Journal (May 19, 2009) (online at online.wsj.com/article/
SB124269114847832587.html).
---------------------------------------------------------------------------
    Because results are presented on the ``more adverse'' 
scenario alone, the ability to extrapolate results from a 
single set of data is impaired. Even though the ``baseline'' 
scenario was likely too optimistic, publishing the results from 
that scenario would have improved transparency and enabled 
private analysts, who can play an important role in the way 
information is used, to present their own predictions and 
analyses.

                 6. SHOULD STRESS TESTING BE REPEATED?

    As discussed above, Treasury conducted a one-time stress 
test on the 19 largest U.S. BHCs under the CAP. While Treasury 
intended the CAP to ensure that BHCs have adequate capital 
cushions to weather worse-than-anticipated economic conditions 
in the short-term, it is uncertain whether Treasury will 
conduct any future stress testing during or after the current 
crisis. It is uncertain whether this expanded form of stress 
testing will or should become a permanent fixture of the 
financial regulatory system. While Treasury has created capital 
cushion requirements through year-end 2010 under the CAP, it 
has not required fundamental or permanent changes in capital 
adequacy requirements or general regulatory processes.
    There are advantages and disadvantages of more permanent 
use of stress testing. On one hand, regular stress testing of 
large banks may enable regulators to: (1) limit the sorts of 
risk-taking that contributed to the current crisis; and (2) 
counterbalance the heightened moral hazard that the government, 
through TARP, has created for too-large-to-fail 
institutions.\162\ Moreover, the one-time nature of the stress 
tests is difficult to understand in light of how rapidly, and 
sometimes radically, the fortunes of banking institutions have 
changed over the past two years. These rapid changes led to 
some institutions requiring multiple capital infusions. For 
example, both Citigroup and Bank of America, after 
participating in the initial round of CPP investments, received 
emergency capital infusions and asset guarantees which were 
eventually allocated to the TIP program.\163\ Given the 
questions raised about the economic assumptions incorporated 
into the baseline and adverse scenarios of the stress tests and 
about the continuing uncertainty around the value and terms for 
write-down of many bank assets, a strong case can be made for 
six-month repetitions of the stress tests for the next few 
years.
---------------------------------------------------------------------------
    \162\ See Sebastian Mallaby, Stress Tests Forever, Washington Post 
(May 9, 2009) (online at www.washingtonpost.com/wp-dyn/content/article/
2009/05/07/AR2009050703538.html).
    \163\ For more information, see Panel's January and February 
reports. Congressional Oversight Panel, Accountability for the Troubled 
Asset Relief Program (Jan. 9, 2009) (online at cop.senate.gov/reports/
library/report-010909-cop.cfm); Congressional Oversight Panel, Valuing 
Treasury's Acquisitions (Feb. 6, 2009) (online at cop.senate.gov/
reports/library/report-020609-cop.cfm).
---------------------------------------------------------------------------
    While comprehensive internal stress testing existed at 
banks here and abroad even before the onset of the current 
crisis,\164\ there is a justified skepticism about the 
sufficiency of bank risk management programs. In particular, 
internal testing lacks public transparency and accountability, 
which are especially important in the case of too-big-to-fail 
institutions because of the government's recent interventions. 
Additionally, bank executives can continue to take excessive 
risks in the future--as they did prior to the current crisis--
regardless of whether or how they engage in internal stress 
testing. Transparency, which the Federal Reserve Board has 
stated is justified to restore confidence in the banking 
system, would also be missing if stress testing were conducted 
within the context of the normal supervisory process where 
results are not made public, but stress tests as part of 
regular examinations still have merit in and of themselves.
---------------------------------------------------------------------------
    \164\ See Bank for International Settlements (BIS), Stress Testing 
at Major Financial Institutions: Survey Results and Practice, at 2 
(Jan. 2005) (online at www.bis.org/publ/cgfs24.pdf) (noting that stress 
testing is ``becoming an integral part of the risk management 
frameworks of banks and securities firms'' and that it ``benefits from 
its flexibility, comprehensibility and the onus that it puts on 
management to discuss the risks that a firm is currently running.'').
---------------------------------------------------------------------------
    Regular government stress testing may lose support as time 
passes because of debates over: (1) methodologies; (2) 
government capacity and resources; and (3) the perception of 
negotiation between banks and their regulators.\165\
---------------------------------------------------------------------------
    \165\ Stress testing under the CAP raised considerable concerns 
among observers. See, e.g., discussion earlier in this report, supra 
note 141.
---------------------------------------------------------------------------

    7. SHOULD STRESS TESTING BE EXPANDED TO A WIDER RANGE OF BANKS?

    Since the passage of EESA in October 2008, Treasury has 
devoted a great deal of attention and resources to so-called 
too-large-to-fail institutions. The health of these 
institutions has considerable bearing on the financial system 
because of the enormous value of their combined assets and the 
breadth of their transactions involving other institutions and 
private citizens. Moreover, while these institutions have 
complex structures and, in some cases, branches and business 
ventures across the globe, efforts to stabilize too-big-to-fail 
institutions may require fewer human resources overall than 
efforts to conduct a similar exercise for a far larger number 
of institutions ranging in size from just under $100 billion in 
assets to the comparatively very small capitalization of some 
community banks. Moreover, the events of the financial crisis 
necessarily caused Treasury and the Federal Reserve Board to 
devote particularly heavy focus to large institutions.
    Nonetheless, Treasury has provided capital infusions under 
the TARP to a wider range of institutions over the time since 
the passage of EESA. By focusing on small institutions in 
addition to large ones, Treasury has sought to: (1) minimize 
line-drawing problems inherent in providing capital infusions 
to only the largest institutions; (2) expand the geographic 
reach of its efforts; (3) increase the overall breadth of its 
stabilizing influences; and (4) respond to concerns among 
taxpayers that TARP targeted only Wall Street, not Main Street.
    Despite Treasury's overall strategy to include banks of all 
sizes in its stabilization programs, Treasury and the Federal 
Reserve Board chose not to include even a sample of smaller 
banks in stress testing (even though those banks are eligible 
for infusions under the CAP).\166\ BHCs not included in the 
stress tests are responsible for one-third of the assets and 
close to half of the loans in the US banking system.\167\ While 
the federal government's capacity may be strained by conducting 
stress tests on as many institutions as it has given capital 
infusions, such an approach could: (1) have the same general 
benefits as other efforts toward smaller banks, as discussed in 
the preceding paragraph; and (2) expand the reach and potential 
benefits of the stress tests generally.
---------------------------------------------------------------------------
    \166\ Financial Stability Plan Fact Sheet, supra note 26.
    \167\ SCAP Design Report, supra note 32, at 1.
---------------------------------------------------------------------------
    With the first round of stress testing complete, Treasury 
should explain whether it intends to conduct stress tests on 
additional institutions in the future. If it does not intend to 
do so, Treasury should explain more fully why it chose to make 
capital infusions available to smaller institutions under the 
CPP, CAP, and other programs but not to include those 
institutions in stress testing, and therefore not require the 
same additional capital buffer of medium and smaller 
institutions.

         8. ISSUES REGARDING CAPITAL-RAISING AND RELATED ISSUES

    The BHCs needing to establish an additional regulatory 
capital buffer must present a plan to their supervisors by June 
8 and complete the elements of that plan by November 9. This 
may have the impact of limiting their bargaining power with 
respect to asset dispositions as potential counterparties know 
that the seller has to raise funds in a ``fire sale.'' For 
example, Bank of America's sale of part of its holding in China 
Construction Bank was effected at a high 14 percent discount to 
CCB's market price. The supervisors may need to exercise 
flexibility in oversight of the BHCs' capital plans in order to 
make sure they are permitted to get the best price possible in 
the sales of assets and their own securities.
    It is unclear what the impact of the stress tests will be 
on the PPIP program.\168\ To the extent the stress test may 
have been built on unrealistic values for toxic assets, they 
will have created a disincentive to sell those assets at market 
prices, decreasing the likelihood of PPIP achieving its stated 
goals.\169\ On the other hand, to the extent the stress tests 
have accurately revealed that some banks are healthy, they may 
be more likely to sell toxic assets to the PPIP program at 
realistic prices. If PPIP ends up setting inflated prices for 
toxic assets, it is harder to assess what effect the stress 
tests will have on PPIP.
---------------------------------------------------------------------------
    \168\ U.S. Department of Treasury, White Paper: Public Private 
Investment Program (Mar. 23, 2009) (online at www.treas.gov/press/
releases/reports/ppip_ whitepaper_ 032309.pdf). PPIP targets so-called 
``toxic assets''--the troubled loans and securities on banks'' balance 
sheets. The immediate goal is to use a combination of private and 
public capital to buy ``toxic assets.'' The intended result is to 
improve liquidity and promote bank lending.
    \169\ U.S Banks Have $168 Billion Reason to Avoid PPIP, Bloomberg 
(May 29, 2009) (online at www.bloomberg.com/apps/
news?pid=20601208&sid=aa5Joz86_ K6w&refer=finance).
---------------------------------------------------------------------------
    The SCAP did not take into account the possibility of 
repayment of TARP funds. Only banks that do not need CAP funds 
will be permitted to repay CPP funds,\170\ and they will only 
be permitted to do so once they have proved they can issue debt 
securities without a government guarantee and with the approval 
of their supervisors. However, repayment will necessarily have 
an impact on the capital of BHCs that repay TARP funds, and it 
might be argued that more attention should be paid to the 
danger of driving down capital after so much effort has been 
expended in shoring it up.
---------------------------------------------------------------------------
    \170\ CPP FAQs, supra note 131.
---------------------------------------------------------------------------

               9. ISSUES RELATING TO THE BANKS NOT TESTED

    The selection of the 19 largest BHCs, and not others, for 
the stress tests may distort the BHC marketplace in a few ways. 
First, by verifying that these 19 BHCs are healthy, the stress 
tests may provide them with a competitive advantage against 
smaller banks whose viability has not been confirmed. Second, 
the market might interpret the selection of these 19 largest 
BHCs as an indication that the supervisors consider them ``too 
big to fail.'' Both effects could lead to market participants 
favoring the tested BHCs against smaller competitors, 
distorting the marketplace.

                           I. Recommendations

     If economic conditions continue to worsen, raising 
the possibility that the ``more adverse'' scenario may be met 
or exceeded, the stress tests of the 19 BHCs should be repeated 
under the more difficult economic assumptions, looking forward 
at least two years.\171\ It should be noted that as of June 5, 
2009, the unemployment rate for May had climbed to 9.4 percent 
\172\ and the average for the first five months of 2009 had 
reached 8.5 percent, compared with the assumed 2009 average of 
8.9 percent under the more adverse scenario. We recommend that 
Treasury publicly track the status of its stress test macro-
economic assumptions (unemployment, GDP, and housing prices) 
and repeat the stress test if the adverse scenario assumptions 
have been exceeded.
---------------------------------------------------------------------------
    \171\ Additional stress tests that consider more alternatives--
longer periods of time, more adverse conditions--would permit experts 
to evaluate the robustness of the tests and, if the results remain 
strong, to develop more confidence in the strength of the financial 
institutions tested.
    \172\ Employment Situation, supra note 60.
---------------------------------------------------------------------------
     Stress testing should be a regular feature of the 
19 BHC's examination cycle so long as an appreciable amount of 
toxic assets remain on their books, economic conditions do not 
substantially improve, or both. Public disclosure of the main 
results of such tests should continue to be a part of this 
process. Between supervisory stress tests, the BHCs should be 
required to run the stress tests themselves, according to 
supervisory guidance, and to submit the results as part of 
their ongoing supervisory examinations. Additionally, 
regulators should use stress tests on an ad hoc basis for all 
banks or BHCs where circumstances, including the bank's 
business mix, dictate.
     More information should be released with respect 
to the results of the stress tests. More granular information 
on estimated losses by sub-categories (e.g., the 12 loan 
categories that were administered versus the eight that were 
released) should be disclosed. The components of the first 
quarter adjustments should be disclosed, showing more clearly 
the impact of capital actions and revenue. Additional 
information will improve transparency of the process and 
increase confidence in the robustness of the tests.
     The results of the stress tests under the 
``baseline'' economic scenario should be released or Treasury 
should explain why they were not released.
     The CPP repayment process should be more 
transparent, and information should be available to the public 
with respect to eligibility for repayment, the approval 
process, and the process for valuation and repurchase of 
warrants. Treasury should also make clear how it proposes to 
use repaid TARP funds. The relationship of the SCAP results to 
CPP repurchase must be completely transparent.
     Capital weaknesses must be addressed. At the same 
time, supervisors should be aware of the business needs of the 
BHCs. The supervisors should be encouraged to exercise 
discretion and flexibility in oversight of the capital plans of 
the BHCs required to raise a SCAP buffer. In particular, 
supervisors should be sensitive to the need of BHCs to be able 
to time capital-raising and asset dispositions in response to 
market conditions and not to be forced into uneconomic 
transactions in order to meet inflexible timetables. This 
discretion, however, should not be used as an excuse to avoid 
the pressing need to address capital weaknesses.

                             J. Conclusions

    The three-month stress testing of the nation's largest BHCs 
was an unprecedented cross-supervisor effort, conducted in the 
midst of a financial crisis and deteriorating national and 
international economic condition; the effort involved on the 
part of the more than 150 experts involved is highly 
commendable. It is also extremely encouraging that the Federal 
Reserve Board has been willing to make public information 
involving the tests on an almost unprecedented (although 
unfortunately incomplete) scale.
    The tests must be placed in context. They were conducted 
solely within the present supervisory context and are based on 
the principle that the supervisors can require capital in 
excess of the regulatory baseline when either bank or economic 
conditions dictate. They are not a thorough re-examination of 
the banks involved (although they are based on the results of 
prior examinations), and they rely on a combination of bank 
data, modeling based on particular economic assumptions, and 
qualitative judgments of the experienced examiners involved, 
many of whose conclusions have not been made public.
    Independent experts asked by the Panel to review the stress 
tests found the economic modeling used to conduct them to be 
generally soundly conceived and conservative, based on the 
limited information available to those experts. And the 
addition of capital to ten of the tested BHCs is certainly a 
good step forward. Moreover, the stress-testing regimen can be 
valuable if it is firmly instituted by the supervisors 
themselves for future periods and is repeated by the 
supervisors if bank or economic conditions worsen to a greater 
degree than assumed in the stress test modeling.
    All the same, the stress tests should not be taken for more 
than they are. As indicated above, they were conducted within 
the present supervisory context only, and they are a temporary 
two-year projection of a one-time capital buffer that need not 
be rebuilt. They do not model BHC performance under ``worst 
case'' scenarios, and as a result they do not project the 
capital necessary to prevent banks from being stressed to near 
the breaking point. Most important, for some observers, they do 
not address the question whether the values shown on bank 
balance sheets for certain classes of assets are too high; by 
restricting themselves to a two-year time frame, their 
conclusions thus do not take into account the possibility that 
the asset values assumed (particularly for so-called toxic 
assets) may undervalue bank liabilities to the extent that 
those liabilities result in losses after 2010.
    The short-term effect of the stress tests was positive, and 
the financial markets have calmed to some extent. The Panel 
concludes that it would be as much a mistake to dismiss the 
stress tests as it would be to assign them greater value than 
they merit or in fact that the supervisors claim for them. The 
fact that the holding companies have added certain amounts of 
capital on certain assumptions does not mean that the financial 
crisis is over or that the holding companies are now free from 
the risk of the sort of crisis-laden conditions many found 
themselves experiencing during 2008 and early 2009. While no 
one should gainsay the potentially positive results of the 
tests, it would be equally unwise to think that those results 
reflect a diagnosis of all of the potential weaknesses or 
create a necessarily sufficient buffer against future reverses 
for the banking system.

