[JPRT, 111th Congress]
[From the U.S. Government Publishing Office]
CONGRESSIONAL OVERSIGHT PANEL
JANUARY OVERSIGHT REPORT *
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EXITING TARP AND UNWINDING ITS IMPACT ON THE FINANCIAL MARKETS
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
January 13, 2010.--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 JANUARY OVERSIGHT REPORT
CONGRESSIONAL OVERSIGHT PANEL
JANUARY OVERSIGHT REPORT *
__________
EXITING TARP AND UNWINDING ITS IMPACT ON THE FINANCIAL MARKETS
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
January 13, 2010.--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
----------
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Washington, DC 20402-0001
CONGRESSIONAL OVERSIGHT PANEL
Panel Members
Elizabeth Warren, Chair
Paul S. Atkins
Richard H. Neiman
Damon Silvers
J. Mark McWatters
C O N T E N T S
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Page
Executive Summary................................................ 1
Section One: January Report...................................... 3
A. Overview.................................................. 3
B. The Various Stages of ``Exit'' from the TARP.............. 4
1. Secretary's Authority and Obligations................. 4
2. Other Oversight and Management Entities............... 7
3. Effect on Other Related Programs...................... 8
4. EESA Requirements Relating to Use of TARP Profits, or
Approach to TARP Losses................................ 9
5. Continuing Market Effects of the TARP: The Implicit
Guarantee.............................................. 10
6. Certain Tax Issues Affecting TARP Exit................ 12
C. Historical Precedents: the RFC and the RTC................ 16
1. The RFC............................................... 17
2. The RTC............................................... 19
3. Lessons from the RFC and the RTC...................... 20
D. Disposal of the Assets.................................... 21
1. Introduction.......................................... 21
2. Treasury's TARP Exit Strategy......................... 22
3. Accounting for the TARP............................... 26
4. CPP Preferred and Warrants............................ 27
5. Citigroup............................................. 38
6. AIG................................................... 51
7. Chrysler and GM....................................... 68
8. GMAC.................................................. 81
9. PPIP.................................................. 84
10. TALF................................................. 86
11. Small Business Programs.............................. 88
E. Unwinding TARP Expenditure Programs....................... 91
1. HAMP.................................................. 92
2. Future Considerations................................. 95
F. What Remains and What Additional Assets Might Be Acquired? 96
G: Unwinding Implicit Guarantees in a Post-TARP World........ 98
1. Regulatory Options.................................... 98
2. Liquidation and Reorganization........................ 105
3. International Aspects of Reform....................... 109
4. Proposed Legislation.................................. 110
H. Conclusions and Recommendations........................... 116
Section Two: Additional Views.................................... 119
A. Damon Silvers............................................. 119
B. J. Mark McWatters and Paul S. Atkins...................... 121
Section Three: Correspondence with Treasury Update............... 133
Section Four: TARP Updates Since Last Report..................... 134
Section Five: Oversight Activities............................... 153
Section Six: About the Congressional Oversight Panel............. 154
Appendices:
APPENDIX I: LETTER FROM SECRETARY TIMOTHY GEITHNER TO CHAIR
ELIZABETH WARREN, RE: STRESS TESTS, DATED DECEMBER 10, 2009 155
APPENDIX II: LETTER FROM CHAIR ELIZABETH WARREN TO SECRETARY
TIMOTHY GEITHNER, RE: EXECUTIVE COMPENSATION, DATED
DECEMBER 24, 2009.......................................... 160
APPENDIX III: LETTER FROM CHAIR ELIZABETH WARREN TO SECRETARY
TIMOTHY GEITHNER, RE: CIT GROUP ASSISTANCE, DATED JANUARY
11, 2010................................................... 167
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JANUARY OVERSIGHT REPORT
_______
January 13, 2010.--Ordered to be printed
_______
EXECUTIVE SUMMARY *
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* The Panel adopted this report with a 5-0 vote on January 13,
2010.
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In its December oversight report, the Panel reviewed the
successes and failures of the Troubled Asset Relief Program in
2008 and 2009. This month, the Panel focuses on the road ahead
as Treasury closes the TARP. Now that Treasury has acquired
hundreds of billions of dollars in assets, how does it plan to
unwind its stake in the financial markets? How will Treasury
balance its desire to sell these assets quickly with its goals
of promoting financial stability and strengthening the return
to taxpayers? What steps will Treasury take to unwind the
implicit guarantee that the federal government will always
stand behind too big to fail banks? In short, what is
Treasury's exit strategy?
Ending the TARP will involve several stages of exit. The
first milestone will be on October 3, 2010, when Treasury's
authority to make new commitments to purchase assets, commit
funds, and establish guarantees using TARP funds will expire.
The end of this authority will not, however, constitute the end
of the TARP; Treasury will be authorized to continue making
purchases using funds that were committed in advance of the
October 3, 2010 deadline. Finally, after Treasury completes all
of its TARP purchases, it will hold a massive pool of financial
assets likely worth hundreds of billions of dollars, and the
process of unwinding some of these holdings may continue for a
number of years.
As of December 31, 2009, Treasury's largest TARP-related
assets include $58 billion in preferred securities issued by
banks, $25 billion in Citigroup common stock, $46.9 billion in
AIG preferred stock, and $61 billion in shares and debt of GM
and Chrysler. Treasury also holds significant assets under the
Public-Private Investment Program, the Term Asset-Backed Loan
Facility, and the Capital Purchase Program, and it has
announced plans to purchase further assets under new programs
such as the small business initiative.
The Emergency Economic Stabilization Act authorized
Treasury to hold its TARP assets until maturity or to sell them
earlier. Treasury has articulated three principles that guide
its determination of when to sell assets: maintaining the
stability of the financial system, preserving the stability of
individual financial institutions, and maximizing the return on
the taxpayers' investment.
These principles may sometimes be at odds with one another.
For example, the most profitable moment to sell a TARP asset
may not be the moment that best promotes systemic stability or
the moment that best serves a particular institution.
Furthermore, Treasury is only one department of a much larger
federal government, and the broader government may have
additional goals for the TARP, such as preserving jobs or
satisfying a political constituency.
The Panel is also concerned that, although Treasury has
been consistent in articulating its principles, the principles
as announced are so broad that they provide Treasury with a
means of justifying almost any decision. This means that there
is effectively no metric to determine whether Treasury's
actions met its stated goals. Because any approach may
alternatively be justified as maximizing profit, or maintaining
the stability of significant institutions, or promoting
systemic stability, almost any decision can be defended.
Measuring Treasury's success against these metrics is
problematic.
As Treasury enters the next stage of its administration of
the TARP, it must learn from the mistakes it has made in the
past--in particular, its failure to follow the money used to
bail out large financial institutions. Because Treasury never
required the institutions that received the first infusions of
TARP funding to account for their use of these funds, taxpayers
have not had a clear understanding of how their money has been
used. As Treasury embarks on new programs, it must require that
future recipients provide much greater disclosure of their use
of TARP dollars.
Finally, and perhaps most significantly, the TARP has
raised the long-term challenge of how best to eliminate
implicit guarantees. Belief remains widespread in the
marketplace that, if the economy once again approaches the
brink of collapse, the federal government will inevitably rush
in to rescue financial institutions deemed too big to fail.
This belief distorts prices, giving large financial
institutions an advantage in raising capital that mid-sized and
smaller banks--those not too big to fail--do not enjoy. These
implicit guarantees also encourage major financial institutions
to take unreasonable risks out of the belief that, no matter
what happens, taxpayers will not allow their failure. So long
as markets continue to believe that an implicit guarantee
exists, moral hazard will continue to distort prices and
endanger the nation's economy, even after the last TARP program
has been closed and the last TARP dollar has been repaid.
SECTION ONE: JANUARY REPORT
A. Overview
On December 9, 2009, Treasury Secretary Timothy Geithner
announced that the Troubled Asset Relief Program (TARP) would
be extended until October 3, 2010.\1\ Although it may take
years to unwind some of the assets acquired under the TARP,
once the program expires, no new commitments may be made with
respect to TARP funds and the end of the TARP will have begun.
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\1\ U.S. Department of the Treasury, Treasury Department Releases
Text of Letter from Secretary Geithner to Hill Leadership on
Administration's Exit Strategy for TARP (Dec. 9, 2009) (online at
www.treasury.gov/press/releases/tg433.htm).
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In its December report, the Congressional Oversight Panel
looked at the entire program in order to assess what the TARP
has accomplished and where it has fallen short from various
perspectives in the 14 months since its inception. This month
the Panel looks at what the TARP will leave behind when it
ultimately is wound down.
The TARP will leave behind a dual legacy: hard assets and
an even harder problem. As a result of expenditures under the
TARP, Treasury is now managing assets that rival in size a
substantial sovereign wealth fund. Treasury's Office of
Financial Stability (OFS) is managing a diverse portfolio of
assets, worth approximately $258.1 billion at December 31,
2009, which it eventually must divest. Divesting these assets
will call for a balance between maximizing the return to
taxpayers, maintaining financial stability, and continuing to
pursue other stated objectives of the TARP. There are, of
course, also unavoidable political considerations that will
affect these decisions, and that political context in the
current environment can shift quickly and unpredictably.
Devising an exit strategy from the market impact of the
TARP and related programs is even more difficult than deciding
how and when to dispose of the assets. The Panel has several
times noted the moral hazard that the financial rescue created:
the market distortion arising from the belief among market
participants and the managers of financial institutions that
the government will guarantee the obligations and preserve the
shareholders of large financial institutions.\2\ Government
intervention has created implicit guarantees of some undefined
portion of the financial system, and any effective exit
strategy from the TARP and related programs must address how to
unwind or withdraw that implicit guarantee.
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\2\ See Congressional Oversight Panel, November Oversight Report:
Guarantees and Contingent Payments in TARP and Related Programs (Nov.
6, 2009) (online at cop.senate.gov/documents/cop-110609-report.pdf)
(hereinafter ``COP November Oversight Report'').
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The primary focus of this report is to follow the money: To
summarize the assets and obligations that Treasury holds or
owes as a result of its expenditure of TARP funds, to explore
how Treasury plans to divest itself of those assets or
obligations and get the taxpayers' money back, and also to
examine how the recipients intend to make sure taxpayers are
made whole. This implicates several elements of the Panel's
mandate, particularly the use of the Secretary's authority
under the TARP, the effectiveness of the TARP in minimizing
costs and maximizing benefits to taxpayers, and contributions
to transparency.\3\
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\3\ 12 U.S.C. Sec. 5233(b).
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As examined in more detail below, Treasury has described to
the Panel an exit strategy based on Treasury's view of sound
asset management practices and Treasury's understanding of the
statutory obligations imposed by the Emergency Economic
Stabilization Act of 2008 (EESA), the law that led to the
TARP's establishment. In this Report, the Panel discusses a
number of questions that arise from this approach. The Panel
notes that the publication of audited TARP financial statements
has improved the transparency of the program and provided some
insight with respect to the value of Treasury's holdings.
This report also considers issues that arise with respect
to further expenditures that may be made before the TARP
expires; in particular under Treasury's small business
initiatives and the continuing support provided to GMAC.
As for the broader and still evolving issue--the unwinding
of the implicit guarantees created by the financial rescue--the
Panel reviews the current state of the debate and identifies
the issues that must be addressed before it can be said that
the TARP has been truly unwound.
B. The Various Stages of ``Exit'' from the TARP
1. Secretary's Authority and Obligations
The end of the TARP will involve several stages of
``exit'': (1) The end of the Secretary's authority to purchase
assets or commit funds, and to establish guarantees for
troubled assets, on October 3, 2010; (2) the expenditure of all
funds committed for the purpose of purchasing or supporting
``troubled assets,'' as defined by EESA,\4\ and (3) the
eventual disposition of all assets held by Treasury that were
purchased through the TARP.
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\4\ ``Troubled assets'' as defined by EESA includes both assets
associated with mortgage-based securities and ``any other financial
instrument that the Secretary, after consultation with the Chairman of
the Board of Governors of the Federal Reserve System, determines the
purchase of which is necessary to promote financial stability[.]'' 12
U.S.C. Sec. 5202(9). Under this definition, valuable assets from
healthy institutions may nonetheless be defined as ``troubled assets''
under the statute if their purchase is deemed to promote stability.
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The first and most talked-about stage will come on October
3, 2010, when the Secretary's authority to purchase troubled
assets, or to commit funds for the purpose of purchasing
troubled assets, will end.\5\ Originally, this authority was to
end on December 31, 2009.\6\ The statute was written to permit
the Secretary of the Treasury to extend the program, however,
until October 3, 2010, provided he submitted to Congress ``a
written certification . . . includ[ing] a justification of why
the extension is necessary to assist American families and
stabilize financial markets, as well as the expected cost to
the taxpayers for such an extension.'' \7\ On December 9,
2009, the Secretary sent such a certification to Speaker of the
House Nancy Pelosi and Senate Majority Leader Harry Reid,
stating his intention to exercise his authority to extend the
TARP until October 2010.\8\ According to this certification,
Treasury will spend the remaining months of the TARP
``terminating and winding down many of the government programs
put in place last fall [2008].'' \9\ New commitments in 2010
will be limited to the following three areas:
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\5\ See 12 U.S.C. Sec. 5230.
\6\ 12 U.S.C. Sec. 5230(a).
\7\ 12 U.S.C. Sec. 5230(b).
\8\ U.S. Department of the Treasury, Letter from Secretary Geithner
to Speaker Pelosi (Dec. 9, 2009) (online at www.financialstability.gov/
docs/press/Pelosi%20Letter.pdf); U.S. Department of the Treasury,
Letter from Secretary Geithner to Senator Reid (Dec. 9, 2009) (online
at www.financialstability.gov/docs/press/Reid%20Letter.pdf).
\9\ Id.
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Mitigating foreclosures for homeowners;
Providing capital to small and community
banks, and other efforts to facilitate small business
lending; and
Potentially increasing Treasury's commitment
to the Term Asset-Backed Securities Loan Facility
(TALF), a program administered by the Federal Reserve
Bank of New York (FRBNY) and aimed at unlocking the
credit markets via loans for the purchase of certain
types of asset-backed and commercial mortgage-backed
securities.\10\
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\10\ Id.
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The certification notes that ``[b]eyond these limited new
commitments, we will not use remaining EESA funds unless
necessary to respond to an immediate and substantial threat to
the economy stemming from financial instability.'' \11\
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\11\ Id.
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The end of the authority to purchase assets or commit funds
for their purchase will not, however, constitute a true
``exit'' from the TARP. The statute permits Treasury to commit
funds until October 3, 2010, but spend them after that
date.\12\ Therefore, there may be funds that have been
committed but that, as of October 4, 2010, have not yet been
actually spent. It is too soon to know how many such unfunded
commitments may exist by October 3. The current state of the
various programs under the TARP, and the amounts that could yet
be expended, are discussed in Sections D and E.
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\12\ Under 12 U.S.C. Sec. 5216(e), the Secretary may continue to
hold assets purchased under TARP, and may purchase or fund purchases of
assets after the October 3, 2010 expiration date if the commitment to
make such purchase was made by October 3, 2010.
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Even after the Secretary's authority to purchase assets has
expired and all commitments have been funded, Treasury will
still likely hold billions of dollars worth of assets purchased
through the program. Treasury will have to provide for the
management and prudent sale of these assets, which may continue
over a number of years. Various sections of EESA contemplate
such ongoing management and describe the structures that will
remain in place to oversee and guide this process.
Section 5223 of EESA contains direct guidance to Treasury
with respect to its obligations in holding and selling assets.
According to this section, the Secretary shall: ``hold the
assets to maturity or for resale for and until such time as the
Secretary determines that the market is optimal for selling
such assets, in order to maximize the value for taxpayers'' and
``sell such assets at a price that the Secretary determines,
based on available financial analysis, will maximize return on
investment for the Federal Government.'' \13\
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\13\ 12 U.S.C. Sec. 5223(a)(2).
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Section 5216 of EESA provides specific details regarding
Treasury's authority. This section provides that the Secretary
``may, at any time, exercise any rights received in connection
with troubled assets purchased under this chapter'' and that
the Secretary has the authority to ``manage troubled assets
purchased under this chapter, including revenues and portfolio
risks therefrom.'' \14\ As to the sale of troubled assets, this
section grants the Secretary the ability to ``at any time, upon
terms and conditions and at a price determined by the
Secretary, sell, or enter into securities loans, repurchase
transactions, or other financial transactions in regard to, any
troubled asset purchased under this chapter.'' \15\ The
proceeds from such sales as well as revenues from troubled
assets are to be paid into ``the general fund of the Treasury
for reduction of the public debt.'' \16\
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\14\ 12 U.S.C. Sec. 5216(a), (b).
\15\ 12 U.S.C. Sec. 5216(c).
\16\ 12 U.S.C. Sec. 5216(d). Treasury apparently concedes that EESA
bars the Secretary from taking amounts Treasury receives when stock and
warrants are redeemed and spending those amounts again, rather than
using them to reduce the public debt (allowing section 106(d) of EESA
to operate). However, it argues that section 118 of EESA also permits
the Secretary to issue new government securities to raise new funds
``[f]or the purposes of the authorities granted in [EESA],'' including
use to restore the TARP fund to full strength (roughly, the amount by
which the statutory funding ceiling exceeds outstanding purchases and
commitments). See, e.g., Congressional Oversight Panel, Questions for
the Record for U.S. Department of the Treasury Secretary Timothy
Geithner, at 13 (Sept. 23, 2009) (online at cop.senate.gov/documents/
testimony-091009-geithner-qfr.pdf). The Panel takes no position on the
validity of this position.
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While it is clear that EESA contemplates some form of
ongoing management of TARP assets, the scope of that authority
is less clear. For example, section 5216 permits the Secretary
to ``exercise any rights received in connection with'' TARP
assets, and section 106(b) authorizes the Secretary ``to manage
troubled assets purchased under this Act, including revenues
and portfolio risks therefrom.'' Clearly, if the Secretary
purchased convertible preferred stock before the expiration of
the TARP, that stock could be converted, according to its
terms, into common equity after the TARP sunset date. The right
to convert the stock was received in the transaction by which
Treasury acquired the asset.
That leaves the question of whether Treasury could exchange
a TARP asset for anything but cash after the sunset date.
Suppose that Treasury sought to exchange non-convertible
preferred stock after the sunset date for common stock in the
same institution. Such a transaction might be characterized as
an exercise of a right ``received in connection with'' the
original asset, but it could perhaps more appropriately be
characterized as a means of purchasing new common equity using
the preferred stock, depending on the facts of the situation.
The statute provides no guidance as to whether the
Secretary's authority to ``manage'' an asset includes using the
stock to obtain a different class of stock, or whether such an
exchange is permitted if it can be shown to ``reduce portfolio
risk.'' Whether an exchange, for example, of preferred for
common stock, can be shown to ``reduce portfolio risk'' depends
on the facts of particular situations. Treasury has stated
that, while it is unwilling to speculate on such hypothetical
situations, its position is that if the February 2009 Citigroup
exchange offer, in which preferred stock was exchanged for
common stock in an effort to bolster the company's regulatory
capital, had occurred after the sunset date, Treasury would
nonetheless have the authority to engage in such a transaction
as part of its authority to manage TARP assets.\17\
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\17\ Treasury conversations with Panel staff (Nov. 20, 2009).
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Another issue involves the conditions under which the
Secretary may sell TARP assets. The Secretary has a statutory
obligation to hold TARP assets until the Secretary determines
the market for the sale of such assets is ``optimal.'' This may
prove to be a difficult standard to apply. Without the benefit
of hindsight, determining when a market is ``optimal'' for a
particular sale is extraordinarily difficult. As discussed in
greater detail below, Treasury reads this provision to require
sales to forward the broad policy views required and implied by
EESA. ``Optimal'' timing might therefore not be the most
profitable, but timing that best forwards Treasury's goals. As
also discussed in Section D.2 below, such an understanding of
``optimal timing'' creates certain difficulties with regard to
oversight.
2. Other Oversight and Management Entities
The same section of EESA that provides the Secretary with
the authority to create the TARP also provides for the creation
of the Office of Financial Stability (OFS) to implement
programs created under the TARP.\18\ The section of EESA that
provides a sunset date for the authority granted the Secretary,
however, explicitly excludes OFS from the sunset.\19\ No other
section in EESA provides an alternative sunset date for OFS.
This office will remain the primary office for the
administration, management, and disposition of TARP assets.
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\18\ 12 U.S.C. Sec. 5211(a)(3)(A).
\19\ 12 U.S.C. Sec. 5230(a).
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In addition, the Financial Stability Oversight Board
(FSOB), created by EESA,\20\ will remain in existence until 15
days after the later of either the date the last troubled asset
purchased has been sold, or the last insurance contract entered
into under the section to guarantee troubled assets has
expired.\21\ Because the statute provides explicitly for the
FSOB to continue until Treasury has fully exited from all TARP-
related transactions, this board is clearly intended to provide
guidance not only for the implementation of the TARP, but for
the ongoing management and sale of TARP assets. EESA requires
the Secretary to make monthly reports to the FSOB regarding the
current status of TARP programs and expenditures; this
obligation continues until the date of the FSOB's termination.
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\20\ The FSOB's members are the Secretary of the Treasury, the
Chairman of the Board of Governors of the Federal Reserve System, the
Director of the Federal Housing Finance Agency, the Chairman of the
Securities Exchange Commission, and the Secretary of Housing and Urban
Development. 12 U.S.C. Sec. 5214(b). Its duties include reviewing
``policies implemented by the Secretary and [the OFS] . . . including
the appointment of financial agents, the designation of asset classes
to be purchased, and plans for the structure of vehicles used to
purchase troubled assets.'' 12 U.S.C. Sec. 5214(a).
\21\ 12 U.S.C. Sec. 5214(h). For a detailed analysis of the
programs created under Sec. 5212, please see the Congressional
Oversight Panel's November report. COP November Oversight Report, supra
note 2.
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The three main oversight bodies for the TARP--the Special
Inspector General for the Troubled Asset Relief Program
(SIGTARP), the Government Accountability Office (GAO), and the
Panel--also have duties that extend beyond the October 3, 2010,
sunset date. SIGTARP's oversight obligations expire on the same
date as the FSOB terminates.\22\ GAO's obligations expire on
the later of the date the last TARP asset is sold, or the last
insurance contract ends.\23\ The Panel's obligations expire on
April 3, 2011.\24\
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\22\ 12 U.S.C. Sec. 5231(h).
\23\ 12 U.S.C. Sec. 5226(e).
\24\ 12 U.S.C. Sec. 5233(f).
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3. Effect on Other Related Programs
Treasury's exit from the TARP will have little to no effect
on several programs that use TARP funds,\25\ or on other
related programs that are also aimed at stabilizing the
country's economy.
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\25\ One of the stated purposes of the EESA is to preserve
homeownership, and section 109 of EESA directs the Secretary of the
Treasury ``[t]o the extent that [he] acquires mortgages, mortgage
backed securities, and other assets secured by residential real
estate'' to ``implement a plan that seeks to maximize assistance for
homeowners and use the authority of the Secretary to encourage the
servicers of the underlying mortgages, considering net present value to
the taxpayer, to take advantage of the HOPE for Homeowners Program . .
. or other available programs to minimize foreclosures. In addition,
the Secretary may use loan guarantees and credit enhancements to
facilitate loan modifications to prevent avoidable foreclosures.'' 12
U.S.C. Sec. Sec. 5201(2)(B), 5219(a).
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The Home Affordable Modification Program (HAMP), which aims
to assist homeowners seeking to avoid foreclosure, will be
largely unaffected by the end of the TARP. Treasury initially
committed up to $50 billion in TARP funds to this program, and
as of the release of this report, there has been no
announcement that any additional funds have been committed. But
more funds may be committed in the future. In Secretary
Geithner's recent letter extending the TARP, he cited
foreclosure mitigation as one of the areas where additional
TARP commitments may be made in 2010. Furthermore, the $50
billion in TARP funds already committed to HAMP may be paid out
even after the expiration of the TARP. Because these funds are
used to reduce homeowners' mortgage payments, there are no
assets for Treasury to manage; therefore, no exit strategy is
necessary.\26\
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\26\ The Panel requested from Treasury a legal opinion on its HAMP
authority. See, e.g., Congressional Oversight Panel, COP Hearing with
Treasury Secretary Timothy Geithner (Dec. 10, 2009).
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Two other programs that use TARP funds, the TALF and the
Public-Private Investment Program (PPIP), will also be
unaffected because the TARP funds that they use have already
been committed. To the extent that the TALF and the PPIP are
used to purchase assets, the assets are held and managed by
private entities under the terms of the programs. Therefore,
although OFS will have continuing oversight responsibility for
these programs and the private entities that manage them,
Treasury will not itself have responsibility for directly
selling any assets purchased through these programs.
Furthermore, both programs have their own fixed termination
dates. Loans made under the TALF must not have a term limit
beyond seven years and, currently, no loans may be made past
June 30, 2010.\27\ The investment funds established under the
PPIP have a ten-year termination date.
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\27\ Federal Reserve Bank of New York, Term Asset-Backed Securities
Loan Facility: Terms and Conditions (Nov. 13, 2009) (online at
www.newyorkfed.org/markets/talf_terms.html) (hereinafter ``TALF Terms
and Conditions'').
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A small business initiative that was announced by the White
House in October 2009 has yet to take form.\28\ But to the
extent that it includes any outright expenditures, there will
similarly be no requirement for an exit strategy for assets.
This does not mitigate the need for rigorous oversight of any
such programs.\29\
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\28\ White House, Weekly Address: President Obama Says Small
Business Must be at the Forefront of the Recovery (Oct. 24, 2009)
(online at www.whitehouse.gov/the-press-office/weekly-
address-president-obama-says-small-business-must-be-forefront-
recovery).
\29\ See Section E, infra.
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Several related programs run by the Federal Deposit
Insurance Corporation (FDIC) and the Federal Reserve will
likewise be unaffected by the TARP's end. An FDIC program under
which bank accounts are guaranteed up to $250,000, up from the
earlier level of $100,000, is unrelated to the TARP and will
remain in place until December 31, 2013. Similarly, certain
financing that the Federal Reserve has made available in
response to the financial crisis is unrelated to the TARP and
will be unaffected by the TARP's termination.
4. EESA Requirements Relating to Use of TARP Profits, or Approach to
TARP Losses
Most of the programs established in the TARP's early days
carry the potential of a return on Treasury's investments,
which gives rise to the question of what is the best use of any
profits from the TARP. While EESA provides that all profits are
to be used to pay down the national debt,\30\ there is an
ongoing debate about what to do with TARP funds going forward.
Should the TARP instead realize a net loss, EESA provides that
``the President shall submit a legislative proposal that
recoups from the financial industry an amount equal to the
shortfall in order to ensure that the Troubled Asset Relief
Program does not add to the deficit or national debt.'' \31\
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\30\ 12 U.S.C. Sec. 5216(d).
\31\ 12 U.S.C. Sec. 5239.
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The fact that the TARP morphed from the asset purchase
program contemplated by the legislation to a capital infusion
program complicated the issue somewhat, and later TARP programs
such as HAMP, which are not intended to produce any return at
all, complicated it further. It currently appears that,
although some capital-injection programs will show a profit,
the TARP as a whole will result in a loss.\32\ Even if the
capital-injection programs show a profit, these profits will
have to be large enough to also make up for outlays under
programs such as HAMP, which are structured without any
contemplation of a return of capital or interest. It is thus
possible that legislation may result in financial institutions
being charged for losses made on investments in two automobile
companies and on foreclosure mitigation efforts. On the other
hand, it may be argued that many of the financial institutions
that received TARP funds would not have survived absent such
capital injections, or, even if they themselves were not short
of capital, would have been vulnerable had other giants in the
industry fallen, and therefore asking for these institutions to
contribute to an overall TARP shortfall is appropriate.
Ultimately, EESA specifies that the determination of whether
the program has made a loss is to be made after October 3,
2013,\33\ and it may take several years for the results of some
of the investments made under the TARP to be clear, although
the TARP financial statements do calculate likely profit or
loss for all TARP investments in fiscal year 2009.\34\
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\32\ Congressional Oversight Panel, Written Testimony of Treasury
Secretary Timothy F. Geithner (Dec. 10, 2009) (online at
cop.senate.gov/documents/testimony-121009-geithner.pdf) (hereinafter
``Sec. Geithner Written Testimony''); U.S. Department of the Treasury,
Agency Financial Statement 2009, at 3 (Sept. 30, 2009) (online at
www.treas.gov/press/releases/OSF%20AFR%2009.pdf) (hereinafter ``Agency
Financial Statement 2009'').
\33\ See 12 U.S.C. Sec. 5239.
\34\ An amendment to a bill that passed the House on December 10,
2009 (see Section G.1, infra) permits the FDIC to make an assessment
for the Systemic Dissolution Fund used to repay any shortfalls in the
Troubled Asset Relief Program to ensure that such shortfalls do not add
to the deficit or national debt. Rep. Gary Peters, Amendment to the
Wall Street Reform and Consumer Protection Act of 2009, Congressional
Record, H14748-14750 (Dec. 11, 2009) (online at
frwebgate.access.gpo.gov/cgi-bin/
getpage.cgi?dbname=2009_record&page=H14745&position=all). One potential
issue with this approach is that institutions that repaid their TARP
funds in full would be required to make up the shortfall for those
banks that were unable to do so. During a meeting with Panel staff on
December 16, 2009, OFS Chief Counsel Timothy Massad said that OFS was
aware of this issue but that it was too early to consider any concrete
plans for such recoupment.
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5. Continuing Market Effects of the TARP: The Implicit Guarantee
Even after the TARP has ended, it is likely that the effect
of the TARP and related programs on the market will continue
for some time. The decisions to rescue certain financial
institutions have created an implicit government guarantee, the
limits of which are unknown and the reasons for which are not
fully articulated.\35\ This guarantee goes beyond the so-called
too big to fail problem: it is not clear how far the guarantee
extends into the smaller banks, and even some of the banks
subjected to the ``stress tests''--which some commentators have
viewed as the too big to fail list \36\--seem to pose no real
threat to the financial system.\37\
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\35\ The ramifications of this may be visible in certain comments
by rating agencies with regard to Citigroup. See Section D.5(b), infra.
\36\ Thomas F. Cooley, The Need for Failure, Forbes.com (May 27,
2009) (online at www.forbes.com/ 2009/05/26/fdic-treasury-banks-too-
big-to-fail-opinions-columnists-sheila-bair.html).
\37\ Metlife, which operates in a confined segment of the financial
services industry, was also one of the nineteen entities selected for
the stress tests. Federal Reserve Board of Governors, The Supervisory
Capital Assessment Program: Overview of Results, at 30 (May 7, 2009)
(online at www.federalreserve.gov/newsevents/press/bcreg/
bcreg20090507a1.pdf).
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Implicit guarantees affect the market's view of these
institutions, and a perception that an institution will be
protected by the government may in fact result in the
government's continued protection. Those institutions may
factor the implicit guarantee into their calculation of
downside risk, assuming the government will backstop any failed
investments while they preserve any upside. Such risk
calculations will have a ripple effect across the market as the
investment portfolios of the guaranteed institutions' risk
profiles shift. For example, the government guarantees that
were provided to money market funds at the height of the
financial crisis have now officially lapsed, but at least one
commentator has noted that the implicit guarantees may linger,
and may be influencing both the funds' investment decisions and
their cost of capital.\38\ As discussed in the Panel's November
report, capital tends to be cheaper for institutions that have
strong guarantees, such as a guarantee backed by the U.S.
government.\39\ This has the dual effect of decreasing the cost
of capital for the guaranteed institution and placing that
institution at a competitive advantage over institutions
without such a guarantee. These guarantees have lowered the
cost of capital for many institutions.\40\ Investors make
similar calculations, taking on more risk when they are
protected from the consequences of their decisions.\41\ If
there is no new crisis and bailout, the market-distorting
effect of the TARP and related programs may dissipate as
institutions and investors come to believe that the government
will not step in to save failing institutions, or at least have
no government bailout in their recent memories. The effect in
the period immediately following the TARP's dissolution,
however, must be taken into account when analyzing market
behavior, especially with regard to risk calculations.
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\38\ Daisy Maxey, Money Funds Again Take On Risk, Wall Street
Journal (Nov. 16, 2009) (online at online.wsj.com/article/
SB10001424052748703811604574534011795078126.html).
\39\ COP November Oversight Report, supra note 2, at 37.
\40\ COP November Oversight Report, supra note 2, at 37 (``The
research firm SNL Financial (SNL) . . . found that the DGP saved
issuers 39 percent in interest costs'').
\41\ Moral hazard arises when the government agrees to guarantee
the assets and obligations of private parties and protect them from
loss. The insured party might take greater risk, especially when the
protected party is not required to purchase the protection. This
``free'' insurance causes a number of distortions in the marketplace.
On the financial institution side, it might promote risky behavior. On
the investor and shareholder side, it will provide less incentive to
hold management to a high standard with regard to risk-taking.
For an in depth discussion of moral hazard in the context of TARP
programs, see the Panel's November report. COP November Oversight
Report, supra note 2, at 70-72.
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The implicit guarantee that has now been created will not
end with the end of the TARP. The markets will assume that the
government will intervene with a new TARP in the event of
another crisis, unless the government credibly establishes that
this will not happen. One of the first orders of business for
the government as part of the unwinding of the TARP must be to
clarify or rein in the implicit guarantee and the distortion it
has on the markets.\42\
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\42\ This process may have already begun with the failure of CIT in
July 2009. Although the company received $2 billion in CPP funds, the
federal government did not provide additional funding when it became
clear that the company would not survive despite the capital injection.
CIT Group, Inc., CIT Announces That Discussions with Government
Agencies Have Ceased (July 15, 2009) (online at www.businesswire.com/
portal/site/cit/
?ndmViewId=news_view&newsId=20090715006374&newsLang=en). CIT's
prepackaged bankruptcy plan was confirmed by a court in December. CIT
Group, Inc., CIT Prepackaged Plan of Reorganization Confirmed by Court
(Dec. 8, 2009).
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The term too big to fail has come to be used as shorthand
for the implicit guarantee and to describe institutions that
the government dare not let fail, because such failure would
threaten to spread to the larger economy.\43\ Such risk might
be posed by reason of size or by the impact a company's failure
would have on the financial system. Size alone does not
determine this status, although the size of some institutions
means that their collapse in markets that have not properly
addressed the risk could have a significant impact on the
economy. Financial institutions can also threaten the financial
system by reason of their concentration of derivative risk or
by the fact that they provide essential services, disruption of
which could result in significant dislocations in the financial
system. The securities processing services, custody, and cash
management and treasury functions of some institutions are
depended upon by so many large entities that their loss could
cause significant problems in the global financial system. Risk
is multi-faceted, and because risk derives from the very
different functions and activities of the various financial
institutions, it will be very difficult to find a one-size-
fits-all definition of too big to fail.
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\43\ In this context, it is worth noting that ``risk'' is not the
only multi-faceted concept. The too big to fail shorthand implies that
there is only one kind of failure: where the dissolution of the
relevant entity could create enormous labor or market disruptions. This
arguably presents the choice facing Treasury and the U.S. government as
always between chaos or moral hazard: to use concrete examples, that
the only choices were either to let an entity--for example, Lehman
Bros.--collapse into chaos, and bring other entities with it, or to
provide the entity--for example, AIG--with bail-outs, distorting the
markets. Under other circumstances, however, these extreme poles might
not have formed the models for government intervention. Put another
way, that these were the choices Treasury made in 2008-2009 does not
mean that they were the only choices available to it. This report,
however, deals with the problem of exit, and therefore does not address
alternative actions that Treasury, the Bush or Obama Administrations,
or Congress could have taken in the crisis. The TARP program may not
have been the only means of responding to the crisis, but in discussing
exit from the TARP program, this report can only assess exit from the
choices that were actually made.
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In Section G of this report, the Panel reviews some of the
options that are currently being proposed to address the risks
posed by too big to fail institutions. The Panel takes no view
on those options, but notes that it is essential that the
unwinding of the TARP includes steps to address the moral
hazard and market distortion that the TARP and related programs
created.
6. Certain Tax Issues Affecting TARP Exit
TARP exit strategy and the operation of the CPP are
affected by a series of Treasury Department decisions that
limit the applicability of the Internal Revenue Code (Code)
rules limiting the use of a corporation's net operating losses
(NOLs).\44\ NOLs can reduce the future income and hence the tax
liability of a financial institution, or of any other
corporation.\45\ Equally important, a bank holding company's
tier 1 regulatory capital will ordinarily include a portion of
its NOLs.\46\ Any cap on an institution's available NOLs could
be expected to have a negative effect on the institution's
value and regulatory capital position. If the institution has a
large number of NOLs, the effect is likely to be substantial.
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\44\ An NOL, conceptually, is the excess of a corporation's
deductions over its taxable income. Section 382 also applies to what
are called ``built-in losses'' (in simplest terms, the amount by which
the value of an asset is less than its cost), and its companion section
383 applies in a similar way to the carryforward of unused tax credits.
NOLs, built-in losses, and tax credits together form a corporation's
``deferred tax assets,'' whose value is greater than the value of the
corporation's NOLs alone. Although not technically correct, the term
``NOL'' is used here for ease of presentation to refer to all three tax
attributes.
\45\ A corporation is generally permitted to carry forward NOLs for
20 years, to offset its future income.
\46\ 12 CFR Sec. 225 at appendix A.II.A.1. To summarize the rule,
NOLs may constitute up to 10 percent of tier 1 capital, to the extent
that the institution ``is expected to realize [a tax deduction by their
use] within one year . . . based on its projections of future taxable
income for that year . . . .'' 12 CFR Sec. 225 at appendix
A.II.B.4.a.i.
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The NOL limitation rules, contained in section 382 of the
Code, limit the annual availability of a corporation's NOLs
after a ``change in control'' of that corporation to a small
percentage of the otherwise usable amount.\47\ The corporation
does not have to be sold to trigger the limitation; a change in
control occurs if the percentage of the corporation's stock
owned by any of its ``five percent shareholders'' increases by
more than 50 percent over a three-year period, whether by the
corporation's sale or otherwise. A ``five percent shareholder''
is any shareholder that owns five percent or more of the stock
of the corporation. The stock owned by all shareholders who are
not five percent shareholders is treated as being owned by one
or more groups which may be treated as five percent
shareholders, referred to as the ``public groups.''
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\47\ 26 U.S.C. Sec. 382. The limitation may be severe. If a change
in control occurs, the amount of income that the ``post-change''
corporation can offset by ``pre-change'' losses is capped at a small
percentage of the corporation's value, which is roughly equal to its
market capitalization. This percentage, called ``the long-term tax-
exempt rate'' and set monthly by the IRS, is currently at 4.14 percent.
Thus, at present, a corporation whose market capitalization was $1
billion could use the NOLs generated before its change in control only
to the extent of $41.4 million of taxable income each year.
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The Internal Revenue Service (IRS) issued several notices
(the EESA Notices) containing guidance about the application of
section 382 to institutions engaged in transactions with the
Treasury Department under EESA. The Notices extended to
transactions under any of the TARP programs. The first three
EESA Notices, issued in October 2008, January 2009, and April
2009, allowed Treasury to take, and the institutions to redeem
eventually, stock and warrants without causing a change in
ownership under section 382.\48\ Any other result would have
increased substantially the uncertainty created by TARP and the
potential cost of participation in its programs. The tax and
regulatory capital costs of participation by financial
institutions might well have greatly limited TARP's
effectiveness. All of the EESA Notices to date have been issued
under both the Secretary's authority to issue income tax
regulations and to issue ``such regulations and other guidance
as may be necessary or appropriate to define terms or carry out
the authorities or purposes of [EESA].'' \49\
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\48\ IRS Notice 2008-100 (Oct. 15, 2008) (online at www.irs.gov/
irb/2008-44_IRB/ar13.html); IRS Notice 2009-14 (Jan. 31, 2009) (online
at www.irs.gov/pub/irs-drop/n-09-14.pdf); IRS Notice 2009-38 (April 13,
2009) (online at www.irs.gov/irb/2009-18_IRB/ar09.html). Each of the
Notices was described as ``amplifying'' and was designated as
``superseding'' the immediately prior Notice. The first Notice applied
only to preferred shares and warrants issued under the CPP. The second
expanded the treatment to include the TIP, SSFI, and the AIFP. It also
added a provision excepting from section 382 Treasury's ownership of
stock ``other than preferred stock.'' The April Notice extended the
guidance to the CAP and AGP, and in anticipation of Treasury's exchange
of preferred stock for common stock of Citigroup, exempted Treasury's
receipt of that stock from section 382, even though such stock was not
received directly under the TARP program. The Revenue Service had
previously issued similar guidance for two pre-EESA transactions that
were part of the financial stability effort.
\49\ 12 U.S.C. Sec. 5211(c)(5). In addition to the Secretary's
overall authority to issue income tax regulations, section 382(m)
specifically authorizes the Secretary to issue ``such regulations as
may be necessary or appropriate to carry out the purposes of this
section.'' 26 U.S.C. Sec. 382(m).
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In addition, the IRS issued a Notice at the end of
September 2008, prior to the enactment of EESA, stating that
important elements of section 382 would not apply to a change
in ownership of a bank.\50\ Any bank was allowed to rely on the
Notice, but it was identified as having been issued to
facilitate the acquisition of Wachovia by Wells Fargo and at
least one other bank acquisition.\51\ That Notice was rescinded
by Congress, however, as part of the economic stimulus
legislation, for any ownership change after January 16,
2009.\52\ The effective date excluded transactions under
contracts entered into on or before January 16, so that the
Notice did apply to lift the section 382 limitations for the
acquisition of Wachovia. The accompanying Conference Committee
Report mentioned without comment the EESA Notices that existed
at the time of the report.\53\
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\50\ IRS Notice 2008-83 (Sept. 30, 2008) (online at www.irs.gov/
irb/2008-42_IRB/ar08.html). The items involved were ``any deduction . .
. for losses on loans or bad debts (including any deduction for a
reasonable addition to a reserve for bad debts).''
\51\ See Crowell & Moring, Tax Notice Drives Wachovia Takeover
Turmoil (Oct. 6, 2008) (online at www.crowell.com/NewsEvents/
Newsletter.aspx?id=1032); Baker Hostetler, IRS Net Operating Loss
Guidance to Banks (Oct. 9, 2009) (online at www.bakerlaw.com/irs-net-
operating-loss-
guidance-to-banks-10-9-2008/); Press Release, Grassley Seeks Inspector
General Review of Treasury Bank Merger Move (Nov. 14, 2008) (online at
finance.senate.gov/press/Gpress/2008/prg111408c.pdf) (``The Notice,
issued just days before Congress voted on the Emergency Economic
Stabilization Act of 2008, appears to have had the effect of benefiting
Wachovia Corporation executives and Wells Fargo . . . Treasury's
issuance of the Notice apparently enabled Wells Fargo to take over
Wachovia despite a pending bid from Citibank. Without the issuance of
the Notice, Wells Fargo would have only been able to shelter a limited
amount of income. Under the Notice, however, Wells Fargo could
reportedly shelter up to $74 billion in profits''). See also Sen.
Charles E. Schumer, Schumer Seeks Answers from IRS, Treasury on Tax
Code Change That Subsidizes Bank Acquisitions (Oct. 30, 2008) (online
at schumer.senate.gov/new_website/record.cfm?id=304737) (``Wells Fargo
. . . stands to save $19.4 billion as a result of the tax change, PNC
Financial is estimated to save more than $5.1 billion in its takeover
of Cleveland-based National City'').
\52\ Congress found that:
(1) The delegation of authority to the Secretary of the Treasury
under section 382(m) of the Internal Revenue Code of 1986 does not
authorize the Secretary to provide exemptions or special rules that are
restricted to particular industries or classes of taxpayers.
(2) Internal Revenue Service Notice 2008-83 is inconsistent with
the congressional intent in enacting such section 382(m).
(3) The legal authority to prescribe Internal Revenue Service
Notice 2008-83 is doubtful.
American Recovery and Reinvestment Act (ARRA), Pub. L. No. 111-5,
at Sec. 1261 (2009).
\53\ Conference Report to Accompany H.R. 1, at 555-560, 111th Cong.
(2009) (H.R. Rept. 111-16) (online at legislative.nasa.gov/
ConferenceReport%20111-16.pdf).
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The fourth EESA Notice was issued in December 2009.\54\ The
December Notice expands the prior guidance by stating that a
sale by the Treasury Department of stock it had received under
any of the EESA programs to a ``public group,'' that is, to a
group of less than five percent shareholders, would not trigger
an ownership change. The December Notice applies to all
Treasury shareholdings. Its most immediate application and
likely most significant application, however, is to the planned
sale of the shares of Citigroup that Treasury holds.\55\
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\54\ IRS Notice 2010-2 (Dec. 11, 2009) (online at www.irs.gov/pub/
irs-drop/n-10-02.pdf).
\55\ This section does not discuss the possible impact of the
December Notice on future sales of stock held by Treasury under the
Automotive Industry Financing Program, SSFI, or any common stock
acquired by Treasury pursuant to its CPP warrants. However, as noted in
the text, the December notice is likely to have its greatest
significance as applied to Citigroup because any triggering of section
382 will likely reduce a financial institution's tier 1 capital. in the
value of Citigroup's NOLs and in the amount of its tier 1 capital.
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The application of the section 382 limitations to Citigroup
would have been harsh.\56\
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\56\ Citigroup recognized the risk of the application of section
382. In early June 2009, as part of its Exchange Offer with Treasury,
and as described in its 2009 Third Quarter 10-Q, its Board had adopted
a ``tax benefits preservation plan . . . to minimize the likelihood of
an ownership change [under section 382] and thus protect Citigroup's
ability to utilize certain of its deferred tax assets, such as net
operating loss and tax credit carry forwards, to offset future
income.'' However, the 10-Q continued: ``[d]espite adoption of the
[p]lan, future stock issuance our transactions in our stock that may
not be in our control, including sales by the USG, may . . . limit the
Company's ability to utilize its deferred tax asset and reduce its
[tangible common equity] and stockholders equity.'' Citigroup,
Quarterly Report for the Third Quarter of 2009 (10-Q), at 11 (online at
www.citibank.com/citi/fin/data/q0903c.pdf?ieNocache=106) (hereinafter
``Citigroup Third Quarter 10-Q'').
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Citigroup reported deferred tax assets (DTA) of $38 billion
as of September 30, 2009, and stated that it would require
``approximately $85 billion of taxable income during the
respective carry-forward periods to fully realize its U.S.
federal, state and local DTA.'' \57\ Given Citigroup's current
market capitalization of $80.02 billion, it could use its NOLs
only to offset $3.31 billion in taxable income annually, under
the section 382 limitation.\58\
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\57\ It is not possible, or very difficult, to discern from public
information how much taxable income Citigroup would need in order to
use its DTAs if it were subject to section 382 limitations. Use of DTAs
is not one to one against taxable income.
\58\ $3.23 billion is Citigroup's market capitalization multiplied
by the long-term tax exempt rate. See supra note 47.
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Of course, any application of the limitation would have
also reduced Citigroup's capital. Citigroup reported that as of
September 30, 2009 ``[a]pproximately $13 billion of [its] net
deferred tax asset is included in Tier 1 and Tier 1 Common
regulatory capital.'' \59\ Citigroup reported that its tier 1
common and tier 1 regulatory capital were approximately $90
billion, and $126 billion respectively. It is difficult to
calculate the capital reduction that imposition of the 382
limitations would cause, but the reduction would likely be a
significant percentage of the $13 billion, and Citigroup would
have been required to raise capital from other sources to
restore its capital position.\60\ Under the worst set of
circumstances, such a reduction in tier 1 capital might have
left Citigroup undercapitalized and postponed its eligibility
for exit from the TARP altogether.
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\59\ Citigroup Third Quarter 10-Q, supra note 56, at 11.
\60\ Without an ability to know the amount of the $13 billion
figure made up of federal NOLs, a precise calculation is impossible.
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By eliminating the section 382 limitations, the Treasury
Department avoided either reducing the value of its shares (and
the capital held by Citigroup) or being forced to sell its
shares serially over a period of years, in amounts small enough
not to increase the holdings of Citigroup's public stockholders
by more than five percent.
Nonetheless, the December Notice has attracted criticism as
an additional subsidy to Citigroup and a loss to the
taxpayers.\61\ Section 382 is a highly reticulated statute, and
this departure from its operation, under the authority both of
the Code and EESA, has raised concerns.\62\
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\61\ House Committee on Oversight and Government Reform,
Subcommittee on Domestic Policy, Opening Statement of Committee
Chairman Dennis Kucinich, The U.S. Government as Dominant Shareholder:
How Should Taxpayers' Ownership Rights be Exercised? (Part II), at 3
(Dec. 17, 2009) (online at oversight.house.gov/images/stories/
121709_111th_DP_Opening_Statement_Chairman_Kucinich_121709.pdf); Sen.
Charles Grassley, Grassley Urges Fair Tax Treatment for Small
Businesses Compared to Large Banks (Dec. 23, 2009) (online at
grassley.senate.gov/news/Article.cfm?customel_ dataPageID_1502=24632).
Senator Jim Bunning has introduced a bill to rescind 2010-2, and to
require Treasury to receive congressional authorization for any future
regulations under section 382 that provide an ``exemption or special
rule . . . which is restricted to dispositions of instruments acquired
by the Secretary.'' S. 2916, 111th Cong. (Dec. 18, 2009).
\62\ Binyamin Appelbaum, U.S. gave up billions in tax money in deal
for Citigroup's bailout repayment, Washington Post (Dec. 16, 2009)
(online at www.washingtonpost.com/wp-dyn/content/article/2009/12/15/
AR2009121504534.html) (quoting Robert Willens, a tax accounting expert,
that ``I've been doing taxes for almost 40 years, and I've never seen
anything like this, where the IRS and Treasury acted unilaterally on so
many fronts'').
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Congress' rescission of the September 2008 Notice directed
at the Wells Fargo-Wachovia transaction is inconclusive.\63\
The legislation indicated a congressional belief that section
382 was not intended to apply differently to ``particular
industries.'' \64\ However, the Notice was arguably directed at
private transactions and was announced before the enactment of
EESA.\65\ In addition, by the time Congress acted to reverse
that Notice, the CPP, TIP, and SSFI were in operation, and the
significance of the EESA Notices was apparent. The first two
EESA Notices are cited in the ARRA Conference Committee Report
without comment, positive or negative, and Congress has taken
no action, either in ARRA or thereafter to rescind the EESA
Notices.
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\63\ IRS Notice 2008-83 (Sept. 30, 2008) (online at www.irs.gov/
irb/2008-42_IRB/ar08.html).
\64\ See ARRA, supra note 52.
\65\ Although EESA was close to enactment at the end of September,
the consensus was that the TARP would be used to purchase ``troubled
assets'' from financial institutions. Congressional Oversight Panel,
August Oversight Report: The Continued Risk of Troubled Assets (Aug.
11, 2009) (online at cop.senate.gov/documents/cop-081109-report.pdf)
(hereinafter ``COP August Oversight Report'').
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Given the previous guidance, it is difficult to understand
why Treasury waited until December 2009 to extend the earlier
guidance to a sale of its shares to the public.\66\ Treasury
staff has indicated that, before the decision was made to sell
the shares to the public, it was possible that Citigroup would
repurchase the shares itself, making the December Notice
unnecessary; the Notice would, however, have been necessary in
any event with respect to the other institutions in which
Treasury continues to hold a common stock interest.\67\ It is
also possible that Treasury did not want to run a risk of
attracting a negative congressional reaction such as that which
led to the reversal of Notice 2008-83.
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\66\ Some tax experts believe that the conclusion was implicit in
the prior assurance that section 382 could not apply to any repurchase
of CPP shares from Treasury. Amy Elliot, Criticism of Notice Allowing
Citigroup to Keep NOLs is Unfounded, Official Says, Tax Analysts (Dec.
17, 2009) (``Most thought that `even if it wasn't a redemption that
shouldn't matter,''' said Todd B. Reinstein, a partner with Pepper
Hamilton LLP. ``If it was a sale to a public group it should be the
same treatment. This just . . . confirms that'').
\67\ Treasury conversations with Panel staff (Jan. 7, 2009).
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Treasury has pointed out to staff of the Panel that the
December Notice balances the policies of section 382 and EESA
by limiting the EESA relief to sales to the public and not to
any freestanding five percent shareholders. This avoids the
primary thrust of section 382 by not creating any single
shareholder or shareholders with more than five percent of
Citigroup stock through its sale. The limitation is
significant, but its relevance in this case depends to some
degree on the relationship between the timing of the Notice and
Treasury's decision to sell its Citigroup shares to the public.
Assistant Secretary of the Treasury for Financial Stability
Herb Allison's initial response to the criticism of the
December Notice, in a letter to The Washington Post, emphasized
that Treasury could not avoid taxes because it did not pay
taxes.\68\ The response sidesteps the fact that section 382
applies to Citigroup, not Treasury, and that the operation of
the statute is not limited to sales of a company. A second
argument, that Citigroup should not ``be treated differently
simply because the government intervened'' comes closer to the
core of the matter. The December Notice eliminated what could
have been a major obstacle to the severance of Treasury's
ownership of Citigroup common stock. Without the Notice,
Treasury could still have eliminated the costs of the section
382 limitations for Citigroup by selling its shares into the
market over a number of years, causing no revenue loss.
Calculations of the extent to which taxpayers benefited or not
from the lifting of the section 382 limitation are extremely
difficult in any event, because they depend on assumptions
about Citigroup's income in future years if use of its NOLs had
been limited, and the value to the taxpayers of realizing an
immediate gain from the sale of the Citigroup shares.
---------------------------------------------------------------------------
\68\ Assistant Secretary Herbert Allison, Letter to the Editor,
U.S. Isn't Evading Taxes on Citigroup, Washington Post (Dec. 22, 2009)
(online at www.washingtonpost.com/wp-dyn/content/article/2009/12/22/
AR2009122200040.html).
---------------------------------------------------------------------------
Finally, the EESA Notices, however sound in themselves,
illustrate again the inherent conflict implicit in Treasury's
administration of the TARP. In this case the conflict is a
three-way one, pitting Treasury's responsibilities as TARP
administrator, regulator, and tax administrator against one
another. Perhaps the most troublesome aspect of the debate over
the December Notice is posed by this conflict, in the
perception that income tax flexibility is especially, and
quickly, available for large financial institutions at a time
of general economic difficulty.
C. Historical Precedents: the RFC and the RTC
The TARP is not the first U.S. government program to
involve large-scale U.S. government acquisition of private
assets.\69\ The Reconstruction Finance Corporation (RFC) and
the Resolution Trust Corporation (RTC) provide prior models for
the investment of public funds in struggling or insolvent
private entities and the ensuing public sector management and
disposition of the acquired assets. The RFC was established in
1932 and ultimately unwound in 1957,\70\ while the RTC was
established in 1989 and ultimately terminated in 1995.\71\
---------------------------------------------------------------------------
\69\ See generally Congressional Oversight Panel, April Oversight
Report: Assessing Treasury's Strategy: Six Months of TARP, at 35-50
(Apr. 7, 2009) (online at cop.senate.gov/documents/cop-040709-
report.pdf) (hereinafter ``COP April Oversight Report'').
\70\ Congress terminated the lending power of the RFC in 1953, and
its remaining duties were transferred to other agencies in 1957. See
The National Archives, Records of the Reconstruction Finance
Corporation, at 234.1 (online at www.archives.gov/research/guide-fed-
records/groups/234.html) (accessed Jan. 13, 2010) (hereinafter
``Records of the RFC'').
\71\ See Timothy Curry and Lynn Shibut, The Cost of the Savings and
Loan Crisis: Truth and Consequences, FDIC Banking Review, at 28 (Dec.
2000) (online at www.fdic.gov/bank/analytical/banking/2000dec/
brv13n2_2.pdf) (hereinafter ``The Cost of the Savings and Loan Crisis:
Truth and Consequences'').
---------------------------------------------------------------------------
1. The RFC
President Herbert Hoover established the RFC in response to
the credit freeze of the Great Depression.\72\ The RFC provided
liquidity to struggling institutions through investments in
preferred stock and debt securities.\73\ Initially, the RFC
provided liquidity for healthier institutions but was prevented
from offering long-term capital to weaker institutions by
restrictions such as high interest rates, collateral
requirements, and short-term lending requirements.\74\ The
Emergency Banking Act of 1933, however, gave the RFC the
ability to offer investment capital, while looser collateral
requirements expanded the RFC's lending capacity.\75\
Ultimately, under President Franklin Roosevelt, successive
expansions of authority helped the RFC evolve from its initial
role as a short-term lender into an agency that provided
federal support for the credit markets and became a major part
of the New Deal program.\76\
---------------------------------------------------------------------------
\72\ James S. Olson, Saving Capitalism: The Reconstruction Finance
Corporation and the New Deal, 1933-1940, at 14-15 (1988) (hereinafter
``Olson'').
\73\ See Olson, supra note 72. The funds were provided to banks,
railroads, financial institutions, commercial enterprises, industrial
banks, farm collectives and a variety of other entities, as well as to
other agencies. See id. at 43-44. See generally Records of the RFC,
supra note 70.
\74\ See Jesse Jones, 50 Billion Dollars: My Thirteen Years with
the RFC (1932-1945), at 19, 520 (1951) (hereinafter ``Jones''); see
also Olson, supra note 72, at 69.
\75\ See Olson, supra note 72, at 69.
\76\ See Olson, supra note 72, at 83, 88; see also Jones, supra
note 74. In addition to financial sector entities, the many recipients
of RFC loans included department stores, fabric and paper mills, and
small business owners as well as banks and railroads. See id. at 184-
85, 188, 190. Jack Dempsey also received a loan, which he used to
refurbish a restaurant. See id. at 190.
---------------------------------------------------------------------------
The RFC investments in bank and industry capital took place
in the shadow of the Emergency Banking Act and President
Franklin Roosevelt's nation-wide bank holiday. After the
holiday, only those banks that were liquid enough to do
business were permitted to reopen. Banks with insufficient
assets to return to depositors and creditors were reorganized
with RFC assistance or liquidated.\77\ The key steps the RFC
followed in resolving failing banks have been cited as a model
method for dealing with bank failures: (1) Write down a bank's
bad assets to realistic economic values; (2) evaluate bank
management and make any needed and appropriate changes; (3)
inject equity in the form of preferred stock but only after the
write-downs; and (4) receive the dividends and eventually
recover the par value of the stock as the bank returns to
profitability and full private ownership.\78\
---------------------------------------------------------------------------
\77\ See Jones, supra note 74.
\78\ Federal Reserve Bank of Kansas City, Speech by President
Thomas Hoenig: Too Big Has Failed, at 7 (Mar. 6, 2009) (online at
www.kc.frb.org/speechbio/hoenigPDF/Omaha.03.06.09.pdf).
---------------------------------------------------------------------------
The RFC's involvement with the entities to which it
provided funds was neither hands-off nor consistently
interventionist. Although the RFC was the largest investor in
the country, its head, Jesse Jones, expressed a preference for
leaving competent executives in charge of their institutions,
and preferred to offer advice and capital without trying to
control or manage the institutions.\79\ He stated generally
that where he felt a bank was well run, the RFC would not
become involved with management.\80\ This general philosophical
approach, however, did not prevent Jones from intervening where
he thought it necessary and suggesting management and board
changes for RFC debtors.\81\ In some cases, the RFC loan was
contingent upon the relevant entity accepting new management
chosen by the RFC.\82\ Jones also certified the appropriateness
of the salaries received by executives at corporations
accepting RFC loans and instituted a declining scale of salary
reductions, under which cuts could exceed 50 percent.\83\ On
the other hand, Jones did not use the RFC to make economic and
industrial policy decisions.\84\ Jones stated that he resisted
what he considered the New Dealers' plans to use the RFC funds
as a ``grab bag'' \85\ and instead ran the RFC according to
business principles, using what he considered ``proper
accounting methods'' to manage the RFC's investments.\86\ In
his memoirs, Jones stated that everyone assumed that the RFC
was to provide the emergency relief necessary for weathering
the crisis. When private enterprise was in a position to
invest, he expected the RFC to cease operations.\87\ By the end
of 1935, the RFC had loaned or invested $10.6 billion ($167.38
billion in 2009 dollars) \88\ in various businesses and
government agencies, often (although not always) without
interfering in the operations of the debtors.\89\ Most of the
RFC's investments in banks were ultimately recovered in full,
and the RFC also received dividends from those investments,
although its investments in railroads were less lucrative.\90\
---------------------------------------------------------------------------
\79\ See Jones, supra note 74, at 125-127.
\80\ See Jones, supra note 74, at 125-127.
\81\ See Charles Calomiris and Joseph Mason, How to Restructure
Failed Banking Systems: Lessons from the U.S. in the 1930s and Japan in
the 1990s, National Bureau of Economic Research, at 20-24 (Apr. 2003)
(online at papers.nber.org/papers/w9624.pdf?new_window=1).
\82\ The most famous instances of t his kind of RFC control were
Continental Illinois Bank and Trust Company and the Union Trust Company
of Cleveland. See Olson, supra note 72, at 125; Joseph R. Mason,
Reconstruction Finance Corporation Assistance to Financial
Intermediaries and Commercial & Industrial Enterprise in the U.S.,
1932-1937, at 20-21 (Jan. 17, 2000).
\83\ See Olson, supra note 72, at 125-126.
\84\ See Olson, supra note 74, at 127.
\85\ See Jones, supra note 74, at 290.
\86\ Congressional Oversight Panel, Written Testimony of Alex
Pollock Taking Stock: Independent Views on TARP's Effectiveness, at 3
(Nov. 19, 2009)(online at cop.senate.gov/documents/testimony-111909-
pollock.pdf) (hereinafter ``Pollock COP Testimony''). From its
formation in 1932 onwards, the RFC and its subsidiaries prepared
monthly financial statements setting forth cumulative assets,
liabilities, and shareholder capital. Where applicable, these
``Statement[s] of Condition'' also listed the cumulative loan positions
with recipient firms, including data such as authorized loan amount,
proceeds disbursed/not disbursed, and repayments. These loan statements
included detailed footnotes. See generally Reconstruction Finance
Corporation, Statement of Condition (Dec. 31, 1934). In time, the RFC
also added a ``Statement of Income and Expense,'' that more explicitly
detailed income, expenses, and profits (losses). See Reconstruction
Finance Corporation, Statement of Condition (Dec. 31, 1937). By the
1930s, most publicly traded corporations produced some financial
information for their investors. Principally, this meant two documents:
the balance sheet and the income statement. The balance sheet was
broadly divided into two section: ``assets'' and ``liabilities'' (or
``liabilities and capital''). Income statements varied more widely, but
almost always had a description of revenues and expenses, and some
statement of profit and loss. See generally Mortimer Battey Daniels,
Corporation Financial Statements, at 5-7 (first edition 1934, reprinted
1980). Thus, the RFC financial statements mirrored those of its non-
government peers.
The financial statements prepared by OFS with rsepect to the TARP
program, and the accompanying MD&A, provide extensive discussion of the
results of all the TARP programs. The notes to the statements are not
easily accessible for a lay leader, but the MD&A is easier to read and
includes a short executive summary. Overall, Agency Financial Report
seems broadly consistent with the RFC precedent. Agency Financial
Statement 2009, supra note 32; see Section D.3, infra.
\87\ See Jones, supra note 74, at 191. The RFC also declined to
provide loans to industries that had access to private capital. See id.
\88\ A consumer price index inflation calculator is available via
the Bureau of Labor Statistics (online at data.bls.gov/cgi-bin/
cpicalc.pl).
\89\ See Jones, supra note 74, at 127.
\90\ See Pollock COP Testimony, supra note 86, at 2-3.
---------------------------------------------------------------------------
2. The RTC
The RTC was established as part of the effort to address
the savings and loan crisis of the 1980s.\91\ Scholars have
cited volatile interest rates, state and federal deregulation,
market shifts and adverse economic conditions as factors
contributing to the crisis.\92\ By the end of 1986, 441 thrifts
representing $113 billion were insolvent, and 533 thrifts
representing $453 billion held severely impaired assets.\93\
Together, those insolvent and struggling thrifts held nearly 50
percent of the assets in the industry.\94\
---------------------------------------------------------------------------
\91\ See Lee Davison, Politics and Policy: The Creation of the
Resolution Trust Corporation, FDIC Banking Review, at 17-18 (July 2005)
(online at www.fdic.gov/bank/analytical/banking/2005jul/article2.pdf)
(hereinafter ``Politics and Policy: The Creation of the Resolution
Trust Corporation'').
\92\ See The Cost of the Savings and Loan Crisis: Truth and
Consequences, supra note 71, at 27 (describing the factors contributing
to the crisis and citing sources).
\93\ See id.
\94\ See id.
---------------------------------------------------------------------------
In response to the crisis, the Financial Institutions
Reform, Recovery and Enforcement Act of 1989 (FIRREA) created
the RTC as a limited-term entity. (Although originally intended
to operate for five years, it was extended twice, ultimately
until 1995.) \95\ It acted as conservator or receiver of
eligible insolvent institutions, and was responsible for
carrying assets of the insolvent institutions until it could
sell them.\96\ Its funding derived in part from the Resolution
Funding Corporation, which was partially supported by the
Federal Home Loan Banks and the Treasury and issued long-term
bonds to the public.\97\ Among other methods, the RTC created
joint ventures with private parties to help dispose of thrift
assets. The private sector partner purchased, managed and sold
the assets, and shared returns with the RTC.\98\ The RTC
created 72 such joint ventures between 1992 and 1995, which
collectively held assets with a book value of $21.4
billion.\99\
---------------------------------------------------------------------------
\95\ See Politics and Policy: The Creation of the Resolution Trust
Corporation, supra note 91, at 19; see also The Cost of the Savings and
Loan Crisis: Truth and Consequences, supra note 71, at 28.
\96\ See The Cost of the Savings and Loan Crisis: Truth and
Consequences, supra note 71, at 28-30.
\97\ See id.
\98\ Federal Deposit Insurance Corporation, Managing the Crisis:
The FDIC and RTC Experience, Chronological Overview: Chapter 15 (Jan.
5, 2005) (online at www.fdic.gov/bank/historical/managing/Chron/1992/
index.html) (hereinafter ``Managing the Crisis: The FDIC and RTC
Experience'').
\99\ See Ralph F. MacDonald III, Mark V. Minton, Sarah H. Eberhard,
Brett P. Barragate, Glenn S. Arden, James C. Olson, Valerie Pearsall
Roberts, FDIC Delays the PPIP Legacy Loan Program to Focus on Public-
Private Programs to Sell Assets from Failed Bank, Jones Day (June 2009)
(online at www.jonesday.com/pubs/pubs_detail.aspx?pubID=S6324).
---------------------------------------------------------------------------
By the end of its existence, the RTC had disposed of more
than $450 billion in assets, representing nearly 98 percent of
the assets that were its responsibility, and resolved 747
failed thrifts.\100\ Although the RTC ultimately realized
losses from its investments, the losses were lower than the
estimates made during the early- and mid-1990s, and the cost of
intervention declined every year after 1991.\101\ The savings
resulted in part from the RTC's decision to follow conservative
accounting principles and its efforts to avoid overvaluing the
assets it had acquired.\102\ In addition, the RTC benefited
from the economic recovery of the 1990s, which lessened the
rate of thrift failures and increased the prices that the RTC
could get for its thrift asset holdings.\103\
---------------------------------------------------------------------------
\100\ See Managing the Crisis: The FDIC and RTC Experience, supra
note 98; see also Lee Davison, The Resolution Trust Corporation and
Congress, 1989-1993, FDIC Banking Review, at 38 (Sept. 2006) (online at
www.fdic.gov/bank/analytical/banking/2006sep/article2/article2.pdf).
\101\ See The Cost of the Savings and Loan Crisis: Truth and
Consequences, supra note 71, at 33.
\102\ See id.
\103\ Early estimates of the losses were lower, in part because the
forecasts had not predicted the full extent of the crisis. See id.
---------------------------------------------------------------------------
3. Lessons from the RFC and the RTC
The RFC and the RTC were both established during
extraordinary circumstances.\104\ For the RFC, the market
collapse of the Great Depression and the needs of the New Deal
programs ultimately vested the agency with a role as an all-
things lender and fixer. The RTC, by contrast, had a more
limited brief: to organize and dispose of the mess left by the
savings and loan crisis. TARP funds are not directly available
for the wide variety of possible recipients that received RFC
funds,\105\ and in that sense the TARP is more targeted. Unlike
the RTC, however, Treasury under the TARP has intervened in
multiple types of market failures, and has not restricted its
actions to just one sector.
---------------------------------------------------------------------------
\104\ For additional discussion of the RFC and the RTC, see COP
April Oversight Report, supra note 69, at 35-41, 44-50.
\105\ See Jones, supra note 74, at 190.
---------------------------------------------------------------------------
In addition, Treasury is not predominantly acting to
liquidate the entities that are part of the TARP, as did the
RTC. Accordingly, it is difficult to draw too many parallels
between Treasury's management of the TARP and either the RFC or
the RTC. At a more abstract level, the crises to which the RTC
and the RFC responded involved the sequential failure of
multiple regulated entities over several years prior to
government intervention.\106\ By contrast, the TARP developed
in response to rapidly-unfolding market events for which, in
some cases, there was no obvious precedent. That said, however,
in each situation--sale and management of assets for the RTC,
unwinding of investments for the RFC--the U.S. government found
itself in the position of a money-manager and/or conservator of
private sector assets, from which they ultimately divested,
over time, with attention to available returns and protection
of government funds. When the RFC and the RTC had completed
their tasks, they were dissolved.
---------------------------------------------------------------------------
\106\ See COP April Oversight Report, supra note 69, at 35-41, 44-
50.
---------------------------------------------------------------------------
Treasury has informed the Panel that it interprets its
obligations in a way that, while not precisely analogous to the
RFC and RTC precedents, appears to rest on similar principles.
Like its predecessors, Treasury has stated that it intends to
act as a reluctant shareholder and to exit while maximizing
returns and preserving stability.\107\ Treasury has stated that
it does not intend to interfere with day-to-day business
decisions, relying instead on the management of the covered
entities, although Treasury has initiated board and management
changes in some situations (for example, with General Motors),
much as the RFC did in some situations.\108\ Similarly,
Treasury is experimenting with public-private partnerships to
manage and dispose of its assets.
---------------------------------------------------------------------------
\107\ See Section D.2, infra (discussing the ``three pillars'').
\108\ See Congressional Oversight Panel, September Oversight
Report: The Use of TARP Funds in the Support and Reorganization of the
Domestic Automotive Industry, at 20 (Sept. 9, 2009) (online at
cop.senate.gov/documents/cop-090909-report.pdf) (hereinafter ``COP
September Oversight Report'').
---------------------------------------------------------------------------
D. Disposal of the Assets
1. Introduction
Treasury currently holds assets and obligations as part of
a number of different programs created under the TARP. These
programs differ in scope, size, and state of maturity. The
largest and most prominent use of TARP funding has been
Treasury's injections of capital into financial institutions.
There are three different capital injection programs under the
TARP. The Capital Purchase Program (CPP) is the largest; under
the CPP, 707 banks received capital injections totaling nearly
$205 billion. The Targeted Investment Program (TIP) and
American International Group, Inc. Investment Program (AIGIP),
formerly known as the Systemically Significant Failing
Institutions Program (SSFI),\109\ are narrower efforts aimed at
large institutions that Treasury and the bank regulators
considered critical to the functioning of the financial
system.\110\ The only institutions that received TIP funds were
Citigroup and Bank of America, each of which received $20
billion. AIG, which has received approximately $45.3 billion
through AIGIP/SSFI to date, is that program's only beneficiary.
Treasury has also provided capital assistance to banks outside
the capital injection programs. Through the Asset Guarantee
Program (AGP), Treasury, the FDIC, and the Federal Reserve
guaranteed approximately $250.4 billion \111\ in Citigroup
assets until the termination of this program on December 23,
2009. Three other programs--TALF, PPIP and the small business
initiative--account for a further $65 billion of TARP funds.
---------------------------------------------------------------------------
\109\ Treasury, without public announcement, recently changed the
name of the TARP's SSFI Program to the more positive sounding American
International Group, Inc. Investment Program. The Panel was made aware
of this change only after reviewing OFS' recently issued TARP financial
statements for fiscal year 2009.