                               K. Tables


                                    FIGURE 4: BHCS SUBJECT TO THE STRESS TEST
----------------------------------------------------------------------------------------------------------------
                                                              Total BHC     TARP capital
                                                            assets \173\    injections to    Other  significant
                                                            (as of  3/31/  BHC \174\  (to    entities in BHC  /
            Name of BHC                Primary location         2009)           date)           major recent
                                                             (dollars in     (dollars in        acquisitions
                                                              billions)       billions)
----------------------------------------------------------------------------------------------------------------
Bank of American Corporation......  Charlotte, NC........         2,323.0            45.0  Merrill Lynch
                                                                                            Countrywide
JPMorgan Chase & Co...............  New York, NY.........         2,079.0            25.0  Bear Stearns
                                                                                            Washington Mutual
Citigroup, Inc....................  New York, NY.........         1,823.0            45.0
Wells Fargo & Company.............  San Francisco, CA....         1,286.0            25.0  Wachovia
The Goldman Sachs Group, Inc......  New York, NY.........           926.0            10.0
Morgan Stanley....................  New York, NY.........           626.0            10.0
MetLife, Inc......................  New York, NY.........           491.0             0.0
PNC Financial Services Group, Inc.  Pittsburgh, PA.......           286.0             7.6  National City
U.S. Bancorp......................  Minneapolis, MN......           264.0             6.6
The Bank of New York Mellon.......  New York, NY.........           204.0             3.0
GMAC LLC..........................  Detroit, MI..........           180.0            13.4
SunTrust Banks, Inc...............  Atlanta, GA..........           179.0             4.9
Capital One Financial Corporation.  McLean, VA...........           177.0             3.6
State Street Corporation..........  Boston, MA...........           145.0             2.0
BB&T Corporation..................  Winston-Salem, NC....           143.0             3.1
Regions Financial Corporation.....  Birmingham, AL.......           142.0             3.5
American Express Company..........  New York, NY.........           120.0             3.4
Fifth Third Bancorp...............  Cincinnati, OH.......           119.0             3.4
KeyCorp...........................  Cleveland, OH........            98.0            2.5
----------------------------------------------------------------------------------------------------------------
\173\ National Information Center, Top 50 Bank Holding Companies Summary Page (online at www.ffiec.gov/nicpubweb/
  nicweb/Top50Form.aspx) (accessed June 5, 2009). This web site compiles data on total BHC assets based on BHCs'
  quarterly Consolidated Financial Statements (FR Y-9C) and ranks BHCs by total assets on a quarterly basis. The
  data used in this chart comes from the most recent financial statements, which include information through
  March 31, 2009. One bank that qualified for the stress tests because it held over $100 billion in total assets
  as of December 31, 2009--KeyCorp--no longer holds assets exceeding $100 billion. GMAC received an exemption
  from filing a FR Y-9C form for the first quarter of 2009. See Board of Governors of the Federal Reserve
  System, Letter to David J. DeBrunner (Apr. 13, 2009) (online at www.federalreserve.gov/boarddocs/legalint/BHC_
  ChangeInControl/2009/20090413a.pdf). Data on GMAC's total assets was taken from the company's quarterly 10-Q
  filed with the SEC. See GMAC LLC, Form 10-Q (online at www.sec.gov/Archives/edgar/data/40729/
  000119312509105735/d10q.htm) (accessed May 19, 2009).
\174\ June 5 TARP Transactions Report, supra note 13.


                                        FIGURE 5: CAPITAL-RAISING TO DATE
----------------------------------------------------------------------------------------------------------------
               Company                          Equity                    Debt              SCAP requirements
----------------------------------------------------------------------------------------------------------------
American Express Co..................  $500 million in stock    $3.0 billion of non-
                                        \175\.                   guaranteed five- and
                                                                 ten-year notes \176\.
Bank of America Corp.................  $20.8 billion in stock                            $33.9 billion
                                        \177\.
BB&T Corp............................  $1.5 billion in stock
                                        \178\.
The Bank of New York Mellon Corp.....  $1.2 billion in stock
                                        \179\.
Capital One Financial Corp...........  $1.6 billion in stock    $1 billion of non-
                                        \180\.                   guaranteed five-year
                                                                 notes \181\.
Citigroup, Inc.......................                           $2 billion of non-       $5.5 billion
                                                                 guaranteed ten-year
                                                                 notes \182\.
Fifth Third Bancorp..................                                                    $1.1 billion
GMAC LLC.............................                                                    $11.5 billion
Goldman Sachs Group Inc..............
JPMorgan Chase & Co..................  $5.0 billion in stock    $2.5 billion of five-
                                        \183\.                   year notes \184\.
KeyCorp..............................  $750 million in stock                             $1.8 billion
                                        \185\.
MetLife Inc..........................
Morgan Stanley.......................  $6.2 billion in stock    $4 billion of five and   $1.8 billion
                                        \186\.                   ten-year notes \187\.
PNC Financial Services Group Inc.....  $600 million in stock                             $600 million
                                        \188\.
Regions Financial Corp...............  $1.9 billion in stock                             $2.5 billion
                                        \189\.
State Street Corp....................  $2.0 billion in stock    $500 million of five-
                                        \190\.                   year, senior notes
                                                                 \191\.
SunTrust Banks, Inc..................  $1.4 billion in stock                             $2.2 billion
                                        \192\.
U.S. Bancorp.........................  $2.4 billion \193\.....
Wells Fargo & Co.....................  $8.6 billion in stock                             $13.7 billion
                                        \194\.
                                      --------------------------------------------------------------------------
                                       $54.5 billion..........  $13 billion............  $ 67.5 billion
----------------------------------------------------------------------------------------------------------------
\175\ American Express Co., Form 8-K (June 1, 2009) (online at www.sec.gov/Archives/edgar/data/4962/
  000093041309003114/c57844_ ex1.htm).
\176\ $1.25 billion of 7.25 percent five-year notes (527 basis points over U.S. Treasuries) and $1.75 billion of
  8.125 percent ten year notes (502 basis points over U.S. Treasuries). American Express Co., Form 8-K (May 20,
  2009) (online at www.sec.gov/Archives/edgar/data/4962/000093041309002795/c57673_ 8k.htm)
\177\ Bank of America, Form 8-K (May 27, 2009) (online at www.sec.gov/Archives/edgar/data/4962/
  000093041309003114/c57844_ ex1.htm).
\178\ BB&T Corp, Form 8-K (May 12, 2009) (online at www.sec.gov/Archives/edgar/data/92230/000119312509114095/
  d8k.htm).
\179\ Bank of New York Mellon Corp., Form 8-K (May 12, 2009) (online at www.sec.gov/Archives/edgar/data/1390777/
  000095012309008628/y77159e8vk.htm).
\180\ Capital One Financial Corp., Form 8-K (May 11, 2009) (online at www.sec.gov/Archives/edgar/data/927628/
  000119312509107460/d8k.htm).
\181\ 7.494 percent five-year notes (540 basis points over U.S. Treasuries). One Financial Corp., Form FWP (May
  20, 2009) (online at www.sec.gov/Archives/edgar/data/927628/000119312509115052/dfwp.htm).
\182\ 8.765 percent ten-year notes (562.5 basis points over U.S. Treasuries). Citigroup Inc.q, Form FWP (May 15,
  2009) (online at www.sec.gov/Archives/edgar/data/831001/000095012309008985/y77311fwfwp.htm).
\183\ JPMorgan Chase & Co., Form 8-K (June 1, 2009) (online at www.sec.gov/Archives/edgar/data/19617/
  000119312509122723/d8k.htm).
\184\ 4.696 percent five-year notes (271 basis points over U.S. Treasuries). JPMorgan Chase & Co., Form FWP (May
  13, 2009) (online at www.sec.gov/Archives/edgar/data/19617/000001961709000793/fwp51309.htm).
\185\ Key Corp., Form 8-K (June 1, 2009) (online at www.sec.gov/Archives/edgar/data/19617/000119312509122723/
  d8k.htm).
\186\ Initial offering of $4 billion. Morgan Stanley, Form 8-K (May 8, 2009) (online at www.sec.gov/Archives/
  edgar/data/895421/000095010309001058/dp13415_ 8k.htm). Second offering of $2.2 billion. Morgan Stanley, Form 8-
  K (June 1, 2009) (online at www.sec.gov/Archives/edgar/data/895421/000095010309001280/dp13673_ 8k.htm).
\187\ $2 billion of 6.0 percent five-year notes (385 basis points over U.S. Treasuries) and $2 billion of 7.3
  percent ten-year notes (399 basis points over U.S. Treasuries). Morgan Stanley, Form FWP (May 8, 2009) (online
  at www.sec.gov/Archives/edgar/data/895421/000090514809001909/efc9-0580_ formfwp.htm).
\188\ PNC Financial Service Group, Inc., Form 8-K (May 20, 2009) (online at www.sec.gov/Archives/edgar/data/
  713676/000119312509119280/d8k.htm).
\189\ Regions Financial Corp., Form 8-K (May 20, 2009) (online at www.sec.gov/Archives/edgar/data/1281761/
  000119312509115380/d8k.htm).
\190\ State Street Corp., Form 8-K (May 21, 2009) (online at www.sec.gov/Archives/edgar/data/93751/
  000119312509116176/d8k.htm).
\191\ 4.3 percent five-year notes (196 basis points over U.S. Treasuries). State Street Corp., Form 8-K (May 22,
  2009) (online at www.sec.gov/Archives/edgar/data/93751/000119312509117661/d8k.htm).
\192\ SunTrust Banks, Inc., Form 8-K (June 1, 2009) (online at www.sec.gov/Archives/edgar/data/750556/
  000119312509121956/d8k.htm).
\193\ U.S. Bancorp., Form 8-K (May 11, 2009) (online at www.sec.gov/Archives/edgar/data/36104/000129993309002107/
  htm_ 32711.htm).
\194\ Wells Fargo & Co., Form 8-K (May 8, 2009) (online at www.sec.gov/Archives/edgar/data/72971/
  000089882209000287/wfc8k.htm).


               FIGURE 6: BANKS THAT HAVE REPAID THEIR TARP FUNDS UNDER THE CPP AS OF MAY 29, 2009
----------------------------------------------------------------------------------------------------------------
                                                                    Amount
                                                CPP  Repayment   remaining to  Does  Treasury       Warrant
             Bank               CPP  Repayment       amount         repay         still hold       repurchase
                                      date        (dollars in    (dollars in      warrants?     amount  (dollars
                                                   millions)      millions)                      in  millions)
----------------------------------------------------------------------------------------------------------------
Washington Federal Inc........      05/27/2009           200.0            0                 Y
TCF Financial Corp............      04/22/2009           361.2            0                 Y
First Niagara Financial Group.      05/27/2009           184.0            0                 Y
Iberiabank Corp...............      03/31/2009            90.0            0                 N  1.2 (05/20/2009)
Bank of Marin Bancorp.........      03/31/2009            28.0            0                 Y
Old National Bancorp..........      03/31/2009           100.0            0                 N  1.2 (05/08/2009)
Signature Bank................      03/31/2009           120.0            0                 Y
Sterling Bancshares, Inc......      05/05/2009           125.2            0                 Y
Berkshire Hills Bancorp, Inc..      05/27/2009            40.0            0                 Y
Alliance Financial Corporation      05/13/2009            26.9            0                 Y
FirstMerit Corporation........      04/22/2009           125.0            0                 N  5.0 (05/27/2009)
Sun Bancorp, Inc..............      04/08/2008            89.3            0                 N  2.1 (05/27/2009)
Independent Bank Corp.........      04/22/2009            78.2            0                 N  2.2 (05/27/2009)
Shore Bancshares, Inc.........      04/15/2009            25.0            0                 Y
Somerset Hills Bancorp........      05/20/2009             7.4            0                 Y
SCBT Financial Corp...........      05/20/2009            64.8            0                 Y
Texas Capital Bancshares, Inc.      05/13/2009            75.0            0                 Y
Centra Financial Holdings, Inc/     03/31/2009            15.0            0                 N  \195\ .8 (04/15/
 Centra Bank, Inc.                                                                              2009)
First Mantowoc Bancorp, Inc...        05/27/09            12.0            0                 N  .6 (05/27/2009)
First ULB Corp................        04/22/09             4.9            0                 N  .2 (04/22/2009)
Valley National Bancorp.......        06/03/09            75.0          225.0               Y
HF Financial Corp.............        06/03/09            25.0            0                Y
----------------------------------------------------------------------------------------------------------------
\195\ For certain privately held institutions such as this one, Treasury immediately exercised a warrant for
  additional preferred shares. Upon exiting TARP, the institution repurchased those additional shares for the
  total repurchase amount indicated.

 Annex to Section One: The Supervisory Capital Assessment Program: An 
                               Appraisal 


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


                     SECTION TWO: ADDITIONAL VIEWS


                         A. REP. JEB HENSARLING


                      1. GENERAL PROGRAM OVERVIEW

    As a member of the Congressional Oversight Panel (COP or 
the panel) for the Troubled Asset Relief Program (TARP), it has 
become evident to me that, unfortunately, the program is no 
longer being utilized for its intended purposes of financial 
stability and taxpayer protection. It is being used instead to 
promote the economic, social and political agendas of the 
current administration. As evidenced by TARP's financing of two 
bankrupt auto makers, multiple capital infusions into 
``healthy'' institutions, increased complexity for institutions 
wishing to repay TARP, I have come to the conclusion that 
Congress' original intent for financial stability and taxpayer 
protection is no longer being respected and the program should 
be unwound.

    2. BACKGROUND AND THE CONGRESSIONAL OVERSIGHT PANEL'S STATUTORY 
                            RESPONSIBILITIES

    On October 3, 2008, Congress voted to enact and the 
president signed into law the Emergency Economic Stabilization 
Act of 2008 (EESA). The act provided the United States Treasury 
with the authority to spend $700 billion to stabilize the U.S. 
economy and prevent a systemic meltdown. The act also 
established two bodies with broad oversight responsibilities: 
the COP and the Financial Stability Oversight Board (FSOB). The 
act placed audit responsibilities in the GAO and a Special 
Inspector General for the Troubled Asset Relief Program 
(SIGTARP).
    While the oversight and audit organizations have some 
overlapping responsibilities, only the COP is specifically 
empowered to hold hearings, take testimony, receive evidence, 
administer oaths to witnesses, and review official data, and is 
required to write reports on the extent to which the 
information on transactions has contributed to market 
transparency.\196\
---------------------------------------------------------------------------
    \196\ Congressional Research Service, Emergency Economic 
Stabilization Act: Preliminary Analysis of Oversight Provisions (Nov. 
20, 2008).
---------------------------------------------------------------------------
    The EESA statute requires COP to accomplish the following, 
through regular reports:
           Oversee Treasury's TARP-related actions and 
        use of authority;
           Assess the impact to stabilization of 
        financial markets and institutions of TARP spending;
           Evaluate the extent to which TARP 
        information released adds to transparency; and
           Ensure effective foreclosure mitigation 
        efforts in light of minimizing long-term taxpayer costs 
        and maximizing taxpayer benefits.
    All are tremendous responsibilities. However, the American 
people, through Congress, determined that each were necessary 
and expressed confidence that the COP, as an organization and 
an arm of Congress, was the right body to carry out the 
assigned tasks.
    It is no secret that I voted against EESA. However, as the 
only sitting member of Congress on the COP, I have consistently 
expressed my commitment to ensure that the TARP program works, 
that decisions made are based on merit and not political 
considerations, and most importantly, that the taxpayers are 
protected. I respect the panel and each of its members and 
staff; however, I fear that by choosing to focus much of its 
work on issues not central to our mandate the panel has missed 
critical opportunities to provide effective oversight.
    The American people have long understood that when it comes 
to government actions, sunshine is the best disinfectant. The 
COP is supposed to ensure that the sun is always shining when 
it comes to Treasury's actions and the use of TARP funds. 
However, due to the panel's pursuit of interesting topics for 
legislative and policy debates, taxpayers have not received 
answers as to whether the TARP program works, how decisions are 
being made or what the banks are doing with the taxpayers' 
money. A number of anecdotes exist, but the panel has the 
ability to establish the facts.
    As I have said in the past, effective oversight begins with 
a vigorous examination of those who administer the TARP. 
Unfortunately, the panel has conducted only one hearing with a 
Treasury official during its six-month existence. As a starting 
point, I echo my call that the panel hold a hearing each month 
with the Secretary of the Treasury or a senior designee with 
TARP management responsibilities. If the Treasury refuses to 
participate, the panel should hold its officials to account for 
not participating. If the panel refuses to call regular 
hearings with Treasury officials, the American public and 
Congress should hold the panel to account for negligence.
    Additionally, effective taxpayer accountability requires 
that the panel question TARP recipients. To date, the panel has 
questioned 3 institutions, representing 0.11 percent of total 
TARP authorization, out of over 600 \197\ TARP recipients. None 
of the major TARP recipients have been questioned in a public 
hearing.
---------------------------------------------------------------------------
    \197\ Total number of financial institutions participating in 
Treasury's Capital Purchase Plan. See U.S. Department of the Treasury, 
Seventh Tranche Report to Congress (June 3, 2009) (online at 
www.financialstability.gov/docs/TrancheReports/7th_ Tranche-Report-
Appendix.pdf).
---------------------------------------------------------------------------
    If presented with the opportunity, I believe the taxpayers 
would pose the following types of questions to the TARP 
recipients in a matter-of-fact, plainspoken American manner:
     Did the financial stability of the economy require 
that you accept TARP funds in the first place? Did your 
business model, risk management techniques, compliance 
protocols and underwriting standards threaten macroeconomic 
stability?
     If so, have you addressed those issues to ensure 
that taxpayers won't be called upon once again to infuse 
capital into your company? Please tell us what remedial actions 
you took and why you think they will be effective.
     If the financial stability of our economy did not 
require a TARP infusion into your company, did Treasury 
``force'' you to accept any TARP funds? If so, please tell us 
what happened.
     When can taxpayers expect you to repay the TARP 
funds?
     To achieve the goal of financial stability, do you 
anticipate the need for additional TARP funds? If so, how much 
and when will you need the additional TARP funds?
     Has Treasury refused to permit you to repay all or 
any part of your TARP funds in the name of financial stability? 
If so, please tell us about your disagreement with Treasury.
     We realize that money is fungible, but please tell 
us what you did with your TARP funds.
     Has Treasury or anyone from the government 
``encouraged'' (or directed) you to (i) extend credit to any 
person or entity or (ii) forgive or restructure any loan that 
may run counter to the goal of your company's financial 
stability?
     Using the TARP funds your company has received as 
leverage, has Treasury or anyone from the government 
``assisted'' (or directed) you in managing the affairs of your 
institution?
     Did your receipt of TARP funds result in new 
lending activity or increased lending activity?
    While the COP has reviewed a number of historical 
precedents and commented on various policies, including how 
Iceland handled its banking crisis, the panel cannot tell the 
American people what safeguards Treasury has in place to ensure 
that TARP money is not being wasted or if TARP money is being 
used in their best interest. The panel knows the answers to 
ancillary questions regarding how Spain, Germany, and Italy 
handled their banking crises, but the panel cannot answer 
fundamental questions on how Treasury is handling the current 
crisis. For example, the COP should ascertain how Treasury 
measures success, how it will know when TARP funds are no 
longer required, and what is Treasury's exit strategy. The 
taxpayers deserve to know answers to these fundamental 
questions, and it is the COP's duty to help provide them.
    As SIGTARP discussed at length in its last report, TARP has 
expanded a ``tremendous'' amount in scope, scale and 
complexity.\198\ I am including analysis of and questions about 
additional, key TARP-related issues upon which the panel has so 
far failed to shed light. I have also provided a few 
observations on the panel's June report.
---------------------------------------------------------------------------
    \198\ Office of the Special Inspector General for the Troubled 
Asset Relief Program, Quarterly Report to Congress (Apr. 21, 2009) 
(online at www.sigtarp.gov/reports/congress/2009/April2009_ Quarterly_ 
Report_ to_ Congress.pdf) (hereinafter ``SIGTARP April Report'').
---------------------------------------------------------------------------

a. Investigation of Chrysler's and GM's Bankruptcy and Restructuring

    Under the terms of the proposed Chrysler restructuring 
plan, the Chrysler senior secured creditors will receive 29 
cents on the dollar and the pension funds of the United Auto 
Workers (UAW), each an unsecured creditor, will receive 43 
cents on the dollar and a 55 percent equity ownership interest 
in the ``new'' Chrysler, even though the claims of the senior 
secured creditors are of a higher bankruptcy priority than the 
claims of the UAW.\199\ The State of Indiana's pension funds, 
one group of Chrysler's secured creditors, filed an appeal to 
the Chrysler sale, causing the bankruptcy judge to freeze the 
proceedings. In their filing, the funds stated, ``This attack 
on the most fundamental of creditor rights has been funded, 
orchestrated and controlled by Treasury, despite its complete 
lack of statutory and constitutional authority to do so.'' 
\200\
---------------------------------------------------------------------------
    \199\ Chad Bray and Alex P. Kellog, Court Affirms Chrysler Sale but 
Puts Deal on Hold Until Monday, Wall Street Journal (June 3, 2009) 
(online at online.wsj.com/article/
SB124423529553090069.html#mod=testMod).
    \200\ Tiffany Kary, et al., Chrysler Says Indiana Pension Funds 
Can't Win Appeal, Bloomberg (June 4, 2009) (online at 
www.bloomberg.com/apps/news?pid=20601103&sid=aDSQ2KKXfDPI).
---------------------------------------------------------------------------
    Under the terms of the proposed GM restructuring plan, the 
United States and Canadian governments, the UAW pension funds 
and the GM bondholders will receive an initial common equity 
interest in GM of 72.5 percent, 17.5 percent and 10 percent, 
respectively. The equity interest of the UAW pension funds and 
the GM bondholders may increase (with an offsetting reduction 
in each government's equity share) to up to 20 percent and 25 
percent, respectively, upon the satisfaction of specific 
conditions. The GM bondholders have been asked to swap $27 
billion in debt for a 10-25 percent common equity interest in 
GM, while the UAW has agreed to swap $20 billion in debt for a 
17.5-20 percent common equity interest and $9 billion in 
preferred stock and notes in GM.\201\ Apparently, even though 
the bankruptcy claims of the UAW pension funds and the GM 
bondholders are of the same priority, the UAW will receive a 
disproportionately greater distribution than the GM bondholders 
in the reorganization.
---------------------------------------------------------------------------
    \201\ Peter Whoriskey, U.S. Gets Majority Stake in New GM, 
Washington Post (June 1, 2009) (online at www.washingtonpost.com/wpdyn/
content/article/2009/05/31/AR2009053101959.html?sid=ST2009060100034).
---------------------------------------------------------------------------
    Given the unorthodox reordering of the rights of the 
Chrysler and GM creditors, a fundamental question arises as to 
whether the Administration directed that TARP funds be used to 
advance its policy and legislative objectives rather than to 
stabilize the American economy as required by EESA. In other 
words, did the Administration use any TARP funds as a carrot or 
stick? The Administration should also inform the American 
taxpayers regarding its proposed exit strategy from the 
Chrysler, GM and other TARP investments and whether it plans to 
reinvest such proceeds in other entities.
    The panel has agreed to hold a public hearing on the 
Chrysler and GM reorganizations. I commend the panel for this 
oversight effort. An effective hearing will take place as soon 
as possible in the nation's capitol and include senior Treasury 
officials, auto company executives, union executives, TARP 
recipient bondholders, and non-TARP recipient bondholders, to 
name a few. In order to discharge its specific duties and 
responsibilities under EESA in a professional and timely 
manner, the panel should seek answers to the following 
additional questions (among others):
     Why would certain Chrysler and GM creditors agree 
to accept less than what they were contractually owed and 
entitled to receive under bankruptcy law? \202\
---------------------------------------------------------------------------
    \202\ Thomas Lauria, a senior bankruptcy and reorganization 
attorney with the international law firm White & Case LLP, who 
represents a group of Chrysler creditors, recently stated on CNBC that 
the Administration flagrantly violated constitutional principles by 
trampling on the contractual rights of the Chrysler bondholders. This 
is a serious charge by a seasoned and well respected attorney at a top-
tier law firm and should be investigated by the panel. See Thomas 
Lauria, Interview: GM, Bonds & Beyond, CNBC (May 13, 2009) (online at 
www.cnbc.com/id/15840232?video=1122734987&play=1); Thomas Lauria, 
Interview: A Case of Gangster Government, CNBC (May 8, 2009) (online at 
www.cnbc.com/id/15840232?video=1118369112&play=1); Thomas Lauria, 
Interview: White House Bullying Bondholders?, CNBC (May 6, 2009) 
(online at www.cnbc.com/id/15840232?video=1116040367&play=1).
---------------------------------------------------------------------------
     Specifically, what is the legal and business 
justification for preferring the claims of the UAW pension 
funds over the claims of (i) the Chrysler senior secured 
creditors since the claims of such creditors are of a higher 
bankruptcy priority and should receive preferential treatment 
under bankruptcy law, and (ii) the GM bondholders since the 
claims of the UAW and the GM bondholders are of the same 
bankruptcy priority (both unsecured) and should receive 
identical (or at least substantially similar) treatment under 
bankruptcy law?
     Does it matter that some of the creditors were 
also TARP recipients? TARP beneficiaries who were also secured 
bondholders of Chrysler--including Citigroup, JP Morgan Chase, 
Morgan Stanley, and Goldman Sachs--agreed to the swap of $6.9 
billion in debt for just $2 billion in cash. Did these 
institutions acquiesce with the knowledge that losses from 
their Chrysler holdings may be replenished with TARP funds? 
Were they pressured into doing so? How would the taxpayer know 
whether or not Treasury channeled TARP funds through these 
institutions as a backdoor way of financing the auto industry 
and, indirectly, UAW claims? Were any of the GM bondholders 
TARP recipients?
     Why would TARP recipients (that by definition owe 
substantial sums to the United States government) agree to 
settle bankruptcy claims for less than the maximum amount 
allowable under bankruptcy law?
     Who authorized those decisions--the management of 
each TARP recipient or Treasury acting as the de facto manager 
of the TARP recipients--and what, if any, fiduciary duties were 
violated?
     If management of each such TARP recipient 
voluntarily agreed to forgive part of its claim against 
Chrysler and GM, as applicable, what was their legal basis for 
making such a gift?
     Why would TARP recipients agree to transfer part 
of their bankruptcy claims to another creditor--the UAW--and 
not use such amounts to repay their TARP loans?
     Did the Administration ``reimburse'' Chrysler and 
GM for any TARP funds transferred to the UAW?
     Did the Administration choose to prefer one group 
of employees--UAW members and their retiree benefits fund--over 
other non-UAW employees whose pension funds invested in GM 
bonds? Under such an approach the retirement plans of the UAW 
employees would be enriched while the retirement plans of the 
non-UAW employees would be diminished.
     What message does this send to the financial 
markets--should investors expect their contractual rights to be 
ignored when dealing with the United States government? How 
will the cases of GM and Chrysler affect future financings and 
reorganizations?
     What message does this send to non-UAW employees 
whose pension funds invested in Chrysler and GM indebtedness--
you lose part of your retirement savings because your pension 
fund does not have the special relationships of the UAW?
     Is the Administration setting corporate policy 
and/or running the day-to-day affairs of Chrysler and GM, 
including the two reorganizations? If so, under what authority?
     Did the Administration ``force'' Chrysler to 
accept a deal with Fiat?
     Have the Chrysler and GM boards of directors and 
officers abandoned their fiduciary duties and acquiesced in the 
management decisions made by the Administration?
     Has the Administration appropriately discharged 
its fiduciary duties in its role as the de facto manager of an 
insolvent Chrysler and GM?
     Will the United States government be open to suit 
by private parties based upon the breach of its fiduciary 
duties owed to Chrysler and GM and their shareholders and 
creditors?
     Should the panel recommend that SIGTARP, which 
performs audits and investigations on abuse and fraud, 
investigate any such inappropriate use of TARP funds?
     What is the Administration's exit strategy 
regarding the investment of TARP funds in Chrysler and GM?
    On top of a bankruptcy that will give the UAW a sweeter 
deal than comparable GM creditors, there is also the wider 
concern that GM is becoming another black hole for taxpayer 
dollars. The government will presumably receive a 72.5 percent 
initial ownership stake in exchange for $50 billion of TARP 
funds committed so far. Although the President has called the 
government a ``reluctant'' shareholder that will ``take a 
hands-off approach, and get out quickly,'' the Administration 
has presented no exit strategy for its ownership, nor any plan 
for recouping equity investments. In its latest baseline, the 
Congressional Budget Office (CBO) estimated that the TARP auto 
program carried about a 74 percent subsidy rate for the 
taxpayer--a rate calculated before GM announced bankruptcy and 
before loans were converted to what will amount to common 
stock. Congress and the public still have little knowledge of 
how the Administration will manage the automaker, how it 
assesses risks of taxpayer losses, and a strategy to unwind its 
investment. These issues will require rigorous and ongoing 
investigation by the COP.
    Regrettably, the consequences of these actions may not be 
limited to Chrysler and GM but may resonate through and have a 
chilling effect on the broader bond and capital markets. Once 
investors realize that their contracts may not be respected by 
the Administration, if they even agree to participate, they 
will demand interest rate and other premiums to compensate for 
the enhanced risk. Such expenses will be passed on to consumers 
and will render American businesses at a competitive 
disadvantage to their foreign counterparts. Following the well-
stumbled path of unintended consequences, two misguided 
attempts perhaps to favor the UAW may cause other hard working 
Americans to lose their jobs to business enterprises organized 
in foreign countries that continue to respect the sanctity of a 
contract. How can the Administration believe that its actions 
in the Chrysler and GM reorganizations will go unnoticed by the 
investment community? These ``technicalities'' may have not 
garnered the attention of most Americans but they are front-
and-center issues with financial institutions and their counsel 
and investors. How can an Administration that is beating the 
drum with one hand to encourage financial institutions to 
extend credit poke the same financial institutions in the eye 
with the other hand? I suspect this lesson has not been lost on 
the financial community and may serve as one of the reasons for 
the community's tepid embrace of the TALF and PPIP programs.