\110\ See 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) (hereinafter
``Joint Statement on Citigroup'') (stating that the decision to provide
Citigroup with TIP assistance was based on the government's commitment
``to supporting financial market stability, which is a prerequisite to
restoring vigorous economic growth''); U.S. Department of the Treasury,
Treasury, Federal Reserve and the FDIC Provide Assistance to Bank of
America (Jan. 16, 2009) (online at www.treas.gov/press/releases/
hp1356.htm) (stating that the objective of TIP is to ``foster financial
market stability and thereby to strengthen the economy and protect
American jobs, savings, and retirement security.''); U.S. Department of
the Treasury, Treasury to Invest in AIG Restructuring Under the
Emergency Economic Stabilization Act (Nov. 10, 2008) (online at
www.treas.gov/press/releases/hp1261.htm) (hereinafter ``Treasury to
Invest in AIG Restructuring Under EESA'') (highlighting that AIG is a
``systemically important company''); Board of Governors of the Federal
Reserve System, Federal Reserve Board, with Full Support of the
Treasury Department, Authorizes the Federal Reserve Bank of New York to
Lend up to $85 billion to the American International Group (AIG) (Sept.
16, 2008) (online at www.federalreserve.gov/newsevents/press/other/
20080916a.htm) (hereinafter ``Federal Reserve Board authorizes lending
to AIG'') (noting that the Federal Reserve Board ``determined that, in
current circumstances, a disorderly failure of AIG could add to already
significant levels of financial market fragility and lead to
substantially higher borrowing costs, reduced household wealth, and
materially weaker economic performance'').
\111\ The $250.4 billion of Citigroup's assets reflected the value
of the ring-fenced pool as of September 30, 2009. Citigroup Third
Quarter 10-Q, supra note 56, at 35.
---------------------------------------------------------------------------
FIGURE 1: NET INVESTMENT AMOUNT IN TARP BY MONTH
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
2. Treasury's TARP Exit Strategy
Treasury must balance several potentially conflicting
interests in managing its exit from the TARP. Because of the
policy concerns related to the TARP and, more broadly, the
requirements of EESA, Treasury has taken the position that it
is not able to act simply as a prudent money-manager, seeking
only an exit strategy that provides the best return on its
investment.
The policy goals of EESA are laid out in several sections
of the statute. The overarching purpose of EESA is to
``immediately provide authority and facilities that the
Secretary of the Treasury can use to restore liquidity and
stability to the financial system of the United States.'' \112\
While the Secretary ``may, at any time, exercise any rights
received in connection with troubled assets purchased under''
EESA,\113\ he must also specifically consider, among other
concerns:
---------------------------------------------------------------------------
\112\ 12 U.S.C. Sec. 5201(1).
\113\ 12 U.S.C. Sec. 5216(a).
---------------------------------------------------------------------------
Protecting the interests of taxpayers by
maximizing overall returns and minimizing the impact on
the national debt;
Providing stability and preventing
disruption to financial markets in order to limit the
impact on the economy and protect American jobs,
savings, and retirement security;
The need to help families keep their homes
and to stabilize communities;
In determining whether to engage in a direct
purchase from an individual financial institution, the
long-term viability of the financial institution in
determining whether the purchase represents the most
efficient use of funds[.] \114\
---------------------------------------------------------------------------
\114\ 12 U.S.C. Sec. 5213(1)-(4).
---------------------------------------------------------------------------
Furthermore, the Secretary is to use his authority under
EESA ``in a manner that will minimize any potential long-term
negative impact on the taxpayer, taking into account the direct
outlays, potential long-term returns on assets purchased, and
the overall economic benefits of the program, including
economic benefits due to improvements in economic activity and
the availability of credit, the impact on the savings and
pensions of individuals, and reductions in losses to the
Federal Government.'' \115\ In carrying out this authority, the
Secretary is to ``hold the assets to maturity or for resale for
and until such time as the Secretary determines that the market
is optimal for selling such assets, in order to maximize the
value for taxpayers'' and ``sell such assets at a price that
the Secretary determines, based on available financial
analysis, will maximize return on investment for the Federal
Government.'' \116\
---------------------------------------------------------------------------
\115\ 12 U.S.C. Sec. 5223(a)(1).
\116\ 12 U.S.C. Sec. 5223(a)(2).
---------------------------------------------------------------------------
Treasury has interpreted its various obligations to require
a management and exit strategy that rests on three pillars:
Maintaining systemic stability;
Preserving the stability of individual
institutions; and
Maximizing return on investment.\117\
---------------------------------------------------------------------------
\117\ Treasury conversations with Panel staff (Dec. 3, 2009).
---------------------------------------------------------------------------
Treasury officials have consistently stated that Treasury
believes ``the U.S. government is a shareholder reluctantly and
out of necessity'' and that Treasury ``intend[s] to dispose of
[its] interests as soon as practicable, with the dual goals of
achieving financial stability and protecting the interests of
the taxpayers.'' \118\ This view, Treasury has stated, is
consistent with EESA in that EESA does not specifically
contemplate Treasury's taking positions in private companies or
managing the day-to-day operations of these companies.\119\
Treasury has also noted that the American system is premised on
privately-owned industry and that it is therefore contrary to
Treasury's nature as a government entity to hold shares in
these companies. In an earlier meeting with Panel staff, a
Treasury official noted that Treasury made its investments
because it needed to stabilize the country's financial system,
not because it needed a way to make money.\120\ For that
reason, he stated, exit from any TARP position must be done in
a way that promotes stability and the policy goals of EESA,
even if that means that Treasury must hold securities longer
than it would otherwise wish.
---------------------------------------------------------------------------
\118\ House Oversight and Government Reform Committee, Subcommittee
on Domestic Policy, Written Testimony of Assistant Secretary of the
Treasury Herbert Allison, Jr., The Government As Dominant Shareholder:
How Should the Taxpayers' Ownership Rights Be Exercised?, 111th Cong.
(Dec. 17, 2009) (online at oversight.house.gov/images/stories/Allison_
Testimony_for_Dec-17-09_FINAL_2.pdf) (hereinafter ``Allison Testimony
before House Oversight and Government Reform Committee''). As part of
his testimony, Secretary Allison also discussed the major principles
guiding Treasury's role as a shareholder with regard to corporate
governance issues. These principles were: (1) as a reluctant
shareholder, Treasury intends to exit its positions as soon as
practicable; (2) Treasury does not intend to be involved in the day-to-
day management of any company; (3) Treasury reserves the right to set
conditions on the receipt of public funds to ensure that ``assistance
is deployed in a manner that promotes economic growth and financial
stability and protects taxpayer value''; and (4) Treasury will exercise
its rights as a shareholder in a commercial manner, voting only on core
shareholder matters.
\119\ Treasury conversations with Panel staff (Jan. 8, 2010).
\120\ Treasury conversations with Panel staff (Dec. 3, 2009).
---------------------------------------------------------------------------
Treasury's multi-faceted approach to managing and winding
down this program raises issues regarding an assessment of
Treasury's performance with respect to its exit. If Treasury's
only obligation were to maximize profit, the public would be
able to compare Treasury's yield with yields on other similar
investments and reach a conclusion as to whether Treasury had
fulfilled its mandate.\121\ Because Treasury identified a
number of mandates to fulfill, any action that fails to fulfill
one may be attributed to a step toward fulfilling another.
Furthermore, two of the three pillars do not lend themselves to
quantitative measures of performance.
---------------------------------------------------------------------------
\121\ The comparison would be an imperfect one because no two
investments are identical.
---------------------------------------------------------------------------
Because of the various policy concerns at issue and the
three-pillar approach to TARP strategy laid out above, Treasury
reads its obligation to sell at a time that is ``optimal'' to
encompass not only a determination that such a sale will
directly maximize the benefit to taxpayers by fetching the
highest price, but also a determination that the sale will at
least not undermine systemic stability.\122\ While the section
of the statute in which this language resides states that the
sale must be at the time determined to be ``optimal . . . to
maximize the value for taxpayers,'' this section also applies
directly to an earlier subpart that directs the Secretary to
use his authority under EESA to minimize long-term negative
impact on taxpayers, taking into account ``the direct outlays,
potential long-term returns on assets purchase, and the overall
economic benefits of the program, including economic benefits
due to the improvements in economic activity and the
availability of credit, the impact on the savings and pensions
of individuals, and reduction in losses to the Federal
Government.'' \123\
---------------------------------------------------------------------------
\122\ Treasury conversations with Panel staff (Dec. 3, 2009).
\123\ 12 U.S.C. Sec. 5223(a)(1).
---------------------------------------------------------------------------
While this position may be the best way to meet the various
policy goals outlined above, it may prevent Treasury from
taking advantage of a true buy-and-hold strategy that would
allow greater profits from companies on a strong upward trend
over a years-long period. Such a strategy would, however,
conflict with Treasury's position as a ``reluctant
shareholder'' because it would require Treasury to hold shares
for a long period of time.
These policy considerations raise an additional question:
to what extent will Treasury's actions, whatever they may be,
affect the markets? Not only is there the potential for
Treasury's actions to have such an effect simply because
Treasury's presence in the market is unlike that of a private
firm, but the potential also exists for purposeful impact on
the markets. This potential might conflict with Treasury's
stated goal of minimizing government intervention in the
markets and may raise objections from market participants who
might claim that Treasury was deliberately disrupting the
market. Treasury's statements to date have not explained how it
will address this conundrum.
Although Treasury's exit strategy from the TARP has not
always been transparent to the American public, Treasury has
now clearly articulated the principles upon which it is
operating with respect to exit strategy, however obscure the
eventual application of those principles may be.\124\ The Panel
does not take a view either with respect to Treasury's
``reluctant shareholder'' approach or with respect to the
strategy that Treasury is following, but it acknowledges that
the approach has been enunciated with the objective of
articulating a policy. In meetings and calls with the managers
of the various asset classes at Treasury, those managers were
consistent in their articulation of the exit strategy and the
principles driving it.\125\
---------------------------------------------------------------------------
\124\ Allison Testimony before House Oversight and Government
Reform Committee, supra note 118; Treasury conversations with Panel
staff (Dec. 3, 2009); see Congressional Oversight Panel, January
Oversight Report: Accountability for the Troubled Asset Relief Program,
at 4 (Jan. 9, 2009) (online at cop.senate.gov/documents/cop-010909-
report.pdf).
\125\ In the course of drafting this report, Panel staff conducted
extensive discussions with the managers of the various asset classes at
Treasury. See, e.g., Treasury conversations with Panel staff (Dec. 15,
2009, Dec. 16, 2009, and Jan. 5, 2010) (discussing Citigroup and AIG).
---------------------------------------------------------------------------
By comparison, in a previous Report the Panel suggested
that Treasury consider dealing with the shareholder duties that
have emerged from its investments in troubled companies by
placing those investments in a privately managed trust,\126\
thereby segregating these functions from the other oversight
and intervention obligations occasioned by the TARP.
---------------------------------------------------------------------------
\126\ See COP September Oversight Report, supra note 108, at 5.
---------------------------------------------------------------------------
The principal benefit of such a trust would be that the
assets could be managed for the sole benefit of the U.S.
Treasury, and would be insulated from undue political
influence.\127\ While the creation of such a trust is
authorized by the statute,\128\ and has been considered by
Treasury, Treasury has explained that the drawbacks of using a
trust are currently outweighed by the benefits.\129\ The belief
is that if a trust were created, it would be difficult to
determine which assets should be placed in the trust, and it
would be difficult to carry out Treasury's policy goals--which
include promoting market stability in addition to maximizing
the benefit to taxpayers.\130\ Treasury has also indicated that
statutory requirements may prevent the implementation of a
trust managed by an independent trustee, because of EESA's
requirements for the Secretary to maintain supervision over
investments held by vehicles established by Treasury. Treasury
has not ruled out the use of such a trust when only a small
pool of assets remain.\131\
---------------------------------------------------------------------------
\127\ Treasury statements make it clear that Treasury sees a clear
distinction between ``managing assets'' (which Treasury sees as the
government's role) and ``managing companies'' (which Treasury does not
see as its role). Allison Testimony before House Oversight and
Government Reform Committee, supra note 118, at 5-6. While Treasury is
clearly able to manage assets outside a trust, Treasury's direct
involvement in, for example, deciding when to sell Citigroup shares,
has the potential to send unintended signals to the markets, which
signals would be tempered if a trustee were making the decisions.
Additionally, while Treasury intends to vote its shares only on
``core'' shareholder matters, there are non-core matters that may be
presented to shareholders where a failure to vote could lead to a
governance vacuum and where a trustee could prove useful.
\128\ 12 U.S.C. Sec. 5219(c).
\129\ Treasury conversation with Panel staff (Dec. 15, 2009).
Trusts are also as prone as any group of people to suffer from
disagreements among members or other internal politics.
\130\ Treasury conversation with Panel staff (Dec. 15, 2009).
\131\ Treasury conversation with Panel staff (Dec. 15, 2009).
---------------------------------------------------------------------------
The Panel is concerned that, although Treasury has been
consistent in its description of its goals, the articulated
principles are so broad that they provide Treasury with an easy
means of justifying almost any decision--effectively giving no
metric to determine whether Treasury's actions met its stated
goals. Because either holding or selling, or a third approach,
may alternatively be justified as maximizing profit, or
maintaining the stability of significant institutions, or
promoting systemic stability, almost any decision can be
demonstrated to be forwarding one of these three principles.
3. Accounting for the TARP
EESA requires an annual financial statement prepared in
accordance with generally accepted accounting principles and
audited in accordance with generally accepted auditing
standards.\132\ On December 10, 2009, Treasury issued financial
statements for the TARP for the federal fiscal year ending
September 30, 2009.\133\ The statements disclose that
Treasury's final estimate for the cost of the transactions
undertaken in fiscal year 2009 is $41.6 billion, approximately
$110 billion lower than earlier estimated. This sizeable
``downward reestimate'' reflects improved equity prices and
lower projected loss rates on the investments made in 2009, as
well as faster repayment of some of those investments than was
initially anticipated. Similarly, over the full multi-year
course of the TARP's operations, the expected cost of the
program is now estimated at $141 billion, roughly $200 billion
lower than was initially forecast.\134\ Of this estimated $141
billion in losses, Treasury has acknowledged that roughly $60
billion is attributable solely to the TARP investments in AIG
and the auto companies.\135\
---------------------------------------------------------------------------
\132\ 12 U.S.C. Sec. 5226(b)(1).
\133\ See Government Accountability Office, Office of Financial
Stability (Troubled Asset Relief Program) Fiscal Year 2009 Financial
Statements (Dec. 2009) (online at www.gao.gov/new.items/d10301.pdf)
(hereinafter ``OFS FY09 Financial Statements'').
\134\ The TARP Financial Statements were released on December 10,
2009. The Department of the Treasury issued a press release which
stated, ``[a]s additional funds are disbursed, particularly for the
housing initiative, the total cost of TARP is likely to rise, although
it is anticipated to be at least $200 billion less than the $341
billion estimate in the August 2009 Mid-Session Review.'' See U.S.
Department of the Treasury, New Report Shows Higher Returns, Lower
Spending Under TARP Than Previously Projected (Dec. 10, 2009) (online
at ustreas.gov/press/releases/tg438.htm).
\135\ See House Oversight and Government Reform Committee,
Subcommittee on Domestic Policy, Transcript Testimony of Assistant
Secretary of the Treasury for Financial Stability Herbert Allison, Jr.,
The Government As Dominant Shareholder: How Should the Taxpayers'
Ownership Rights Be Exercised?, 111th Cong., (Dec. 17, 2009) (online at
oversight.house.gov/
index.php?option=com_content&task=view&id=4722&Itemid=31) (hereinafter
``Allison Testimony Transcript'').
---------------------------------------------------------------------------
The TARP financial statements were prepared in accordance
with generally accepted accounting principles. EESA further
requires that the budgetary cost of the TARP be calculated
under the rules of the Federal Credit Reform Act. This ``credit
reform'' treatment means that TARP transactions are discounted
to reflect the time value of money and the market risk of those
investments.\136\ As a result, the accounting and budget
information that Treasury publishes for the TARP are a good
measure of the economic value of the resources expended. The
GAO audited the financial statements and stated that the Office
of Financial Stability had maintained effective financial
controls in all material respects.\137\
---------------------------------------------------------------------------
\136\ See 12 U.S.C. Sec. 5232 (requiring that TARP transactions be
measured for budget presentation purposes under credit reform
procedures, but modified to reflect the market risk of those
transactions).
\137\ See OFS FY09 Financial Statements, supra note 133, at 1-2.
GAO did note two internal control deficiencies in the OFS financial
systems which OFS agreed to rectify.
---------------------------------------------------------------------------
The next financial report on the TARP will be released by
Treasury in early February 2010, at the time the President's
2011 Budget is transmitted to the Congress. While normal
practice has been not to provide a further update of a
particular federal program's financial information until the
time of the Midsession Review of the budget on July 15th,
Treasury has indicated that it expects to release interim
financial reports on TARP transactions sometime between
February and July 2010. The financial statements and
accompanying ``management's discussion and analysis'' (MD&A)
provide discussion of the results of all the TARP
programs.\138\ The notes to the statements are not easily
accessible for a lay reader, but the MD&A is easier to read and
includes a short executive summary.
---------------------------------------------------------------------------
\138\ Panel staff compared the financial statements and MD&As with
those of financial institutions, and also considered the MD&A in the
light of the many pronouncements on MD&A disclosure by the Securities
and Exchange Commission (SEC). The MD&A discusses each of the programs
under the TARP, addressing the purpose and impact of each program, the
way in which assets were acquired, their current value, and the
principles informing Treasury's management of the assets. The most
significant criticisms that could be made of the MD&A are that: (a) a
more thorough explanation of the accounting principles used would be
helpful, as the notes to the financial statements, while thorough, are
not written with the lay reader in mind; (b) more ``forward-looking
information'' and a more expansive discussion of ``trends and
uncertainties'' would be helpful; and (c) the graphic design and layout
is distracting and inconsistent and could have benefitted from some
reader-friendly, ``plain English'' editing. The second and third points
are mitigated to some extent by the Executive Summary, which not all
financial institutions provide, although the SEC encourages it.
Commentators had urged that Treasury produce such disclosure. See
Pollock COP Testimony, supra note 86, at 6.
---------------------------------------------------------------------------
4. CPP Preferred and Warrants
a. Acquisition of Assets and Current Value
Under the CPP, Treasury provided capital to financial
institutions by purchasing senior preferred stock (CPP
Preferred) or subordinated debentures. The purchases were made
pursuant to a ``Securities Purchase Agreement'' (SPA), which
has standard terms for most banks.\139\ In addition, Treasury
received warrants in order to give taxpayers ``an opportunity
to participate in the equity appreciation of the institution.''
\140\ The CPP Preferred, which has no maturity date, pays
quarterly dividends at a rate of five percent per year for the
first five years, and nine percent thereafter.\141\ The issuing
financial institution may redeem the CPP Preferred at any time,
subject to the requirement that regulators must approve the
repayment.\142\ The warrants, which have a 10-year life, may be
exercised at any time.\143\ The exercise price of the warrants
for public financial institutions is based upon the 20-day
average stock price of the underlying common shares.\144\ For
non-public financial institutions, the exercise price is $0.01
per share.\145\
---------------------------------------------------------------------------
\139\ The terms of SPAs vary somewhat by institution type--public,
private, S-corporation, mutual holding company or mutual bank--but are
substantially similar. See Congressional Oversight Panel, July
Oversight Report: TARP Repayments, Including the Repurchase of Stock
Warrants, at 7 (July 10, 2009) (online at cop.senate.gov/documents/
cop_071009_report.pdf) (hereinafter ``COP July Oversight Report'').
\140\ See U.S. Department of the Treasury, Factsheet on Capital
Purchase Program (updated Mar. 17, 2009) (online at
www.financialstability.gov/roadtostability/CPPfactsheet.htm)
(hereinafter ``CPP Factsheet''); see also COP July Oversight Report,
supra note 139, at 6 (``[W]arrants may be traded on public or private
markets, and they can be highly valued by investors who believe the
share price of the issuing company is likely to rise above the strike
price'').
\141\ Dividends are cumulative for bank holding companies and their
subsidiaries, and non-cumulative for banks. See COP July Oversight
Report, supra note 139, at 8.
\142\ See id., at 10-11.
\143\ Id., at 8.
\144\ The warrant exercise price is calculated taking the average
of the closing prices for the 20 trading days up to and including the
day prior to the date on which the TARP Investment Committee recommends
that the Assistant Secretary for Financial Stability approve the
investment. See U.S. Department of the Treasury, FAQs on Capital
Purchase Program Repayment and Capital Assistance Program, at 2 (May
2009) (online at www.financialstability.gov/docs/FAQ_CPP-CAP.pdf). In
addition, the number of warrants issued is equal to 15 percent (5
percent for a private financial institution) of the face value of the
preferred investment divided by the exercise price. See U.S. Department
of the Treasury, Term Sheet for CPP Preferred (online at
www.financialstability.gov/docs/CPP/termsheet.pdf) (hereinafter ``Term
Sheet for CPP Preferred'').
\145\ U.S. Department of the Treasury, TARP Capital Purchase
Program (Non-Public QFIs, excluding S Corps and Mutual Organizations)
(online at www.financialstability.gov/docs/CPP/Term%20Sheet%20-
%20Private%20C%20Corporations.pdf).
---------------------------------------------------------------------------
CPP funding ended on December 29, 2009.\146\ The program
provided approximately $205 billion in capital to 707 financial
institutions.\147\ CPP funding for qualifying financial
institutions was based upon the size of the institution.\148\
Of the 19 stress-tested financial institutions, 17 institutions
received $164 billion through CPP funding.\149\ As noted above,
the issuing financial institution may redeem the CPP Preferred
at any time, subject to the requirement that regulators must
approve the repayment.\150\ The redemption price of the CPP
Preferred is set by the SPA, which provides that the shares are
to be redeemed at the principal amount of the debt.\151\
Subject to compliance with applicable securities laws, Treasury
also has the ability to ``sell, assign, or otherwise dispose
of'' the CPP Preferred it holds.\152\ This means that the CPP
Preferred could in theory be sold in private transactions to
interested investors, or they could be offered to the public in
a resale registered with the SEC.\153\ The CPP-recipient
institutions that report to the SEC are required, under the
terms of the SPAs, to file a shelf registration statement,
which would permit sales to the public.\154\ Treasury is not
limited to public sales, however, and could make sales in
private transactions exempt from or not subject to SEC
registration.
---------------------------------------------------------------------------
\146\ Treasury conversations with Panel staff (Jan. 8, 2010). The
application process ended on November 21, 2009. See U.S. Department of
the Treasury, FAQ on Capital Purchase Program Deadline (online at
www.financialstability.gov/docs/
FAQ%20on%20Capital%20Purchase%20Program%20Deadline.pdf).
\147\ Treasury conversations with Panel staff (Jan. 8, 2010). See
also U.S. Department of Treasury, Troubled Asset Relief Report, Monthly
105(a) Report--December 2009, at 10 (Jan. 11, 2010) (online at
financialstability.gov/docs/105CongressionalReports/
December%20105(a)_final_1-11-10.pdf) (hereinafter ``Monthly 105(a)
Report'').
\148\ As stated in the term sheets for both public and private
institutions, ``[e]ach [qualifying financial institution] may issue an
amount of Senior Preferred equal to not less than 1% of its risk-
weighted assets and not more than the lesser of (i) $25 billion and
(ii) 3% of its risk weighted assets.'' See Term Sheet for CPP
Preferred, supra note 144, at 1. Risk weighted assets are the total
assets of a financial institution, weighted for credit risk. See U.S.
Department of the Treasury, Decoder (online at
www.financialstability.gov/roadtostability/decoder.htm) (hereinafter
``Treasury Decoder'').
\149\ MetLife, Inc. did not receive CPP funding. In addition, GMAC
received $13.4 billion under the Automotive Industry Financing Program.
See Section D.8, infra.
\150\ See COP July Oversight Report, supra note 139, at 10-11.
\151\ See COP July Oversight Report, supra note 139, at 10-11.
\152\ See U.S. Department of the Treasury, Securities Purchase
Agreement: Standard Terms, at Sec. 4.4 (online at
www.financialstability.gov/docs/CPP/spa.pdf) (accessed Jan. 4, 2010).
\153\ The CPP financial institutions that report to the SEC are
required, under the terms of the SPA, to file a shelf registration
statement, which would permit sales to the public. See SPA
Sec. 4.5(a)(i). In addition, Treasury could make sales in private
transactions exempt from or not subject to SEC registration.
\154\ See SPA, supra note 153, at 4.5(a)(ii). A shelf registration
statement allows the financial institution to offer and sell its
securities for a period of up to two years. With the registration ``on
the shelf,'' the financial institution, by simply updating regularly
filed annual and quarterly reports to the SEC can sell its shares in
the market as conditions become favorable with a minimum of
administrative preparation and expense.
---------------------------------------------------------------------------
After redemption of its CPP Preferred, a financial
institution may also repurchase its warrants,\155\ the warrants
are ``detachable'' from the CPP Preferred,\156\ which means
that they can trade separately. Treasury is required to
purchase the warrants at ``fair market value.'' \157\ The fair
market value is determined using a negotiation and appraisal
process between Treasury and the financial institution.\158\ If
a financial institution does not wish to repurchase its
warrants,\159\ or the parties cannot agree on a fair price and
neither party wishes to invoke the appraisal procedure,
Treasury will, as a matter of policy, auction the warrants to
the public.\160\ Treasury staff has stated that it is
Treasury's policy to dispose of the warrants as soon as
practicable.\161\ Therefore, a financial institution may
repurchase its warrants as soon as it redeems its preferred
shares.\162\ To date, of the 58 \163\ financial institutions
that have redeemed fully their CPP Preferred, 31 \164\
financial institutions have also repurchased their warrants
\165\ and Treasury has received approximately $2.9 billion from
warrant redemptions.\166\ In addition, as discussed in Section
D.4.b below, Treasury has received approximately $1.1 billion
in gross proceeds from third-party auction sales. The following
table shows the valuation of Treasury's current holdings of CPP
Preferred, common shares, and warrants as of December 31, 2009.
In addition, the table shows the fair value (Net Asset Value)
of Treasury's CPP Preferred and common share holdings.
---------------------------------------------------------------------------
\155\ OFS Chief Counsel Timothy Massad confirmed in a meeting with
Panel staff on December 15, 2009 that if Treasury sold its CPP
Preferred to third party, a financial institution would be allowed to
repurchase its warrants once the sale is completed. Treasury
conversations with Panel staff (Dec. 15, 2009). See also COP July
Oversight Report, supra note 139, at 8-17 (discussing the history and
legal aspects of repayment of CPP Preferred and warrants
\156\ See SPA, supra note 153, at Sec. 1.2.
\157\ See SPA, supra note 153, at Sec. 4.9(a).
\158\ The repurchase process for a financial institution is a
multi-step procedure starting with the institution's proposal to
Treasury of its determination of the fair market value of the warrants.
Treasury has a choice of whether to accept this proposed fair value. If
Treasury and the financial institution are unable to agree on the fair
value determination, either party may invoke the appraisal procedure.
In the appraisal procedure process, both Treasury and the financial
institution select independent appraisers. If the appraisers fail to
agree, a third appraiser is hired, and subject to certain limitations,
a composite valuation of the three appraisals is used to establish fair
market value. This composite valuation is determined to be the fair
market value and is binding on both Treasury and the financial
institution. If the appraisal procedure is not invoked, and neither
party can agree on the fair market value determination, Treasury then
sells the warrants through the auction process. See Robert A. Jarrow,
TARP Warrants Valuation Methods (Sept. 22, 2009) (online at
www.financialstability.gov/Jarrow%20TARP%20
Warrants%20Valuation%20Method.pdf) (hereinafter ``TARP Warrants
Valuation Methods'').
In addition, the process is different for private banks. Warrants
of private financial institutions are immediately exercisable. See COP
July Oversight Report, supra note 139, at 11.
\159\ After the CPP preferred is redeemed, the financial
institution has 15 days to decide whether it wishes to repurchase its
warrants. See U.S. Department of the Treasury, Treasury Announces
Warrant Repurchase and Disposition Process for the Capital Purchase
Program (June 26, 2009) (online at www.financialstability.gov/latest/
tg_06262009.html).
\160\ In November 2009, Treasury announced that it intended to
conduct auctions to sell its warrant positions in JPMorgan Chase,
Capital One Financial Corporation, and TCF Financial Corporation. The
issuers were allowed to bid in these auctions. See U.S. Department of
the Treasury, Treasury Announces Intent To Sell Warrant Positions in
Public Dutch Auctions (Nov. 19, 2009) (online at www.ustreas.gov/press/
releases/tg415.htm) (hereinafter ``Treasury Announces Intent To Sell
Warrant Positions in Public Dutch Auctions'').
\161\ See COP July Oversight Report, supra note 139.
\162\ See id.
\163\ Treasury conversations with Panel staff (Jan. 8, 2010). See
also Monthly 105(a) Report, supra note 147, at 11.
\164\ Treasury conversations with Panel staff (Jan. 8, 2010).
\165\ In its July Report, the Panel analyzed the prices at which
Treasury was allowing the financial institutions to repurchase the
warrants. The Panel was concerned that Treasury was undervaluing the
warrants and/or not negotiating strongly enough. See COP July Oversight
Report, supra note 139, at 8-17. After the July report was released,
several banks repurchased their warrants for prices very close to the
Panel's valuation: notably, Goldman Sachs, Morgan Stanley, and American
Express. Also after the release of the July Report, Treasury retained
an expert to perform an independent review of its valuation
methodology. He found that it was ``consistent with industry best
practice and the highest academic standards.'' See TARP Warrants
Valuation Methods, supra note 158.
\166\ See U.S. Department of the Treasury, Troubled Asset Relief
Program Transactions Report for Period Ending December 30, 2009 (Jan.
4, 2010) (online at www.financialstability.gov/docs/transaction-
reports/1-4-10%20Transactions%20Report%20as%20of%2012-30-09.pdf)
(hereinafter ``TARP Transactions Report for Period Ending December 30,
2009'').
FIGURE 2: VALUATION OF CURRENT HOLDINGS OF CPP PREFERRED SHARES, COMMON SHARES, AND WARRANTS AS OF DECEMBER 31,
2009
----------------------------------------------------------------------------------------------------------------
Preferred Shares (billions of Warrant Valuation (millions of dollars)
dollars) -----------------------------------------------
--------------------------------
Net Asset
Principal Value as of 9/ Low Estimate High Estimate Best Estimate
Amount 30/2009 \167\
----------------------------------------------------------------------------------------------------------------
Stress-Tested Financial
Institutions with CPP Preferred
and/or Warrants Outstanding:
Wells Fargo & Company....... $0.00 $0.00 $313.02 $1,727.96 $829.57
Bank of America Corporation 0.00 0.00 561.18 2,581.16 1,036.20
\168\......................
Citigroup, Inc. (Common 25.00 25.46 9.51 891.04 204.32
Shares) \169\..............
The PNC Financial Services 7.58 7.17 82.81 500.60 231.03
Group Inc..................
SunTrust Bank, Inc.......... 4.85 4.14 5.67 252.90 98.15
Regions Financial 3.50 3.01 3.61 155.48 65.41
Corporation................
Fifth Third Bancorp......... 3.41 3.05 63.74 317.82 161.23
KeyCorp..................... 2.50 1.94 5.59 108.70 49.48
GMAC, LLC................... \170\ 14.11 \171\ 7.17 \170\ \170\ \170\
Failed Banks Enrolled in CPP:
Pacific Coast National 0.00 0.00 \172\ N/A N/A N/A
Bancorp....................
UCBH Holdings, Inc.\173\.... 0.30 0.02 0.00 0.07 0.01
CIT Group................... 2.33 0.00 0.00 3.19 2.84
All Other Banks................. 33.53 \174\ 28.91 2,314.46 5,998.02 3,654.25
-------------------------------------------------------------------------------
Total....................... $97.11 $80.87 $3,359.59 $12,536.94 $6,332.49
----------------------------------------------------------------------------------------------------------------
\167\ Except for Citigroup, Net Asset Value for December 31, 2009 is not available. Net Asset Value is the per
share value on September 30, 2009 as disclosed in the TARP Financial Audit Report. See OFS FY09 Financial
Statements, supra note 133, at 36. Except for Citigroup, Inc., Net Asset Value is calculated by dividing the
total value of all securities in the financial institution's portfolio, less any liabilities by the number of
shares outstanding. See note 174, infra. The Net Asset Value of Citigroup was calculated using the common
stock closing price of $3.31 on December 31, 2009 multiplied by Treasury's common ownership of 7.7 billion
shares. On September 30, 2009, Citigroup's closing price was $4.84 per share.
\168\ Warrant Valuation includes warrants outstanding from TIP investment (valuation of $459.1, $1,405.9, and
$666.5 for Low, High, and Best Estimates, respectively).
\169\ Warrant Valuation includes warrants outstanding from TIP (valuation of $6.4, $371.3, and $118.1 for Low,
High and Best Estimates, respectively) and AGP investments (valuation of $2.3, $132.0, and $42.4 for Low,
High, and Best Estimates, respectively).
\170\ On December 30, 2009, Treasury provided an additional commitment to GMAC of approximately $3.8 billion.
The $3.8 billion of new capital was provided in the form of $2.54 billion of Trust Preferred Securities
(TruPs), which are senior to all other capital securities of GMAC, and $1.25 billion of Mandatory Convertible
Preferred Stock (MCP). In addition, Treasury received warrants, which were exercised, to purchase an
additional $127 million of TruPs and $63 million of MCP. U.S. Department of the Treasury, Treasury Announces
Restructuring of Commitment to GMAC (Dec. 30, 2009) (online at ustreas.gov/press/releases/tg501.htm)
(hereinafter ``Treasury Announces Restructuring of Commitment To GMAC''). See also Section D.8, infra.
\171\ The Net Asset Valuation of GMAC was based $12.5 billion of preferred stock held by GMAC prior to the
additional financing. Net Asset Value on December 31, 2009 is not available.
\172\ Pacific Coast National Bancorp, 2008 Annual Report, Form 10-K, Part II, Item 5 (online at www.sec.gov/
Archives/edgar/data/1302502/000092708909000143/p-10k123108.htm). There are no warrants currently outstanding
for Pacific Coast National Bancorp. At the date of initial TARP CPP investment, Pacific Coast National issued
a warrant to Treasury to purchase 206.00206 shares of its Fixed Rate Cumulative Perpetual Preferred Stock,
Series B, which Treasury immediately exercised in a cashless transaction, per the Company's 2009 10-K. The
valuation of Pacific Coast National's preferred shares at September 30, 2009 was approximately $154,000.
\173\ Agency Financial Statement 2009, supra note 32, at 34-35. The Net Asset Value of UCBH Holdings, Inc.
includes warrants.
\174\ Treasury conversations with Panel staff (Jan. 5, 2010). The Net Asset Value of ``All Other Banks'' was
provided by OFS as an aggregate value. This is due to the inherent constraints of the model created and used
by OFS in its valuation of CPP preferred stock and warrants, as discussed with the OFS modeling team on
December 22, 2009. In this regard, generating a net asset value for Treasury's investment in a specific
financial institution requires each institution to be separately modeled. The man-hours and model run-time
required prevent each financial institution from being modeled separately. As such, OFS has valued the stress-
tested financial institutions and those receiving the largest CPP investment and has provided an aggregate net
asset value for Treasury's holdings in the remaining financial institutions.
Of the 19 stress-tested financial institutions, there are
currently six that have not repaid their TARP funding.\175\ One
of the six is GMAC, which is discussed later in Section D.8.
---------------------------------------------------------------------------
\175\ MetLife, Inc. did not receive any funding. See Congressional
Oversight Panel, June Oversight Report: Stress Testing and Shoring Up
Bank Capital, at 15 (June 9, 2009) (online at cop.senate.gov/documents/
cop-060909-report.pdf) (hereinafter ``COP June Oversight Report''). As
of December 31, 2009, the following stress tested banks have not repaid
their TARP funding: PNC Financial Services Group, SunTrust Banks, Inc.,
Regions Financial Corp., Fifth Third Bancorp, Keycorp, and GMAC LLC.
See TARP Transactions Report for Period Ending December 30, 2009, supra
note 166.
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b. Disposal of CPP Assets and Recovery of TARP Funds
In September 2009, Treasury issued a report that discussed
the next phase of its financial and rehabilitation efforts--
what it describes as ``moving from rescue of our financial
system to a period of stabilization, rehabilitation and
rebuilding.'' \176\ The report stated that the ``next phase
will focus on winding down those programs that were once
necessary to prevent systemic failure.'' \177\
---------------------------------------------------------------------------
\176\ See U.S. Department of the Treasury, The Next Phase of
Government Financial Stabilization and Rehabilitation Policies, at 1
(Sept. 14, 2009) (online at www.treas.gov/press/releases/docs/
Next%20Phase%20of%20Financial%20Policy,%20Final,%202009-09-14.pdf)
(hereinafter ``Treasury Status Report on Financial Stabilization'').