b. Transparency of Bank of America's Acquisition of Merrill Lynch

    Recently, reports have appeared to the effect that Treasury 
``coerced'' Bank of America into purchasing Merrill Lynch even 
though Bank of America's management concluded that the 
transaction was not in the best interest of the bank and its 
shareholder. In May the chair of the panel, Professor Elizabeth 
Warren, sent a letter to Treasury Secretary Geithner requesting 
his ``thoughts on the issue.'' In order to determine what 
actually occurred, the panel should investigate whether 
Treasury threatened to withhold TARP funds if Bank of America 
withdrew from the acquisition, when any such threats were made 
and if such actions impacted Bank of America's decision to 
acquire Merrill Lynch.

c. TALF and PPIP

    The COP's April report indicates a lack of participation by 
potential investors in other government programs like the Term 
Asset-Backed Securities Loan Facility (TALF) and the Public-
Private Investment Program (PPIP), due to the uncertainty 
regarding changing terms and conditions of the programs.\203\ 
Although the Federal Reserve announced that requests for 
participation in TALF increased $11.5 billion from last month, 
the program had a rocky start and may pose a greater risk as it 
brings on commercial and residential mortgage-backed securities 
(MBS).\204\ The PPIP, which has not yet gone live, continues to 
be a program in limbo, and the FDIC now says it will delay the 
sale of legacy loans.\205\
---------------------------------------------------------------------------
    \203\ Jody Shenn, Dudley's TALF Comments Add Signs of a PPIP Stall, 
Bloomberg (June 5, 2009) (online at www.bloomberg.com/apps/
news?pid=newsarchive&sid=a2Wl7tAD6rEA).
    \204\ Scott Lanman and Sarah Mulholland, Fed Says TALF Loan 
Requests Increase to $11.5 Billion, Bloomberg (June 2, 2009) (online at 
www.bloomberg.com/apps/news?pid=20601087&sid=aUonjouK30hU).
    \205\ Margaret Chadbourn, FDIC Said to Delay PPIP Test Sale of 
Distressed Loans, Bloomberg (June 2, 2009) (online at 
www.bloomberg.com/apps/news?pid=20601103&sid=aVLm8N96tvV0&refer=us).
---------------------------------------------------------------------------
    As we await further details and in order to discharge its 
specific duties and responsibilities under EESA in a 
professional and timely manner, the panel should address the 
following inquiries:
     How have these uncertainties--specifically 
including the complex executive compensation rules, the 
threatened ``outing'' of certain AIG employees and their 
families, the alleged inequitable treatment of certain 
creditors of Chrysler and GM, and the pending SIGTARP 
investigations--affected the TALF and PPIP programs?
     Why haven't hedge funds, private equity funds and 
other investors embraced the TALF and PPIP programs as 
anticipated by Treasury?
     Has Treasury marketed these programs to passive 
foreign investors and tax exempt organizations (as well as the 
typical domestic investors) and what regulatory and other 
burdens prohibit or limit the participation by such investors?
     Are the tax laws written so as to encourage 
passive foreign investors to invest in performing loans and 
securities but discourage such investors from investing in 
distressed loans and securities?
     Why hasn't the panel called leaders in the 
financial and investment communities to testify as to why they 
consider the TALF and PPIP programs unattractive?
     What do potential investors like and what do they 
dislike, and why?
     Is it possible to address the ``dislikes'' in a 
reasonable and mutually beneficial manner?
     Why have some investors abandoned their 
participation in the programs after expressing initial 
interest?
     What legal and financial impediments exist?
     What other impediments exist?
     If Treasury is struggling to introduce market-
ready investment programs, why hasn't the panel offered its 
assistance?
    I am certainly not suggesting that hedge fund managers be 
permitted to structure the programs de novo, but since Treasury 
desperately needs private capital to arrest the financial 
crisis it seems entirely appropriate for the panel to solicit 
and consider the views of the targeted investor classes. 
Treasury and the panel must remember that private sector 
investors have limited capital to deploy and numerous 
attractive opportunities to consider and will not chose to 
invest in any Treasury program unless they expect to earn an 
appropriate risk adjusted rate of return without excessive 
administrative and regulatory burdens. These private sector 
institutions owe a fiduciary duty to their investors (which 
often include pension funds and university endowments) and 
simply cannot allocate capital to off-market investments.
    With the full knowledge that private dollars will not 
participate unless they anticipate upside potential, the panel 
should also ask Treasury to provide more detail on how it 
assesses downside risk to the taxpayers of the TALF and PPIP 
programs. SIGTARP, for example, has already made several 
recommendations to Treasury on ways to reduce risk and the 
potential for fraud in TALF and PPIP. It is extremely concerned 
with the inclusion of legacy residential MBS in TALF, stating 
the Treasury should screen individual securities, have more 
stringent requirements for loans used as collateral, and 
require higher haircuts for all MBS. In addition, SIGTARP 
believes that PPIP is ``inherently vulnerable to fraud, waste 
and abuse,'' including various conflicts of interests between 
participants.\206\
---------------------------------------------------------------------------
    \206\ SIGTARP April Report, supra note 198.
---------------------------------------------------------------------------

d. June COP Report

    The report is fairly straightforward in that it focuses on 
the mechanics of the recently completed stress tests. Although 
I voted ``yes'' to the report, I offer the following questions 
and observations.
    i. Underlying Legal and Regulatory System. Increased 
government involvement in our housing markets created 
significant distortions and disruptions. This increased 
involvement is contrary to the oft-repeated, now disproven 
claims of proponents of expanded government control of our 
economy that a ``wave'' of market deregulation over the last 20 
years caused the current crisis. To the contrary, facts 
indicate that there were at least five key factors which 
contributed to financial crisis, at least four of which were a 
direct result of government involvement. Those four factors--
highly accommodative monetary policy by the Federal Reserve, 
continual federal policies designed to expand home ownership, 
the congressionally-granted duopoly status of housing GSEs 
Fannie Mae and Freddie Mac, and an anti-competitive government-
sanctioned credit rating oligopoly--are thoroughly discussed in 
the Joint Dissenting Views to the COP's ``Special Report On 
Regulatory Reform'' that I offered along with Senator John 
Sununu along with a fifth factor (failures throughout the 
mortgage securitization process that resulted in the 
abandonment of sound underwriting practices).\207\ As such, a 
thorough recitation of those points here would be redundant.
---------------------------------------------------------------------------
    \207\ Congressional Oversight Panel, Special Report on Regulatory 
Reform: Modernizing the American Financial Regulatory System: 
Recommendations for Improving Oversight, Protecting Consumers, and 
Ensuring Stability, at 54-89 (Jan. 29, 2009) (online at cop.senate.gov/
documents/cop-012909-report-regulatoryreform.pdf).
---------------------------------------------------------------------------
    ii. Further Information on Counterparty Risk. The current 
COP report gives a broad overview of how bank holding companies 
(BHCs) provided estimates of counterparty losses, potentially 
occurring from deterioration in the credit markets, under the 
two stress test scenarios. But the fact remains that there is 
still a considerable amount of uncertainty about the inputs 
used to stress test counterparty agreements like credit default 
swaps and similarly-structured products. The panel neglects to 
provide much detail beyond what the Federal Reserve's SCAP 
``Design and Implementation'' presents in its white paper. What 
was the interaction like between the BHCs, who ran the tests, 
and the Federal Reserve, who supervised them? Was the Fed able 
to validate counterparty data? There is also little discussion 
of disparate data among BHCs, and how the Federal Reserve 
rationalized what is a complicated framework with 
interdependent assumptions on the risks of default. If the 
financial institutions already have counterparty data available 
to reasonably assess losses, were another set of market shocks 
to occur, why is there still so much uncertainty about systemic 
risk? Is there any way for the Federal Reserve to separate the 
potential losses from agreements like credit default swaps from 
other potential trading losses? Information that addresses 
these questions would enable COP to fulfill its responsibility 
of assessing how effective TARP funds have been in stabilizing 
financial markets.
    iii. Application of the Mark-to-Market Rules. Was the 
methodology applied to the ``more adverse'' scenario too 
conservative? That is, if the newly relaxed mark-to-market 
rules were applied to the ``more adverse'' scenario by how much 
would the additional capital requirements have dropped? A 
lesser capital requirement would decrease the likelihood that 
the BHCs would have to raise equity capital by (i) selling 
stock in the market or under CAP, (ii) converting preferred 
stock (whether privately held or issued under the CPP) into 
common stock, or (iii) selling assets. No such alternative is 
in the best interests of the taxpayers or the BHCs and, as 
such, should be avoided unless necessary and appropriate. 
Perhaps prudent underwriting necessitates the use of the old 
mark-to-market rules under the theory ABS securities will 
continue to be worth far less than their face values. The panel 
should continue to investigate by how much the additional 
capital requirements would have dropped if the recently 
modified mark-to-market rules were applied to the ``more 
adverse'' scenario.
    iv. ``Negotiation'' of Stress Tests. The report raises the 
question as to whether the stress test results were 
``negotiated'' between the BHCs and their supervisors. The 
report notes that the supervisors informed the staff of the 
panel that there was no ``negotiation'' of the results except 
with respect to specific first quarter adjustments and clear 
errors and omissions.
    The report also asks if the process could have been better 
handled in a more transparent manner. Although such inquiry is 
no doubt appropriate, absent evidence to the contrary, I think 
it might be counterproductive to dig aggressively into the 
discussions between the BHCs and their supervisors because such 
discussions were no doubt candid and may have indeed resulted 
in lower capital requirements for specific institutions. It's 
naive to think otherwise. It does not follow, however, that the 
regulators were persuaded to recommend inappropriately low 
additional capital requirements for any institution. Regulated 
entities and their supervisors typically discuss (and argue) at 
length the results of an examination or audit. Through this 
back-and-forth process each side presents its case and 
advocates the merits of its position. The regulated entity 
works to assist the regulator in better understanding how the 
applicable regulations should apply to its business, financial 
position and operating results, and the regulator argues in 
support of its application of the regulations to the regulated 
entity. This process is critical for the regulators because 
they are generally significantly outnumbered by the employees 
of the regulated entities. Regulated entities and their 
supervisors must have an open line of communication that 
permits each to speak frankly. Such interaction and exchange of 
ideas between a regulated entity and its supervisor by no means 
implies that the regulated entity acted in an inappropriate 
manner or that the regulator conceded an issue that is not in 
the best interest of the taxpayers. If credible evidence 
develops to the contrary the panel should promptly investigate, 
otherwise any investigation will most likely yield only the 
obvious: the supervisors presented their results to the BHCs; 
the BHCs commented on any inconsistencies, errors and omission; 
the supervisors made any modifications to their reports that 
they considered appropriate in their sole and absolute 
discretion; and the results were released.
    v. CMBS. I continue to receive less than enthusiastic 
reports regarding the commercial real estate market. If all 
commercial real estate loans and CMBSs were marked-to-market 
the additional capital requirement could jump dramatically. The 
supervisors should diligently monitor these loans and 
securities.
    vi. Government Intervention, Exit Strategy and Related 
Issues. The following sentences were included in a draft 
version of the June report, but were not included in the final 
report. They are important issues to consider in the context of 
TARP's effectiveness, and I have included them below:
    ``To the extent that BHCs rely on CAP funds in meeting 
their capital buffer needs, all the issues involved in 
government ownership of companies' common stock are raised. 
Promised Treasury guidance as to the corporate governance 
principles that will be followed does not yet seem to have been 
published, and will be crucial.''
    ``Since government intervention in the markets causes 
uncertainty, and may make investors less likely to participate 
in capital raising by the BHCs, the Administration should be as 
transparent as possible with respect to policy issues regarding 
intervention.''
    ``Treasury should publish the corporate governance policies 
or guidelines which it will follow as a shareholder in 
institutions requiring CAP funding.''
    In addition, and in order to discharge its specific duties 
and responsibilities under EESA in a professional and timely 
manner, the panel should investigate the following related 
issues (among others):
     What is Treasury's exit strategy with respect to 
each TARP investment? Treasury should specify its exit strategy 
on an entity-by-entity basis with a time line and in sufficient 
detail.
     What TARP investments does Treasury expect to hold 
at the end of 2009 and each of the next five years? Treasury 
should specify on an entity-by-entity basis and in sufficient 
detail.
     Does Treasury anticipate that it will need to make 
additional investments in any of the current TARP recipients or 
any other entity? If so, in what amount, in what form, for what 
entity and for what purpose?
     Does Treasury anticipate that it will reinvest any 
repaid TARP funds, that is, is TARP a revolving credit/
investment facility?
     Will Treasury remain a passive investor or will it 
undertake to designate the directors and officers of the TARP 
recipients and in substance exercise day-to-day control over 
the management and affairs of such entities?
     Will Treasury timely announce its decision to act 
in a passive or active manner with respect to the TARP 
recipients so as to lessen the uncertainty regarding the large 
block of shares held by the public sector?
     Will Treasury follow and respect applicable state 
corporate and federal and state securities law?
     If the government acts as the de facto management 
of any TARP recipient will it be liable to suit as a 
controlling person and subject to all applicable federal and 
state corporate, securities and other rules and regulations?
     What are the consequences of the United States 
government serving as the de facto manager of Chrysler, GM and 
the largest financial institutions?
     Will the government mandate which cars will be 
built and which borrowers will qualify for loans?
     How will ``non-subsidized'' businesses compete 
with TARP recipients whose government shareholder may literally 
print money?
     Will TARP recipients receive favorable government 
contracts or other direct or indirect subsidies the award of 
which is not based upon objective and transparent criteria?
     Will TARP recipients promptly disclose all 
contractual arrangements (oral or written) between each TARP 
recipient and the government, together with a detailed 
description of the contract, its purpose, the transparent and 
open competitive bidding process undertaken and the arm's 
length and market directed nature of the contract?
     Will TARP recipients be able to obtain private or 
public credit or enter into other contractual arrangements at 
favorable rates because of the implicit governmental guarantee 
of such indebtedness and contracts?
     Will any such subsidies violate U.S. law or the 
laws of any foreign jurisdiction?
     How may all aspects of the relationship between 
each TARP recipient and the government be made more 
transparent, accountable and beyond reproach?
     What are the best practices the government should 
adopt with respect to its role as the sole TARP investor?
     Will employees (and members of their immediate 
families) of the government that work with or supervise any 
TARP recipients be barred from seeking employment or serving as 
a director with TARP recipients or from working with any public 
policy shop, law firm or other organization that represents any 
TARP recipients for a period of, say, at least five-years 
following the departure from government service of such 
employee?
     Will governmental employees (and members of their 
immediate families) be barred from serving as directors, 
managers or employees of any TARP recipient during their 
government service?
     What corporate governance, compliance, risk 
management and internal control protocols and procedures will 
the government adopt with respect to its role as a creditor and 
shareholder of the TARP recipients?
     Will the government in its capacity as a 
shareholder of each TARP recipient undertake to abide by all 
insider trading, controlling shareholder and other applicable 
rules and regulations?
     Will the government exert disproportionate 
influence over management relative to its actual ownership 
interests in the TARP recipients?
     How will Treasury resolve any conflict of interest 
between its role as a creditor or equity holder in any TARP 
recipient and as a supervising governmental authority for any 
such TARP recipient?
     Will the IRS, SEC, Federal Reserve, FDIC and other 
governmental agencies be able to discharge their regulatory and 
enforcement responsibilities with respect to each TARP 
recipient without political influence?
     Will management of the TARP recipients support the 
government's slate of proposed directors and thus 
disenfranchise the remaining shareholders under the proxy 
rules?
     If Treasury plans to sell its common stock to the 
public what are the appropriate benchmarks that will trigger 
such sales?
     Should Treasury sell its shares in the market 
(whereby the TARP recipients will not share in the proceeds, 
but the TARP advances will be repaid) or should Treasury agree 
to retain its stock and permit the TARP recipients to sell 
newly issued shares to third-parties (whereby the TARP 
recipients will retain the proceeds from the offering, but the 
TARP advances will remain outstanding)?
           SECTION THREE: CORRESPONDENCE WITH TREASURY UPDATE

    On behalf of the Panel, Chair Elizabeth Warren sent a 
letter on May 11, 2009 to Federal Reserve Board Chairman 
Bernanke to request certain documents and information related 
to the SCAP and to arrange a series of meetings to discuss 
SCAP.\208\ Negotiations regarding the production of the 
requested materials are ongoing.
---------------------------------------------------------------------------
    \208\ See Appendix I of this report, infra.
---------------------------------------------------------------------------
    On behalf of the Panel, Chair Elizabeth Warren sent a 
letter to Secretary Geithner on May 12, 2009, inviting him to 
testify before the Panel on Wednesday, June 17, 2009.\209\ The 
Panel seeks to continue its public dialogue with Secretary 
Geithner, which began with his first appearance before the 
Panel on April 21, 2009. The letter specifically requests that 
the Secretary appear before the Panel to discuss the results of 
the stress tests and the questions the results raise concerning 
methodology, repayment of TARP funds, and the next steps for 
the use of TARP money.
---------------------------------------------------------------------------
    \209\ See Appendix II of this report, infra.
---------------------------------------------------------------------------
    On behalf of the Panel, Chair Elizabeth Warren sent a 
letter on May 19, 2009 to Secretary Geithner and Chairman 
Bernanke referencing public concern that Treasury and the Board 
had applied strong pressure on Bank of America to complete its 
acquisition of Merrill Lynch, despite Bank of America's 
concerns about Merrill Lynch's deteriorating financial 
state.\210\ The letter cites this episode as an example of the 
conflicts of interest that can arise when the government acts 
simultaneously as regulator, lender of last resort, and 
shareholder. The letter concludes by soliciting Secretary 
Geithner's and Chairman Bernanke's thoughts on how to manage 
these inherent conflicts to ensure that similar episodes do not 
undermine government efforts to stabilize the financial system 
in the future.
---------------------------------------------------------------------------
    \210\ See Appendix III of this report, infra.
---------------------------------------------------------------------------
    On behalf of the Panel, Chair Elizabeth Warren sent a 
letter on May 26, 2009, to Secretary Geithner requesting 
information about Treasury's Temporary Guarantee Program for 
Money Market Funds, which is funded by TARP.\211\ The Temporary 
Guarantee Program uses assets of the Exchange Stabilization 
Fund to guarantee the net asset value of shares of 
participating money market mutual funds. The letter requests a 
description of the program mechanics and an accounting of its 
obligations and funding mechanisms.
---------------------------------------------------------------------------
    \211\ See Appendix IV of this report, infra.
              SECTION FOUR: TARP UPDATES SINCE LAST REPORT

    In addition to the release of the stress test results on 
May 7, 2009 (see Section One of this report), Treasury and the 
Federal Reserve Board released data and made program 
adjustments to a number of initiatives under the Financial 
Stability Plan since the release of the Panel's last oversight 
report.

            A. AUTOMOTIVE INDUSTRY FINANCING PROGRAM (AIFP)

    On June 1, 2009, a federal bankruptcy judge approved the 
sale of the majority of Chrysler's assets to the Italian 
automaker Fiat, clearing the way for the company to exit the 
bankruptcy process. On the same day, General Motors (GM) filed 
for chapter 11 bankruptcy following the approval of its revised 
viability plan by the President's Auto Industry Task Force. The 
Administration pledged to support GM through an expedited 
chapter 11 proceeding with an additional public investment of 
$30.1 billion under AIFP. The additional cash infusion will 
raise the total U.S. investment in GM to $49.8 billion. In 
return, the government will receive $8.8 billion in debt and 
preferred stock, giving it a 60 percent ownership stake in the 
new GM.

                  B. ADDITIONAL CPP INVESTMENT IN GMAC

    On May 21, 2009, Treasury announced a $7.5 billion 
preferred equity investment in GMAC. GMAC was one of ten banks 
subjected to ``stress tests'' under the SCAP determined to be 
in need of additional capital. Treasury mandated that the auto 
lender raise $9.1 billion in new tier 1 capital within six 
months. $3.5 billion of this investment will go toward 
addressing the capital shortage. The remaining $4 billion will 
be used to support new financing for Chrysler dealers and 
customers, a condition of federal assistance. GMAC must submit 
a plan for meeting the remainder of its capital needs to 
Treasury by June 8. Treasury also announced its intention to 
exercise the right to exchange an earlier $884 million loan to 
GM for common equity interests in GMAC, giving the government a 
35.4 percent equity interest in GMAC.

          C. TERM ASSET-BACKED SECURITIES LOAN FACILITY (TALF)

    The Federal Reserve Board approved the addition of legacy 
commercial mortgage-backed securities (Legacy CMBS) to the 
classes of assets eligible for TALF loans. Legacy CMBS are 
those issued before January 1, 2009. Previously, the Board had 
announced it would expand the range of acceptable TALF 
collateral to include new CMBS (those issued after January 1, 
2009) starting with the June 16 subscription date. Legacy CMBS 
are expected to join TALF beginning with the subscription in 
late July. The terms of TALF coverage of Legacy CMBS will 
differ from those for other assets. The haircut (adjusted for 
length of maturity) will be a standard 15 percent of par--the 
face amount--of the Legacy CMBS financed. Because the haircut 
is based on par value, it will increase with every dollar that 
the Legacy CMBS are valued below par. Thus, the government 
compensation for risk increases as its collateral loses value. 
The interest rate carry (the amount that can be earned in 
excess of the interest paid to the New York Fed) will be capped 
at 90 percent; this is the first explicit ceiling on TALF 
returns. The cap amounts to a second haircut of six to eight 
percent.
    On June 2, 2009, the Federal Reserve Bank of New York 
offered its June TALF subscription on non-mortgage asset-backed 
securities (ABS). In the two hours the facility was open, $11.5 
billion in loans were requested. More than three quarters of 
the funds were secured by assets backed by credit card debt 
($6.2 billion) or auto loans ($3.3 billion). As a point of 
comparison, there was a total of $10.6 billion in loans at the 
May facility, $1.7 billion at the April facility and $4.7 
billion at the March facility.

                D. MAKING HOME AFFORDABLE PROGRAM (MHA)

    On May 14, 2009, Secretary Geithner and Housing and Urban 
Development (HUD) Secretary Shaun Donovan announced two new 
program components intended to help homeowners obtain 
modifications and stabilize property values in areas suffering 
from home price declines.
    1. Foreclosure Alternatives Program provides incentives for 
servicers and borrowers to pursue short sales and deeds-in-lieu 
(DIL) of foreclosure in cases where the borrower is generally 
eligible for a MHA modification but is unable to complete the 
process. The program aims to simplify and streamline the short 
sale and deed-in-lieu process by providing a standard process 
flow, minimum performance timeframes, and standard 
documentation.
    2. Home Price Decline Protection Incentives will provide 
lenders additional incentives for modifications in areas where 
home price declines have been most severe and there is concern 
that the market has yet to bottom out. The program will provide 
cash payments to lenders based on the rate of recent home price 
declines in a local housing market, as well as the average cost 
of a home in that market. The incentive payments on all 
modified homes will help cover the incremental collateral loss 
on those modifications that do not succeed.
    Treasury also released a progress report on MHA. According 
to the report, since MHA was announced in early March, 14 
servicers, including the nation's five largest, had signed 
contracts and begun modifications under MHA. The servicers had 
extended offers on over 55,000 trial modifications and mailed 
over 300,000 letters with information about trial modifications 
to troubled borrowers.

              E. PUBLIC-PRIVATE INVESTMENT PROGRAM (PPIP)

    On June 3, 2009, the FDIC announced that the June pilot 
auction of illiquid bank assets under the Legacy Loans Program 
(LLP), one component of the Administration's two-part Public-
Private Investment Program (PPIP), would be postponed. 
According to the FDIC, the auction was postponed because many 
banks have been able to raise new capital without having to 
contemplate selling bad assets through the LLP. The FDIC did 
not state when the postponed auction would take place. A pilot 
auction for receivership assets, those assets retained by the 
FDIC from failed banks, is scheduled to take place in July.

                     F. CPP MONTHLY LENDING REPORT

    Treasury released its first CPP Monthly Lending Report, a 
survey of all CPP participants designed to provide insight into 
their lending activities. The report captures three data points 
on a monthly basis: average outstanding balances of consumer 
loans, commercial loans, and total loans from all CPP 
participants. This first report includes data from 500 banks 
from February 2009 and March 2009. The report shows that the 
total average outstanding loans for all CPP participants were 
$5,279 billion in February 2009 and $5,237 billion in March 
2009. The CPP Monthly Lending Report joins the Monthly Lending 
and Intermediation Snapshot of the top 21 CPP participants 
(launched in January) as Treasury's primary sources of public 
data on lending trends and loans outstanding from CPP 
institutions.

                       G. REPAYMENT OF TARP FUNDS

    On June 1, 2009, the Federal Reserve Board released an 
outline of the criteria it will use to evaluate applications to 
redeem Treasury capital from the 19 BHCs that participated in 
SCAP. The Board's primary requirements for approval are a 
demonstration on the part of the BHC that it can access the 
long-term debt markets without reliance on a guarantee from the 
FDIC and the ability to successfully access public equity 
markets. Among other things, a BHC must also demonstrate the 
ability to maintain certain minimum capital levels and to serve 
as a source of financial and managerial strength and support to 
its subsidiary banks. Redemption approvals for an initial set 
of BHCs are expected to be announced the week of June 8. 
Applications will be evaluated periodically thereafter.

    H. ADMINISTRATION PROPOSAL ON REGULATING OVER-THE-COUNTER (OTC) 
                              DERIVATIVES

    On May 13, 2009, the Obama Administration announced its 
proposal for a comprehensive regulatory framework to cover all 
OTC derivatives. In a letter to Congress, Secretary Geithner 
identified the four broad objectives of the proposal: (1) 
preventing activities in derivatives markets from posing risk 
to the financial system; (2) promoting the efficiency and 
transparency of those markets; (3) preventing market 
manipulation, fraud, and other market abuses; and (4) ensuring 
that OTC derivatives are not marketed inappropriately to 
unsophisticated investors. The proposal requires legislative 
action to amend the Commodity Exchange Act and enhance the 
regulatory authority of the Commodity Futures Trading 
Commission (CFTC) and the Securities and Exchange Commission 
(SEC). Under the proposal, a new regulatory regime of OTC 
derivatives would require the clearing of all standardized OTC 
derivatives through regulated central counterparties, enhanced 
supervision and regulation of firms who deal in OTC derivatives 
by the CFTC and the SEC, and stricter recordkeeping and 
recording requirements, including the movement of all 
standardized trades onto regulated exchanges and regulated 
electronic execution systems.