\177\ See Treasury Status Report on Financial Stabilization, supra
note 176, at 1.
---------------------------------------------------------------------------
The report stated that Treasury anticipated financial
institutions would repay another $50 billion in CPP Preferred
over the next 12 to 18 months.\178\ To date, Treasury has
received approximately $122 billion from CPP recipients through
principal repayments of preferred stock repurchases, an amount
in excess of the September projection.\179\ The report does not
discuss the timing of repayment of the remaining balance of
approximately $58 billion,\180\ which largely comprises
investments in approximately 600 smaller financial
institutions. In this regard, Treasury has stated that it is
looking at ``lots of possibilities,'' including market sales,
but it is ``nowhere near'' a decision process.\181\ These
smaller financial institutions have not publicly disclosed
their intended exit strategy for CPP repayment. Non-disclosure
by these financial institutions may be due to the fact that the
banking regulators have not specifically disclosed their
criteria for allowing a financial institution to redeem its CPP
Preferred and the fact that some of these institutions may be
unable to redeem due to high loan losses and ``vulnerable
capital ratios.'' \182\
---------------------------------------------------------------------------
\178\ See Treasury Status Report on Financial Stabilization, supra
note 176, at 3.
\179\ The $50 billion of projected repayments was based upon total
repayments of approximately $70 billion received by September 30, 2009.
See Treasury Status Report on Financial Stabilization, supra note 176,
at 3. In addition, Treasury estimated that total bank repayments
``could reach up to $175 billion by the end of 2010.'' See Treasury
Announces Intent To Sell Warrant Positions in Public Dutch Auctions,
supra note 160.
\180\ The remaining balance owed is based upon the cash outlay of
$205 billion less cash repayments of $122 billion less $25 billion of
Citigroup's common shares.
\181\ Treasury conversations with Panel staff (Dec. 15, 2009).
\182\ Some financial institutions may continue to need the CPP
funding due to ``staggering loan losses and vulnerable capital
levels.'' See Kevin Dobbs, For Some Regional Banks, TARP remains
necessary (Jan 5, 2010) (online at snl.com/InteractiveX/article.aspx?
Id=10545545&KPLT=4).
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Although Treasury has the ability to sell its CPP Preferred
to third parties either in a private or public offering, it
currently has no plans to use third-party sales.\183\ Treasury
stated in the TARP Financial Statements that although ``it has
not exercised these rights, it may do so in the future.'' \184\
Treasury's preference, however, as it stated in the TARP
Financial Statements and in meetings with Panel staff, is to
hold the preferred stock with the objective of receiving
redemption in full from the CPP participant, as opposed to
selling to third parties at a likely discount.\185\ Similarly,
in the event of a severe downturn in the market, Treasury
indicated that it would not immediately sell its CPP
investments. Treasury stated that it would need to evaluate its
investment objectives (i.e., minimization of costs,
maximization of returns to the taxpayers, and preservation of
market stability), before it would sell those investments. In
this regard, as stated in the TARP Financial Statements,
``Treasury-OFS must also consider the limited ability to sell
an investment to a third party due to the absence of a trading
market or lack of investor demand, and the possibility of
achieving potentially higher returns through a later
disposition.'' \186\ Accordingly, Treasury has not decided at
what point the option of selling to third parties might be used
for any of the investments it currently holds, but has stated
that this remains a possible mode of exit to be considered in
the future.\187\
---------------------------------------------------------------------------
\183\ Treasury conversations with Panel staff (Dec. 3, 2009).
\184\ Treasury conversations with Panel staff (Dec. 3, 2009);
Treasury conversations with Panel staff (Dec. 15, 2009); See also OFS
FY09 Financial Statements, supra note 133, at 73.
\185\ Treasury conversations with Panel staff (Dec. 15, 2009).
\186\ See OFS FY09 Financial Statements, supra note 133, at 68-69.
In connection with warrant sales, the Panel stated in its July
report that ``Treasury would be more likely to maximize taxpayer
returns if it sold the warrants through auctions,'' since the process
is straightforward. See COP July Oversight Report, supra note 139.
\187\ Treasury conversations with Panel staff (Dec. 3, 2009);
Treasury conversations with Panel staff (Dec. 15, 2009). However, the
Panel recommended in its June report that ``[t]he CPP repayment process
should be more transparent.'' See COP June Oversight Report, supra note
175.
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With respect to a CPP recipient's warrants, to date it has
been Treasury's policy to conduct third party sales by
auction.\188\ As a result, Treasury has somewhat less leeway
with respect to the disposal of warrants than it does with
respect to the CPP Preferred. Upon redemption of its CPP
Preferred, a financial institution has 15 days to elect whether
it will repurchase its warrants. If it does not, Treasury will
sell the warrants through auction sales.\189\ In December 2009,
Treasury conducted auctions to sell its warrant positions in
JPMorgan Chase, Capital One, and TCF Financial Corporation, and
received approximately $1.1 billion in gross proceeds.\190\
Treasury informed Panel staff that the next auction sale will
not take place before February 2010.\191\
---------------------------------------------------------------------------
\188\ In November 2009, Treasury announced that it would conduct
auctions for warrant positions it holds in financial institutions that
have repaid CPP investments and do not reach agreement with Treasury on
the warrant price. The auctions are done through a modified Dutch
auction methodology that establishes a market price by allowing
investors to submit bids at specified increments above a minimum price
specified for each auction. See, Treasury Announces Intent To Sell
Warrant Positions in Public Dutch Auctions, supra note 160.
\189\ Treasury conversations with Panel staff (Dec. 3, 2009).
\190\ Gross proceeds received for JPMorgan Chase, Capital One, and
TCF Financial Corporation were approximately $950 million, $148
million, and $9 million, respectively. See TARP Transactions Report for
Period Ending December 30, 2009, supra note 166.
\191\ Treasury conversations with Panel staff (Dec. 3, 2009).
---------------------------------------------------------------------------
As of December 31, 2009, 60 financial institutions,
including three that have declared bankruptcy, had outstanding
dividend payments to Treasury of approximately $140
million.\192\ TARP-recipient financial institutions pay two
different kinds of dividends--cumulative dividends, which are
paid by bank holding companies and their subsidiaries, and non-
cumulative dividends, which are paid by banks--with different
consequences for the funds' potential recovery. When CPP
Preferred are redeemed, if cumulative dividends remain unpaid,
Treasury will be paid any accrued and unpaid dividends.
However, non-cumulative dividends do not have to be paid,
unless such dividends have been accrued.\193\
---------------------------------------------------------------------------
\192\ See SIGTARP, Quarterly Report to Congress, at 58 (Oct. 21,
2009) (online at www.sigtarp.gov/reports/congress/2009/
October2009_Quarterly_Report_to_Congress.pdf) (hereinafter ``SIGTARP
October Report''). When institutions were given TARP assistance, there
was no time to perform any due diligence in view of the immediacy of
the situation. However, TARP was supposedly given to healthy banks but
in many instances this was not the case. For example, Citigroup needed
further assistance from the TARP. In addition there are further
difficulties in valuing an institution once the government provides
external support, since values tend to be inflated. See discussion
below regarding the difficulties of valuation once there is government
support. See also David Enrich, TARP Can't Save Some Banks, Wall Street
Journal (Nov. 17, 2009) (online at online.wsj.com/article/
SB10001424052748704538404574539954068634242.html).
\193\ At December 31, 2009, non-cumulated dividends totaled
approximately $2.4 million. Information provided by Treasury on January
4, 2010.
---------------------------------------------------------------------------
Of the $140 million in unpaid dividends, approximately $66
million represented unpaid cumulative dividends from the three
failed financial institutions.\194\ CIT filed for bankruptcy on
November 1, 2009,\195\ while UCBH Holdings, Inc. (UCBH) and
Pacific Coast National Bancorp (Pacific Coast) filed for
bankruptcy on November 24, 2009, and December 17, 2009,
respectively.\196\ Beyond dividend payments, the amount that
can be recovered from these three failed institutions, if any,
will depend on the outcome of the bankruptcy proceedings.\197\
As shown in Figure 2, on September 30, 2009, Treasury's
investment in CIT was valued at zero,\198\ and the aggregate
value of Treasury's investments in UCBH and Pacific Coast
totaled approximately $22.5 million.\199\
---------------------------------------------------------------------------
\194\ Information provided by Treasury on January 4, 2010. On
December 31,2009, CIT, UCBH Holdings, and Pacific Coast National
Bancorp owed $58.3 million, $7.5 million, and $168,000 in dividends,
respectively.
\195\ See OFS FY09 Financial Statements, supra note 133, at 125.
\196\ Treasury conversation with Panel staff (Jan. 7, 2010).
\197\ See OFS FY09 Financial Statements, supra note 133.
\198\ See OFS FY09 Financial Statements, supra note 133, at 36. See
also Figure 2.
\199\ The CPP investment in UCBH was valued at $22.5 million which
include the warrants; the CPP Investment in Pacific Coast was valued at
$154,000. See OFS FY09 Financial Statements, supra note 133, at 125.
See also Figure 2.
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In certain circumstances, TARP recipients may seek approval
from Treasury for exchange offers, recapitalizations, or other
restructuring actions to improve their financial
condition.\200\ Treasury evaluates each such proposal on a
case-by-case basis, and before it grants approval of such
transactions, it takes into account the following principles:
\201\
---------------------------------------------------------------------------
\200\ See OFS FY09 Financial Statements, supra note 133, at 70.
\201\ See OFS FY09 Financial Statements, supra note 133, at 70-71.
---------------------------------------------------------------------------
Pro forma capital position of the
institution;
Pro forma position of Treasury investment in
the capital structure;
Overall economic impact of the transaction
to the government;
Guidance of the institution's primary
regulator; and
Consistent pricing with comparable
marketplace transactions.
During 2009, two exchange transactions were completed. In
August, Popular, Inc. completed an exchange of $935 million of
preferred stock held by Treasury for an identical amount of
newly issued trust preferred securities.\202\ Similarly, on
December 11, 2009, Superior Bancorp completed an exchange of
$69 million of preferred stock held by Treasury for an
identical amount of newly issued trust preferred
securities.\203\ Two exchange offers are currently pending with
Independent Bank Corp \204\ and Midwest Banc Holdings.\205\
Treasury has stated that exchange transactions will be approved
only on a case-by-case basis once all the relevant information
is evaluated.\206\
---------------------------------------------------------------------------
\202\ Banco Popular paid Treasury a $13 million exchange fee. See
SIGTARP October Report, supra note 192, at 61. See also, Popular, Inc.,
Form 10-Q for the quarter ended September 30, 2009, at 60 (online at
www.sec.gov/Archives/edgar/data/763901/000095012309060126/
g20716e10vq.htm#107) (accessed Jan. 12, 2010).
\203\ On December 14, 2009, Superior Bancorp filed with the SEC a
Form 8-K which announced the completion of the exchange transaction
with Treasury (online at www.sec.gov/Archives/edgar/data/1065298/
000114420409064449/v168906_ex99.htm).
\204\ On November 25, 2009, Independent Bank Corp. filed a
preliminary proxy statement asking its shareholders to vote on a
potential exchange of the bank's common stock for preferred stock held
by Treasury. See Independent Bank Corp., Preliminary Proxy Statement
filed by Independent Bank Corp on November 25, 2009 (Nov. 25, 2009)
(online at www.sec.gov/Archives/edgar/data/39311/000092604409000561/
ibc-prer14a_093009.htm).
\205\ On December 3, 2009, Midwest Banc Holdings announced that it
is in discussions with Treasury regarding an exchange transaction
(online at www.sec.gov/Archives/edgar/data/1051379/000091384909000815/
ex99-1.htm). Since this announcement, Midwest has entered into a
written agreement with the Federal Reserve Bank of Chicago and the
Illinois Department of Financial and Professional Regulation, Division
of Banking (online at www.sec.gov/Archives/edgar/data/1051379/
000095012309073372/c55234e8vk.htm).
\206\ Treasury conversations with Panel staff (Dec. 15, 2009).
---------------------------------------------------------------------------
Panel staff asked Treasury whether it has considered
divestment alternatives such as a bundled sale of CPP Preferred
issued by various banks. Treasury indicated that it would
consider all types of divestment alternatives, especially in
regard to the relatively small CPP investments in a large
number of smaller institutions, as the program winds down. At
present, however, the focus is on an institution-by-institution
approach.
c. Analysis of Intended Exit Strategy
As noted above, CPP recipients may redeem their CPP
Preferred only after receiving approval from their primary
banking regulators.\207\ The banking regulators have not
specifically disclosed their criteria for allowing a financial
institution to redeem its CPP Preferred,\208\ a lack of clarity
that has led to frustration at some banks.\209\ Until the
banking regulators are more transparent about their redemption
policies, the Panel cannot assess the propriety of Treasury's
investment strategy, which is to hold onto the stock with the
goal of eventually receiving redemption in full from the CPP
recipient, rather than selling to another investor at a likely
discount.
---------------------------------------------------------------------------
\207\ If Treasury sells its investment in CPP Preferred to a third
party, approval by a financial institution's primary regulator is not
required. Treasury conversations with Panel staff (Dec. 15, 2009).
\208\ As the Panel indicated in its August report, the banking
regulators ``see the stress test and the repayment of assistance as
working together to protect the bank's balance sheet;'' however
``supervisory flexibility underlies the stress test's assumptions.''
See COP August Oversight Report, supra note 65, at 42.
\209\ Bank of America, Citigroup, and SunTrust have all expressed
their frustrations with the lack of clarity about the criteria for TARP
repayment. In November, Bank of America announced that it was ready and
willing to repay TARP but was ``waiting for the government to establish
the appropriate time.'' See BofA, Feds at odds over when TARP gets
repaid, Charlotte Observer (Nov. 24, 2009) (online at
www.charlotteobserver.com/597/story/1072637.html). Similarly, Citigroup
announced it was ready to repay its TARP funding, but said its
regulators were undecided over the amount of capital it should raise.
SunTrust's Chairman and CEO views ``the rules for repaying TARP
assistance as ever-changing.'' See J. Scott Trubey, SunTrust CEO wants
to repay TARP, Atlanta Business Chronicle (Sept. 15, 2009) (online at
atlanta.bizjournals.com/
atlanta/stories/2009/09/14/daily34.html); Samil Surendran, Citi's plan
to exit TARP hits roadblock (Dec. 9, 2009) (online at www.snl.com/
InteractiveX/article.aspx?ID=10454610&BeginDate=12/09/2009&KPLT=2);
David Enrich, Banks, U.S. Spar Over TARP Repayments, Wall Street
Journal (Dec. 7, 2009) (online at online.wsj.com/article/
SB10001424052748704825504574582311943469506.html).
---------------------------------------------------------------------------
In addition, at the Panel's December hearing Secretary
Geithner could not definitively answer the Panel's questions in
regard to the banking regulators' criteria for redemption. He
stated that a financial institution would not be allowed to
make repayments if it would ``leave the system or these
financial institutions with inadequate capital.'' \210\ He
further stated that a financial institution would be required
to ``raise capital from the markets'' so that it ``can repay
the taxpayer with interest.'' \211\ Secretary Geithner did not,
however, provide a definitive answer about whether a financial
institution would be required to raise the full amount of its
TARP debt.\212\ Although it is the banking regulators'
responsibility to disclose their criteria for allowing
repayments, Treasury also should be able to articulate this
policy in view of the broader economic issues it raises. This
lack of clarity breeds uncertainty and instability in the
financial markets and provides a disservice to taxpayers as
well as investors.
---------------------------------------------------------------------------
\210\ See Congressional Oversight Panel, Transcript of Hearing with
Treasury Secretary Timothy Geithner (Dec. 10, 2009) (publication
forthcoming) (online at http://cop.senate.gov/hearings/library/hearing-
121009-geithner.cfm) (hereinafter ``Dec. 10 Hearing Transcript'').
\211\ See Dec. 10 Hearing Transcript, supra note 210.
\212\ See Dec. 10 Hearing Transcript, supra note 210.
---------------------------------------------------------------------------
To prevent a truly healthy bank from repaying its TARP
funding is a disservice to that bank's investors as well as
taxpayers.\213\ It is, moreover, inconsistent with Treasury's
``systemic stability'' principle. Repayment is, or should be, a
signal of health to the markets, and delaying repayment risks
withholding valuable information from the markets. Permitting
premature repayment for whatever reason, however, including
escape from executive compensation limitations,\214\ serves no
public purpose if the institution in question cannot survive on
its own. Financial institutions in 2010 will be faced with a
substantial amount of debt that will be maturing over the next
few years.\215\ This fact could lead to the government having
to decide whether to provide additional assistance if a
repaying institution is not truly healthy. The Panel is
concerned about reports of dissent among the banking
supervisors and tensions between Treasury and the supervisors,
and the extent to which institutions might be permitted to exit
the TARP when not financially stable.\216\ The underlying issue
here relates to the bank regulators' position that their
assessment of a bank's condition should remain confidential in
order to maximize their effectiveness in promoting bank safety
and soundness. This traditional position of the regulators
conflicts with the need for Treasury as investor in particular
banks to know as much as possible about the financial condition
of those banks. In these circumstances, the regulators'
traditional lack of transparency may do a disservice to the
taxpayers, investors, and to the marketplace in financial
institutions' securities.
---------------------------------------------------------------------------
\213\ Some commentators have pointed out that the replacement of
CPP Preferred with common stock, which is generally more expensive,
places an additional burden on the ability of a TARP recipient to earn
its way back to profitability. See, e.g., James Kwak, Why Did Bank of
America Pay Back the Money? (Dec. 4, 2009) (online at
baselinescenario.com/2009/12/04/why-did-bank-of-america-pay-back-the-
money/).
\214\ For example, the financial press has indicated that
Citigroup's and Bank of America's exit from TARP was due to the release
of executive compensation restrictions, especially in view of Bank of
America's CEO search. See, e.g., Bradley Keoun, Citigroup Said to Near
Accord on TARP Repayment, US Stake Sale, Business Week (Dec. 13, 2009)
(online at businessweek.com/bwdaily/dnflash/content/dec2009/
db20091213_027634.htm); David Mildenberg, Bank of America TARP Payment
May Aid Shares, Search, Bloomberg (Dec. 3, 2009) (online at
bloomberg.com/apps/news?pid=20601087&sid=a8MHKJc4D3bc).
\215\ Banks will have trillions of dollars of debt maturing over
the next few years, potentially forcing them to refinance their debt at
substantially higher rates. Data provided under subscription by
BLOOMBERG Data Services (Instrument: Map Debt, filtered for average
maturity date under 5 years). See also Carrick Mollenkamp and Serena
Ng, Banks Scramble as Debt Comes Due, Wall Street Journal (Nov. 25,
2009) (online at online.wsj.com/article/
SB10001424052748703819904574554223793153390.html); Federal Deposit
Insurance Corporation, FDIC Board Approves 2010 Operating Budget (Dec.
15, 2009) (online at www.fdic.gov/news/news/press/2009/pr09228.html)
(FDIC Chairman Sheila Bair explained that a 55 percent increase in the
FDIC operating budget ``will ensure that we are prepared to handle an
even-larger number of bank failures next year, if that becomes
necessary, and to provide regulatory oversight for an even-larger
number of troubled institutions'').
\216\ See, e.g., David Enrich and Damian Paletta, Discord Behind
TARP Exits, Wall Street Journal (Dec. 18, 2009) (``Bank regulators at
the Federal Reserve and Federal Deposit Insurance Corp. . . . have
disagreed with other government officials about banks' plans to repay
government funds, and have privately complained that Treasury officials
pushed them to allow banks to quickly leave TARP, according to people
familiar with the matter'').
---------------------------------------------------------------------------
There exists a range of views on how transparent Treasury
should be as it seeks to divest from its stakes in financial
institutions. Vincent Reinhart, a fellow at the American
Enterprise Institute and a former official at the Federal
Reserve, states that ``[b]y and large, government officials are
big fans of constructive ambiguity.'' \217\ While it may be
beneficial for the government to retain flexibility in certain
situations, others disagree about the merits of a policy of
constructive ambiguity. For example, James B. Thomson, vice
president of the Office of Policy Analysis at the Federal
Reserve Bank of Cleveland, has argued that a ``policy of
supervisory transparency is superior to constructive
ambiguity.'' \218\ This debate illustrates the inherent
challenges and obstacles associated with the government's
involvement in the private sector. In this regard, the
government acknowledges that it does not function like an
ordinary investor; however, its investments are purely
taxpayer-funded. This means that the government has a
heightened responsibility to the taxpayers whose money is being
spent, and an even greater responsibility to be transparent and
forthcoming about all aspects of its reasoning and decision-
making.
---------------------------------------------------------------------------
\217\ See Mark DeCambre, No Pity for Citi, New York Post (Sept. 4,
2009) (online at www.nypost.com/p/news/business/
no_pity_for_Citi_F7vQTwjTr4ogsVyyEQ4K6N). Henry Kissinger first
employed this term in the context of diplomatic negotiations, and it
has been used in economic policy to refer to a ``policy of using
ambiguous statements to signal intent while retaining policy
flexibility.'' See, e.g., Marvin Goodfriend and Jeffrey M. Lacker,
Limited Commitment and Central Bank Lending, Economic Quarterly Federal
Reserve Bank of Richmond, at 19-21 (Fall 1999) (hereinafter ``Limited
Commitment and Central Bank'') (discussing the benefits and weaknesses
of a policy of constructive ambiguity with regard to central bank
lending).
\218\ James B. Thompson, On Systemically Important Financial
Institutions and Progressive Systemic Mitigation, Federal Reserve Bank
of Cleveland, at 9 (2009) (online at clevelandfed.org/research/
policydis/pdp27.pdf); see also Limited Commitment and Central Bank,
supra note 217, at 19-21 (``Constructive ambiguity in the absence of an
ability to precommit may actually increase the drift toward
expansion''); see also International Monetary Fund, Global Economic
Prospects and Principles for Policy Exit, at 7 (2009) (``Basic
principles and plans for the exit and beyond should be established
early and communicated clearly and consistently by policymakers to the
public''). Similarly, two officials from the Federal Reserve Bank of
Boston refer to ``less than constructive ambiguity.'' Jane Sneddon
Little and Giovanni P. Olivei, Why the Interest in Reform?, Rethinking
the International Monetary System, Proceedings from the Federal Reserve
Bank of Boston Conference Series, at 81 (1999) (online at
www.bos.frb.org/economic/conf/conf43/41p.pdf). In addition, Reinhart
has expressed doubts about the benefits of constructive ambiguity,
stating that ``[n]ow is the time to articulate an exit strategy.''
Craig Torres and Scott Lanman, Bernanke May Explain Fed Exit Strategy
in Testimony Next Week, Bloomberg (July 13, 2009) (online at
www.bloomberg.com/apps/news?pid=20601087&sid=aNU.UkT9EB68).
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In its July report, the Panel examined the repurchase of
stock warrants. At that time, 11 public financial institutions
had repurchased their warrants from Treasury. The Panel's
analysis of the numbers indicated that taxpayers had received
only 66 percent of the Panel's best estimate of the value of
the warrants.\219\ As the Panel stated then, ``[T]reasury
should promptly provide written reports to the American
taxpayers analyzing in sufficient detail the fair market value
determinations for any warrants either repurchased by a TARP
recipient from Treasury or sold by Treasury through an auction,
and it should disclose the rationale for its choice of an
auction or private sale.'' \220\ In order to ensure that
taxpayers receive the maximum value as financial institutions
exit the TARP, the Panel urged Treasury to make its process,
reasoning, methodology, and exit strategy absolutely
transparent.\221\
---------------------------------------------------------------------------
\219\ See COP July Oversight Report, supra note 139, at 27.
\220\ See COP July Oversight Report, supra note 139, at 44-45.
\221\ The Panel's July report stated ``. . . it is critical that
Treasury make the process--the reason for its decisions, the way it
arrives at its figures, and the exit strategy from our future use of
the TARP--absolutely transparent. If it fails to do so, the credibility
of the decisions it makes and its stewardship of the TARP will be in
jeopardy.'' COP July Oversight Report, supra note 139, at 4. Similarly,
the Panel's November report echoed the same concerns regarding
transparency by stating, ``. . . in light of these guarantees'
extraordinary scale and their risk to taxpayers, the Panel believes
that these programs should be subject to extraordinary transparency.
The Panel urges Treasury to disclose greater detail about the rationale
behind guarantee programs, the alternatives that may have been
available and why they were not chosen, and whether these programs have
achieved their objectives.'' See COP November Oversight Report, supra
note 2, at 4. Lastly, Panel Chair Elizabeth Warren stated in her
September testimony that ``[i]n order to ensure that taxpayers would
receive the maximum value as banks exited TARP, the Panel urged
Treasury to make its process, reasoning, methodology, and exit strategy
absolutely transparent.'' See Senate Committee on Banking, Housing and
Urban Affairs, Testimony of Elizabeth Warren, Emergency Economic
Stabilization Act: One Year Later, 111th Cong., at 3 (Sept. 24, 2009)
(online at cop.senate.gov/documents/testimony-092409-warren.pdf).
---------------------------------------------------------------------------
Although there has not been the robust disclosure called
for by the Panel, the return to taxpayers has increased since
the July report was published. Subsequent to the publication of
the July report, an additional 25 financial institutions have
repurchased their warrants or sold warrants in auction sales,
generating total aggregate proceeds to Treasury of $4.0
billion, which represented more than 92 percent of the Panel's
best estimate of their values.\222\ With specific regard to
large TARP recipients, in December 2009, Treasury conducted
auctions to sell its warrant positions in JPMorgan Chase,
Capital One, and TCF Financial Corporation, and received
approximately $1.1 billion in gross proceeds.\223\ Treasury
stated that the auction sales were ``a robust alternative to
negotiations'' since it received market price for the
warrants.\224\ The Panel's analysis of the numbers indicated
that the taxpayer received approximately 89 percent of the
Panel's best estimate of the value of the warrants.\225\
---------------------------------------------------------------------------
\222\ See TARP Transactions Report for Period Ending December 30,
2009, supra note 166.
\223\ Gross proceeds received for JPMorgan Chase, Capital One, and
TCF Financial Corporation were approximately $950 million, $147
million, and $9 million, respectively. See TARP Transactions Report for
Period Ending December 30, 2009, supra note 166.
\224\ Treasury conversations with Panel staff (Dec. 15, 2009).
\225\ The valuation was derived by dividing total net proceeds
received ($1.1 billion) by total aggregate value of Panel's best
estimate ($1.3 billion). For the individual auction sales of JPMorgan
Chase, Capital One, and TCF Financial Corporation, the taxpayers
received 94 percent, 64 percent, and 81 percent, respectively, of the
Panel's best estimate of the value of the warrants.
---------------------------------------------------------------------------
As noted above, as the CPP program winds down, Treasury has
indicated to Panel staff that it would consider all types of
divestment alternatives, especially in regard to relatively
small CPP investments in a large number of smaller
institutions. At present, however, the focus is on an
institution-by-institution approach.
One form of exit from the TARP that has not drawn much
attention from commentators involves those TARP-recipient
financial institutions that fail, an event that can be expected
to wipe out the taxpayers' investment. Ironically, when no
further government intervention occurs, this kind of early and
involuntary exit from TARP may have the effect of reducing
moral hazard and restoring market discipline.
5. Citigroup
a. Acquisition of Assets and Current Value
Between October 2008 and January 2009, Treasury invested a
total of $50 billion in Citigroup through three separate
programs: the CPP, the TIP, and the AGP.\226\ After Citigroup's
repayment of trust preferred securities in December, Treasury
currently holds 7.7 billion shares of Citigroup's common stock,
worth $25.49 billion on December 31, 2009. Treasury is
Citigroup's largest shareholder, with 27.04 percent of
Citigroup's equity.
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\226\ The Panel notes that Treasury's Transaction Reports state
that the total TARP assistance to Citigroup is $49 billion, based on
the $25 billion CPP investment, $20 billion TIP investment, and
Treasury's receipt of $4.03 billion in preferred stock under the AGP.
While the total amount Treasury has invested under the AGP is $4.03
billion, Treasury's actual maximum loss position under the AGP was $5
billion, which is the number used by the Panel since that represents
Treasury's actual exposure. For further information on the AGP
accounting, see Figure 22, infra. The AGP agreement was structured so
that losses on assets in the pool will be shared among Citigroup,
Treasury, the FDIC and the Federal Reserve. As of September 30, 2009,
the total asset pool was approximately $250.4 billion. U.S. Securities
and Exchange Commission, Quarterly Report Pursuant to Section 13 or
15(d) of the Securities Exchange Act of 1934 for Citigroup Inc., at 33-
34 (Nov. 6, 2009) (online at www.sec.gov/Archives/edgar/data/831001/
000104746909009754/a2195256z10-q.htm). Citigroup would absorb up to
$39.5 billion of initial losses arising from the covered pool (losses
of $8.1 billion had been recorded at September 30, 2009), and would
then absorb 10 percent of any losses in excess of that amount. Id. The
federal government would absorb the remainder, with Treasury absorbing
the first $5 billion in federal liability, the FDIC absorbing the
second $10 billion, and the Federal Reserve covering any further
federal liability by way of a non-recourse loan to Citigroup. Id. The
guarantee was structured to run for up to 10 years for residential
assets and five years for non-residential assets. Id.
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The first Citigroup investment was made through the CPP. On
October 28, 2008, Treasury used the program to inject $25
billion into Citigroup. Treasury received $25 billion face
value of CPP Preferred and warrants to purchase 210,084,034
shares at a strike price of $17.85. The second TARP investment
in Citigroup was made through the TIP. Although Citigroup's TIP
capital infusion was announced on November 23, 2008 and
finalized on December 31, 2008, the guidelines for the TIP were
not announced until January 2, 2009.\227\ Under the TIP,
Treasury purchased $20 billion in preferred stock from
Citigroup.\228\ This preferred stock paid dividends of 8
percent. Treasury also took warrants to accompany the preferred
stock. There are no standard terms for the TIP; terms and
conditions were determined on a case-by-case basis.\229\ Any
institutions participating in the TIP were required to comply
with strict executive compensation standards.
---------------------------------------------------------------------------
\227\ See U.S. Department of the Treasury, Treasury Releases
Guidelines for Targeted Investment Program (Jan. 2, 2009) (online at
treasury.gov/press/releases/hp1338.htm) (hereinafter ``Treasury
Releases Guidelines for Targeted Investment Program''); Joint Statement
on Citigroup, supra note 110.
\228\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166; Citigroup, Citi Issuance of $20 Billion Perpetual
Preferred Stock and Warrants to U.S. Treasury As Part of TARP Program
(Dec. 31, 2008) (online at www.citigroup.com/citi/fin/data/
fs081231a.pdf).
\229\ Treasury Releases Guidelines for Targeted Investment Program,
supra note 227.
---------------------------------------------------------------------------
Under the AGP, Treasury, the FDIC, and the Federal Reserve
guaranteed, until the program was ended, approximately $250.4
billion of Citigroup's assets.\230\ The guarantee, originally
for $301 billion, followed a continuing deterioration of
Citigroup's financial status after it received CPP funds. As
consideration for the guarantee, Citigroup issued Treasury with
$4.034 billion face value of preferred stock (the AGP
Preferred) \231\ and warrants to purchase 66,531,728 shares of
common stock at a strike price of $10.61.\232\
---------------------------------------------------------------------------
\230\ According to Citigroup's SEC filing for the third quarter of
2009, the total asset pool had declined by approximately $50 billion on
a GAAP basis to approximately $250.4 billion as of September 30, 2009.
See Citigroup Third Quarter 10-Q, supra note 56, at 33. COP November
Oversight Report, supra note 2 (describing the Citigroup and Bank of
America guarantees). From the beginning, Treasury had stated that AGP
assistance would not be ``widely available.'' U.S. Department of the
Treasury, Report to Congress Pursuant to Section 102 of the Emergency
Economic Stabilization Act, at 1 (Dec. 31, 2008) (online at
www.financialstability.gov/docs/AGP/sec102ReportToCongress.pdf).
\231\ The FDIC was issued $3.025 billion in preferred stock.
Treasury and the FDIC's holding were exchanged for separate trust
preferred securities with a coupon of 8 percent in the subsequent
exchange offer.
\232\ The AGP Preferred have a perpetual life and pay dividends at
8 percent per annum. They can be redeemed in stock or cash, as mutually
agreed between Treasury and Citigroup, otherwise the redemption terms
of CPP preferred terms apply. Citigroup is not permitted to pay common
stock dividends, in excess of $0.01 per share per quarter, for a period
of three years without Treasury consent. With respect to repurchase
rights, the same terms apply as for the CPP Preferred, meaning they
could be sold in private transactions to interested investors, or that
they could be offered to the public in a resale registered with the
SEC. Master Agreement Among Citigroup Inc., Certain Affiliates of
Citigroup Inc. Identified Herein, Department of the Treasury, Federal
Deposit Insurance Corporation and Federal Reserve Bank of New York
(Jan. 15, 2009) (online at www.financialstability.gov/docs/AGP/
Citigroup_01152009.pdf).
---------------------------------------------------------------------------
On July 30, 2009, Treasury and Citigroup agreed to exchange
Treasury's $25 billion in CPP Preferred for 7.7 billion shares
of common stock priced at $3.25 per share. The two parties also
agreed to exchange Treasury's $20 billion in TIP holdings and
$4 billion of preferred stock acquired under the AGP into trust
preferred securities.\233\ These exchanges took place as part
of a larger $58 billion exchange offer with public and private
holders of Citigroup's debt in which Citigroup bolstered its
common tangible equity and thus its reserves. The company
received shareholder approval for the exchange on September 3,
2009.\234\
---------------------------------------------------------------------------
\233\ The trust preferred securities are senior in right of
repayment to preferred stock. They pay dividends at 8 percent per
annum, and are paid on a quarterly basis. The term is for 30 years.
Treasury may, subject to applicable securities laws, transfer, sell,
assign, or otherwise dispose of its trust preferred shares provided
that it consults with Citigroup for the first three years to see if
such action is feasible. Upon regulatory approval, Citigroup has the
right to redeem such shares, either at its discretion or upon the
occurrence of specified events, but cannot redeem less than all of the
outstanding securities unless all accumulated and unpaid dividends have
been paid. In certain circumstances, these securities carry limited
voting rights. These securities are also ranked equally, meaning
payment thereon shall be made pro rata with the common securities,
except in the case of default. Exchange Agreement dated June 9, 2009
between Citigroup Inc. and United States Department of the Treasury, at
Schedule A (June 9, 2009) (online at www.financialstability.gov/docs/
agreements/08282009/Citigroup%20Exchange%20Agreement.pdf).
\234\ Citigroup, Citi Announces Shareholder Approval of Increase in
Authorized Common Shares, Paving Way to Complete Share Exchange (Sept.
3, 2009) (online at www.citibank.com/citi/press/2009/090903a.htm).
---------------------------------------------------------------------------
On December 14, 2009, Citigroup, Treasury, and the
regulators announced an agreement regarding Citigroup's plan to
repay part of its outstanding TARP assistance.\235\ Pursuant to
the agreement, Citigroup would repay Treasury the $20 billion
it held in trust preferred securities and terminate its loss-
sharing agreement under the AGP, meaning that the government
would no longer be liable for any losses arising from the
covered asset pool.\236\ To fund this repayment, Citigroup
successfully completed a securities offering of $21.08 billion
of equity securities, comprising $17 billion of common stock
(with an additional over-allotment option of 184.9 million
shares exercised on December 23, 2009) \237\ and $3.5 billion
of tangible equity units.\238\ On December 23, 2009, Citigroup
completed its TARP repayment and terminated its loss-sharing
agreement after Treasury permitted it to cancel $1.8 billion of
the $7 billion in AGP Preferred that Citigroup had issued to
Treasury and the FDIC as consideration.\239\ Following
Citigroup's repayment of the $20 billion of trust preferred
securities and the termination of the loss-sharing agreement,
Citigroup is no longer deemed a beneficiary of ``exceptional
financial assistance'' under the TARP (even though some AGP
Preferred is still outstanding), meaning that it will no longer
be subject to the jurisdiction of Special Master for
Compensation Kenneth Feinberg.\240\
---------------------------------------------------------------------------
\235\ Treasury conversations with Panel staff (Dec. 15, 2009); see
also Citigroup, Repaying TARP and Other Capital Actions (Dec. 14, 2009)
(online at www.sec.gov/Archives/edgar/data/831001/000095012309070371/
x80976bfwp.htm) (hereinafter ``Repaying TARP and Other Capital
Actions''); U.S. Department of the Treasury, Treasury Statement
Regarding Citigroup's Intention to Repay Taxpayers (Dec. 14, 2009)
(online at www.financialstability.gov/latest/pr_12142009.html)
(hereinafter ``Treasury Statement Regarding Citigroup's Intention to
Repay Taxpayers''). As part of the agreement, Citigroup also decided to
issue $1.7 billion of common stock equivalents to its employees in
January 2010 as a substitution for the cash they would have otherwise
received. Subject to shareholder approval at the company's annual
meeting on April 1, 2010, the common stock equivalents will be replaced
by common stock.