                               I. METRICS

    The Panel's April oversight report highlighted a number of 
metrics that the Panel and others, including Treasury, the 
Government Accountability Office (GAO), Special Inspector 
General for the Troubled Asset Relief Program (SIGTARP), and 
the Financial Stability Oversight Board, consider useful in 
assessing the effectiveness of the Administration's efforts to 
restore financial stability and accomplish the goals of the 
EESA. The Panel's May oversight report described some 
significant movement that had occurred in a few of the 
indicators in the time between the Panel's April and May 
reports. This report highlights changes that have occurred in 
several indicators since the release of the Panel's May report.
     Interest Rate Spreads. Several key interest rate 
spreads have dropped significantly in recent weeks, most 
notably the 3-month and 1-month LIBOR-OIS spreads and the TED 
spread. The Fed attributes the moderation of many of these 
spreads to its lending programs as well as to the somewhat 
improved general economic outlook.\212\
---------------------------------------------------------------------------
    \212\ House Committee on the Budget, Testimony of Board of 
Governors of the Federal Reserve System Chairman Ben S. Bernanke, 
Challenges Facing the Economy: The View of the Federal Reserve, 111th 
Cong. (June 3, 2009) (online at budget.house.gov/hearings/2009/
06.03.2009_ Bernanke_ Testimony.pdf).

                     FIGURE 7: INTEREST RATE SPREADS
------------------------------------------------------------------------
                                           Current       Percent change
              Indicator                spread  (as of  since last report
                                           6/8/09)          (5/7/09)
------------------------------------------------------------------------
3-Month LIBOR-OIS Spread \213\.......            0.41             -45.06
1-Month LIBOR-OIS Spread \214\.......           -0.10             -45.02
TED Spread \215\ (in basis points)...           47.76             -38.67
Conventional Mortgage Rate Spread                1.57              -6.55
 \216\...............................
Corporate AAA Bond Spread \217\......            2.00             -15.25
Corporate BAA Bond Spread \218\......            4.05             -21.51
Overnight AA Asset-backed Commercial             0.18             -35.71
 Paper Interest Rate Spread \219\....
Overnight A2/P2 Nonfinancial                     0.32            -23.81
 Commercial Paper Interest Rate
 Spread \220\........................
------------------------------------------------------------------------
\213\ 3-Mo LIBOR	OIS Spread, Bloomberg (online at www.bloomberg.com/apps/
  quote?ticker=.LOIS3:IND) (accessed June 8, 2009).
\214\ 1-Mo LIBOR	OIS Spread, Bloomberg (online at www.bloomberg.com/apps/
  quote?ticker=.LOIS1:IND) (accessed June 8, 2009).
\215\ TED Spread, Bloomberg (online at www.bloomberg.com/apps/
  quote?ticker=.TEDSP:IND) (accessed June 8, 2009).
\216\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release H.15: Selected Interest Rates: Historical Data
  (Instrument: Conventional Mortgages, Frequency: Weekly) (online at
  www.federalreserve.gov/releases/h15/data/Weekly_ Thursday_ /H15_
  MORTG_ NA.txt) (accessed June 8, 2009); Board of Governors of the
  Federal Reserve System, Federal Reserve Statistical Release H.15:
  Selected Interest Rates: Historical Data  (Instrument: U.S. Government
  Securities/Treasury Constant Maturities/Nominal 10-Year, Frequency:
  Weekly) (online at www.federalreserve.gov/  releases/h15/data/Weekly_
  Friday_ /H15_ TCMNOM_ Y10.txt) (accessed June 8, 2009) (hereinafter
  ``Fed H.15 10-Year Treasuries'').
\217\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release H.15: Selected Interest Rates: Historical Data
  (Instrument: Corporate Bonds/Moody's Seasoned AAA, Frequency: Weekly)
  (online at www.federalreserve.gov/  releases/h15/data/Weekly_ Friday_
  H15_ AAA_ NA.txt) (accessed June 8, 2009); Fed H.15 10-Year
  Treasuries, supra  note 216.
\218\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release H.15: Selected Interest Rates: Historical Data
  (Instrument: Corporate Bonds/Moody's Seasoned BAA, Frequency: Weekly)
  (online at www.federalreserve.gov/releases/h15/data/Weekly_ Friday_ /
  H15_ BAA_ NA.txt) (accessed June 8, 2009); Fed H.15 10-Year
  Treasuries, supra note 216.
\219\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release: Commercial Paper Rates and Outstandings: Data
  Download Program  (Instrument: AA Asset-Backed Discount Rate,
  Frequency: Daily) (online at www.federalreserve.gov/DataDownload/
  Choose.aspx?rel=CP) (accessed June 8, 2009); Board of Governors of the
  Federal Reserve System, Federal Reserve Statistical Release:
  Commercial Paper Rates and Outstandings: Data Download Program
  (Instrument: AA Nonfinancial Discount Rate, Frequency: Daily) (online
  at www.federalreserve.gov/DataDownload/Choose.aspx?rel=CP) (accessed
  June 8, 2009) (hereinafter ``Fed CP AA Nonfinancial Rate'').
\220\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release: Commercial Paper Rates and Outstandings: Data
  Download Program  (Instrument: A2/P2 Nonfinancial Discount Rate,
  Frequency: Daily) (online at www.federalreserve.gov/DataDownload/
  Choose.aspx?rel=CP) (accessed June 8, 2009); Fed CP AA Nonfinancial
  Rate, supra  note 219.

     Commercial Paper Outstanding. Commercial paper 
outstanding, a rough measure of short-term business debt, is an 
indicator of the availability of credit for enterprises. Levels 
of financial, nonfinancial, and asset-backed commercial paper 
continued to decline in May, indicating a sustained tightening 
of credit for businesses.

                 FIGURE 8: COMMERCIAL PAPER OUTSTANDING
------------------------------------------------------------------------
                                      Current level
                                      (as of 6/8/09)     Percent change
             Indicator                   (dollars          since last
                                        billions)       report (5/7/09)
------------------------------------------------------------------------
Asset-Backed Commercial Paper                   557.4             -10.55
 Outstanding (seasonally adjusted)
 \221\............................
Financial Commercial Paper                      530.5             -10.80
 Outstanding (seasonally adjusted)
 \222\............................
Nonfinancial Commercial Paper                   156.7             -2.85
 Outstanding (seasonally adjusted)
 \223\............................
------------------------------------------------------------------------
\221\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release: Commercial Paper Rates and Outstandings: Data
  Download Program  (Instrument: Asset-Backed Commercial Paper
  Outstanding, Frequency: Weekly) (online at www.federalreserve.gov/
  DataDownload/Choose.aspx?rel=CP) (accessed June 8, 2009).
\222\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release: Commercial Paper Rates and Outstandings: Data
  Download Program  (Instrument: Financial Commercial Paper Outstanding,
  Frequency: Weekly) (online at www.federalreserve.gov/DataDownload/
  Choose.aspx?rel=CP) (accessed June 8, 2009).
\223\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release: Commercial Paper Rates and Outstandings: Data
  Download Program  (Instrument: Nonfinancial Commercial Paper
  Outstanding, Frequency: Weekly) (online at www.federalreserve.gov/
  DataDownload/Choose.aspx?rel=CP) (accessed June 8, 2009).

     Lending by the Largest TARP-recipient Banks. 
Treasury's Monthly Lending and Intermediation Snapshot tracks 
loan originations and average loan balances for the 21 largest 
recipients of CPP funds across a variety of categories, ranging 
from mortgage loans to commercial and industrial loans to 
credit card lines. Originations increased across all categories 
of bank lending in March when compared to February; \224\ 
however, Treasury notes that this could be due to the three 
additional business days in March or to a seasonal increase in 
loan activity in the closing days of a quarter. \225\ A 
continued spike in refinancing activity is particularly 
noteworthy. Changes in average loan balances were relatively 
minor from February to March, with mortgage and other consumer 
loan balances up modestly and home equity, credit card, 
consumer and industrial loan, and commercial real estate loan 
balances down over the period.\226\ The data below exclude 
lending by two large CPP-recipient banks, PNC Bank and Wells 
Fargo, because significant acquisitions by those banks since 
last October make comparisons difficult.
---------------------------------------------------------------------------
    \224\ U.S. Department of the Treasury, Treasury Department Monthly 
Lending and Intermediation Snapshot Data for October 2008-March 2009 
(May 15, 2009) (online at www.financialstability. gov/docs/surveys/
Snapshot_ Data_ March%202009.xls) (hereinafter ``Treasury Snapshot 
March Summary Data'').
    \225\ U.S. Department of the Treasury, Treasury Department Monthly 
Lending and Intermediation Snapshot: March Summary Analysis (May 15, 
2009) (online at www.financialstability.gov/docs/surveys/
SnapshotAnalysisMarch2009.pdf) (hereinafter ``Treasury March 
Snapshot'').
    \226\ Id.

                              FIGURE 9: LENDING BY THE LARGEST TARP-RECIPIENT BANKS
----------------------------------------------------------------------------------------------------------------
                                                          Most recent data
                                                            (March 2009)      Percent change     Percent change
                       Indicator                            (dollars  in      since february     since october
                                                             billions)             2009               2008
----------------------------------------------------------------------------------------------------------------
Total Loan Originations................................              220.2              30.80               0.91
Mortgage Refinancing...................................               53.1              11.04             183.04
Total Average Loan Balances............................            3,390.2              -0.96              -0.95
----------------------------------------------------------------------------------------------------------------

     Loans and Leases Outstanding of Domestically-
Chartered Banks. Weekly data from the Federal Reserve Board 
track fluctuations among different categories of bank assets 
and liabilities. The Federal Reserve Board data are useful in 
that they separate out large domestic banks and small domestic 
banks. Loans and leases outstanding for large and small 
domestic banks have remained largely flat over the past month, 
with both falling slightly.\227\ However, while total loans and 
leases outstanding at large domestic banks have dropped by over 
three percent since EESA was enacted, total loans and leases 
outstanding at small domestic banks have increased by 1.37 
percent over that time period.\228\
---------------------------------------------------------------------------
    \227\ Board of Governors of the Federal Reserve System, Federal 
Reserve Statistical Release H.8: Assets and Liabilities of Commercial 
Banks in the United States: Historical Data (Instrument: Assets and 
Liabilities of Large Domestically Chartered Commercial Banks in the 
United States, Seasonally adjusted, adjusted for mergers, billions of 
dollars) (online at www.federalreserve.gov/releases/h8/data.htm) 
(accessed June 8, 2009).
    \228\ Board of Governors of the Federal Reserve System, Federal 
Reserve Statistical Release H.8: Assets and Liabilities of Commercial 
Banks in the United States: Historical Data (Instrument: Assets and 
Liabilities of Small Domestically Chartered Commercial Banks in the 
United States, Seasonally adjusted, adjusted for mergers, billions of 
dollars) (online at www.federalreserve.gov/releases/h8/data.htm) 
(accessed June 8, 2009).

                                     FIGURE 10: LOANS AND LEASES OUTSTANDING
----------------------------------------------------------------------------------------------------------------
                                                     Current level
                                                     (as of 6/8/09)     Percent change    Percent change  since
                    Indicator                         (dollars in     since last report   ESSA signed  into law
                                                       billions)           (5/7/09)             (10/3/08)
----------------------------------------------------------------------------------------------------------------
Large Domestic Banks--Total Loans and Leases.....             3984.8              -0.13                    -3.32
Small Domestic Banks--Total Loans and Leases.....             2480.3              -0.14                     1.37
----------------------------------------------------------------------------------------------------------------

     Housing Indicators. Foreclosure filings stayed 
relatively level from March to April, increasing by a modest 
0.25 percent, while remaining markedly above the level of last 
October. Housing prices, as illustrated by the S&P/Case-Shiller 
Composite 20 Index, continued to dip in March. The index is 
down over ten percent since October 2008.

                                          FIGURE 11: HOUSING INDICATORS
----------------------------------------------------------------------------------------------------------------
                                                                              Percent change
                                                                                from data       Percent  change
                       Indicator                            Most  recent    available at time    since  October
                                                           monthly  data     of last  report          2008
                                                                                 (5/7/09)
----------------------------------------------------------------------------------------------------------------
Monthly Foreclosure Filings \229\......................            342,038               0.25              22.35
Housing Prices--S&P/Case-Shiller Composite 20 Index                 141.35              -2.17            -10.02
 \230\.................................................
----------------------------------------------------------------------------------------------------------------
\229\ RealtyTrac, Foreclosure Activity Press Releases (online at www.realtytrac.com//ContentManagement/
  PressRelease.aspx) (accessed June 8, 2009).
\230\ Standard & Poor's, S&P/Case-Shiller Home Price Indices (Instrument: Seasonally Adjusted Composite 20
  Index) (online at www2.standardandpoors.com/spf/pdf/index/SA_ CSHomePrice_ History_ 052619.xls) (accessed June
  8, 2009).

                          J. FINANCIAL UPDATE

    In its April oversight report, the Panel assembled a 
summary of the resources the federal government has committed 
to economic stabilization. The following provides: (1) an 
updated accounting of the TARP, including a tally of dividend 
income and repayments the program has received as of June 3, 
2009; and (2) an update of the full federal resource commitment 
as of June 3, 2009.

                                1. TARP

a. Costs: Expenditures and Commitments

    Through an array of programs used to purchase preferred 
shares in financial institutions, offer loans to small 
businesses and auto companies, and leverage Federal Reserve 
Board loans for facilities designed to restart secondary 
securitization markets, Treasury has committed to spend $645.8 
billion, leaving $54.2 billion available for new programs or 
other needs.\231\ Of the $645.8 billion that Treasury has 
committed to spend, $434.7 billion has already been allocated 
and counted against the statutory $700 billion limit.\232\ This 
includes purchases of preferred stock, warrants and/or debt 
obligations under the CPP, TIP, SSFI Program, and AIFP 
initiatives, a $20 billion loan to TALF LLC, the special 
purpose vehicle used to guarantee Federal Reserve Board TALF 
loans, and the $5 billion Citigroup asset guarantee already 
exchanged for a guarantee fee composed of additional preferred 
stock and warrants.\233\ Additionally, Treasury has allocated 
$15.2 billion to the Home Affordable Modification Program, out 
of a projected total program level of $50 billion, but has not 
yet distributed any of these funds. Treasury will release its 
next tranche report when transactions under TARP reach $450 
billion.
---------------------------------------------------------------------------
    \231\ EESA limits Treasury to $700 billion in purchasing authority 
outstanding at any one time as calculated by the sum of the purchases 
prices of all troubled assets held by Treasury. EESA, supra note 1, at 
115(a)-(b).
    \232\ U.S Department of the Treasury, Seventh Tranche Report to 
Congress (June 3, 2009) (online at www.financialstability.gov/docs/
TrancheReports/7th_ Tranche-Report-Appendix.pdf).
    \233\ June 5 TARP Transactions Report, supra note 13.
---------------------------------------------------------------------------

b. Income: Dividends and Repayments

    Secretary Geithner's testimony to the Senate Banking 
Committee on May 20 included Treasury's estimate of TARP funds 
remaining for allocation as of May 18. Treasury provided two 
figures, $98.7 billion and $123.7 billion,\234\ the later 
including an estimated $25 billion in CPP investments that 
Treasury expects recipients to repay or liquidate.\235\ 
Although describing this estimate as ``conservative,'' neither 
Secretary Geithner nor Treasury has identified the institutions 
that will supply these anticipated repayments, when they will 
supply these repayments, or any methodological basis 
underpinning this figure. The total amount of CPP repayments 
currently stands at $1.772 billion.\236\
---------------------------------------------------------------------------
    \234\ After these figures were provided to the Senate Committee on 
Banking, Housing, and Urban Affairs, Treasury allocated an additional 
$44.5 billion of TARP funds in loans to GM, GMAC, and Chrysler. 
Including these allocations would bring Treasury's estimates to $54.2 
billion and $79.2 billion, respectively.
    \235\ Geithner Testimony, supra note 98.
    \236\ June 5 TARP Transactions Report, supra note 13.
---------------------------------------------------------------------------
    In addition, Treasury's investment in preferred stock 
entitles it to dividend payments from the institutions in which 
it invests, usually five percent per annum for the first five 
years and nine percent per annum thereafter.\237\ Treasury has 
not yet begun to officially report dividend payments on its 
transaction reports.
---------------------------------------------------------------------------
    \237\ See, e.g., U.S. Department of the Treasury, Bank of New York 
Mellon, Securities Purchase Agreement: Standard Terms, at A-1 (Oct. 28, 
2008) (Annex A).
---------------------------------------------------------------------------

c. TARP Accounting as of June 3, 2009

                                 FIGURE 12: TARP ACCOUNTING (AS OF JUNE 3, 2009)
                                              [Dollars in billions]
----------------------------------------------------------------------------------------------------------------
                                                        Announced       Purchase                      Dividend
                   TARP Initiative                       funding         price        Repayments       income
----------------------------------------------------------------------------------------------------------------
Total...............................................          645.8    \238\ 434.7      \239\ 1.8      \240\ 6.2
    CPP.............................................          218.0          199.4            1.8            4.8
    TIP.............................................           40.0           40.0            0              1.1
    SSFI Program....................................           70.0           69.8            0              0
    AIFP............................................           80.3           80.3            0              0.2
    AGP.............................................           12.5            5.0            0              0.1
    CAP.............................................          TBD              0.0            0              0
    TALF............................................           80.0           20.0            0              0
    PPIP............................................           75.0            0.0            0              0
    Supplier Support Program........................            5.0            5.0            0              0
    Unlocking SBA Lending...........................           15.0            0.0            0              0
    HAMP............................................           50.0           15.2            0             0
----------------------------------------------------------------------------------------------------------------
\238\ See June 5 TARP Transactions Report, supra note 13.
\239\ See June 5 TARP Transactions Report, supra note 13.
\240\ As of June 3, 2009. This information was passed on by Treasury officials to Panel staff.

                  2. OTHER FINANCIAL STABILITY EFFORTS

a. Federal Reserve Board, FDIC, and Other Programs

    In addition to the more direct expenditures Treasury has 
undertaken through TARP, the federal government has also 
engaged in a much broader program directed at stabilizing the 
U.S. financial system. Many of these programs explicitly 
augment Treasury funds, like FDIC guarantees of securitization 
of PPIF Legacy Loans or asset guarantees for Citigroup and Bank 
of America, or operate in tandem with Treasury programs, such 
as the interaction between PPIP and TALF. Other programs, like 
the Federal Reserve Board's extension of credit through its 
Sec. 13(3) facilities and special purpose vehicles or the 
FDIC's Temporary Liquidity Guarantee Program, stand independent 
of TARP and seek to accomplish different goals.

b. Total Financial Stability Resources as of June 3, 2009

    Beginning in its April report, the Panel broadly classified 
the resources that the federal government has devoted to 
stabilizing the economy through a myriad of new programs and 
initiatives, as outlays, loans, or guarantees. Although the 
Panel has calculated the total value of these resources at over 
$4 trillion, this would translate into the ultimate ``cost'' of 
the stabilization effort only if: (1) assets do not appreciate; 
(2) no dividends are received; no warrants are exercised, and 
no TARP funds are repaid; (3) all loans default and are written 
off; and (4) all guarantees are exercised and subsequently 
written off.

                  FIGURE 13: FEDERAL GOVERNMENT FINANCIAL STABILITY EFFORT (AS OF JUNE 3, 2009)
----------------------------------------------------------------------------------------------------------------
                                                                             Federal
                           Program                              Treasury     Reserve        FDIC        Total
                                                                 (TARP)       Board
----------------------------------------------------------------------------------------------------------------
Total.......................................................          700      2,440.7      1,427.4  \243\ 4,568
                                                                                                              .1
    Outlays \241\...........................................        466.4            0         29.5        495.9
    Loans...................................................         86.9       2123.7            0      2,210.6
    Guarantees \242\........................................         92.5          317      1,397.9      1,807.4
    Uncommitted TARP Funds..................................         54.2            0            0         54.2
----------------------------------------------------------------------------------------------------------------
AIG.........................................................           70  \245\ 112.5            0        182.5
    Outlays.................................................           70            0            0           70
    Loans...................................................            0  \246\ 112.5            0        112.5
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Bank of America.............................................         52.5         87.2          2.5        142.2
    Outlays.................................................     \247\ 45            0            0           45
    Loans...................................................            0            0            0            0
    Guarantees..............................................    \248\ 7.5   \249\ 87.2    \250\ 2.5         97.2
----------------------------------------------------------------------------------------------------------------
Citigroup...................................................           50        229.8           10        289.8
    Outlays.................................................     \251\ 45            0            0           45
    Loans...................................................            0            0            0            0
    Guarantees..............................................      \252\ 5  \253\ 229.8     \254\ 10        244.8
----------------------------------------------------------------------------------------------------------------
Capital Purchase Program (Other)............................          168            0            0          168
    Outlays.................................................    \255\ 168            0            0          168
    Loans...................................................            0            0            0            0
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Capital Assistance Program..................................          TBD          TBD          TBD    \256\ TBD
----------------------------------------------------------------------------------------------------------------
TALF........................................................           80          720            0          800
    Outlays.................................................            0            0            0            0
    Loans...................................................            0    \258\ 720            0          720
    Guarantees..............................................     \257\ 80            0            0           80
----------------------------------------------------------------------------------------------------------------
PPIF (Loans) \259\..........................................           50            0          600          650
    Outlays.................................................           50            0            0           50
    Loans...................................................            0            0            0            0
    Guarantees..............................................            0            0    \260\ 600          600
----------------------------------------------------------------------------------------------------------------
PPIF (Securities) \261\.....................................           25            0            0           25
    Outlays.................................................     \262\ 10            0            0           10
    Loans...................................................           15            0            0           15
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Home Affordable Modification Program........................           50            0            0     \264\ 50
    Outlays.................................................     \263\ 50            0            0           50
    Loans...................................................            0            0            0            0
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Automotive Industry Financing Plan..........................         80.3            0            0         80.3
    Outlays.................................................   \265\ 13.4            0            0         13.4
    Loans...................................................   \266\ 66.9            0            0         66.9
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Auto Supplier Support Program...............................            5            0            0            5
    Outlays.................................................      \267\ 5            0            0            5
    Loans...................................................            0            0            0            0
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Unlocking SBA Lending.......................................           15            0            0           15
    Outlays.................................................     \268\ 15            0            0           15
    Loans...................................................            0            0            0            0
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Temporary Liquidity Guarantee Program.......................            0            0        785.4        785.4
    Outlays.................................................            0            0            0            0
    Loans...................................................            0            0            0            0
    Guarantees..............................................            0            0  \269\ 785.4        785.4
----------------------------------------------------------------------------------------------------------------
Deposit Insurance Fund......................................            0            0         29.5         29.5
    Outlays.................................................            0            0   \270\ 29.5         29.5
    Loans...................................................            0            0            0            0
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Other Federal Reserve Board Credit Expansion................            0      1,291.2            0      1,291.2
    Outlays.................................................            0            0            0            0
    Loans...................................................            0  \271\ 1,291            0      1,291.2
                                                                                    .2
    Guarantees..............................................            0            0            0            0
----------------------------------------------------------------------------------------------------------------
Uncommitted TARP Funds......................................   \272\ 54.2            0            0        54.2
----------------------------------------------------------------------------------------------------------------
\241\ The term ``outlays'' is used here to describe the use of Treasury funds under the TARP, which are broadly
  classifiable as purchases of debt or equity securities (e.g., debentures, preferred stock, exercised warrants,
  etc.). The outlays figures are based on: (1) Treasury's actual reported expenditures; and (2) Treasury's
  anticipated funding levels as estimated by a variety of sources, including Treasury pronouncements and GAO
  estimates. Anticipated funding levels are set at Treasury's discretion, have changed from initial
  announcements, and are subject to further change. The outlays concept used here represents cash disbursements
  and commitments to make cash disbursements and is not the same as budget outlays, which under EESA Sec.  123
  are recorded on a ``credit reform'' basis.
\242\ While many of the guarantees may never be exercised or exercised only partially, the guarantee figures
  included here represent the federal government's greatest possible financial exposure.
\243\ This figure differs substantially from the $2,476-2,976 billion range of ``Total Funds Subject to SIGTARP
  Oversight'' reported during testimony before the Senate Finance Committee on March 31, 2009. Senate Committee
  on Finance, Testimony of SIGTARP Neil Barofsky, TARP Oversight: A Six Month Update, 111th Cong. (Mar. 31,
  2009) (online at finance.senate.gov/hearings/testimony/2009test/033109nbtest.pdf). SIGTARP's accounting,
  designed to capture only those funds potentially under its oversight authority, is both less and more
  inclusive than the Panel's, and thus the two are not directly comparable. Among the differences, SIGTARP does
  not account for Federal Reserve Board credit extensions outside of the TALF or FDIC guarantees under the
  Temporary Liquidity Guarantee Program and sets the maximum Federal Reserve Board guarantees under the TALF at
  $1 trillion.
\244\ This number includes both investments in AIG under the SSFI program: a $40 billion investment made on
  November 25, 2008, and a $30 billion investment made on April 17, 2009 (less a reduction of $165 million
  representing bonuses paid to AIG Financial Products employees). June 5 TARP Transactions Report, supra note
  13.
\245\ The value of loans extended by the Federal Reserve Board to AIG has been calculated according to a
  different methodology from that used in previous Panel reports. Previously, this figure reflected the current
  balance sheet value of credit extended to AIG and the Maiden Lane II and III SPVs. The Panel has replaced this
  measurement of government exposure with the maximum amounts the Federal Reserve Board is authorized to loan,
  as described below.
This number represents the total credit line the Federal Reserve Board is authorized to extend to AIG ($60
  billion) and the maximum amount that the FRBNY is authorized to lend to the Maiden Lane II LLC ($22.5 billion)
  and Maiden Lane III LLC ($30 billion) special purpose vehicles. See Board of Governors of the Federal Reserve
  System, Federal Reserve Board and Treasury Department Announce Restructuring of Financial Support to AIG (Nov.
  10, 2008) (online at www.federalreserve.gov/newsevents/press/other/20081110a.htm).
\246\ As of June 5, the value of loans outstanding to AIG stands at $84 billion. This includes $43 billion in
  loans directly provided to AIG as well as $41 billion in the outstanding principal amount of loans extended to
  special purpose vehicles (approximately $18 billion to Maiden Lane II and $23 billion to Maiden Lane III). See
  Board of Governors of the Federal Reserve System, Federal Reserve Statistical Release H.4.1: Factors Affecting
  Reserve Balances (June 4, 2009) (online at www.federalreserve.gov/releases/h41/Current/) (hereinafter ``Fed
  Balance Sheet June 4'').
\247\ June 5 TARP Transactions Report, supra note 13. This figure includes: (1) a $15 billion investment made by
  Treasury on October 28, 2008 under the CPP; (2) a $10 billion investment made by Treasury on January 9, 2009
  also under the CPP; and (3) a $20 billion investment made by Treasury under the TIP on January 16, 2009.
\248\ Bank of America Asset Guarantee, supra note 41 (granting a $118 billion pool of Bank of America assets a
  90 percent federal guarantee of all losses over $10 billion, the first $10 billion in federal liability to be
  split 75/25 between Treasury and the FDIC and the remaining federal liability to be borne by the Federal
  Reserve Board).
\249\ Bank of America Asset Guarantee, supra note 41.
\250\  Bank of America Asset Guarantee, supra note 41.
\251\ June 5 TARP Transactions Report, supra note 13. This figure includes: (1) a $25 billion investment made by
  Treasury under the CPP on October 28, 2008; and (2) a $20 billion investment made by Treasury under TIP on
  December 31, 2008.
\252\ Citigroup Asset Guarantee, supra note 41 (granting a 90 percent federal guarantee on all losses over $29
  billion of a $306 billion pool of Citigroup assets, with the first $5 billion of the cost of the guarantee
  borne by Treasury, the next $10 billion by FDIC, and the remainder by the Federal Reserve). See also Final
  Citi Guarantee Terms, supra note 41 (reducing the size of the asset pool from $306 billion to $301 billion).
\253\ Citigroup Asset Guarantee, supra note 41.
\254\ Citigroup Asset Guarantee, supra note 41.
\255\ This figure represents the $218 billion Treasury has anticipated spending under the CPP, minus the $50
  billion investments in Citigroup ($25 billion) and Bank of America ($25 billion) identified above. This figure
  does not account for anticipated repayments or redemptions of CPP investments, nor does it account for
  dividend payments from CPP investments.
\256\ Funding levels for the CAP have not yet been announced but will likely constitute a significant portion of
  the remaining $54.2 billion of TARP funds.
\257\ Geithner Testimony, supra note 98, at 1; June 5 TARP Transactions Report, supra note 13. This figure
  represents: a $20 billion allocation to the TALF special purpose vehicle on March 3, 2009; Treasury's
  announcement of an additional $35 billion dedicated to the TALF; and $25 billion dedicated to supporting TALF
  loans to purchase legacy securities under the PPIP.
\258\ This number derives from the unofficial 1:10 ratio of the value of Treasury loan guarantees to the value
  of Federal Reserve Board loans under the TALF. See Financial Stability Plan Fact Sheet, supra note 26
  (describing the initial $20 billion Treasury contribution tied to $200 billion in Federal Reserve Board loans
  and announcing potential expansion to a $100 billion Treasury contribution tied to $1 trillion in Federal
  Reserve Board loans). Because Treasury is responsible for reimbursing the Federal Reserve Board for $80
  billion of losses on its $800 billion in loans, the Federal Reserve Board's maximum potential exposure under
  the TALF is $720 billion.
\259\ Because PPIP funding arrangements for loans and securities differ substantially, the Panel accounts for
  them separately. Treasury has not formally announced either total program funding level or the allocation of
  funding between the PPIP Legacy Loans Program and Legacy Securities Program. However, the FDIC recently
  announced that it was postponing the implementation of the Legacy Loans program. See FDIC Loans Program
  Statement, supra note 25. It is not yet clear whether this postponement will affect the allocation of TARP
  funds for the LLP.
\260\ U.S. Department of the Treasury, Fact Sheet: Public-Private Investment Program, at 2 (Mar. 23, 2009)
  (online at www.treas.gov/press/releases/reports/ppip_ fact_ sheet.pdf) (hereinafter ``Treasury PPIP Fact
  Sheet'') (explaining that, for every $1 Treasury contributes in equity matching $1 of private contributions to
  public-private asset pools created under the Legacy Loans Program, FDIC will guarantee up to $12 of financing
  for the transaction to create a 6:1 debt to equity ratio). If Treasury ultimately allocates a smaller
  proportion of funds to the Legacy Loans Program (i.e., less than $50 billion), the amount of FDIC loan
  guarantees will be reduced proportionally.
\261\ In previous reports, the Panel projected that Treasury would split the $100 billion allocated to PPIP
  evenly between legacy loans and legacy securities. However, it now appears that Treasury will allocate $25
  billion to the TALF for legacy securities, implying that only $25 billion of TARP funds will be directly
  allocated to PPIF Legacy Securities.
\262\ Treasury PPIP Fact Sheet, supra note 260, at 4-5 (outlining that, for each $1 of private investment into a
  fund created under the Legacy Securities Program, Treasury will provide a matching $1 in equity to the
  investment fund; a $1 loan to the fund; and, at Treasury's discretion, an additional loan up to $1). In the
  absence of further Treasury guidance, this analysis assumes that Treasury will allocate funds for equity co-
  investments and loans at a 1:1.5 ratio, a formula that estimates that Treasury will frequently exercise its
  discretion to provide additional financing.
\263\ Government Accountability Office, Troubled Asset Relief Program: March 2009 Status of Efforts to Address
  Transparency and Accountability Issues, at 55 (Mar. 31, 2009) (GAO09/504) (online at www.gao.gov/new.items/
  d09504.pdf); Geithner Testimony, supra note 98. Of the $50 billion in announced TARP funding for this program,
  only $15.2 billion has been allocated as of June 3, and no funds have yet been disbursed. See June 5 TARP
  Transactions Report, supra note 13.
\264\ Fannie Mae and Freddie Mac, government-sponsored entities (GSEs) that were placed in conservatorship of
  the Federal Housing Finance Agency on September 7, 2009, will also contribute up to $25 billion to the Making
  Home Affordable Program, of which the HAMP is a key component. See U.S. Department of the Treasury, Making
  Home Affordable: Updated Detailed Program Description (Mar. 4, 2009) (online at www.treas.gov/press/releases/
  reports/housing_ fact_ sheet.pdf).
\265\ June 5 TARP Transactions Report, supra note 13. This figure represents Treasury's equity stake in GMAC.
\266\ June 5 TARP Transactions Report, supra note 13. Treasury's initial allocation to GM was effectively a
  loan. Under the terms of the company's pending bankruptcy proceedings the $49.9 billion in debt obligations to
  Treasury will be converted to a 60 percent stake in the restructured company and $8.8 billion in debt and
  preferred stock. See U.S. Department of the Treasury, Fact Sheet: Obama Administration Auto  Restructing
  Initiatives, General Motors Restructing (May 31, 2009) (online at www.financialstability.gov/latest/05312009_
  gm-factsheet.html). It is less clear how Treasury's $17 billion in loans to Chrysler will be affected by its
  bankruptcy proceedings. It appears that approximately $9 billion lent before the Chrysler bankruptcy will be
  converted to an eight percent equity stake, while $8 billion will be retained as first-lien debt. See U.S.
  Department of the Treasury, Obama Administration Auto Restructuring Initiative, Chrysler-Fiat Alliance (Apr.
  30, 2009) (online at www.financialstability.gov/latest/tg_043009.html).
\267\ June 5 TARP Transactions Report, supra note 13.
\268\ Geithner Testimony, supra note 98, at 15.
\269\ This figure represents the current maximum aggregate debt guarantees that could be made under the program,
  which, in turn, is a function of the number and size of individual financial institutions participating.
  $334.6 billion of debt subject to the guarantee has been issued to date, which represents about 43 percent of
  the current cap. Federal Deposit Insurance Corporation, Monthly Reports on Debt Issuance under the Temporary
  Liquidity Guarantee Program: Debt Issuance under Guarantee Program (May 20, 2009) (online at www.fdic.gov/
  regulations/resources/TLGP/total_ issuance4-09.html).
\270\ This figure represents the FDIC's provision for losses to its deposit insurance fund attributable to bank
  failures in the third and fourth quarters of 2008. See Federal Deposit Insurance Corporation, Chief Financial
  Officer's (CFO) Report to the Board: DIF Income Statement (Fourth Quarter 2008) (online at www.fdic.gov/about/
  strategic/corporate/cfo_ report_ 4qtr_ 08/income.html); Federal Deposit Insurance Corporation, Chief Financial
  Officer's (CFO) Report to the Board: DIF Income Statement (Third Quarter 2008) (online at www.fdic.gov/about/
  strategic/corporate/cfo_ report_ 3rdqtr_ 08/income.html). As of June 5, 2009, the FDIC had not yet released
  first quarter 2009 data.
\271\ This figure is derived from adding the total credit the Federal Reserve Board has extended as of June 3,
  2009 through the Term Auction Facility (Term Auction Credit), Discount Window (Primary Credit), Primary Dealer
  Credit Facility (Primary Dealer and Other Broker-Dealer Credit), Central Bank Liquidity Swaps, loans
  outstanding to Bear Stearns (Maiden Lane I LLC), GSE Debt (Federal Agency Debt Securities), the value of
  Mortgage Backed Securities Issued by GSEs, Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity
  Facility, and Commercial Paper Funding Facility LLC. See Fed Balance Sheet June 4, supra note 246. The level
  of Federal Reserve Board lending under these facilities will fluctuate in response to market conditions and
  independent of any federal policy decisions.
This calculation is slightly changed from previous reports. The Panel previously looked at the balance sheet
  value of Federal Reserve Board holdings in Maiden Lane I LLC and the Commercial Paper Funding Facility; in
  this report, the Panel calculates this figure as the outstanding principal amount of the loans extended to
  these SPVs.
\272\ One potential use of uncommitted funds is Treasury's obligation to reimburse the Exchange Stabilization
  Fund (ESF), currently valued at $50.5 billion. See U.S. Department of Treasury, Exchange Stabilization Fund,
  Statement of Financial Position, as of April 30, 2009 (online at www.ustreas.gov/offices/international-affairs/
  esf/esf-monthly-statement.pdf) (accessed June 5, 2009). Treasury must reimburse any use of the fund to
  guarantee money market mutual funds from TARP money. See EESA, supra note 1, at Sec.  131. In September 2008,
  Treasury opened its Temporary Guarantee Program for Money Mutual Funds, U. S. Department of Treasury, Treasury
  Announces Temporary Guarantee Program for Money Market Mutual Funds (Sept. 29, 2008) (online at www.treas.gov/
  press/releases/hp1161.htm). This program uses assets of the ESF to guarantee the net asset value of
  participating money market mutual funds. Id. EESA Sec.  131 protected the ESF from incurring any losses from
  the program by requiring that Treasury reimburse the ESF for any funds used in the exercise of the guarantees
  under the program, which has been extended through September 18, 2009. U.S. Department of Treasury, Treasury
  Announces Extension of Temporary Guarantee Program for Money Market Funds (Mar. 31, 2009) (online at
  www.treas.gov/press/releases/tg76.htm).