\236\ Citigroup has used the proceeds from its offerings to repay
Treasury's TIP investments (the preferred securities exchanged for
trust preferred securities in July 2009). Trust preferred securities
possess characteristics of both equity and debt issues. These
securities are generally long-term, allow early redemption by the
issuer, make periodic fixed or variable interest payments, and mature
at face value. When issued by a bank holding company such as Citigroup,
trust preferred securities are treated as capital rather than as debt
for regulatory purposes.
\237\ An over-allotment option is granting the underwriter in a
public offering with the option, for a period of anywhere from 15 to 45
days after the offering date, to purchase additional securities from
the issuer (usually up to 15 percent of the shares being sold) at the
initial price to the public, in order to cover over-subscriptions for
the securities.
\238\ Repaying TARP and Other Capital Actions, supra note 235;
Citigroup, Forms 424(b) (Dec. 16, 2009) (online at www.sec.gov/
Archives/edgar/data/831001/000095012309071618/y80953b2e424b2.htm and
www.sec.gov/Archives/edgar/data/831001/000095012309071909/
y81064e424b2.htm) (SEC filings detailing the issuances of securities by
Citigroup in connection with the TARP repayment); Treasury
conversations with Panel staff (Dec. 15, 2009).
\239\ Treasury conversations with Panel staff (Dec. 15, 2009);
Treasury conversations with Panel staff (Jan. 7, 2010); Allison
Testimony before House Oversight and Government Reform Committee, supra
note 118, at 11; Citigroup, Citi Completes $20 Billion TARP Repayment,
Terminates Loss-Sharing Agreement (Dec. 23, 2009) (online at
www.citigroup.com/citi/press/2009/091223b.htm). In discussions with
Panel staff, Treasury staff indicated that the $5.259 billion in trust
preferred securities that will be retained reflects a $1.8 billion
reduction since the loss-sharing agreement was terminated after one
year. Treasury will incur the $1.8 billion haircut initially, but will
receive up to $800 million of the Citigroup trust preferred securities
currently held by the FDIC, provided that Citigroup repays its
outstanding debt issued under the FDIC's Temporary Liquidity Guarantee
Program (TLGP).
\240\ Treasury conversations with Panel staff (Dec. 15, 2009);
Treasury conversations with Panel staff (Jan. 7, 2010). Although
Citigroup is no longer considered a participant in the CPP due to the
exchange of CPP preferred securities for common stock, Treasury has
specifically stated that Citigroup will remain subject to EESA's
general corporate governance standards and executive compensation
restrictions, as amended by the American Recovery and Reinvestment Act
of 2009. This is because Treasury, when agreeing to the exchange, did
not want to surrender the leverage and taxpayer protections that these
restrictions afford. In addition, Citigroup has agreed to abide by Mr.
Feinberg's 2009 executive compensation determinations for its 100 most
highly compensated employees.
FIGURE 3: INCOME FROM CITIGROUP TARP INVESTMENTS AS OF NOVEMBER 30, 2009
\241\
------------------------------------------------------------------------
Program Dividends Earned
------------------------------------------------------------------------
CPP............................................ $932,291,666.67
AGP............................................ 255,486,666.66
TIP............................................ 1,333,333,333.33
------------------------
Total...................................... $2,521,111,666.66
------------------------------------------------------------------------
\241\ U.S. Department of the Treasury, Cumulative Dividends Report as of
November 30, 2009 (Dec. 18, 2009) (online at
www.financialstability.gov/docs/dividends-interest-reports/
November%202009%20Dividends%20and%20Interest%20Report.pdf)
(hereinafter ``Cumulative Dividends Report as of November 30, 2009'').
The following table shows Treasury's holdings in Citigroup
as of December 31, 2009:
FIGURE 4: TREASURY HOLDINGS IN CITIGROUP AS OF DECEMBER 31, 2009
[Dollars in millions]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Estimated Valuation as of 12/31/09
Revenues --------------------------------------
Asset Number Acquisition Cost Generated Low High Best
Estimate Estimate Estimate
--------------------------------------------------------------------------------------------------------------------------------------------------------
Preferred Stock (CPP).................... 0........................... $25,000.................... $932 ........... ........... N/A
Preferred Stock (TIP).................... 0........................... $20,000.................... 933 ........... ........... N/A
Preferred Stock (AGP).................... 0........................... $5,000 \242\............... 175 ........... ........... N/A
Common Stock (CPP)....................... 7,692,307,692............... $25,000.................... 0 ........... ........... $25,462
Trust Preferred.......................... Received in exchange for AGP $2,234..................... \243\ 737 ........... ........... 1,871
Preferred.
Warrants (CPP, TIP, AGP)................. 210,084,024 shares at $17.85 (Received as part of CPP ........... $10 $891 204
(CPP). Preferred, TIP.
188,501,414 at $10.61 (TIP). Preferred and AGP).........
66,531,728 at $10.61 (AGP).. ........................... ........... ........... ........... ........... Total.................................. ............................ ........................... ........... ........... ........... $27,537
--------------------------------------------------------------------------------------------------------------------------------------------------------
\242\ Treasury's potential maximum loss position under the AGP was $5 billion; Treasury received $4,034 billion in preferred stock under the AGP.
\243\ Of the total Trust Preferred revenues generated, $636 million relates to dividends received from TIP Trust Preferred securities.
b. Disposal of Assets and Recovery of Expended Amounts
As shown in Figure 4 above, Treasury owns trust preferred
securities, common stock, and warrants for common stock in
Citigroup. The taxpayers' money can be recovered from the trust
preferred securities so long as Citigroup generates profits
sufficient to make dividend payments on them and eventually
redeem them. Alternatively, the trust preferred securities
could be sold into the markets. Recovery of the taxpayers'
investment in the common stock and warrants depends on the
performance of the common stock, which in turn depends on
Citigroup's actual performance and the market's perception of
its likely performance in the future. Treasury may sell its
common stock holdings publicly or privately. Since Citigroup
has repaid its trust preferred securities, it may also
repurchase its warrants issued under the TIP.\244\ The
repurchase must happen at ``fair market value.'' \245\ As
discussed above, fair market value would be determined using a
negotiation and appraisal process between Treasury and
Citigroup. If Citigroup chooses not to repurchase its warrants,
or if an agreement cannot be reached on a fair price and
neither party wishes to invoke the appraisal procedure,
Treasury will auction the warrants to the public. Unlike other
auctions that have occurred relatively shortly after the TARP
recipient has repaid its TARP funds, Treasury has indicated
that, if Citigroup's warrants were to be auctioned to the
public, the auction would not take place in the near
future.\246\ This is due to an agreement by Treasury to refrain
from selling its common stock holdings until March 16, 2010, as
well as the size of those holdings.\247\
---------------------------------------------------------------------------
\244\ See Securities Purchase Agreement dated December 31, 2008
between Citigroup Inc., as Issuer and United States Department of the
Treasury, at 4.9(a).
\245\ Id.
\246\ Treasury conversations with Panel staff (Jan. 7, 2010).
\247\ Treasury conversations with Panel staff (Jan. 7, 2010).
---------------------------------------------------------------------------
FIGURE 5: VALUE OF CITIGROUP'S STOCK SINCE OCTOBER 2008 \248\
---------------------------------------------------------------------------
\248\ SNL Financial, Citigroup Inc. Historical Stock Price (online
at www.snl.com/InteractiveX/
historyCP.aspx?ID=4041896&Tabular=True&GraphType=3&Frequency=
0&TimePeriod2=9&BeginDate=1%2F13%2F2009&EndDate=
1%2F13%2F2010&ctl00%24ctl11%24IndexPreference=
default&ComparisonIndex2=25&ComparisonYield2=-
1&CustomIndex=0&ComparisonTicker2=&Action=Apply).
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Figure 5 above reflects the decline of and volatility in
Citigroup's stock price since October 3, 2008, the date that
President Bush signed EESA into law. Throughout most of the
period it has received TARP assistance, Citigroup's stock price
has been trading at approximately $4 per share, and it
plummeted to around $1 per share in March 2009. Government
intervention in the private sector has significantly influenced
both Citigroup's credit ratings and stock price.\249\
---------------------------------------------------------------------------
\249\ For further discussion on how government intervention impacts
credit ratings and equity pricing, see Section B.5, infra.
---------------------------------------------------------------------------
The Panel notes that the government assistance has boosted
Citigroup's credit ratings,\250\ and that although it is dif-
ficult to analyze Citigroup's stock price, that price has been
significantly affected by the extraordinary government
intervention.
---------------------------------------------------------------------------
\250\ Credit ratings tend to be higher than they would otherwise
be, since government support provides the public and stockholders an
added degree of confidence in the company's health. For example, in its
July 31, 2009 report, Standard & Poor's gave Citigroup a credit rating
of ``A'' but noted ``the potential for additional extraordinary
government support, if necessary,'' and further stated that Citigroup's
rating ``reflects a four-notch uplift from our assessment of
Citigroup's stand-alone credit profile'' (emphasis added). See also
Fitch Ratings, Citigroup Inc. (Nov. 2, 2009) (hereinafter ``Fitch
Ratings for Citigroup''); Moody's Investors Service, Global Credit
Research, Issuer Comment: Citigroup: Earnings Commentary--Third Quarter
2009 (Oct. 16, 2009) (hereinafter ``Moody's Earnings Commentary for
Citigroup'').
---------------------------------------------------------------------------
Pro-rating the original $25 billion ``acquisition cost'' of
Citigroup shares under the CPP against the number of shares
received in the exchange (ignoring shares already sold and
warrants), Citigroup shares need to be worth approximately
$3.25 for Treasury to ``break even.'' In Citigroup's December
offering, Treasury agreed initially to sell up to $5 billion of
its shares in a concurrent secondary offering, while announcing
plans to sell the remainder of its shares over the next six to
twelve months.\251\ Although Citigroup managed to raise over
$21 billion in the capital markets on December 16, 2009 (the
largest equity offering in the U.S. equity markets), it priced
the new shares at $3.15 each, below Treasury's break-even
price.\252\ Rather than incur a $770 million loss, Treasury
decided not to participate in the secondary offering and
postponed plans to start divesting its common shares.\253\
Treasury has now agreed not to sell its common stock until
after March 16, 2010 and plans to sell the remainder of its
holdings over the next 12 months.\254\ Until it does so,
Treasury will remain the major shareholder.\255\ Because
Treasury's sales of its holdings in Citigroup common stock
would constitute a change in ownership, that sale would not be
feasible without the recent IRS guidance that allows Treasury
to conduct the sales and Citigroup to maintain its deferred tax
assets, discussed above in Section B.6.\256\
---------------------------------------------------------------------------
\251\ Treasury Statement Regarding Citigroup's Intention to Repay
Taxpayers, supra note 235.
\252\ As noted above, Citigroup's offering was the largest offering
in American history. Even before its offering occurred, Citigroup faced
a number of factors that impacted its market pricing. These included
its size, its occurrence at year-end with resulting time constraints,
its timing after several similar types of transactions, including the
Bank of America and Wells Fargo offerings to facilitate their TARP
repayments (and the limited demand for financial stocks as a result),
and eagerness on the part of Citigroup's management to repay the TARP
funds to get out from under the government's thumb. See Kevin Dobbs,
Conditions improving, but Citi still faces confidence crisis, SNL
Financial (Jan. 7, 2010) (hereinafter ``Conditions improving, but Citi
still faces confidence crisis'') (suggesting that Citigroup's pricing
of the deal at 20 percent below its announced target was due in part to
``poor timing'').
\253\ This decision underscores Treasury's commitment to
``protect[ing] the taxpayers' investment.'' Allison Testimony before
House Oversight and Government Reform Committee, supra note 118.
\254\ Allison Testimony before House Oversight and Government
Reform Committee, supra note 118. As part of Treasury's agreement to
delay selling its common stock holdings for 90 days, Citigroup agreed
to compensate Treasury for all of the costs associated with its future
common stock sales, including commissions.
\255\ While Treasury remains the major shareholder, Treasury does
not have any Citigroup board seats. The Shareholders Agreement between
Treasury and Citigroup stipulates that Treasury will exercise its right
to vote only on particular matters (e.g., the election or removal of
directors, major corporate transactions including mergers, dissolution,
amendments to charter or bylaws). On other issues, Treasury ``will vote
its shares in the same proportion'' as all other company shares are
voted. Allison Testimony before House Oversight and Government Reform
Committee, supra note 118.
\256\ For further discussion on the recent IRS guidance and its tax
impact, see discussion in Section B.6.
---------------------------------------------------------------------------
On December 31, 2009, Citigroup's stock price was $3.31 a
share, meaning that the value of Treasury's remaining holdings
in Citigroup common stock was $25.49 billion, and the value of
the warrants held, by the Panel's best estimate, was $204.32
million. By that measure, Citigroup stock would need to be
worth approximately $3.25 a share for the TARP investment in
common stock to be repaid. The warrants derive from three
separate investments in Citigroup, and in each case were part
of a package of securities issued to Treasury, so it is
difficult to attribute an ``acquisition cost'' to specific
components such as the warrants.\257\ As part of the
consideration for Treasury's TARP investment, the warrants are
supposed to permit the taxpayers to benefit from the ``upside''
deriving from the government's intervention.\258\
---------------------------------------------------------------------------
\257\ Citigroup financial statements distinguish between preferred
and warrants. However, when the initial investments were made there
were part of a package of securities.
\258\ As the Panel noted in its February Oversight Report, ``[t]he
warrants allowed the Treasury to buy common stock of each institution
for an additional amount--called the ``exercise price''--that was
calculated so that Treasury benefit [sic] if the value of the common
stock increased.'' Congressional Oversight Panel, February Oversight
Report: Valuing Treasury's Acquisitions, at 5 (Feb. 6, 2009) (online at
cop.senate.gov/documents/cop-020609-report.pdf).
---------------------------------------------------------------------------
In conversations with Panel staff, Treasury indicated that
it has spent much time thinking about how to make an orderly
exit from Citigroup, and emphasized that there are many
different possibilities for how to sequence the sales of its
common stock holdings.\259\ According to Assistant Secretary
Allison, Treasury concluded that ``by gradually selling the
shares, [it] will be in a better position to achieve the best
possible prices for the American public.'' \260\
---------------------------------------------------------------------------
\259\ Treasury conversations with Panel staff (Dec. 3, 2009).
\260\ Allison Testimony Transcript, supra note 135.
---------------------------------------------------------------------------
With respect to Citigroup's plans and strategies for future
profitability, in the first quarter of 2009, Citigroup
reorganized itself into Citicorp and Citi Holdings, the former
consisting of operations considered central to the bank's
future, including worldwide retail banking, investment banking,
and transaction services for institutional clients, and the
latter holding the assets and business units that Citigroup
does not regard as its core business, such as asset management
and consumer lending, and which it will presumably sell
off.\261\ Citigroup has already made some material asset sales,
including brokerage and asset management business units, as set
out in Figure 6 below. Due in part to the current difficulties
in obtaining what it considers to be reasonable prices, some of
these sales have been made at low prices.\262\ It remains
unclear whether Citigroup's primary impetus for these sales was
to strengthen its capital base and reduce risk by concentrating
on core business areas and simplifying the institution, or to
reduce government involvement with its business. As a result of
these changes, as well as reductions in headcount and expenses
since the beginning of 2008, Citigroup stated it has raised
``considerable capital'' and has built ``considerable
liquidity.'' \263\
---------------------------------------------------------------------------
\261\ Citigroup conversations with Panel staff (Dec. 4, 2009); see
Bank of America--Merrill Lynch Financial Services Conference,
Presentation by Citigroup Vice Chairman Ned Kelly, at 1 (Nov. 11, 2009)
(online at www.citigroup.com/citi/fin/data/p091111a.pdf?ieNocache=311)
(hereinafter ``Citigroup Ned Kelly Presentation''); Citi Statement to
the Congressional Oversight Panel on Asset Sales and Business
Divestitures (Dec. 22, 2009) (hereinafter ``Citi Statement on Asset
Sales and Business Divestitures'').
\262\ See Figure 6 and related footnotes identifying the amounts
Citigroup has realized on its asset sales as compared to Citigroup's
prior valuations of those assets.
\263\ Citigroup conversations with Panel staff (Dec. 4, 2009).
FIGURE 6: CITIGROUP ASSET SALES \264\
------------------------------------------------------------------------
Asset Sold Date of Sale Amount Realized
------------------------------------------------------------------------
German Retail Banking Operation. 12/5/2008........ $6.6 billion \265\
Citigroup Global Services 12/31/2008....... $512 million \266\
Limited.
Citigroup Technology Services 1/20/2009......... $127 million \267\
Ltd.
Smith Barney.................... 6/1/2009......... $2.75 billion
\268\
Three North American Partner 8/31/2009......... Undisclosed \269\
Credit Card Portfolios.
Nikko Cordial Securities Inc.... 10/1/2009......... $8.7 billion \270\
Nikko Citi Trust and Banking 10/1/2009......... $212 million \271\
Corporation.
Nikko Asset Management.......... 10/1/2009........ $844 million \272\
Portugal Credit Cards Business.. 11/30/2009........ Undisclosed \273\
Norwegian Consumer Finance 12/15/2009....... Undisclosed \274\
Business.
Phibro LLC...................... 12/31/2009........ $250 million
\275\
Diners Club North America \276\. 12/31/2009........ Undisclosed \277\
Primerica, Inc.................. Not closed TBD \278\
(announced 11/5/
2009).
------------------------------------------------------------------------
\264\ Citigroup had divested $281 billion in ``non-core businesses and
assets'' from its Citi Holdings subsidiary at the end of Q3 2009.
Citigroup, Repaying TARP and Other Capital Actions, at 13 (Dec. 14,
2009) (online at www.citibank.com/citi/fin/data/p091214a.pdf).
Citigroup divested a further $25 billion in assets during Q4 2009. Id.
This table only includes publicly disclosed transactions; other non-
public transactions have taken place which, although not reflected in
this table, are reflected in the $306 billion total. Citi Statement on
Asset Sales and Business Divestitures, supra note 261.
\265\ Citigroup, Citi Successfully Completes Sale of German Retail
Banking Operation to Credit Mutuel-CIC (Dec. 5, 2008) (online at
www.citi.com/citi/press/2008/081205a.htm). Citigroup previously valued
the assets at $15.6 billion, meaning that the sale took place at
almost a 50 percent discount. See id.
\266\ Citigroup, Citi Completes Sale of Citigroup Global Services
Limited (Dec. 31, 2008) (online at www.citi.com/citi/press/2008/
081231a.htm).
\267\ Citigroup, Form 10-Q for the Quarterly Period Ending March 31,
2009, at 10 (Mar. 31, 2009) (online at www.citigroup.com/citi/fin/data/
q0901c.pdf?ieNocache=664); Citigroup, Citi Completes Sale of Citigroup
Technology Services Ltd. (India) (Jan. 20, 2009) (online at
www.citi.com/citi/press/2009/090120e.htm).
\268\ Citigroup sold 100 percent of its Smith Barney, Quilter and
Australia private client networks in exchange for a 49 percent stake
in a joint venture with Morgan Stanley and an upfront cash payment of
$2.75 billion. Citigroup, Form 10-Q for the Quarterly Period Ending
June 30, 2009, at 14 (June 30, 2009) (online at www.citi.com/citi/fin/
data/q0902c.pdf?ieNocache=410). CEO Vikram Pandit has publicly
indicated that Citigroup will eventually sell its stake in the joint
venture. Matthias Rieker, Citi Plans to Shed Stake in Smith Barney,
Wall Street Journal (Sept. 17, 2009) (online at online.wsj.com/article/
SB125312761700516895.html).
\269\ Citigroup, Citi Holdings Update: Citi Sells Three Credit Card
Portfolios (Aug. 31, 2009) (online at www.citi.com/citi/press/2009/
090831d.htm). Although Citigroup has not disclosed the terms of the
sale, it previously valued the assets it sold at $1.3 billion. Id.
\270\ Citigroup, Form 10-Q for the Quarterly Period Ending September 30,
2009, at 99 (Sept. 30, 2009) (online at www.citigroup.com/citi/fin/
data/q0903c.pdf?ieNocache=909). Citigroup previously valued these
assets at $23.6 billion. Id. at 11. Contemporaneous press reports
indicate that robust bidding among major Japanese financial
institutions took place for the right to acquire Nikko Cordial. Alison
Tudor, Citi's Nikko Sale Ignites Japanese Bid War, Wall Street Journal
(Apr. 2, 2009) (online at online.wsj.com/article/
SB123863295192980917.html).
\271\ Citigroup, Citi Successfully Completes Sale of NikkoCiti Trust and
Banking Corporation to Nomura Trust and Banking (Oct. 1, 2009) (online
at www.citi.com/citi/press/2009/091001b.htm).
\272\ Citigroup, Citi Successfully Completes Sale of Nikko Asset
Management to Sumitomo Trust (Oct. 1, 2009) (online at www.citi.com/
citi/press/2009/091001a.htm).
\273\ Citigroup, Citi to Sell Portugal Credit Cards Business to Barclays
Bank PLC (Sept. 29, 2009) (online at www.citi.com/citi/press/2009/
090929b.htm). Although Citigroup has not disclosed the terms of the
sale, it previously valued the assets at =644 million, about $938
million. See id.
\274\ Citigroup, Citi to Sell Norwegian Consumer Finance Business to
Gjensidige Bank ASA (Oct. 8, 2009) (online at www.citi.com/citi/press/
2009/091008a.htm). Although Citigroup has not disclosed the terms of
the sale, it previously valued the assets it sold at $470 million. Id.\275\ Citigroup announced that it would sell Phibro LLC for a purchase
price equal to the net asset value of the business. Citigroup, Citi to
Sell Phibro, LLC (Oct. 9, 2009) (online at www.citi.com/citi/press/
2009/091009a.htm). Occidental announced that it anticipated the net
asset value of Phibro would be about $250 million when the deal
closed. Occidental Petroleum, Occidental Petroleum Announces
Acquisition of Phibro (Oct. 9, 2009) (online at newsroom.oxy.com/
portal/site/oxy/
?ndmViewId=news_view&newsId=20091026006112&newsLang=en). Citing
government pressure to sell the energy-trading business, news reports
characterized the sale price as ``bargain-basement.'' David Enrich,
Ben Casselman and Deborah Solomon, How Occidental Scored Citi Unit
Cheaply, Wall Street Journal (Oct. 12, 2009) (online at online.wsj.com/
article/SB125509326073375979.html).
\276\ Citigroup, Citi Sells Diners Club North America Business (Nov. 24,
2009) (online at www.citibank.com/citi/press/2009/091124a.htm)
(hereinafter ``Citi Sells Diners Club North America Business'').
\277\ Citi Sells Diners Club North America Business, supra note 276.
Although Citigroup has not disclosed the terms of the sale, it
previously valued the assets involved at $1 billion.
\278\ Primerica, Inc. has filed the paperwork to conduct an initial
public offering, with proceeds going to Citigroup, as part of a
reorganization and eventual divestiture by Citigroup. U.S. Securities
and Exchange Commission, Form S-1 Registration Statement: Primerica,
Inc., at 1, 6-7, 39 (Nov. 5, 2009) (online at www.sec.gov/Archives/
edgar/data/1475922/000119312509225601/ds1.htm). Citigroup attempted to
sell Primerica to another financial institution or other investor but
could not find a buyer. David Enrich, An IPO of Primerica Will End a
Citi Era, Wall Street Journal (Nov. 6, 2009) (online at online.wsj.com/
article/SB125746499148732279.html). The IPO has not yet taken place;
Primerica held $12.1 billion in assets as of June 30, 2009. U.S.
Securities and Exchange Commission, Form S-1 Registration Statement:
Primerica, Inc., at 11 (Nov. 5, 2009) (online at www.sec.gov/Archives/
edgar/data/1475922/000119312509225601/ds1.htm).
c. Analysis of Intended Exit Strategy
Given the recent announcement by Citigroup concerning its
TARP repayment, the Panel notes that Treasury is left with 7.7
billion common shares, which it is free to sell at any time
after the 90-day lockup period which expires on March 16, 2010,
and $2.23 billion of trust preferred securities issued
originally under the AGP.\279\ Given the regulators' decision
to allow Citigroup to repay, there are only a few remaining
prospective issues with respect to Treasury's exit strategy.
This discussion focuses on those remaining challenges.
---------------------------------------------------------------------------
\279\ For further discussion of the AGP termination and the related
effect on the government's holding of trust preferred securities, see
supra note 239.
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In making the decision to sell the 7.7 billion common
shares that it holds in Citigroup, Treasury will need to
balance the desire to exit ``as soon as practicable'' \280\
with the need to maximize the return (or minimize the loss) to
the American taxpayers and maintain institutional and systemic
stability, as identified by EESA.\281\ There are strong
arguments from a pure investment perspective for Treasury to
hold its investments as long as possible, with the expectation
that equity values will increase and taxpayers will see a
greater return. The Panel notes that Treasury opted recently to
postpone divesting its common shares in order to avoid
incurring a $770 million loss. Instead, as discussed above,
Treasury anticipates disposing of its remaining common stock
holdings during the next 12 months. At the current market
price, Treasury's common shares are worth about $27.6
billion.\282\ Because the common shares were converted from $25
billion of preferred shares, that is a gain of more than $2
billion, or 10.4 percent, on paper. Even if Treasury sells now
at a profit, there remains the possibility that it could be
second-guessed if the shares were to increase in value at a
later date. In conversations with Panel staff, however,
Treasury staff emphasized that Treasury is a ``reluctant
shareholder'' and that the TARP was not designed primarily to
make money.\283\ Treasury is not trying to pick trading spots,
meaning that its actions are not driven purely by a desire to
maximize shareholder value.\284\ Due to its desire to preserve
the stability of individual institutions, however, Treasury is
unlikely to sell its stakes all at once since that would likely
depress the share price. As of December 9, 2009, Citigroup's
trading volume was averaging 471 million shares per day, or
about 6 percent of Treasury's holdings. The challenge,
therefore, is to dispose of its stakes in an orderly but
deliberate fashion. Treasury's interests in preserving
institutional stability are also illustrated by its agreement
to a 90-day lockup period. There has been some speculation that
Treasury only agreed to this after Citigroup notified Treasury
of its challenges in attracting investors, some of whom
indicated they would only buy shares if Treasury agreed to such
a restriction.\285\ The Panel notes that Treasury previously
had the capacity to sell its Citigroup common shares at its
discretion. By agreeing to the 90-day lockup period, Treasury
may have limited for a time its ability to sell when
circumstances might be more favorable. On balance, Treasury's
actions suggest the tensions and competing interests that exist
in its three-pillared management strategy. While it is
difficult to determine which if any pillar has been the primary
driving force behind Treasury's decision-making with respect to
the disposition of its Citigroup common stock holdings,
Treasury's strategy of intending to balance taxpayer return,
institutional stability and systemic stability, tips in favor
of institutional and systemic stability, which are now very
much the same.
---------------------------------------------------------------------------
\280\ Allison Testimony before House Oversight and Government
Reform Committee, supra note 118, at 5.
\281\ See 12 U.S.C. Sec. 5213.
\282\ This figure reflects Citigroup stock's closing price as of
Friday, January 8, 2010.
\283\ Treasury conversations with Panel staff (Dec. 15, 2009);
Allison Testimony before House Oversight and Government Reform
Committee, supra note 118, at 5 (stating that ``the U.S. government is
a shareholder reluctantly and out of necessity. We intend to dispose of
our interests as soon as practicable, with the dual goals of achieving
financial stability and protecting the interests of the taxpayers'').
\284\ Treasury conversations with Panel staff (Dec. 15, 2009).
\285\ David Enrich, Treasury Halts Plan to Sell Off Citi Stock,
Wall Street Journal (Dec. 18, 2009) (online at online.wsj.com/article/
SB126100573858094185.html).
---------------------------------------------------------------------------
Since 2008, Citigroup has made some tangible progress in
setting forth a new strategic direction and working towards
stability and profitability. Chief Executive Officer Vikram
Pandit's strategy is to dismantle the company's financial
supermarket structure, reduce assets, and focus on the
company's core business operations contained in Citicorp
(wholesale banking for large corporate clients and retail
banking for consumers).\286\ In recent months, Citigroup has
changed its senior management team, appointing a new chief risk
officer and making changes in finance, treasury, and consumer
and corporate banking. Citigroup recently named its fifth chief
financial officer in five years. These actions were, in large
part, a reaction to Citigroup's continued poor asset quality
performance. While credit rating agencies such as Moody's
Investors Service note that Citigroup's current management is
making progress in improving its risk management system,
Moody's concludes that ``these changes will take time to
achieve and the complexity of the effort is enormous.'' \287\
It is still too early to tell whether the new management slate
has the commercial and retail banking experience necessary. In
addition, four new independent directors with substantial
banking experience commenced service in 2009. The ultimate
success of Citigroup's strategy, however, is contingent upon
how soon the economy recovers. Given that Citigroup still
remains a large, complex company with 200 million customer
accounts and operations in over 100 countries, there remains
the potential for a return to profitability once economic
recovery sets in. Thanks in large part to the U.S. government's
substantial assistance, Citigroup's financial position has
strengthened considerably, and the company has nearly doubled
its cash holdings to $244.2 billion over the past year.
---------------------------------------------------------------------------
\286\ Citigroup, Citi to Reorganize into Two Operating Units to
Maximize Value of Core Franchise (Jan. 16, 2009) (online at
www.citibank.com/citi/press/2009/090116b.htm) (quoting Mr. Pandit as
saying that ``[g]iven the economic and market environment, we have
decided to accelerate the implementation of our strategy to focus on
our core businesses''); Bank of America--Merrill Lynch Financial
Services Conference, Presentation by Citigroup Vice Chairman Ned Kelly,
at 1 (Nov. 11, 2009) (online at www.citigroup.com/citi/fin/data/
p091111a.pdf). Citi Statement on Asset Sales and Business Divestitures,
supra note 261.
\287\ Moody's Investors Service, Global Credit Research, Credit
Opinion: Citigroup Inc. (Oct. 1, 2009).
---------------------------------------------------------------------------
Citigroup's record has been mixed, however, with regard to
its reorganization and Mr. Pandit's strategy of ``reducing
assets while optimizing value and mitigating risk.'' \288\
Citigroup has made some progress in reducing noncore operations
with the completion of a joint venture between its Smith Barney
unit and Morgan Stanley's wealth management group, as well as
with sale of Nikko Cordial Securities and Nikko Asset
Management. By December 2009, Citigroup had conducted asset
sales, business divestitures, and natural portfolio run-off,
reducing Citi Holdings' assets by $281 billion since the first
quarter of 2008. Citigroup expects an additional $25 billion
reduction in assets resulting from the Nikko divestitures.\289\
On the other hand, Citigroup's December 2009 fire sale of
Phibro, its commodity-trading arm and one of its few
consistently profitable business units, for only $250 million
demonstrates the obstacles Citigroup continues to face with
maximizing value in a difficult economic climate, and
emphasizes the need for restrictions on the sale of good
assets.\290\ Much work remains until noncore assets are reduced
substantially, including the disposition of large noncore
businesses with substantial consumer credit exposure.\291\
Therefore, Citigroup's intended further downsizing of Citi
Holdings will likely take place over several years.
---------------------------------------------------------------------------
\288\ Citigroup Ned Kelly Presentation, supra note 261.
\289\ Citi Statement on Asset Sales and Business Divestitures,
supra note 261.
\290\ This illustration further underscores the influence of the
U.S. government on TARP-recipient institutions, as Citigroup had
intended to maintain its core profitable businesses while offloading
its ``legacy'' businesses.
\291\ Such major noncore businesses include the CitiFinancial
consumer loan business, the retail partner credit card business, and
Primerica Financial Services.
---------------------------------------------------------------------------
In addition, some analysts have suggested that a
significant downside of Citigroup's new strategy is that the
institution's operations have become less transparent. As
compared to JPMorgan, Wells Fargo, and Bank of America--
institutions that are growing and becoming more complex--these
analysts argue that Citigroup does a poorer job of explaining
its strengths and weaknesses.\292\ In their view, Citigroup
needs to substantially improve disclosure in its securities and
banking business as well as more country-specific information
relating to its international consumer banking operations.\293\
While some of this lack of transparency may be due in part to
the complexity of Citigroup's organization as compared to other
financial institutions, the Panel notes that the lack of
transparency makes it very difficult to evaluate Citigroup's
progress and efforts to regain profitability.
---------------------------------------------------------------------------
\292\ Conditions improving, but Citi still faces confidence crisis,
supra note 252 (stating that ``vagueness tends to raise concerns about
weakness,'' in large part due to its recent financial troubles) (based
on SNL interviews with Jeff Harte, Sandler O'Neill & Partners analyst,
Jeff Saut, chief investment strategist at Raymond James & Associates,
and Christopher Whalen, a managing director at Institutional Risk
Analytics); see also Peter Eavis, Bright Lights, Transparent Citi, Wall
Street Journal (Dec. 18, 2009) (online at online.wsj.com/article/
SB20001424052748703323704574602310167166196.html?) (``For instance,
Citicorp says its Asian consumer operations have $92 billion of assets,
but doesn't disclose specifically where they are, let alone the types
of loans that exist in each country. Oddly, Citi has given a country
breakdown for the problematic businesses bunched under Citi Holdings,
but not for Citicorp'').
\293\ Conditions improving, but Citi still faces confidence crisis,
supra note 252.
---------------------------------------------------------------------------
While the regulators have permitted Citigroup to repay, the
critical question is whether Citigroup can become a viable and
profitable financial institution again.\294\ After two
consecutive quarterly profits, Citigroup incurred a loss of
$3.2 billion in the third quarter of 2009, as consumer loan
losses exceeded trading profits from its bond and currency
businesses.\295\ Citigroup's credit card and mortgage units
contributed to approximately $9.4 billion in consumer losses
for the third quarter alone. Analysts anticipate that Citigroup
will post a loss of 32 cents per share for the fourth quarter
of 2009, marking its ``eighth quarterly loss, on a per-share
basis, in the past nine reporting periods.'' \296\
---------------------------------------------------------------------------
\294\ See discussion of the additional financial burden assumed by
banks repaying CPP Preferred at Note 213, infra. See also Figure 7,
infra, for a representation of changes in Citigroup's capital
structure.
\295\ Furthermore, unlike JPMorgan Chase or Goldman Sachs,
Citigroup's operations have not yet generated enough profits to cover
potentially substantial write-downs in the future. In the third quarter
of 2009, its core business units did not show an increase in revenue.
\296\ Conditions improving, but Citi still faces confidence crisis,
supra note 252. While analysts expect Citi to incur a fourth quarter
loss, this is due in large part to one-time accounting changes that
Citi needed to take as part of its recent TARP repayment.
---------------------------------------------------------------------------
FIGURE 7: CITIGROUP'S CAPITAL RATIOS SINCE THE FIRST QUARTER OF 2008
\297\
---------------------------------------------------------------------------
\297\ The Tier 1 ``Well Capitalized'' Capital ratio and Tier 1
``Well Capitalized'' Common ratio of 6 percent and 4 percent,
respectively, are based on the Supervisory Capital Assessment Program's
desired ratio of capitalization for bank holding companies to ensure a
sufficient capital buffer against future economic challenges. See Board
of Governors of the Federal Reserve System, 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 regarding The Treasury Capital Assistance
Program and the Supervisory Capital Assessment Program (May 6, 2009)
(online at www.federalreserve.gov/newsevents/press/bcreg/
20090506a.htm). The Tier 1 Capital includes core capital. Tier 1 Common
Capital includes Tier 1 Capital less non-common elements (i.e.,
qualifying perpetual preferred stock, qualifying noncontrolling
interests in subsidiaries, and qualifying mandatorily redeemable
securities of subsidiary trusts). For the purposes of the SCAP, both
ratios are stated as a percentage of risk-weighted assets. As losses
hit common equity first and dividend payment schedules are not fixed,
the Tier 1 Common capital ratio drills deeper into the capital
structure by showing the institution's permanent loss absorption
capacity. According to Citigroup's press release on December 23, 2009,
if the TARP repayment had been in effect at the end of Q3 2009, the
Tier 1 Capital ratio would have been 11.0 percent and the Tier 1 Common
Capital ratio would have been 9.0 percent.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
While Citigroup's stock has climbed back from a low of
$1.02 per share in March 2009 to its current price of
$3.59,\298\ it remains unclear whether it can regain its
footing and reemerge as a profitable institution going forward.
Citigroup's market capitalization is currently less than Bank
of America, JPMorgan Chase, and Wells Fargo, all institutions
that have repaid their TARP assistance in full. Another
lingering concern is whether Citigroup will be able to
refinance its obligations coming due in the next few years.
Citigroup has approximately $30 billion of debt coming due in
2010, plus $39.5 billion in 2011 and $59.3 billion in
2012.\299\
---------------------------------------------------------------------------
\298\ This figure reflects Citigroup stock's closing price as of
Friday, January 8, 2010.
\299\ Citigroup, 2008 Annual Report on Form 10-K, at 170 (online at
www.citigroup.com/citi/fin/data/k08c.pdf?ieNocache=265) (hereinafter
``Citigroup 2008 Annual Report on Form 10-K'') (detailing aggregate
annual maturities of long-term debt obligations (based on final
maturity dates)).
---------------------------------------------------------------------------
If Citigroup is unable to refinance at affordable rates or has
insuffi- cient cash to cover its maturing obligations, it may
be forced to face much higher borrowing costs, possibly
resulting in renewed liquidity problems.
In addition, Citigroup's exit from the TARP does not come
without cost. As a result of its TARP repayments and accounting
charges taken on the value of the repaid trust preferred
securities and the termination of the AGP loss-sharing
agreement, Citigroup will incur a $10.1 billion pre-tax loss
for the fourth quarter of 2009.\300\ The recent stock offering
also caused substantial dilution for existing Citigroup shares,
including Treasury's holdings. While Citigroup has written down
billions of dollars' worth of mortgages on its books, there are
looming problems in its huge credit card and mortgage
portfolios.\301\ Citigroup raised interest rates on some credit
card holders to 29.99 percent in October 2009. Analysts at
Fitch Ratings predict that Citigroup will continue to need
substantial loan loss reserves and that its operations will
remain weak into 2010, but that write-downs on capital market
exposures are expected to be much lower due to the large amount
of write-downs already incurred,\302\ while Standard & Poor's
predicts that Citigroup ``will likely face a tough credit cycle
over the next two years.'' \303\
---------------------------------------------------------------------------
\300\ Repaying TARP and Other Capital Actions, supra note 235.
\301\ Standard & Poor's has characterized Citigroup's credit cards
and residential mortgages as ``[c]hief among its most problematic
exposures.'' Standard & Poor's, Global Credit Portal, Citigroup Inc.
(July 31, 2009) (hereinafter ``S&P Citigroup'').
\302\ Fitch Ratings for Citigroup, supra note 250; Moody's Earnings
Commentary for Citigroup, supra note 250 (expecting that loan loss
provisions will rise over the next few quarters, ``increasing the
probability that Citigroup will report quarterly losses'').
\303\ S&P Citigroup, supra note 301.
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Citigroup has been the recipient of substantial government
assistance on at least three occasions over the past 80
years.\304\ If Citigroup were to run into trouble again,
perhaps because of some market disruption, recent history
suggests that the government would not let it fail. The
American people and Congress are forced to place an enormous
amount of faith and trust in Treasury and the regulators'
decision to allow Citigroup to repay its TARP assistance in the
hope that it will not return for further rescue in the future.
During his recent testimony before the Panel, Secretary
Geithner expressed great confidence in the strength of the
regulators' decisions concerning repayment, and noted that the
regulators would not allow or support premature repayment by a
weak institution.\305\ In addition, Secretary Geithner, on a
separate occasion, responded to concerns that the regulators
are allowing the large financial institutions to exit from the
TARP too quickly, calling the TARP repayments ``good news for
everyone.'' \306\ While such statements and assurances are
encouraging, the capital markets do not seem so convinced.\307\
The repeated failure of Citigroup underscores the gravity and
seriousness of these repayment decisions and raises critical
questions about the redesign of the institution so that it is
less likely to become a systemic risk in the future.
---------------------------------------------------------------------------
\304\ Prior to the TARP bailout, the U.S. government rescued
Citigroup on at least two other occasions. As part of its response to
the Great Depression, the federal government instituted several
policies aimed at preventing the financial sector from failing. Because
of these policies, Citibank's predecessor, National Bank, was able to
weather the storm while thousands of smaller banks failed. The risky
activities of National Bank that contributed to the crash prompted
Congress to pass the Glass-Steagall Act, which required the separation
of commercial banking activities from those of investment banks.
Citibank, operating as Citicorp, was again bailed out in the 1980s
following the LDC (less-developed-country) debt crisis, in which
several Latin American countries were unable to meet interest payments
on massive debts to large American banks due to rising LIBOR rates
(which were used to price credits to LDCs). In response to the crisis,
U.S. banking officials waived several capital and accounting standards,
such as the requirement that banks set aside reserves to cover
restructurings of loans. Without such regulatory forbearance, it is
possible that Citicorp would have been deemed insolvent, thereby
causing a widespread panic. See Robert A. Eisenbeis and Paul M.
Horvitz, The Role of Forbearance and Its Costs in Handling Troubled and
Failed Depository Institutions, Reforming Financial Institutions in the
United States, at 68 (George G. Kaufman ed., 1993) (``Had these
institutions been required to mark their sometimes substantial holdings
of underwater debt to market or to increase loan-loss reserves to
levels close to the expected losses on this debt (as measured by
secondary market prices), then institutions such as Manufacturers
Hanover, Bank of America, and perhaps Citicorp would have been
insolvent''). By the 1990s, Citicorp had not fully recovered and so was
again helped by a cash infusion from Saudi Prince Walid bin Talal. The
federal government simultaneously aided in this rescue by cutting
interest rates so that large banks could borrow money at low rates from
the Federal Reserve, while lending at higher rates to their customers.
\305\ Agency Financial Statement 2009, supra note 32 (noting that
Treasury and the regulators ``would not support'' allowing institutions
to repay their TARP assistance due to the institution's desire to
increase executive compensation).
\306\ MarketWatch.com, Geithner Dismisses Worry Over Bank TARP
Repayments, MarketWatch (Dec. 15, 2009) (online at www.marketwatch.com/
story/story/print?guid=3941CA39-8EB4-408C-B147-1BBEE978EB14).
\307\ As discussed above, Citigroup priced its offering designed to
facilitate its TARP repayment at $3.15 per share on December 16, 2009,
reflecting a 20 percent discount from the intended target.
---------------------------------------------------------------------------
6. AIG
a. Acquisition of Assets and Current Value
Along with Citigroup and Bank of America, AIG is one of the
largest recipients of TARP assistance, and has received even
more assistance from the Federal Reserve. Through a series of
coordinated efforts, Treasury and the Federal Reserve have
committed over $182.3 billion to AIG since September 2008.\308\
Treasury's share of this commitment is $69.8 billion, which it
holds under the AIGIP/SSFI in the form of preferred shares
(AIGIP/SSFI Preferred). As of December 31, 2009, $46.9 billion
in principal amount of the AIGIP/SSFI Preferred was
outstanding. Like the TIP, the AIGIP/SSFI was ``established to
provide stability and prevent disruptions to financial markets
from the failure of institutions that are critical to the
functioning of the nation's financial system'' and carries
strict executive compensation guidelines.\309\ AIG is the only
institution to be provided assistance under this initiative.
---------------------------------------------------------------------------
\308\ According to Treasury, each decision to provide assistance
was driven by the recognition that AIG faced increasing pressure on its
liquidity following a downgrade in its credit ratings in May and
September 2008 and the real risk of further downgrades unless
extraordinary steps were taken. Treasury conversations with Panel staff
(Dec. 3, 2009). While AIG tried to raise additional capital in the
private market in early September 2008, its attempt was unsuccessful.
AIG, in an unusual set of terms, agreed to post collateral upon
downgrades in its credit ratings, and also allowed counterparties to
assert claims. The company's destabilization can be attributed, in
large part, to these terms.
\309\ U.S. Department of the Treasury, Road to Stability: Programs
(online at www.financialstability.gov/roadtostability/programs.htm)
(accessed Jan. 13, 2010). The Panel notes, however, that Special Master
Feinberg has exempted certain AIG executives from his default $500,000
cash salary cap after at least five employees reportedly threatened to
resign because of the compensation limits. See Steve Eder and Paritosh
Bensal, AIG executive resigns over pay limits, Reuters (Dec. 30, 2009)
(online at www.reuters.com/article/idUSTRE5BT45E20091231).
---------------------------------------------------------------------------
The government's assistance to AIG began on September 16,
2008--one day after the collapse of Lehman Brothers. FRBNY,
pursuant to the authorization of the Federal Reserve and with
the support of Treasury,\310\ provided AIG with an $85 billion
revolving credit facility.\311\ In exchange for the facility
and $0.5 million,\312\ AIG agreed to establish a trust for the
sole benefit of the United States Treasury, providing the
United States Treasury with a 77.9 percent voting interest in
AIG, held in trust (the Trust Shares).\313\ While Treasury has
a limited consultative role to the FRBNY in its administration
of the Trust,\314\ the Trust Shares are not technically TARP
assets.
---------------------------------------------------------------------------
\310\ The Board of Governors of the Federal Reserve System
authorized FRBNY to lend under section 13(3) of the Federal Reserve
Act, which authorizes the Federal Reserve Board to make secured loans
to individuals, partnerships, or corporations in ``unusual and exigent
circumstances'' and when the borrower is ``unable to secure adequate
credit accommodations from other banking institutions.'' This authority
was designed to allow the Federal Reserve to respond to emergency
circumstances. It was amended in 1991 to allow the Federal Reserve to
lend directly to securities firms during financial crises.
\311\ Federal Reserve Board authorizes lending to AIG, supra note
110; Board of Governors of the Federal Reserve System and U.S.
Department of the Treasury, U.S. Treasury and Federal Reserve Board
Announce Participation in AIG Restructuring Plan (Mar. 2, 2009) (online
at www.federalreserve.gov/newsevents/press/other/20090302a.htm)
(hereinafter ``AIG Restructuring Plan Announcement''). The facility was
subsequently revised:
In November 2008, the initial $85 billion to be made
available was reduced to $60 billion. Additionally, the facility's
initial term of 24 months was extended to five years. These and other
changes in terms were prompted by the fact that credit rating agencies
were prepared to further downgrade the company's credit ratings based
upon their conclusion that the FRBNY revolving credit facility, in the
form of debt, made the company overleveraged.
In March 2009 the Federal Reserve made several changes to
the facility. The facility was reduced from $60 billion to no less than
$25 billion, in exchange for FRBNY taking preferred interests in two
special purpose vehicles created to hold all of the outstanding common
stock of American Life Insurance Company (ALICO) and American
International Assurance Company Ltd. (AIA), two life insurance holding
company subsidiaries of AIG. While AIG will retain control of ALICO and
AIA, FRBNY has certain governance rights in order to protect its
interests. The Federal Reserve also authorized FRBNY to make new loans,
up to an aggregate amount of approximately $8.5 billion, to special
purpose vehicles (SPVs) created by these life insurance subsidiaries,
which would repay the loans from cash flows from designated blocks of
existing life insurance policies. The proceeds of these new FRBNY loans
would be used to pay down an equivalent amount of outstanding debt
under the facility. On December 1, 2009, AIG announced that it
consummated these two debt-for-equity transactions by selling preferred
equity stakes in these two subsidiaries to FRBNY, thereby reducing
AIG's debt to FRBNY to $17 billion, excluding interest and fees. AIG's
recent decision to have a public stock offering for AIA on the Hong
Kong stock exchange (which might raise as much as $20 billion) is
designed to help AIG repay its government assistance.
\312\ As a discount, the initial commitment fee AIG paid for the
Revolving Credit Facility was reduced by $0.5 million and will not be
repaid. Initially, AIG drew down $28 billion on this facility on
September 17, 2008.
\313\ Federal Reserve Board authorizes lending to AIG, supra note
110.
The Credit Facility Trust Agreement provides that the trust is for
the sole benefit of the United States Treasury, meaning that any
property distributable to the United States Treasury as a beneficiary
must be paid to the Treasury for deposit into the U.S. Treasury General
Fund as miscellaneous receipts. See AIG Credit Facility Trust
Agreement, at Sec. 1.01 (Jan. 16, 2009) (online at www.newyorkfed.org/
newsevents/news/markets/2009/AIGCFTAgreement.pdf) (hereinafter ``AIG
Credit Facility Trust Agreement'').
The interest is in the form of preferred stock, convertible into
AIG's common stock. The AIG Credit Facility Trust Agreement was not
executed until January 16, 2009. On March 4, 2009, AIG, as required by
the Trust Agreement governing the Revolving Credit Facility, AIG agreed
to issue shares of convertible preferred stock an approximately 77.9
percent equity interest in AIG to an independent trust for the sole
benefit of the United States Treasury. The conversion formula
stipulates that the trust will receive 79.9 percent of AIG's common
stock, less the percentage of common stock that may be acquired by or
for the benefit of the United States Treasury as a result of warrants
or other convertible preferred stock held by Treasury. Treasury
received a warrant to purchase a number of shares equal to two percent
of AIG's common stock in connection with its November 2008 preferred
stock purchase, and an additional warrant to purchase AIG common stock
in connection with its April 2009 preferred stock purchase. Subsequent
to the initial agreement, a reverse stock split of AIG's common stock
increased the government's equity interest to 79.8 percent.
\314\ Under section 1.02 of the Credit Facility Trust Agreement,
FRBNY has to consult with the Treasury Department in appointing the
trustees. FRBNY also has to consult with the Treasury with respect to
filling any trustee vacancies. Trustees can be removed for engaging in
criminal conduct or if it has been reasonably determined by FRBNY, in
consultation with Treasury, that a trustee has ``demonstrated
untrustworthiness or to be derelict in the performance of his or her
duties.'' AIG Credit Facility Trust Agreement, supra note 313.
---------------------------------------------------------------------------
On November 25, 2008, Treasury provided AIG with a $40
billion capital infusion under the AIGIP/SSFI.\315\ Treasury
received $40 billion face value of preferred shares and a
warrant to purchase approximately two percent of the shares of
AIG's common stock.\316\ AIG used these funds to pay down $40
billion of the amounts under the Revolving Credit Facility that
FRBNY had provided in September, $72 billion of which was the
maximum that had been drawn down at that point, but the
cumulative outstanding balance was $69.25 billion on the
particular days preceding the AIGIP/SSFI infusion.\317\
---------------------------------------------------------------------------
\315\ Treasury to Invest in AIG Restructuring Under EESA, supra
note 110; U.S. Department of the Treasury, TARP AIG SSFI Investment
Term Sheet (online at www.treas.gov/press/
releases/reports/111008aigtermsheet.pdf) (hereinafter ``AIG SSFI
Investment Term Sheet'').
\316\ AIG SSFI Investment Term Sheet, supra note 315. See Note 314
for further discussion of the conversion calculation.
\317\ At the same time, the Federal Reserve created two separate
lending facilities for AIG assets. In addition to authorizing FRBNY to
restructure the terms of its revolving credit facility to AIG, the
Federal Reserve authorized FRBNY to create, and lend up to $22.5
billion to, an SPV called Maiden Lane II LLC, designed to purchase
residential mortgage-backed securities from AIG life insurance
companies. AIG will absorb the first $1 billion of losses due to its
acquisition of a subordinated $1 billion interest in the facility. On
December 12, 2008, FRBNY extended a $19.5 billion loan to Maiden Lane
II LLC. The Federal Reserve further authorized FRBNY to create and lend
up to $30 billion to another SPV called Maiden Lane III LLC designed to
purchase collateralized debt obligations (CDOs) from AIG's
counterparties. In two separate disbursements in November and December
2008, FRBNY funded Maiden Lane III LLC with a $24.3 billion senior loan
and AIG agreed to absorb the first $5 billion of losses after providing
a $5 billion equity investment. AIG's counterparties, in exchange for
agreeing to terminate their credit default swap (CDS) contracts, were
allowed to retain the $35 billion in collateral previously posted by
AIG. TARP funds were not directly used in either the Maiden Lane II or
III transactions.
---------------------------------------------------------------------------
During March and April 2009, Treasury and the Federal
Reserve provided additional assistance and further restructured
the terms of their existing assistance.\318\ On April 17, 2009,
Treasury provided AIG with a commitment to invest an additional
$29.8 billion on certain terms and conditions. This facility,
to be used on a standby basis, allows AIG to issue to Treasury
up to $29.8 billion in AIGIP/SSFI Preferred over five years to
meet its liquidity and capital needs as they arise. Treasury
will receive AIGIP/SSFI Preferred in the amount of each
drawdown. In connection with providing AIG this additional
commitment, Treasury received a warrant to purchase up to 3,000
shares of AIG common stock.\319\ As of December 31, 2009, $5.3
billion had been drawn down under this facility. AIG can
continue to draw on the AIGIP/SSFI investments through April
17, 2014, provided it remains in compliance with certain
conditions.
---------------------------------------------------------------------------
\318\ See Note 311, for further discussion of some of the key
components of the March restructuring.
\319\ U.S. Department of the Treasury, U.S. Treasury and Federal
Reserve Board Announce Participation in AIG Restructuring Plan (Mar. 2,
2009) (online at www.treas.gov/press/releases/tg44.htm) (hereinafter
``Participation in AIG Restructuring Plan Announcement'').
---------------------------------------------------------------------------
FIGURE 8: TREASURY'S PREFERRED STOCK HOLDINGS IN AIG \320\
---------------------------------------------------------------------------
\320\ The value of Treasury's preferred stock holdings in AIG does
not include the additional obligations of $1.6 billion in cumulative
unpaid dividends outstanding at the time of exchange from cumulative
preferred to non-cumulative preferred shares (April 17, 2009) and $165
million commitment fee to be paid in three equal installments over the
five-year life of the commitment facility. See TARP Transactions Report
for Period Ending December 30, 2009, supra note 166.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
On April 17, 2009, the $40 billion face amount of AIGIP/
SSFI Preferred that Treasury received in its November 2008
AIGIP/SSFI investment was exchanged for $41.6 billion \321\ of
noncumulative preferred shares, allowing AIG to reduce its
leverage and dividend requirements.\322\
---------------------------------------------------------------------------
\321\ The $1.6 billion difference reflects a compounding of
accumulated but unpaid dividends owed by AIG to Treasury on the
cumulative preferred stock.
\322\ Participation in AIG Restructuring Plan Announcement, supra
note 319.
---------------------------------------------------------------------------
The following tables show Treasury's and the Federal
Reserve's holdings in AIG as of December 31, 2009.
FIGURE 9: DEPARTMENT OF TREASURY HOLDINGS IN AIG AS OF DECEMBER 31, 2009 [Dollars in millions]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Revenues
Assets Principal Amount Acquisition Cost Generated Estimated Value as of 12/31/09
--------------------------------------------------------------------------------------------------------------------------------------------------------
AIGIP/SSFI Non-Cumulative Preferred........ \323\ $46,900,000,000 $45,300 \324\ $0 \325\ $13,200
Warrants.................................... \326\ 53,798,766 Received as part of N/A Low High Best
initial AIGIP/SSFI $44.9 $1,052.8 $556.4
investments\323\ The $1.6 billion difference between the principal amount and acquisition cost reflects a compounding of accumulated but unpaid dividends owed by
AIG to Treasury.
\324\ According to Treasury, there have been no revenues generated from its AIGIP/SSFI investments in AIG because AIG has not declared or paid any
dividends since the inception of Treasury's preferred equity investments.
\325\ This figure reflects Treasury's estimated value of its AIGIP/SSFI investments in AIG as of September 30, 2009. Agency Financial Statement 2009,
supra note 32, at 17.
\326\ AIG's stock split 20 to 1 in April 2009. The U.S. Government will get 1/20th share of AIG common stock every warrant exercised, so the government
will get 2,690,088.3 shares of common stock if all warrants are exercised.
FIGURE 10: U.S. TREASURY HOLDINGS IN AIG AS OF DECEMBER 31, 2009
[Dollars in millions]
------------------------------------------------------------------------
Estimated Value as of
Asset Number 9/30/09
------------------------------------------------------------------------
Preferred Securities Convertible 100,000 \327\ $23,500
into Common, held by Trust.......
------------------------------------------------------------------------
\327\ According to Treasury, ``[t]he value recorded is based on the
market value of the trust's AIG holdings at September 30, 2009; as the
underlying AIG common stock is actively traded on the New York Stock
Exchange, this represents the best independent valuation available for
the government's beneficial interest.'' U.S. Department of the
Treasury, 2009 Agency Financial Report--Department of Treasury, at
182, 194-95 (online at www.treas.gov/offices/management/dcfo/
accountability-reports/2009-afr.shtml). Treasury will re-value the
trust each year until the trust is liquidated.
FIGURE 11: FEDERAL RESERVE HOLDINGS IN AIG AS OF DECEMBER 31, 2009
[Dollars in millions]
------------------------------------------------------------------------
Amount of
Asset assistance Outstanding Balance
authorized
------------------------------------------------------------------------
Revolving Credit Facility......... \328\ $35,0 \329\ $22,000
00
Maiden Lane II.................... \330\ 22,50 \331\ 15,700
0
Maiden Lane III................... \332\ 30,00 \333\ 18,200
0
-------------------------------------
Total......................... 87,500 55,900
------------------------------------------------------------------------
\328\ The facility was initially $85 billion but was reduced to $60
billion in November 2008, and further reduced to $35 billion in
December 2009.
\329\ This amount includes outstanding principal and capitalized
interest, net of unamortized deferred commitment fees and allowance
for loan restructuring.
\330\ While FRBNY was authorized to provide a loan to Maiden Lane II up
to $22.5 billion, it lent only $19.5 billion of this amount.
\331\ As of December 31, 2009, the outstanding principal amount was
$15.739 billion, and the accrued interest payable to FRBNY was $265
million. The net portfolio holdings of Maiden Lane II as of December
31, 2009, as defined by FRBNY, were $15.697 billion.
\332\ While FRBNY was authorized to provide a loan to Maiden Lane III up
to $30 billion, it lent only $24.3 billion of this amount.
\333\ As of December 31, 2009, the outstanding principal amount was
$18.159 billion, and the accrued interest payable to FRBNY was $340
million. The net portfolio holdings of Maiden Lane III as of December
31, 2009, as defined by FRBNY, were $22.660 billion.
b. Disposal of Assets and Recovery of Expended Amounts
The Administration and Treasury in particular have
articulated the view that public ownership of financial
institutions is not a policy objective.\334\ While public
ownership has been the outcome of the federal government's
intervention in AIG, the primary objective of Treasury and the
Federal Reserve with respect to AIG is to stabilize the company
enough to replace federal government assistance with private
sector resources in order to create a ``more focused,
restructured, and viable economic entity as rapidly as
possible.'' \335\
---------------------------------------------------------------------------
\334\ Agency Financial Statement 2009, supra note 32; Allison
Testimony before House Oversight and Government Reform Committee, supra
note 118, at 5. The Administration has also articulated a set of four
guidelines that will govern its approach to managing ownership
interests in financial and automotive companies. These include a desire
not ``to own equity stakes in companies any longer than necessary,''
and the objective ``to dispose of its ownership interests as soon as
practicable.'' White House, Fact Sheet: Obama Administration Auto
Restructuring Initiative General Motors Restructuring (June 30, 2009)
(online at financialstability.gov/latest/05312009_gm-factsheet.html)
(listing the guidelines governing the government's ownership interests
in financial institutions and automotive companies).
\335\ AIG Restructuring Plan Announcement, supra note 311.
---------------------------------------------------------------------------
Treasury's approach to its AIG investment now seems to have
shifted from balancing its three pillars of asset management to
a strategy based largely on preventing the detrimental effect
on market confidence that would result if Treasury were to not
deliver on its promise to provide financial assistance, as well
as preserving the value of its investment.\336\ The public
purpose in keeping the AIG parent company solvent, therefore,
is based on the government's initial decision to not let AIG
fail in September 2008, and if the U.S. government were to act
otherwise, it would jeopardize not only its financial
credibility, but also the value of its sizeable
investment.\337\
---------------------------------------------------------------------------
\336\ Treasury conversations with Panel staff (Dec. 15, 2009).
\337\ Treasury conversations with Panel staff (Dec. 15, 2009).
---------------------------------------------------------------------------
Earlier government pronouncements with respect to
divestment included maximizing value as an objective. In 2008,
Treasury and the Federal Reserve noted that the federal
government ``intends to exit its support of AIG over time in a
disciplined manner consistent with maximizing the value of its
investments and promoting financial stability.'' \338\ At the
beginning of 2009, the focus appeared to shift somewhat with
the change in the overall market situation, toward a faster
exit to the extent possible without destabilization. Earlier
this year, Secretary Geithner stated that the U.S. government
``will continue our aggressive efforts to resolve the future
status of AIG in a manner that will reduce the systemic risks
to our financial system while minimizing the loss to taxpayers.
And we will explore any and all responsible ways to accelerate
this wind down process.'' \339\ Moreover, when asked whether he
would like to see AIG ``prosper, make a lot of money again and
be successful'' in a recent Meet the Press interview, Secretary
Geithner commented that he would like to see AIG ``bring down
the risk that brought that company to the edge of collapse and
to restructure its business so the taxpayer can get out.''
\340\ Treasury's focus is clearly on medium-term exit rather
than long-term investment, although AIG is not expected to
fully repay the government's assistance for several years.\341\
---------------------------------------------------------------------------
\338\ 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); Treasury
conversations with Panel staff (Dec. 3, 2009).
\339\ U.S. Department of the Treasury, Letter from Secretary
Geithner on AIG to House Speaker Nancy Pelosi (Mar. 17, 2009) (online
at www.treas.gov/press/releases/tg61.htm).
\340\ Interview with Treasury Secretary Timothy F. Geithner, Meet
the Press with David Gregory, NBC (Nov. 1, 2009) (online at
www.msnbc.msn.com/id/33562673/ns/meet_the_press/).
\341\ Treasury conversations with Panel staff (Dec. 16, 2009);
Treasury conversations with Panel staff (Dec. 3. 2009).
---------------------------------------------------------------------------
Similar to the CPP Preferred, the AIGIP/SSFI Preferred
shares have no mandatory redemption date, and can be disposed
of, at least in theory, to third parties.\342\ FRBNY's
Revolving Credit Facility is available until September 16,
2013. The government agencies are not, however, intending to
remain involved in AIG through that date.
---------------------------------------------------------------------------
\342\ See Securities Purchase Agreement dated as of April 17, 2009
between American International Group, Inc. and United States Department
of the Treasury, at Sec. 4.9 (online at www.financialstability.gov/
docs/agreements/Series.F.Securities.Purchase.Agreement.pdf).
---------------------------------------------------------------------------
While Treasury's objective is to make an orderly exit ``as
soon as practicable,'' Treasury understands that the
government's exit from AIG is constrained by the same factors
that prompted the government to provide AIG with assistance in
late 2008--the threat of continued downgrades in the company's
credit ratings and the loss in market confidence that would
cause. Credit rating agencies such as Moody's have indicated
that AIG's current credit ratings are maintained only because
of the extraordinary government assistance,\343\ making the
government extra cautious about any premature exit that might
trigger a ratings downgrade and thereby destabilize AIG and the
financial system. In Treasury's view, therefore, the key to
allowing the government to exit in an orderly fashion is to do
so in a manner that allows AIG to maintain its credit ratings
on a stand-alone basis and to remain well-capitalized without
government assistance.\344\ Given the extraordinary government
assistance provided to AIG, such an exit will take time to
effectuate, but Treasury believes that it is the optimal way to
protect the value of its investments and to avoid causing a
loss in market confidence, as discussed above.\345\
---------------------------------------------------------------------------
\343\ Treasury conversations with Panel staff (Dec. 16, 2009);
Treasury conversations with Panel staff (Dec. 3, 2009); see Moody's
Investors Service, Issuer Comment: Moody's sees AIG holding its ground
through 3Q09 (Nov. 9, 2009) (hereinafter ``Moody's sees AIG holding its
ground through 3Q09''); Moody's Investors Service, Issuer Comment: AIG
shows signs of stabilization but risks remain, says GAO (Sept. 28,
2009) (hereinafter ``AIG shows signs of stabilization but risks
remain'').
\344\ Treasury conversations with Panel staff (Dec. 3, 2009).
\345\ Treasury conversations with Panel staff (Dec. 16, 2009).
---------------------------------------------------------------------------
Treasury's AIGIP/SSFI investments are junior to the FRBNY's
revolving credit facility, which is collateralized by all the
assets of AIG and of its principal non-regulated subsidiaries.
This means that AIG's repayment of Treasury's AIGIP/SSFI equity
investments can only occur after it has completely repaid the
Revolving Credit Facility.
The Federal Reserve expects that the Revolving Credit
Facility will be repaid from the proceeds of the sale of
certain of AIG's assets and businesses, including the future
initial public offerings of its two insurance company
subsidiaries, the American International Assurance Company Ltd.
(AIA) and the American Life Insurance Company (ALICO),\346\ the
timing of which is contingent upon market conditions.\347\ As
discussed above, the ceiling on this facility has been reduced
gradually as a result of several restructurings since September
2008, as well as certain asset sales that have already
occurred, and currently stands at $35 billion, of which $22
billion, including principal and interest, but net of any fees,
is outstanding.\348\
---------------------------------------------------------------------------
\346\ With respect to the Maiden Lane facilities, FRBNY anticipates
that its loans to Maiden Lane II LLC and Maiden Lane III LLC, both of
which have six-year terms but may be extended at the Federal Reserve's
discretion, will be repaid with the proceeds from the interest and
principal payments or proceeds from the liquidation of the assets held
by the facilities. Letter from Scott G. Alvarez, general counsel, Board
of Governors of the Federal Reserve System, and Thomas C. Baxter, Jr.,
general counsel, Federal Reserve Bank of New York, to Neil Barofsky,
special inspector general, Troubled Asset Relief Program (Nov. 15,
2009). FRBNY has retained BlackRock Financial Management Inc. to manage
the Maiden Lane II and III asset portfolios, with the objective of
maximizing long-term cash flows to pay the loans (including principal,
interest, and contingent interest), while ``refraining from investment
actions that would disturb general financial market conditions.''
Federal Reserve Bank of New York, Maiden Lane II Transactions (online
at www.newyorkfed.org/markets/maidenlane2.html); Federal Reserve Bank
of New York, Maiden Lane III Transactions (online at
www.newyorkfed.org/markets/maidenlane3.html). The Federal Reserve has
indicated that it plans to hold the Maiden Lane assets until they
mature or increase enough in value so as to allow the Federal Reserve
to maximize its recovery through asset sales. AIG Restructuring Plan
Announcement, supra note 311. While these steps will take time, FRBNY
expects that the proceeds from the asset sales ``should enable AIG to
repay the New York Fed in full.'' House Committee on Financial
Services, Testimony of William C. Dudley, president and chief executive
officer of the Federal Reserve Bank of New York, Oversight of the
Federal Government's Intervention at American International Group,
111th Cong., at 2 (Mar. 24, 2009) (hereinafter ``Dudley Testimony
before House Financial Services Committee''); Senate Committee on
Banking, Housing, and Urban Affairs, Testimony of Donald L. Kohn, vice
chairman, Board of Governors of the Federal Reserve System, American
International Group: Examining what went wrong, government
intervention, and implications for future regulation, 111th Cong., at
10 (Mar. 5, 2009) (online at banking.senate.gov/public/
index.cfm?FuseAction=Files.View&FileStore_id=aa8bcdf2-f42b-4a60-b6f6-
cdb045ce8141) (stating that the investment manager for FRBNY projects
that the Maiden Lane II and Maiden Lane III loans ``will be repaid over
time with no loss to the taxpayer,'' even under highly stressed
scenarios).
\347\ Federal Reserve Board authorizes lending to AIG, supra note
110.
\348\ For further discussion of the terms and current status of the
revolving credit facility, see footnote 311.
---------------------------------------------------------------------------
Once AIG repays the Revolving Credit Facility in full and
thereby reduces its leverage, Treasury expects that AIG will be
able to access the capital markets on its own and consider
different capital market strategies to begin repaying its
obligations to Treasury.\349\ As Assistant Secretary Allison
stated, ``[u]pon the repayment in full of its debt to the
FRBNY, AIG will then focus on building value in its remaining
insurance businesses, Chartis, Domestic Life and Retirement
Services and American General and Valic, as well as ILFC, its
aircraft leasing business, and American General, its consumer
finance business.'' \350\ Treasury has indicated, however, that
among the strategies AIG may pursue to facilitate the repayment
of the AIGIP/SSFI Preferred is a recapitalization pursuant to
which all or a portion of them would be converted into common
stock.\351\ Such a recapitalization would boost AIG's capital
ratios, further buttressing its ability to maintain an
investment grade rating on a stand-alone basis and facilitating
Treasury's exit from its investment by permitting it to sell
common stock on the New York Stock Exchange as market
conditions permit.\352\
---------------------------------------------------------------------------
\349\ Treasury conversations with Panel staff (Dec. 16, 2009);
Treasury conversations with Panel staff (Dec. 3, 2009). For further
discussion on Treasury's recently published financial statements which
shows Treasury's view as to the expected loss amount from TARP AIGIP
investments in AIG, see Section D.6, infra.
\350\ Allison Testimony before House Oversight and Government
Reform Committee, supra note 118, at 11.
\351\ Treasury conversations with Panel staff (Dec. 16, 2009).
\352\ Treasury conversations with Panel staff (Dec. 16, 2009); see
also Allison Testimony before House Oversight and Government Reform
Committee, supra note 118, at 11 (stating that ``AIG and Treasury are
in active, ongoing discussions with regard to strategies to allow
Treasury to monetize its investment in AIG, once the FRBNY has been
paid in full'').
---------------------------------------------------------------------------
The stabilization of AIG ``so that it no longer poses a
disruptive threat'' \353\ to the financial system and the
economy will inevitably be a multi-year process.\354\ This is
especially the case given the current market conditions and
continued economic uncertainty. As Ben S. Bernanke, chairman of
the Board of Governors of the Federal Reserve System,
testified, ``[h]aving lent money to avert the risk of a global
financial meltdown, we found ourselves in the uncomfortable
situation of overseeing both the preservation of its value and
its dismantling, a role quite different from our usual
activities.'' \355\ Chairman Bernanke further stated that
``[u]sing our rights as a creditor, we have worked with AIG's
new management team to begin the difficult process of winding
down [AIG Financial Products] and to oversee the company's
restructuring and divestiture strategy.'' \356\
---------------------------------------------------------------------------
\353\ Dudley Testimony before House Financial Services Committee,
supra note 346.
\354\ Treasury conversations with Panel staff (Dec. 3, 2009). Then-
CEO Edward Liddy testified in May that he expects AIG to take three to
five years to complete its restructuring and repay Treasury and the
Federal Reserve. House Committee on Oversight and Government Reform,
Testimony of Edward Liddy, chief executive officer of AIG, AIG: Where
is the Taxpayer Money Going?, 111th Cong. (May 13, 2009) (online at
oversight.house.gov/images/stories/documents/20090512165421.pdf).
\355\ House Committee on Financial Services, Testimony of Ben S.
Bernanke, chairman of the Board of Governors of the Federal Reserve
System, Oversight of the Federal Government's Intervention at American
International Group, 111th Cong., at 4 (Mar. 24, 2009).
\356\ Id.
---------------------------------------------------------------------------
For its part, AIG has offered some insight into how it
expects to become profitable enough so that it can repay its
government assistance. Since September 2008, the company has
been focused on executing an asset disposition plan, preserving
and enhancing the value of key business operations, and placing
the company on a path toward future profitability.\357\ AIG
Chief Executive Officer Robert Benmosche states that his
immediate concerns are to restore stability and profitability
to the company.\358\ At a town hall-style meeting for company
employees held in August 2009, Mr. Benmosche stated that the
company plans to rebuild businesses and will not be pressured
by the federal government into selling assets at ``unfavorable
prices.'' \359\ AIG owes ``the U.S. government a lot of money
and we are not going to be able to pay it back just by our
profits,'' he said, and, AIG ``will sell some of the company
off but only at the right time at the right price.'' \360\ With
respect to the winding down of AIG Financial Products (AIGFP),
the business unit whose derivative trades in part brought AIG
to the brink of collapse, Mr. Benmosche has emphasized
maximizing asset values rather than selling the assets with
speed.\361\ Furthermore, Mr. Benmosche has postponed planned
sales of an investment-advisory unit and AIG's two Japanese
life insurance companies, in order to build value in those
assets. While the restructuring is still taking place, Mr.
Benmosche's recent statements suggest that AIG is moving away
from the path set by former Chief Executive Officer Edward
Liddy, who planned to sell off units last year before they lost
value, but then delayed those plans as deteriorating economic
conditions interfered with the company's ability to engage in
such sales. In AIG's view, the company has stabilized
significantly from where it was a year ago, and even six months
ago.\362\ AIG management also believes that the current amount
of U.S. government assistance is ``sufficient for the
restructuring process.'' \363\
---------------------------------------------------------------------------
\357\ AIG conversations with Panel staff (Dec. 11, 2009). See also
American International Group, AIG Reports Third Quarter 2009 Results
(Nov. 6, 2009) (online at www.aigcorporate.com/investors/2009_November/
AIG%203Q09%20Press%20Release.pdf) (hereinafter ``AIG Reports Third
Quarter 2009 Results'') (highlighting the progress AIG has made in its
restructuring efforts). AIG's restructuring plan has four key goals:
(1) Creation of strong, more independent insurance businesses
worthy of investor confidence to stabilize and protect the value of
AIG's important franchise businesses.
(2) Divestment of assets and implementation of restructuring
program to enable repayment of loans made by the U.S. government.
(3) Comprehensive review of AIG's cost structure to significantly
reduce operating costs.
(4) Wind-down of AIG's exposure to certain financial products and
derivatives trading activities to reduce excessive risk.
American International Group, Inc., The Restructuring Plan (online
at www.aigcorporate.com/restructuring/index.html) (accessed Jan. 13,
2010).
\358\ Hugh Son and Boris Cerni, Benmosche Says He'll Rebuild Units
to Repay U.S., Bloomberg (Aug. 20, 2009) (online at www.bloomberg.com/
apps/news?pid=20601087&sid=aMclXyXbD2HA).
\359\ Id.
\360\ Id.
\361\ Id.; AIG conversations with Panel staff (Dec. 11, 2009).
\362\ AIG conversations with Panel staff (Dec. 11, 2009).
\363\ AIG conversations with Panel staff (Dec. 11, 2009).
---------------------------------------------------------------------------
The Trust Shares will be disposed of separately. They are
held in a trust for the benefit of the United States Treasury,
overseen by three independent trustees.\364\ Pursuant to the
terms of the Credit Facility Trust Agreement, the trustees are
responsible for managing the equity stake in matters such as
voting and for establishing a plan to dispose of the shares
over time, but must refrain from interfering in the day-to-day
management of the company.\365\ The Credit Facility Trust
Agreement provides that the trustees must act ``in or not
opposed to the best interests of Treasury.'' \366\ The Credit
Facility Trust Agreement further stipulates that the trustees
cannot be Treasury or FRBNY employees.
---------------------------------------------------------------------------
\364\ The three independent trustees are Jill M. Considine, former
chairman of the Depository Trust & Clearing Corporation; Chester B.
Feldberg, former chairman of Barclays Americas; and Douglas L. Foshee,
president and chief executive officer of El Paso Corporation. The
Treasury Department has no control over the trust and cannot direct the
trustees.
\365\ AIG Credit Facility Trust Agreement, supra note 313.
\366\ AIG Credit Facility Trust Agreement, supra note 313. Note
that the trust is for the benefit of the United States Treasury, not
the United States Department of the Treasury. The AIG Credit Facility
Trust Agreement uses both terms without explaining the distinction,
leaving some question as to whether the Treasury Department is the
trust's beneficiary. As noted above, the Agreement stipulates that
``any property distributable to Treasury as beneficiary hereunder shall
be paid to Treasury for deposit into the General Fund as miscellaneous
receipts.'' Id. at Sec. 1.01.
---------------------------------------------------------------------------
The articulated justification for establishing a trust was
to avoid conflicts of interest. The Credit Facility Trust
Agreement provides, ``to avoid any possible conflict with its
supervisory and monetary policy functions, FRBNY does not
intend to exercise any discretion or control over the voting
and consent rights associated with the Trust Stock.'' \367\ In
exercising their discretion under the Credit Facility Trust
Agreement, the trustees are advised, however, that FRBNY
believes that AIG ``being managed in a manner that will not
disrupt financial market conditions, [is] consistent with
maximizing the value of the Trust Stock.'' \368\ Any proceeds
from the ultimate sale of the Trust Shares will go directly to
the U.S. Treasury.
---------------------------------------------------------------------------
\367\ AIG Credit Facility Trust Agreement, supra note 313; Dudley
Testimony before House Financial Services Committee, supra note 346
(stating that ``[i]n light of the inherent conflicts that would arise
from either the U.S. government or the Federal Reserve exerting
ownership control over the world's largest insurer, the Federal
Reserve, with the support of the Treasury Department, directed in the
loan agreement that an approximately 79.9 percent equity interest in
AIG be issued to an independent trust established for the sole benefit
of the United States Treasury'').
\368\ AIG Credit Facility Trust Agreement, supra note 313, at 2.0.
---------------------------------------------------------------------------
While a trust structure does provide some important
benefits and value, the Panel notes that there have been
various criticisms raised about the AIG trust structure. As the
Panel noted in its September Oversight Report, Professor J.W.
Verret articulated three criticisms of the AIG trust structure
in his May 2009 testimony before the House Oversight and
Government Reform Committee.\369\ First, he discussed how the
AIG trustees are required to ``manage the trust in the best
interests of Treasury, rather than the U.S. taxpayers
specifically.'' \370\ Second, he believes that the trust should
require the trustees to act to maximize the value for the trust
beneficiaries.\371\ Third, Professor Verret raised concerns
that the Trust Agreement might allow trustees to benefit
personally from investment opportunities that belong to
AIG.\372\ Some members of Congress have also raised concerns
about the AIG trust structure. Representatives Darrell Issa (R-
CA) and Spencer Bachus (R-AL) have sent letters to Treasury and
SIGTARP calling for an audit of the AIG trust and setting out
criticisms of the trust structure, including the ``lack of
standard fiduciary duties,'' the Trust's ``broad
indemnification of the actions of the trustees,'' and lack of
accountability on the part of the trustees.\373\ Congressman
Gerry Connolly (D-VA) has expressed some concern that the AIG
trustees are not independent enough from the Federal Reserve,
and do not have enough power relative to the Federal Reserve in
exercising their duties.\374\ Furthermore, Congressman Edolphus
Towns (D-NY), chairman of the House Committee on Oversight and
Government Reform, and Congressman John Tierney (D-MA), have
both expressed concerns about the actual level of power the
trustees have over AIG decisions, the degree of transparency
and accountability their decisions have, and the overall lack
of clarity as to what role they play.\375\
---------------------------------------------------------------------------
\369\ House Oversight and Government Reform Committee, Testimony of
Professor J.W. Verret, Panel II: AIG: Where is the Taxpayer's Money
Going? (May 13, 2009) (online at
oversight.house.gov/images/stories/documents/20090512175538.pdf)
(hereinafter ``Verret Testimony before House Oversight and Government
Reform Committee''). Professor Verret is an assistant professor of law
at George Mason University, and a senior scholar with the Mercatus
Center. He has also served as a consultant for SIGTARP and the GAO on a
corporate governance audit for TARP-recipient institutions.
\370\ Id.
\371\ Id.
\372\ Id.
\373\ Letter from Representatives Spencer Bachus and Darrell Issa
to Neil Barofsky (Aug. 31, 2009); see also Letter from Representatives
Spencer Bachus and Darrell Issa to Secretary Timothy F. Geithner (Aug.
31, 2009).
\374\ See House Committee on Oversight and Government Reform,
Transcript Statement of Representative Connolly, AIG: Where is the
Taxpayer Money Going?, 111th Cong. (May 13, 2009) (questioning the
distinction between the role of the trustees and ``those members of the
Federal Reserve who sit in on'' every board and committee meeting).
\375\ See House Committee on Oversight and Government Reform,
Transcript Statement of Chairman Towns, AIG: Where is the Taxpayer
Money Going?, 111th Cong. (May 13, 2009) (stating ``I'm just thinking
that if you are trustees of a company that has set a record in losses,
it seems to me you should have something to say--should put something
somewhere. I mean, if not, you should feel extremely guilty'' and also
commenting that ``it's not clear to me and other members here exactly
what you do in terms of your role that you're playing in this''); House
Committee on Oversight and Government Reform, Transcript Statement of
Representative Tierney, AIG: Where is the Taxpayer Money Going?, 111th
Cong. (May 13, 2009).
---------------------------------------------------------------------------
For its part, the GAO has noted that any trust raises some
important efficiency and management concerns since the
structure takes control of the investment out of the
government's hands substantially and requires the trustees to
``develop their own mechanisms to monitor the investments and
analyze the data needed to assess the financial condition of
the institutions or companies and decide when to divest.''
\376\
---------------------------------------------------------------------------
\376\ U.S. Government Accountability Office, Troubled Asset Relief
Program: Status of Government Assistance Provided to AIG, GAO-09-975,
at 18 (September 2009) (online at www.gao.gov/new.items/d09975.pdf)
(hereinafter ``GAO Report on AIG'').
---------------------------------------------------------------------------
Additionally, tensions have arisen between AIG, trustees,
and other government regulators, despite the existence of a
trust.\377\ Recent press reports indicating that one of the AIG
trustees was contemplating whether to resign suggest the
potential conflicts between trustees and other government
regulators (e.g., the special master for compensation) that can
arise even when a trust structure is used.
---------------------------------------------------------------------------
\377\ In recent weeks, AIG has seen the departures of some of its
senior management, including its vice chairman for legal, human
resources, corporate affairs, and corporate communications, and its
chief compliance and regulatory officer. These employees resigned due
to the reduction in base salary that was mandated by Special Master for
Compensation Kenneth Feinberg.
---------------------------------------------------------------------------
c. Analysis of Intended Exit Strategy
Earlier this year, no real exit strategy was apparent with
respect to AIG. At the Panel's hearing on April 21, 2009,
Secretary Geithner was unable to explain clearly the
Administration's exit strategy.\378\ Secretary Geithner could
only point to the fact that the federal government ``came into
this financial crisis without a legal framework that allowed it
to intervene and manage more effectively the risk posed by
institutions like AIG . . . We still do not have that authority
today.''
---------------------------------------------------------------------------
\378\ Congressional Oversight Panel, Testimony of Treasury
Secretary Timothy F. Geithner (Apr. 21, 2009) (online at
cop.senate.gov/documents/transcript-042109-geithner.pdf) (in response
to question from Rep. Hensarling).
---------------------------------------------------------------------------
While the legal framework necessary for proper resolution
of a large failing financial institution still does not exist,
improvements in market conditions have allowed Treasury to
better articulate an exit strategy for AIG. Treasury's intent
to balance taxpayer return, institutional stability and
systemic stability, however, tips in favor of institutional and
systemic stability, which at present are very much the same
thing. Treasury believes that AIG still represents a
significant systemic weakness and would be given non-investment
credit ratings by the rating agencies without government
support, and any exit strategy is constrained by that
fact.\379\ Additionally, changing circumstances mean that
Treasury's exit strategy has to be adjusted on a continuous
basis. While the initial plan by the Federal Reserve and
Treasury was to sell off certain divisions of AIG quickly,
Treasury and the Federal Reserve indicated in their March
announcement that deteriorating economic conditions (and the
difficulty of obtaining reasonable prices) had interfered with
that objective. Their goal became reducing the size of AIG by
disposing of assets once the market improves.\380\ AIG has had
mixed success in some of its restructuring plans, such as
separating and strengthening core insurance businesses,
divesting assets, reducing operating expenses, and winding down
its exposure to certain financial products and derivatives
trading activities in order to reduce risk. Given the
complexity and extensiveness of AIG's restructuring, however,
this is a process that will take several years.\381\ Even some
critics of the AIG bailout recognize that the U.S. government
cannot end its assistance to AIG anytime soon because of the
size of its assistance as well as continued economic
uncertainty.\382\
---------------------------------------------------------------------------
\379\ Treasury conversations with Panel staff (Dec. 1, 2009).
\380\ AIG Restructuring Plan Announcement, supra note 311;
Participation in AIG Restructuring Plan Announcement, supra note 319.
\381\ See AIG Reports Third Quarter 2009 Results, supra note 357
(noting that AIG's wind-down has slowed as the company expects to
accomplish its restructuring plan ``over a longer time frame than
originally contemplated''); Treasury conversations with Panel staff
(Dec. 3, 2009); Treasury conversations with Panel staff (Dec. 16,
2009).
\382\ Professor Charles Calomiris, Henry Kaufman Professor of
Financial Institutions at Columbia Business School, made the following
statement with respect to AIG on an NPR radio broadcast in March 2009:
``I've made most of my career talking about the dangers of rewarding
failure in financial institutions. So it's especially ironic that I'm
here on your program telling people that right now, that isn't the
right answer. Yes, it doesn't feel very good, it creates bad
incentives, too. . . . But right now, we have to also deal with what
the cards that were dealt. And the cards that we're dealt is a
financial system, the brain center of the economy, that's desperately
in need of propping up. And if we don't prop it up, we're the ones who
are going to not get credit. We're the ones who are going to suffer the
consequences of a very depressed economy for a very long time. We're
the ones who are going to lose our jobs, our homes and our retirement
savings.'' Interview with Charles Calomiris, Talk of the Nation, NPR
radio broadcast (Mar. 17, 2009) (online at www.npr.org/templates/
transcript/transcript.php?storyId=102006900).
---------------------------------------------------------------------------
With respect to timing, as with most TARP-related
investments, the U.S. government has stated that it would like
AIG to repay its federal assistance ``as soon as practicable''
(and AIG has also indicated a desire to do so as soon as
possible),\383\ but it seems likely that a complete disposition
of Treasury's holdings in AIG will occur over several years,
especially in light of the size of its stake as well as its
objective to achieve ``full repayment'' of the government
assistance that AIG has received.\384\ The Panel notes that the
AIG intervention is somewhat unique in that it involves both
Treasury and FRBNY, meaning that the actions of both Treasury
and FRBNY have an impact on what the U.S. government holds and
what steps might be taken in the future.
---------------------------------------------------------------------------
\383\ AIG conversations with Panel staff (Dec. 11, 2009).
\384\ Dudley Testimony before House Financial Services Committee,
supra note 346, at 2. However, even Treasury believes that achieving
this goal is doubtful, as its recently published financial statements
show Treasury's estimate of the expected loss from TARP AIGIP
investments in AIG. See Section D.6, infra.
---------------------------------------------------------------------------
A ``buy-and-hold'' strategy, which appears to be the
objective of Treasury and the Federal Reserve, has several
advantages. First, a satisfactory return on collateralized debt
obligations (CDOs) and residential mortgage-backed securities
(RMBS) purchased by Maiden Lane II LLC and Maiden Lane III LLC
will likely take time, given the current difficulties in
obtaining reasonable prices for these types of assets.\385\
Second, a long-term approach may increase AIG's ability to
repay its obligations to the federal government as economic
conditions continue to improve. ``The slower approach to
restructuring could help AIG to generate more favorable values
from its business portfolio than would be the case under rushed
asset sales,'' Moody's Investors Service has noted.\386\ Third,
Mr. Benmosche has cautioned that corporate earnings will likely
remain subject to ``continued volatility'' as the company
continues its restructuring process. In early March 2009, AIG
announced a loss of $61.7 billion for the fourth quarter of
2008, the largest quarterly corporate loss in U.S. history. AIG
only recently posted a second consecutive quarterly profit.
Since AIG continues to rely heavily on the federal government
for liquidity and capital, it is still too early to know
whether this recent trend in earnings will continue.
---------------------------------------------------------------------------
\385\ The Federal Reserve Bank of New York stated that this equity
interest ``has the potential to provide a substantial financial return
to the American people should the $85 billion loan, as anticipated,
provide AIG with the intended breathing room to execute a value-
maximizing strategic plan.'' Federal Reserve Bank of New York,
Statement by the Federal Reserve Bank of New York Regarding AIG
Transaction (Sept. 29, 2008) (online at www.newyorkfed.org/newsevents/
news/markets/2008/an080929.html).
\386\ Moody's sees AIG holding its ground through 3Q09, supra note
343.
---------------------------------------------------------------------------
While Treasury might consider selling now and realizing a
loss or pursuing an orderly liquidation of AIG's businesses
outside the bankruptcy process, Treasury indicated that such
options do not seem feasible or practical given the company's
substantial connections to various parts of the insurance and
financial products sectors.\387\ First, the value of the
taxpayers' investment in AIG would be jeopardized substantially
in a liquidation, since Treasury would receive little or no
value on its preferred securities holdings; moreover, market
confidence could be shaken by any such action by Treasury.\388\
Second, Treasury discussed how it reached a mutual agreement
with the Federal Reserve to assist AIG under a unique set of
circumstances, largely due to the systemic risk concerns
created by the company's substantial size and exposure to
various sectors of the financial markets, including insurance
and credit default swaps (CDS) and derivatives.\389\ In
conversations with Panel staff, Treasury staff emphasized that
its exit from AIG is constrained by the impact of credit rating
agency downgrades, which would trigger the posting of
additional collateral.\390\
---------------------------------------------------------------------------
\387\ Treasury conversations with Panel staff (Dec. 16, 2009).
\388\ Id.
\389\ Id.; Treasury conversations with Panel staff (Dec. 3, 2009).
\390\ AIG entered into credit-default swaps with counterparties who
were authorized to require AIGFP to post collateral upon the occurrence
of certain events relating to the underlying CDOs, including declines
in market value as well as credit rating downgrades. Treasury
conversations with Panel staff (Dec. 3, 2009). A significant portion of
AIGFP's Guaranteed Investment Agreements (GIAs), structured financing
arrangements and financial derivative transactions included provisions
that required AIGFP, ``upon a downgrade of AIG's long-term debt
ratings, to post collateral or, with the consent of the counterparties,
assign or repay its positions or arrange a substitute guarantee of its
obligations by an obligor with higher debt ratings.'' American
International Group, 2008 Annual Report, Form 10-K, Item 7 (online at
www.aigcorporate.com/
investors/annualreports_proxy.html). In addition, certain downgrades of
AIG's long-term senior debt ratings (resulting from various default
events, including bankruptcy due to dissolution, insolvency,
appointment of a conservator, etc.) would permit either AIG or the
counterparties to elect early termination of contracts. See 1992 ISDA
section 5. (Treasury confirmed that AIG had contracts with this type of
wording.)
---------------------------------------------------------------------------
While most of the initial focus in the AIG intervention was
on the AIGFP transactions, Treasury points out that the
intervention was also driven by the positions of AIG's
insurance companies.\391\ Four major subsidiaries are
consolidated with AIG. While each is functionally regulated by
the states where it is licensed, and each state imposes its own
capital requirements, Treasury noted that the subsidiaries'
viability and performance are subject to the capacity to
maintain investment-grade credit. To some, the notion that
several insurance players could cause the system to be
destabilized substantially seems unlikely, given that insurance
underwriters and agencies have gotten into trouble many times
before, and no major crisis has resulted. Panel staff pressed
this issue with Treasury, and Treasury's response underscores
how the entirety of its exit strategy with respect to AIG is
based on the reaction of the credit rating agencies.\392\ In
Treasury's view, if the government does anything to cause a
substantial credit downgrade for the AIG parent, it would
result in an unraveling of the business of its subsidiaries.
AIG has made efforts to sell two of its insurance subsidiaries
(American International Assurance Company Ltd. (AIA), and
American Life Insurance Company (ALICO)) in order to create
some independence from the parent and AIGFP.\393\ The credit
rating agencies have indicated that if AIG were to sell off the
remaining two insurance subsidiaries, such actions would
substantially affect AIG's ongoing business and thereby trigger
further downgrades,\394\ unless the proceeds of the sales would
be sufficient to pay off all of the company's debt, which is
not likely.\395\ While a downgrade of a parent does not
necessarily result in the downgrade of a well-capitalized
subsidiary, A.M. Best, a leading credit rating agency for the
insurance industry, indicated to Treasury that if the parent is
no longer rated investment grade, it would be very difficult to
maintain an investment grade rating on a subsidiary.\396\ While
policyholders would likely be protected in the event of a
downgrade, Treasury noted that, given that there are 130
million AIG life insurance policyholders, there would be
significant interruption in the flow of insurance claim
payments as a result of any such downgrade, at least for some
time.\397\ This would result in a ``loss of confidence among
policyholders,'' and a possible run in the insurance industry,
similar to a bank run.\398\
---------------------------------------------------------------------------
\391\ Treasury conversations with Panel staff (Dec. 16, 2009);
Treasury conversations with Panel staff (Dec. 3, 2009).
\392\ Treasury conversations with Panel staff (Jan. 5, 2010).
\393\ Treasury conversations with Panel staff (Jan. 5, 2010). As
discussed in Note 312, AIG recently decided to have a public stock
offering for AIA on the Hong Kong stock exchange (which might raise as
much as $20 billion).
\394\ According to Treasury, such downgrades would also trigger the
remaining AIGFP debt, resulting in the need to post more collateral as
counterparties would terminate the Guaranteed Investment Agreements
(GIAs), structured financing arrangements and financial derivative
transactions.
\395\ Treasury conversations with Panel staff (Jan. 5, 2010).
\396\ Treasury conversations with Panel staff (Jan. 5, 2010).
\397\ Treasury conversations with Panel staff (Dec. 3, 2009).
\398\ Agency Financial Statement 2009, supra note 32.
---------------------------------------------------------------------------
Furthermore, AIG remains exposed to financial products,
including over $1 trillion notional value of credit-default
swaps and other derivatives, according to Treasury.\399\ As a
result of this exposure, any credit rating downgrade would, in
Treasury's view, cause serious destabilization and volatility
in those markets, as counterparties liquidated their contracts
and asserted their claims.\400\ Additionally, Treasury noted
that such circumstances could result in real discontinuity in
pricing, and not just among the counterparties.\401\ The Panel
notes, however, that many of these contracts are partially
canceling, so AIG's net notional exposure is much smaller than
the notional value articulated by Treasury. According to the
Depository Trust & Clearing Corporation, AIG's CDS gross
notional outstanding and net notional outstanding were $82.4
billion and $7.4 billion, respectively, as of December 31,
2009.\402\ The gross notional outstanding represents the
aggregate dollar value exposure on all CDS contracts. The net
notional outstanding, however, represents the maximum funds
that would be transferred on outstanding credit default swaps
from net sellers to net buyers were a credit event to occur on
December 31, 2009.
---------------------------------------------------------------------------
\399\ Treasury conversations with Panel staff (Dec. 3, 2009);
Treasury conversations with Panel staff (Dec. 16, 2009).
\400\ Treasury conversations with Panel staff (Dec. 3, 2009).
\401\ Treasury conversations with Panel staff (Dec. 3, 2009).
\402\ See The Depository Trust & Clearing Corporation, Trade
Information Warehouse Credit Derivatives Data Report, Table 6: Top 1000
Reference Entities (Gross and Net Notional) for the Week ending: 2010-
01-01 (www.dtcc.com/products/derivserv/
data_table_i.php?id=table6_current) (accessed Jan. 6, 2010). AIG's CDS
notional outstanding figures include the CDS gross and net notional
outstanding for American General Finance Corp. and International Lease
Finance Corp., both of whom are subsidiaries of AIG Capital Corp., a
subsidiary of AIG. The CDS securities for American General Finance
Corp. and International Lease Finance Corp. trade under their own
unique CDS tickers but are underneath the corporate AIG, Inc. umbrella
and, therefore, represent CDS exposure for AIG, Inc. The CDS gross
notional outstanding and net notional outstanding for these two
subsidiaries comprise $38.3 billion and $3.5 billion of the total gross
and net notional outstanding for AIG, Inc.
---------------------------------------------------------------------------
In some ways, it is difficult to assess the progress that
AIG itself is making towards restructuring because recent
changes in senior management have altered the company's
direction. The Economist has characterized AIG's strategy as
``oscillat[ing] between retrenchment and rebirth, depending on
who is in charge on any given day.'' \403\ Based upon the
available information, however, it seems that AIG's revised
restructuring strategy, as articulated by Mr. Benmosche, has
resulted in some progress in the company's path toward
stabilizing and repaying at least part of its government
assistance. In his recent testimony before the Panel, Secretary
Geithner discussed how the company's new board and management
are ``working very hard and effectively'' at strengthening
AIG's core insurance business while reducing the AIGFP
portfolio.\404\
---------------------------------------------------------------------------
\403\ The Living Dead, The Economist (Nov. 5, 2009) (online at
www.economist.com/opinion/displaystory.cfm?story_id=14803171) (arguing
that AIG is the ``biggest financial zombie of all'').
\404\ Agency Financial Statement 2009, supra note 32.
FIGURE 12: NET INCOME/(LOSS) ATTRIBUTABLE TO AIG
[Dollars in millions]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Q1 2008 Q2 2008 Q3 2008 Q4 2008 Q1 2009 Q2 2009 Q3 2009
--------------------------------------------------------------------------------------------------------------------------------------------------------
Net Income/(Loss)............................................ $(7,805) $(5,357) $(24,468) $(61,659) $(4,353) $1,822 $455
--------------------------------------------------------------------------------------------------------------------------------------------------------
As noted above and shown in Figure 12, AIG has now posted
two consecutive quarterly profits. These earnings results
prompted Moody's to maintain its credit ratings on AIG in early
November 2009 after concluding that the company should be able
to repay its Federal Reserve loans and ``much or all'' of
Treasury's TARP investments if financial markets continue to
stabilize.\405\ In discussing the profits, AIG management
highlights the company's retention of existing customers as
well as its ability to attract new customers.\406\ Through
October 31, 2009, AIG had entered into agreements to sell or
complete the sale of operations and assets that are expected to
generate roughly $5.6 billion in proceeds that will, upon
closing, be used to repay outstanding borrowings and reduce the
amount of the FRBNY revolving credit facility.\407\ There are
also some indications that AIG has garnered success in selling
fixed annuities to bank customers and that more insurance
customers are keeping their policies with AIG, both of which
might provide some positive news for the company's future. On
the other hand, the Panel cannot determine if this is due to
good business practices, or simply a result of government
involvement. This uncertainty emphasizes once again the
difficulty the U.S. government faces in backing out of this
involvement.
---------------------------------------------------------------------------
\405\ See Moody's sees AIG holding its ground through 3Q09, supra
note 343.
\406\ AIG conversations with Panel staff (Dec. 11, 2009).
\407\ AIG Reports Third Quarter 2009 Results, supra note 357;
American International Group, SEC Form 10-Q, Third Quarter 2009 (online
at www.aigcorporate.com/investors/2009_November/
2517447_17501T04_CNB.pdf) (hereinafter ``AIG SEC Form 10-Q'').
---------------------------------------------------------------------------
The Panel notes, however, that it is still too early to
reach conclusions about the effectiveness of AIG's
restructuring, and that the company continues to face steep
obstacles in its restructuring efforts and path toward
profitability. AIG's restructuring plan still relies heavily on
government assistance, and it will take more than two
profitable earnings quarters for the company to stabilize and
be able to repay the entirety of its government support. As the
GAO noted recently, ``[t]he sustainability of any positive
trends of AIG's operations and repayment efforts is not yet
clear. The government's ability to recoup the federal
assistance money depends on the ``long-term health of AIG, its
sales of certain businesses, and the maturation or sales of
assets in the Maiden Lanes, among other factors.'' \408\ In a
recent interview, Mr. Benmosche stated that the company remains
too large and unwieldy. ``I feel strongly that AIG is too big
today--it is extremely complex to manage and we need to make
sure it's more transparent, that it's smaller, and that we can
make it on our own,'' he said.\409\ As noted above, AIG has
made some preliminary progress with respect to its commitment
to split off two sizeable foreign life insurance units, which
it said previously would be broken off before the end of 2009.
AIG's assets, many of which are derivative contracts tied to
mortgage debt, could again lose value, or the company could be
forced to take losses as it sells them off. Another issue of
some concern is AIG's ability to refinance debt obligations as
they come due in coming years. The AIG parent company and two
of its business units face significant maturities in the near
term,\410\ and whether AIG has the capacity to refinance these
debt obligations remains to be seen. As it writes down the
value of sold-off assets, AIG's ability to achieve a long run
of profitable quarters will be impacted. For example, as a
result of its recently completed debt-for-equity swap involving
its two life insurance subsidiaries with FRBNY, AIG will take a
$5.7 billion restructuring charge in the fourth quarter of
2009, which will likely offset any profits AIG has made in this
same period. It is also unclear at this time whether and to
what extent AIG will be able to access the capital markets, a
necessary step before it can repay its AIGIP/SSFI assistance,
and whether AIG will be able to maintain its single ``A''
credit rating or face further downgrades. In addition, much of
the recent improvement in AIG's financial condition can be
reasonably attributed to the substantial Treasury and Federal
Reserve assistance that AIG has received since late 2008.\411\
---------------------------------------------------------------------------
\408\ GAO Report on AIG, supra note 376, at 51.
\409\ Serena Ng, AIG Chief: Key Staff Suffer Financially, Wall
Street Journal (Dec. 15, 2009) (online at online.wsj.com/article/
SB10001424052748703954904574596501071391332.html).
\410\ American International Group, 2008 Annual Report, Form 10-K,
at 274-75 (online at phx.corporate-ir.net/External.File?item=
UGFyZW50SUQ9Mjg0NHxDaGlsZElEPS0xfFR5cGU9Mw==&t=1) (detailing aggregate
annual maturities of long-term debt obligations (based on final
maturity dates); AIG conversations with Panel staff (Dec. 16, 2009).
\411\ See Moody's sees AIG holding its ground through 3Q09, supra
note 343; AIG shows signs of stabilization but risks remain, supra note
343 (noting that the U.S. government has continued to serve as AIG's
primary liquidity and capital source and that the ``restructuring plan
still relies heavily on government support.'' In addition, Moody's
Investors Service emphasizes that its current ratings on AIG ``reflect
[its] understanding that the government is committed to working with
the firm to maintain its ability to meet obligations as they come due
throughout the restructuring process''); see also GAO Report on AIG,
supra note 376, at 43-51.
---------------------------------------------------------------------------
The most troublesome part of AIG remains AIGFP.\412\ As of
September 30, 2009, the notional amount of the AIGFP
derivatives portfolio had been reduced by 28 percent from
December 2008, with a 13 percent reduction in the third quarter
of 2009 alone, but Maiden Lane III had not eliminated AIGFP's
exposure to credit default swaps.\413\ In discussions with
Panel staff, Treasury expressed confidence that the entire
AIGFP will be unwound by the end of 2010.\414\ However, a
recent AIG filing with the SEC suggests that it remains unclear
whether AIG will need to post additional collateral if credit
markets experience continued deterioration and, hence, whether
it will be exposed to further losses as well as risks for a
much longer period of time.\415\ Given the continued economic
uncertainty, AIGFP is unable to predict accurately when it will
be able to retire its credit default swap portfolio in full.
---------------------------------------------------------------------------
\412\ The Panel notes that SIGTARP issued a recent audit discussing
the government's intervention in AIG and the controversy over AIG
counterparty payments and why they were paid at par value. See SIGTARP,
Audit: Factors Affecting Efforts to Limit Payments to AIG
Counterparties, at 25 (Nov. 17, 2009) (online at www.sigtarp.gov/
reports/audit/2009/
Factors_Affecting_Efforts_to_Limit_Payments_to_AIG_Counterparties.pdf).
\413\ See AIG Reports Third Quarter 2009 Results, supra note 357;
see also AIG SEC Form 10-Q, supra note 407.
\414\ Treasury conversations with Panel staff (Dec. 16, 2009);
Allison Testimony before House Oversight and Government Reform
Committee, supra note 118, at 11.
\415\ See AIG SEC Form 10-Q, supra note 407.
---------------------------------------------------------------------------
The Panel notes the steps the government has taken to
address AIG's systemic risk concerns and prevent it from facing
imminent collapse again, including a significant amount of
information sharing between Treasury and FRBNY personnel with
respect to the monitoring of AIG's restructuring process.\416\
These steps by themselves do not mean, however, that the
government's exit will come quickly or that the decision to
intervene in AIG will prove to be a profitable one. As
discussed above, there are significant obstacles to the
company's restructuring process, and Treasury's most recent
estimates are that some significant portion of those funds will
never be recovered.\417\ Treasury appears not, however, to have
been seeking to maximize profits in this intervention.\418\
---------------------------------------------------------------------------
\416\ Treasury conversations with Panel staff (Dec. 16, 2009).
\417\ In its recently issued TARP financial statements for the year
ended September 30, 2009, Treasury noted that the prospect for full
repayment from the AIGP is doubtful. Unlike its banking investments,
for which it expects to make money, Treasury does not have the same
level of confidence with respect to its efforts to stabilize AIG. As of
September 30, 2009, Treasury reports that AIGIP will result in a net
cost to the taxpayers of $30.427 billion. As Secretary Geithner stated
in his recent testimony before the Panel, ``[t]here is a significant
likelihood we will not be repaid from our investments in AIG.'' COP
December Geithner Hearing Transcript, supra note 210. Assistant
Secretary Allison confirmed the likelihood of losses on AIG, ``[b]ased
on current valuations,'' in his recent testimony before the House
Oversight and Government Reform Committee. Allison Testimony
Transcript, supra note 135.
\418\ Treasury conversations with Panel staff (Dec. 16, 2009).
---------------------------------------------------------------------------
Treasury and the Federal Reserve have taken extraordinary
steps to keep AIG from facing bankruptcy. As discussed above,
the government's exit strategy has to be adjusted on a
continuous basis due to changing circumstances, meaning that
AIG's restructuring is an iterative process. While neither AIG
management nor Treasury believes that additional assistance is
necessary at this time, Treasury and FRBNY continue to monitor
the company's restructuring process and financial condition
closely.\419\ Treasury remains cognizant of the fact, however,
that it will be difficult for the company ``to prosper under
[the U.S. government's] majority ownership,'' and Treasury
expressed the view that the U.S. government would rather make
an orderly exit out of AIG ``than [make] a lot of money on
it.'' \420\
---------------------------------------------------------------------------
\419\ Treasury conversations with Panel staff (Dec. 16, 2009); AIG
conversations with Panel staff (Dec. 11, 2009); Allison Testimony
Transcript, supra note 135 (noting that Treasury ``believe[s] that the
investments [it] made should be adequate'').
\420\ Treasury conversations with Panel staff (Dec. 16, 2009); see
also Allison Testimony Transcript, supra note 135 (noting that ``[t]he
TARP investments were not made to make money but to help avert a
collapse of our financial system'').
---------------------------------------------------------------------------
7. Chrysler and GM
a. Acquisition of Assets and Current Value
The government's holdings in Chrysler and General Motors
(GM) derive from a sequence of events that started in late
2008, described more fully in the Panel's September
report.\421\ Facing a crippling lack of access to the credit
markets due to the global financial crisis, Chrysler and GM
appealed to Congress for assistance. The government eventually
provided assistance under a new TARP initiative, the Automobile
Industry Financing Program (AIFP). Chrysler and GM received
bridge loans of $4 billion and $19.4 billion,\422\
respectively.\423\
---------------------------------------------------------------------------
\421\ See COP September Oversight Report supra note 108, at 7-23.
\422\ Treasury invested an initial amount of $13.4 billion in
December 2008, and had loaned an additional $6 billion to GM by June
2009. See Agency Financial Statement 2009, supra note 32, at 34.
\423\ For the terms of the loans, see generally U.S. Department of
the Treasury, Loan and Security Agreement [GM] (Dec. 31, 2008) (online
at www.financialstability.gov/docs/agreements/
GM%20Agreement%20Dated%2031%20December%202008.pdf) (hereinafter ``Loan
and Security Agreement [GM]''); U.S. Department of the Treasury, Loan
and Security Agreement [Chrysler] (Dec. 31, 2008) (online at
www.financialstability.gov/docs/agreements/Chysler_12312008.pdf)
(hereinafter ``Loan and Security Agreement [Chrysler]'').
---------------------------------------------------------------------------
The loans were extended to Chrysler and GM under terms and
conditions specified in separate loan and security agreements.
Under the initial agreements, the Bush Administration required
each company to demonstrate its ability to achieve ``financial
viability,'' which was defined as ``positive net value, taking
into account all current and future costs,'' and the ability to
``fully repay the government loan.'' \424\ In February 2009,
both companies submitted plans for achieving financial
viability, which were reviewed by officials in the
Administration.
---------------------------------------------------------------------------
\424\ White House, Fact Sheet: Financing Assistance to Facilitate
the Restructuring of Auto Manufacturers to Attain Financial Viability
(Dec. 19, 2008) (online at georgewbush-whitehouse.archives.gov/news/
releases/2008/12/20081219-6.html). The loans also imposed conditions
related to operations, expenditures, and reporting.
---------------------------------------------------------------------------
The Administration concluded that Chrysler could not
achieve viability as a stand-alone company and that it would
have to develop a partnership with another automotive company
or face bankruptcy.\425\ The Administration concluded that GM's
financial viability plan relied on overly optimistic
assumptions about the company and future economic
developments.\426\
---------------------------------------------------------------------------
\425\ U.S. Department of the Treasury, Chrysler February 17 Plan:
Determination of Viability, at 1 (Mar. 30, 2009) (online at
www.financialstability.gov/docs/AIFP/Chrysler-Viability-
Assessment.pdf).
\426\ U.S. Department of the Treasury, GM February 17 Plan:
Determination of Viability, at 1 (Mar. 30, 2009) (online at
www.financialstability.gov/docs/AIFP/GM-Viability-Assessment.pdf).
---------------------------------------------------------------------------
Ultimately, both companies entered bankruptcy and, with
debtor-in-possession financing provided by the federal
government,\427\ underwent significant restructuring. In the GM
bankruptcy, some of the debt owed to the U.S. government was
converted into equity. All told, U.S. taxpayers expended $49.9
billion of TARP funds in conjunction with GM's bankruptcy and
the subsequent creation of what is called New GM.\428\ The
Chrysler transactions expended $12.8 billion of TARP funding.
Today, the U.S. government owns:
---------------------------------------------------------------------------
\427\ Treasury provided a total of $8.5 billion in working capital
and exit financing to facilitate Chrysler's Chapter 11 restructuring.
U.S. Department of the Treasury, AIFP Outlays for COP (Aug. 18, 2009).
It provided a total of approximately $30.1 billion of financing to
support GM's Chapter 11 restructuring. See also Allison Testimony
before House Oversight and Government Reform Committee, supra note 118,
at 4.
\428\ COP September Oversight Report, supra note 108, at 54.
---------------------------------------------------------------------------
10 percent of the common equity of Chrysler;
$7.1 billion in debt securities of Chrysler;
\429\
---------------------------------------------------------------------------
\429\ The $7.1 billion debt security consists of a $6.6 billion new
commitment and $0.5 billion in assumed debt. As of December 31, 2009,
Chrysler has drawn approximately $4.6 billion. See Agency Financial
Statement 2009, supra note 32, at 35.
---------------------------------------------------------------------------
60.8 percent of the common equity of GM;
$5.7 billion in debt securities of GM; \430\
and
---------------------------------------------------------------------------
\430\ As of December 31, 2009, the outstanding principal balance is
$5.7 billion. See Agency Financial Statement 2009, supra note 32, at
34; see also U.S. Department of the Treasury, Treasury Receives First
Quarterly Repayment from General Motors (Dec. 18, 2009) (online at
treasury.gov/press/releases/tg456.htm) (hereinafter ``Treasury Receives
First Quarterly Repayment from GM'').
---------------------------------------------------------------------------
$2.1 billion in GM preferred stock, paying a
dividend of nine percent.\431\
---------------------------------------------------------------------------
\431\ Agency Financial Statement 2009, supra note 32, at 34-35; see
also Allison Testimony before House Oversight and Government Reform
Committee, supra note 118, at 5.
---------------------------------------------------------------------------
The following table shows the government's current holdings
and the amounts expended to acquire those holdings:
FIGURE 13: GOVERNMENT HOLDINGS IN CHRYSLER AND GM \432\
----------------------------------------------------------------------------------------------------------------
Number/Principal Aggregate Value as of
Asset Amount \433\ Acquisition Cost 9/30/09
----------------------------------------------------------------------------------------------------------------
Chrysler:
Common Stock (Class A)........... \434\ 96,461 ....................... .......................
Floating Rate Notes.............. \435\ $7,142,000,000 ....................... .......................
Total........................ ....................... \436\ $12,810,284,222 .......................
----------------------------------------------------------------------------------------------------------------
GM:
Preferred Stock.................. \434\ \437\ 3,898,305 ....................... .......................
Common Stock..................... \434\ \438\ 304,131,356 ....................... .......................
Floating Rate Notes.............. $5,711,864,407 ....................... .......................
Total........................ ....................... \439\ $49,860,624,198 .......................
Total for All Assets..... ....................... ....................... \440\ 42,300,000,000
----------------------------------------------------------------------------------------------------------------
\432\ In December 2009, SIGTARP released a report on the use of TARP funds for GM, Chrysler, GMAC, Chrysler
Financial Services, the Hartford Financial Services Group and Lincoln National Corporation. According to the
report, GM used the $49.5 billion it received to pay operating costs, aid in the wind-down of old GM, settle
derivative positions, fund foreign subsidiaries, and provide a loan to GM Canada. By November 18, 2009,
Chrysler had used $10.5 billion of the total $12.5 billion in Treasury funds, primarily for operating costs.
See SIGTARP, Additional Insight on Use of Troubled Asset Relief Program Funds, at 5-6 (Dec. 10, 2009) (online
at www.sigtarp.gov/reports/audit/2009/Additional_Insight_on_Use_of_Troubled_Asset_Relief_Program_Funds.pdf).
In addition, also in December 2009, the OFS released the Agency Financial Report for the year ending September
30, 2009. The report discusses the automotive industry financing program and associated programs, as well as
the valuation methodology that OFS uses to account for the investments. See Agency Financial Statement 2009,
supra note 32, at 33-36 and 53.
\433\ This table only lists the government's holdings in Chrysler Group LLC and General Motors Holdings LLC, the
``new'' car companies as detailed in the Panel's September report. See COP September Oversight Report, supra
note 108, at 60-63. The government also holds claims in Chrysler Holding LLC and Motors Liquidation Company,
the ``old'' car companies, which are currently in the process of being liquidated in bankruptcy. See TARP
Transactions Report for Period Ending December 30, 2009, supra note 166. These claims will be administered by
the bankruptcy court and it is unlikely that the government will be repaid. See COP September Oversight
Report, supra note 108.
\434\ Treasury conversations with Panel Staff (Dec. 3, 2009). This number represents numbers of shares of stock,
rather than dollar values.
\435\ The $7.1 billion amount consists of a $6.6 billion new commitment and $0.5 billion in assumed debt. As of
December 31, 2009, Chrysler has drawn approximately $4.6 billion. See Agency Financial Statement 2009, supra
note 32, at 35.
\436\ This figure represents the total amount of funds provided to Chrysler through the AIFP. It does not
reflect the $280 million repayment made by Chrysler on July 10, 2009 or the $2.4 billion in Treasury
commitments to Chrysler that were unused and de-obligated. See COP September Oversight Report, supra note 108,
at 60.
\437\ Treasury conversations with Panel Staff (Dec. 3, 2009). This number represents numbers of shares of stock,
rather than dollar values.
\438\ Treasury conversations with Panel Staff (Dec. 3, 2009).
\439\ This figure represents the total amount of funds provided to General Motors through the AIFP. It does not
reflect the $361 million repayment made by GM on July 10, 2009, or the $1 billion repayment made in December
2009. See COP September Oversight Report, supra note 108, at 62-63; see also Treasury Receives First Quarterly
Repayment from GM, supra note 430.
\440\ Agency Financial Statement 2009, supra note 32, at 17.
Treasury's holdings in the automotive companies cannot be
ascribed a definitive value. As an initial matter, following
bankruptcy proceedings, the ``good'' assets in GM and Chrysler
are now held by private companies, sometimes referred to as New
GM and New Chrysler, and there is at present no market for
either the common or the preferred shares. Accordingly, there
is no trading data on which to base a valuation. The companies
are reorganizing their varying properties--intellectual,
physical, and human capital--increasing the uncertainty of
valuation. Further, in addition to the difficulty in valuing
the shares of private companies (much less those in such flux
as GM and Chrysler), valuation incorporates many assumptions,
such as market risk and projected cash flows. Experts will use
different methodologies and professional judgment to formulate
these assumptions and, thus, their results may vary. The TARP
financial statements reflect expected losses of $30.4 billion
from GM and Chrysler as of September 30, 2009.\441\ Office of
Management and Budget (OMB) and Congressional Budget Office
(CBO) valuations of the taxpayer subsidy rate in automotive
industry have produced varying results.\442\ Nevertheless, both
OMB's and CBO's subsidy estimates imply there is a high
likelihood the initial TARP financing to GM and Chrysler will
not be repaid.\443\
---------------------------------------------------------------------------
\441\ See Agency Financial Statement 2009, supra note 32, at 18.
\442\ The OMB calculated separate subsidy rates for TARP investment
debt and equity transactions at 49 percent and 65 percent,
respectively, while the CBO estimated an aggregate credit subsidy rate
for all TARP automotive industry support programs of 73 percent. See
COP September Oversight Report, supra note 108, at 55-56. See generally
Office of Management and Budget, The President's Budget for Fiscal Year
2010, at 983 (May 2009) (online at www.whitehouse.gov/omb/budget/
fy2010/assets/tre.pdf); Congressional Budget Office, The Troubled Asset
Relief Program: Report on Transactions Through June 17, 2009 (June
2009) (online at www.cbo.gov/ftpdocs/100xx/doc10056/06-29-TARP.pdf).
\443\ See COP September Oversight Report, supra note 108, at 55-56.
---------------------------------------------------------------------------
b. Disposal of Assets and Recovery of Expended Amounts
As discussed above, it is unlikely that the taxpayers will
recover the whole of their TARP expenditure in the automobile
companies.\444\ The money that can be recovered will come in
two forms. First, both companies are indebted to the
government. They must make enough money to pay principal and
interest on that debt. Second, the government owns equity in
both companies. Treasury must sell that equity in order to
realize the taxpayers' investment. Repaying the debt merely
depends on the company staying solvent long enough to make
payments. Getting a return on equity investment depends on the
company actually doing well enough for its stock price to
increase: that is more directly linked to good corporate
strategies. The companies' strategies are, therefore, discussed
below in the context of the equity investment.
---------------------------------------------------------------------------
\444\ Further, in recent testimony, Assistant Secretary for
Financial Stability Herbert Allison stated that the losses from the
disbursements to AIG and the auto companies were likely to be $60
billion. See Allison Testimony Transcript, supra note 135.
---------------------------------------------------------------------------
i. Debt
The complex events leading to Treasury's loans to GM and
Chrysler have resulted in a variety of debts outstanding, with
different borrowers, terms, and maturity periods.\445\ The
initial loan and securities agreements between Treasury and Old
GM and Treasury and Old Chrysler have substantially similar
terms.\446\ Each agreement stipulates that the respective
company may obtain financing from time to time, on an as-needed
basis, and sets forth a process for each company to request
such funding. For both Old Chrysler and Old GM, Treasury loans
made under the applicable agreements accrue interest at the
London Interbank Offered Rate (LIBOR) plus 3 percent,\447\
subject to increase upon nonpayment or default to the ordinary
interest rate plus another 5 percent.\448\ These loans are
secured by a lien on and security interest in all the
respective company's assets, including, for example, cash and
cash equivalents, intellectual property rights and its
corresponding royalties, and all other tangible and intangible
property.\449\ Subsequent credit agreements between Treasury
and GM and Treasury and Chrysler provide for an interest rate
that resets each quarter to the greater of three-month LIBOR or
the floor (2 percent), plus a percentage that differs depending
on the company and, in Chrysler's case, the tranche involved.
The interest rates may be determined by reference to a variety
of interest rate markers and provide for an increased rate in
the event of default.\450\
---------------------------------------------------------------------------
\445\ See generally U.S. Department of the Treasury, Auto Industry
Financing Program (online at www.financialstability.gov/
roadtostability/autoprogram.html) (updated Jan. 7, 2010).
\446\ See generally Loan and Security Agreement [Chrysler], supra
note 423.
\447\ U.S. Department of the Treasury, Warrant Agreement Between
General Motors Corporation and the U.S. Department of the Treasury,
Appendix A, at 1-5 (Dec. 2008) (online at www.financialstability.gov/
docs/ContractsAgreements/GMagreement.pdf) (hereinafter ``Warrant
Agreement Between GM and Treasury''); Loan and Security Agreement
[Chrysler], supra note 423, at Appendix A. By way of comparison, in
October 2008, the Prime Rate (the rate at which banks make short term-
loans to businesses) was 4.56 percent, while the one-month LIBOR was
2.58 percent at the end of October 2008, and had been 3.24 percent a
week earlier. See Board of Governors of the Federal Reserve System,
Bank Prime Loan (Frequency: Monthly) (online at www.federalreserve.gov/
Releases/H15/data/Monthly/H15_PRIME_NA.txt) (accessed Jan. 4, 2010);
Market Data Center, Money Rates, Wall Street Journal (Oct. 31, 2008)
(online at
online.wsj.com/mdc/public/page/2_3020-moneyrate-
20081031.html?mod=mdc_pastcalendar). It is difficult, however, to
evaluate the rates given to the automobile companies against other
loans given the extraordinary nature of the circumstances and the
credit crunch.
\448\ Warrant Agreement Between GM and Treasury, supra note 447, at
17; Loan and Security Agreement [Chrysler], supra note 423, at 17.
\449\ Warrant Agreement Between GM and Treasury, supra note 447, at
29-30; Loan and Security Agreement [Chrysler], supra note 423, at 29-
30.
\450\ Specifically, the interest rate may switch from the three-
month Eurodollar Rate to the Alternate Base Rate (the higher of the
Prime Rate announced by JPMorgan Chase Bank or the federal funds rate
plus 50 basis points). In an event of default, the interest rate for
both companies resets to the then-applicable interest rate plus 2
percent. See U.S. Department of the Treasury, Second Amended and
Restated Secured Credit Agreement among General Motors Co., the
Guarantors, and the United States Department of the Treasury, at
section 2 (Aug. 12, 2009) (online at www.financialstability.gov/docs/
AIFP/Binder1%20Second%20AR%20Credit
%20Agreement%20and%201-4%20Amendments%2011-23-09.pdf) (hereinafter
``Second Amended and Restated Credit Agreement''); First Lien Credit
Agreement among New Carco Acquisition LLC and the Lenders Party Thereto
Dated as of June 10, 2009, at section 2 (online at
www.financialstability.gov/docs/AIFP/
4.%20Newco%20Credit%20Agreement.PDF). See also COP September Oversight
Report, supra note 108, at 66.
---------------------------------------------------------------------------
Absent an event of default, GM's loans mature on July 10,
2015.\451\ The credit agreement between Treasury and GM
provides for quarterly mandatory prepayments of $1 billion from
existing escrow amounts in addition to the obligation for such
funds to be applied to repay the loan by June 30, 2010, unless
extended. Absent an event of default, a portion of Chrysler's
loans mature in December 2011, with the balance becoming due in
June 2017.\452\ However, in the event of default, any loans to
either GM or Chrysler would become immediately due and
payable.\453\ Treasury may transfer any or all of its rights
under the debt instruments at any time. Chrysler and GM,
however, may only transfer their rights and obligations with
the prior written consent of Treasury.\454\
---------------------------------------------------------------------------
\451\ See Second Amended and Restated Credit Agreement, supra note
450, at section 2. The original loans to Old GM mature on December 30,
2011. See Warrant Agreement Between GM and Treasury, supra note 447, at
1.
\452\ See Allison Testimony before House Oversight and Government
Reform Committee, supra note 118, at 12.
\453\ See Warrant Agreement Between GM and Treasury, supra note
447, at 2.
\454\ See Warrant Agreement Between GM and Treasury, supra note
447, at 66; Loan and Security Agreement [Chrysler], supra note 423.
---------------------------------------------------------------------------
In testimony before the Panel in July, Senior Advisor to
the Secretary of the Treasury Ron Bloom, now also senior
counselor on manufacturing policy,\455\ expressed reservations
about the likelihood of taxpayers recouping the entirety of
their investment in Chrysler and GM: ``[U]nder certain
assumptions, GM may be able to pay off a high percentage of the
total funds advanced by the taxpayers. Less optimistic, and in
Treasury's view more likely, scenarios involve a reasonable
probability of repayment of substantially all of the government
funding for new GM and new Chrysler, and much lower recoveries
for the initial loans.'' \456\ As of the end of 2009, Treasury
has stated that it does not believe that there has been any
material change to this assumption.
---------------------------------------------------------------------------
\455\ White House, President Obama Names Ron Bloom Senior Counselor
for Manufacturing Policy (Sept. 7, 2009) (online at www.whitehouse.gov/
the_press_office/President-Obama-Names-Ron-Bloom-Senior-Counselor-for-
Manufacturing-Policy/).
\456\ Congressional Oversight Panel, Transcript Testimony of Ron
Bloom, Senior Advisor to the Secretary of the Treasury and Senior
Counselor on Manufacturing Policy, Field Hearing: Oversight of TARP
Assistance to the Automobile Industry, 111th Cong. (July 27, 2009)
(online at cop.senate.gov/documents/transcript-072709-
detroithearing.pdf ) (hereinafter ``Ron Bloom Transcript Testimony'').
---------------------------------------------------------------------------
For its part, Chrysler has expressed confidence that it
will ``make good on the public's investment as the economy
begins to recover and financing becomes available to dealers
and consumers.'' As Jan Bertsch, a senior vice president of
Chrysler, explained in her testimony at the Panel's July
hearing: ``Our debt to the U.S. Treasury is due in several
different tranches. One would be in 2011, again in 2016, and
2017. Our goal would definitely be, if possible, to pay that
back early. Part of the reason is the interest cost to the
company is not immaterial, and so based on the interest rates
that we are paying, I think that it would be one of our
definite goals to pay that back early. But we see no issue in
paying it back on time, certainly.'' \457\
---------------------------------------------------------------------------
\457\ Congressional Oversight Panel, Transcript Testimony of Jan
Bertsch, Chrysler Senior Vice President and Treasurer, Field Hearing:
Oversight of TARP Assistance to the Automobile Industry, 111th Cong.,
at 82 (July 27, 2009).
---------------------------------------------------------------------------
On December 1, 2009, GM replaced then-CEO Fritz Henderson
with Edward Whitacre,\458\ who has since said that GM is
considering repaying the (now) $5.7 billion it owes the
government under the secured notes through a lump-sum
payment,\459\ and has stated that GM will repay by June
2010.\460\ It should be noted, however, that GM is not yet
making any profits, and the payment will come from an escrow
account established as part of the bankruptcy
reorganization,\461\ so that GM could not, strictly speaking,
be said to be earning money to pay the taxpayer.\462\
---------------------------------------------------------------------------
\458\ See General Motors, Statement Attributed to Chairman Ed
Whitacre (Dec. 1, 2009) (online at media.gm.com/content/media/us/en/
news/news_detail.brand_gm.html/content/Pages/news/us/en/2009/Dec/
1201_GM_Fritz).
\459\ See General Motors, GM CEO and Chairman Ed Whitacre: GM
Leaders Expected to Show Quick Results (Dec. 9, 2009) (online at
media.gm.com/content/media/us/en/news/news_detail.brand_gm.html/
content/Pages/news/us/en/2009/Dec/1209_webchat). GM has since repaid $1
billion of the sums outstanding. See Treasury Receives First Quarterly
Repayment from GM, supra note 430.
\460\ See General Motors, Statement Attributed to Chairman and
Chief Executive Officer Ed Whitacre (Dec. 18, 2009) (online at
media.gm.com/content/media/us/en/news/news_detail.brand_gm.html/
content/Pages/news/us/en/2009/Dec/1218_repayment).
\461\ Proceeds in the amount of $16.4 billion from the $30.1
billion debtor-in-possession facility were deposited in escrow and will
be distributed to GM at its request if the following conditions are
met: (1) the representations and warranties GM made in the loan
documents are true and correct in all material respects on the date of
the request; (2) GM is not in default on the date of the request taking
into consideration the amount of the withdrawal request; and (3) the
United States Department of the Treasury (UST), in its sole discretion,
approves the amount and intended use of the requested disbursement.
U.S. Securities and Exchange Commission, General Motors Co. Form 8-K
(Sept. 2, 2009) (online at www.sec.gov/Archives/edgar/data/1467858/
000119312509220534/0001193125-09-220534-index.htm) (hereinafter
``General Motors Co. Form 8-K'').
\462\ General Motors Co. Form 8-K, supra note 461; Allison
Testimony before House Oversight and Government Reform Committee, supra
note 118, at 12. In December, 2009, GM made the first of its quarterly
payments to Treasury. See Treasury Receives First Quarterly Repayment
from GM, supra note 430.
---------------------------------------------------------------------------
ii. Equity
The Treasury auto team expects that both companies will
eventually access the equity capital markets through IPOs,\463\
and as a result, successful IPOs will form the basis for the
recovery of the taxpayers' money. This strategy hinges directly
on the ability of the two companies to restructure and become
profitable. At the moment, in a still-constrained credit
market, and with the two companies facing pressure to rebuild
themselves and under the perceived threat of political
interference,\464\ it is unclear whether either company in its
current form could access the banks or the capital markets in
the amounts and on the terms that they would require. Since the
public offering of these companies is the primary method for
recovery of taxpayers' money, delays in or hindrances to
accessing the capital markets will prolong Treasury's
involvement as a shareholder, leading to greater uncertainty,
both for the companies and for Treasury.
---------------------------------------------------------------------------
\463\ See COP September Oversight Report, supra note 108, at 68-70.
Chrysler and GM will require initial public offerings in order to
become publicly-traded and access the capital markets. As part of the
bankruptcy proceeding, both Chrysler and GM sold the majority of their
assets to private companies. These companies are not public: they are
neither SEC-registrants nor traded on any exchange.
\464\ See COP September Oversight Report, supra note 108, at 68-69.
Pursuant to its operating agreement, GM will attempt to make a
reasonable best efforts IPO by July 10, 2010. See Allison Testimony
before House Oversight and Government Reform Committee, supra note 118,
at 12.
---------------------------------------------------------------------------
Following the completion of a successful IPO, the Treasury
auto team has made clear that it intends to dispose of
Treasury's ownership stakes in Chrysler and GM ``as soon as is
practicable.'' At least with respect to GM, where Treasury
holds 60.8 percent of the company, Treasury does not expect to
sell its entire stake in the IPO.\465\ The Stockholders
Agreement calls for Treasury to use reasonable best efforts to
effect an IPO by July 10, 2010.\466\ In its Shareholder's
Agreement, Chrysler has agreed to file a shelf registration
statement with the SEC either six months after an IPO or on
January 1, 2013, whichever is earlier.\467\
---------------------------------------------------------------------------
\465\ See Allison Testimony before House Oversight and Government
Reform Committee, supra note 118, at 12.
\466\ Stockholders Agreement by and among General Motors Company,
United States Department of the Treasury, 7176384 Canada Inc., and UAW
Retiree Medical Benefits Trust, at 8 (July 10, 2009) (online at
www.sec.gov/Archives/edgar/data/1467858/000119312509150199/dex101.htm)
(hereinafter ``GM Stockholders Agreement''); see also Agency Financial
Statement 2009, supra note 32, at 44.
\467\ Under the terms of the Chrysler Shareholders Agreement,
Treasury can require Chrysler to file a registration statement under
the Securities Act of 1933 (a ``demand registration''); in the case of
an IPO, such demand notice can only be delivered by either (a) one or
more holders holding 10 percent or more of the equity securities, or
(b) both Treasury and Canada. Shareholders Agreement Among Fiat Newco,
United States Department of the Treasury, UAW Retiree Medical Benefits
Trust, Canada Development Investment Corporation, and the Other Members
Party Hereto, at section 3.2(a)(i) (filed May 12, 2009) In Re Chrysler
LLC, S.D.N.Y. (No. 09 B 50002 (AJG)) (online at
www.chryslerrestructuring.com/). Treasury cannot seek more than one
demand registration in any 12-month period, and cannot request more
than five. Id., at section 3.2(a)(ii).
---------------------------------------------------------------------------
The Treasury auto team has not ruled out other ways of
exiting ownership of these companies and returning them to
private hands, but options such as selling Treasury's stake to
private equity investors seem unlikely at present.\468\
Treasury's stake in Chrysler is small enough that Treasury
believes that it could exit ownership of Chrysler promptly upon
Chrysler's filing of a shelf registration statement. As noted
above, Treasury's stake in GM is sufficiently large that it
would be extremely difficult for Treasury either to find a
buyer or buyers, and it is not clear whether significant sales
would have a destabilizing effect on GM or on the markets.
Treasury has stated, however, that when it is able to sell, it
should do so in a transparent and open manner so as to avoid
additional destabilization.\469\
---------------------------------------------------------------------------
\468\ At a July 29, 2009 briefing with Panel staff, Treasury and
Task Force staff indicated that, at least at that point, no private
equity investor has come along with demonstrated interest in investing
in these companies, and as of the end of 2009, this remains unchanged.
Treasury conversations with Panel staff (Dec. 22, 2009). See generally
Section D.7(c), infra.
There are also several pre-IPO contractual limitations on the
public sale of Treasury's ownership stakes in GM that are set out in
the Stockholders Agreement. See GM Stockholders Agreement, supra note
466, at 8-9.
\469\ Treasury conversations with Panel staff (Dec. 22, 2009).
---------------------------------------------------------------------------
In making the decision--or decisions--to sell the equity
stakes that it holds in the automotive companies, Treasury will
have to balance the desire to exit as soon as practicable, as
articulated by the President and the head of the Treasury auto
team,\470\ with the need to maximize the return or minimize the
loss to taxpayers, as dictated by EESA.\471\ Maximizing returns
may, however, argue for holding the investments for longer than
Treasury would otherwise prefer, bringing these two goals into
conflict. It is not easy to time the markets, and Treasury
cannot force Chrysler's board, at least, to engage in an IPO.
Until the companies go public through the IPO process,
Treasury's primary and perhaps only option is to sell its stake
privately, which, as discussed above, remains an unlikely
event, although of the two, it would be more likely that
Treasury could sell the Chrysler stake privately. Once the
companies become public companies subject to SEC reporting
requirements, Treasury's options would be somewhat broader.
Subject to certain conditions, Treasury could sell large stakes
in SEC-registered secondary offerings.\472\ Treasury could also
sell smaller amounts of shares into the public markets.\473\
---------------------------------------------------------------------------
\470\ See White House, Remarks by the President on General Motors
Restructuring (June 1, 2009) (online at www.whitehouse.gov/
the_press_office/Remarks-by-the-President-on-General-Motors-
Restructuring/) (hereinafter ``Remarks by the President on GM'') (``In
short, our goal is to get GM back on its feet, take a hands-off
approach, and get out quickly.''); see also COP September Oversight
Report, supra note 108, at 69.
\471\ See 12 U.S.C. Sec. 5213.
\472\ See Allison Testimony before House Oversight and Government
Reform Committee, supra note 118, supplemented by Treasury
conversations with Panel staff (Dec. 22, 2009).
\473\ Shareholders that are ``affiliates'' of a company (in
general, those with a significant stake in the voting equity of the
company, or the right to a board seat) may sell their shares in the
public markets without registration of the transaction with the SEC.
SEC rules impose volume, timing, and other restrictions on such sales.
17 CFR Sec. 230.144 (2009). Any such sales by the government are likely
to have a significant impact on the securities market, which may
suspect a signal to the market with respect to the specific companies,
the auto industries, or the economy in general. For this reason (and
the general difficulty in timing the market discussed above), holding
these equity stakes in a trust, discussed in more detail below, might
help to manage the taxpayers' stake more efficiently and maximize
returns.
---------------------------------------------------------------------------
Until it exits ownership of Chrysler and GM, Treasury will
continue to be a substantial shareholder of these companies;
however, Treasury does not intend to take the activist role
commonly associated with large private shareholders.\474\ Mr.
Bloom, who was appointed to lead the Treasury auto team, has
stated that President Obama gave the Task Force two directives
regarding its approach to the automotive restructurings. First,
the Task Force was to avoid intervening in the day-to-day
corporate management of GM and Chrysler, and instead act as ``a
potential investor of taxpayer resources'' with the goal of
promoting profitable companies that contribute to economic
growth without taxpayer support.\475\ Second, the Task Force
was to ``behave in a commercial manner.'' \476\ The Panel noted
the tension between these dual roles in its September oversight
report. President Obama has stated that each company's board of
directors and management team are responsible for achieving
financial and operational restructuring as well as cultural
changes at GM and Chrysler.\477\
---------------------------------------------------------------------------
\474\ See Allison Testimony before House Oversight and Government
Reform Committee, supra note 118, at 5.
\475\ See Congressional Oversight Panel, Written Testimony of Ron
Bloom, Senior Advisor to the Secretary of the Treasury and Senior
Counselor on Manufacturing Policy, Field Hearing: Oversight of TARP
Assistance to the Automobile Industry, 111th Cong. (July 27, 2009)
(online at cop.senate.gov/documents/testimony-072709-bloom.pdf)
(hereinafter ``Ron Bloom Written Testimony'').
\476\ See Senate Committee on Banking, Housing, and Urban Affairs,
Testimony of Senior Advisor at the U.S. Department of the Treasury Ron
Bloom, The State of the Domestic Automobile Industry: Impact of Federal
Assistance, 111th Cong. (June 10, 2009) (online at
banking.senate.gov/public/
index.cfm?FuseAction=Files.View&FileStore_id=40341601-355c-4e6f-b67f-
b9707ac88e32).
\477\ See Remarks by the President on GM, supra note 470; see also
Ron Bloom Written Testimony, supra note 472.
---------------------------------------------------------------------------
Testifying before the Panel, Mr. Bloom reiterated that
while the government has a partial ownership stake in these
companies, the Task Force should manage its stake in a ``hands
off'' manner, voting only on core governance issues such as the
selection of directors and other major corporate actions.\478\
Characterizing the Administration as a ``reluctant
shareholder'' in GM and Chrysler, Mr. Bloom also testified that
Treasury would work with a ``firm conviction to manage that
investment commercially'' and dispose of equity stakes ``as
soon as practicable.'' \479\ Further, the GM Shareholders'
Agreement provides that after GM's IPO, Treasury will only vote
on certain matters, including elections to the board, certain
major transactions, such as merger or dissolution, and matters
in which Treasury must vote its shares in order for the
shareholders to take action. In the latter case, Treasury will
vote its shares in the same proportion (for, against, or
abstain) as the other shares are voted.\480\
---------------------------------------------------------------------------
\478\ See Ron Bloom Written Testimony, supra note 472; see also COP
September Oversight Report, supra note 108, at 82-83.
\479\ Ron Bloom Written Testimony, supra note 472. See also Allison
Testimony before House Oversight and Government Reform Committee, supra
note 118, at 5.
\480\ See Allison Testimony before House Oversight and Government
Reform Committee, supra note 118, at 6.
---------------------------------------------------------------------------
While the Administration's stated purpose is not to involve
the federal government in daily business decisions, Treasury
cannot entirely abrogate its responsibilities as a shareholder.
Even if Treasury restricts its participation to ``core
governance,'' it must reasonably and responsibly establish its
interpretation of ``core governance.'' As an example, given the
ongoing and sweeping changes at both companies, a management
succession plan--which SEC staff has recently described as one
of a board's key functions--is critical.\481\ If Treasury has
not clearly established a policy for its involvement in
management succession plans, it should do so promptly.
---------------------------------------------------------------------------
\481\ See Division of Corporation Finance, Securities and Exchange
Commission, Shareholder Proposals, Staff Legal Bulletin No. 14E (CF)
(Oct. 27, 2009) (online at www.sec.gov/interps/legal/cfslb14e.htm).
---------------------------------------------------------------------------
Treasury has been directed and intends to make minimal
interventions in management, as well as shareholder decisions.
Overall, Treasury has expressed a firm commitment to its
limited role. In conversations with Panel staff, the Treasury
auto team indicated that they would, at most, share their
opinions about strategy with the management of the auto
companies. The management of the auto companies, however, is
entirely responsible for setting strategy, and may ignore
Treasury's opinions as they please. A ``hands off'' approach,
however, may not provide the influence necessary to achieve the
cultural changes most likely to lead to sustained viability for
Chrysler and GM. If the government maintains the role of a
disinterested shareholder, it may be difficult to protect
taxpayer interests in these companies. On the other hand, it
may be similarly detrimental to taxpayer interests if Treasury
is an involved shareholder, as in this role Treasury arguably
suffers from inherent conflicts of interest, politics, lack of
knowledge, and lack of competence.
Treasury's position is that the government, as shareholder,
distorts the market in such a way that the auto companies--and
accordingly the taxpayers--will ultimately reap greater benefit
from a passive government shareholder. Where a typical
shareholder can be assumed to seek profit maximization,
Treasury is concerned that any shareholder activism on its part
will be perceived through a political rather than commercial
lens. Treasury believes this would harm the market as a whole
in addition to harming the auto companies. Under this model,
private shareholders, faced with a large shareholder that acts
with multiple, possibly political motivations, would be more
reluctant to invest in the company, delaying Treasury's exit
and the return of the company to private hands, and overall
reducing the value of Treasury's investment.\482\ It is
difficult to determine which of these approaches would cause
more or less harm to the markets in general or to the auto
companies in particular. It is also possible that the passive
approach promotes market stability in general at the expense of
the taxpayers' specific investment in the auto companies.
---------------------------------------------------------------------------
\482\ See Allison Testimony before House Oversight and Government
Reform Committee, supra note 118; Treasury conversations with Panel
staff (Dec. 22, 2009). On the other hand, although Treasury is
concerned that its involvement may depress stock price, absent
Treasury's and the U.S. Government's intervention, the liquidated
companies' stock would have no value at all.
---------------------------------------------------------------------------
To mitigate the potential conflicts of interest inherent in
government ownership of Chrysler and GM shares, the Panel
recommended in September that Treasury consider placing its
Chrysler and GM shares in an independent trust that would be
insulated from political pressure and government
interference.\483\ At a hearing on October 22, 2009, however,
Assistant Secretary Allison questioned whether an independent
trust would be an efficient use of taxpayer funds given the
requisite ``administrative infrastructure'' that would be
involved.\484\ Treasury also has expressed concern that a trust
might be inconsistent with its supervisory obligations under
EESA. In February 2009, however, Secretary Geithner discussed
the possibility of putting assets from the TARP, as then-
constituted in the Capital Assistance Program, in a Financial
Stability Trust.\485\ The Capital Assistance Program ultimately
closed without making any investments, and therefore no assets
were ever placed in the Financial Stability Trust.\486\
---------------------------------------------------------------------------
\483\ See COP September Oversight Report, supra note 108, at 114.
In addition, Senator Warner and Senator Corker have proposed the TARP
Recipient Ownership Trust Act of 2009, which would move any government
private company shareholding over 20 percent into a trust with
instructions to liquidate the stakes by the end of 2011. See Sen. Bob
Corker, Corker, Warner Introduce TARP Recipient Ownership Trust Act of
2009 (June 17, 2009) (online at
corker.senate.gov/public/
index.cfm?FuseAction=NewsRoom.NewsReleases&ContentRecord_id= efcc93cf-
0189-87f7-0c26-fb49c985a43f).
\484\ See Congressional Oversight Panel, Transcript Testimony of
Treasury Assistant Secretary for Financial Stability Herbert M.
Allison, Jr., COP Hearing with Assistant Treasury Secretary Herbert M.
Allison, Jr., at 63 (Oct. 22, 2009).
\485\ U.S. Department of the Treasury, Secretary Geithner
Introduces Financial Stability Plan (Feb. 10, 2009) (www.treas.gov/
press/releases/tg18.htm) (hereinafter ``Secretary Geithner Introduces
Financial Stability Plan'').
\486\ U.S. Department of the Treasury, Treasury Announcement
Regarding the Capital Assistance Program (Nov. 9, 2009) (online at
www.financialstability.gov/latest/tg_11092009.html) (hereinafter
``Treasury Announcement Regarding the CAP'').
---------------------------------------------------------------------------
As part of its efforts to increase profitability, on
November 4, 2009, Chrysler unveiled its five-year business
plan.\487\ Under this plan, the current Chairman of the Board,
Robert Kidder, states that