                   SECTION FIVE: OVERSIGHT ACTIVITIES

    The Congressional Oversight Panel was established as part 
of EESA and formed on November 26, 2008. Since then, the Panel 
has issued six oversight reports, as well as its special report 
on regulatory reform, which was issued on January 29, 2009.
    Since the release of the Panel's May oversight report, the 
following developments pertaining to the Panel's oversight of 
TARP took place:
     The Panel held a hearing in New York City on May 
28 entitled, ``The Impact of Economic Recovery Efforts on 
Corporate and Commercial Real Estate Lending.'' Witnesses 
representing banks, businesses, and the Federal Reserve Bank of 
New York discussed the impact of the financial crisis on credit 
availability for mid-market businesses that rely on commercial 
and industrial loans and commercial real estate loans to 
operate. Written testimony and video from the hearing can be 
found on the Panel's website at http://cop.senate.gov/hearings/
library/hearing-052809-newyork.cfm.
     At a Panel hearing on April 21, 2009, Secretary 
Geithner pledged to arrange weekly Treasury briefings on TARP 
activities for Panel staff. Based on the Secretary's pledge, 
Panel staff has since received numerous briefings on topics 
including the methodology and results of the stress tests, 
lending data from CPP participants, and home ownership 
programs.
     The Panel and Treasury have reached agreement on a 
protocol for Treasury's production of documents to the Panel. 
Treasury has stated that it will begin production of requested 
documents shortly, but no documents have been produced pursuant 
to this protocol as of the date of this report. The Panel is in 
the process of negotiating a similar protocol with the Federal 
Reserve Board.

                     Upcoming Reports and Hearings

     The Panel will release its next oversight report 
in July. The report will provide an updated review of TARP 
activities and continue to assess the program's overall 
effectiveness. The report will also examine the terms of 
repayment of TARP money, including the repurchasing of 
warrants.
     The Panel is currently working with Treasury to 
find a date for Secretary Geithner to make his second 
appearance at a Panel oversight hearing in June.
     The Panel is planning a field hearing in Detroit 
in early July to hear testimony on Treasury's administration of 
the Automotive Industry Financing Program.
     On May 20, 2009, the President signed into law the 
Helping Families Save Their Homes Act of 2009 (P.L. 111-22). 
Section 501 of the law requires the Panel to submit a special 
report to Congress that provides an analysis of the state of 
the commercial farm credit markets and considers the use of 
farm loan restructuring as an alternative to foreclosure by 
recipients of TARP assistance. To inform its composition of 
this report, the Panel is planning a field hearing on farm 
credit in the coming weeks.
          SECTION SIX: ABOUT THE CONGRESSIONAL OVERSIGHT PANEL

    In response to the escalating crisis, on October 3, 2008, 
Congress provided Treasury with the authority to spend $700 
billion to stabilize the U.S. economy, preserve home ownership, 
and promote economic growth. Congress created the Office of 
Financial Stabilization (OFS) within Treasury to implement a 
Troubled Asset Relief Program. At the same time, Congress 
created the Congressional Oversight Panel to ``review the 
current state of financial markets and the regulatory system.'' 
The Panel is empowered to hold hearings, review official data, 
and write reports on actions taken by Treasury and financial 
institutions and their effect on the economy. Through regular 
reports, the Panel must oversee Treasury's actions, assess the 
impact of spending to stabilize the economy, evaluate market 
transparency, ensure effective foreclosure mitigation efforts, 
and guarantee that Treasury's actions are in the best interests 
of the American people. In addition, Congress instructed the 
Panel to produce a special report on regulatory reform that 
analyzes ``the current state of the regulatory system and its 
effectiveness at overseeing the participants in the financial 
system and protecting consumers.'' The Panel issued this report 
in January 2009.
    On November 14, 2008, Senate Majority Leader Harry Reid and 
the Speaker of the House Nancy Pelosi appointed Richard H. 
Neiman, Superintendent of Banks for the State of New York, 
Damon Silvers, Associate General Counsel of the American 
Federation of Labor and Congress of Industrial Organizations 
(AFL-CIO), and Elizabeth Warren, Leo Gottlieb Professor of Law 
at Harvard Law School to the Panel. With the appointment on 
November 19 of Congressman Jeb Hensarling to the Panel by House 
Minority Leader John Boehner, the Panel had a quorum and met 
for the first time on November 26, 2008, electing Professor 
Warren as its chair. On December 16, 2008, Senate Minority 
Leader Mitch McConnell named Senator John E. Sununu to the 
Panel, completing the Panel's membership.
   APPENDIX I: LETTER FROM CHAIR ELIZABETH WARREN TO FEDERAL RESERVE 
 CHAIRMAN BEN BERNANKE REGARDING THE CAPITAL ASSISTANCE PROGRAM, DATED 
                              MAY 11, 2009


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

 APPENDIX II: LETTER FROM CHAIR ELIZABETH WARREN TO SECRETARY TIMOTHY 
GEITHNER REGARDING THE POSSIBILITY OF THE SECRETARY APPEARING BEFORE A 
               PANEL HEARING IN JUNE, DATED MAY 12, 2009 


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


 APPENDIX III: LETTER FROM CHAIR ELIZABETH WARREN TO SECRETARY TIMOTHY 
   GEITHNER AND FEDERAL RESERVE CHAIRMAN BEN BERNANKE REGARDING THE 
  ACQUISITION OF MERRILL LYNCH BY BANK OF AMERICA, DATED MAY 19, 2009 


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


 APPENDIX IV: LETTER FROM CHAIR ELIZABETH WARREN TO SECRETARY TIMOTHY 
GIETHNER REGARDING THE TEMPORARY GUARANTEE PROGRAM, DATED MAY 26, 2009 


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


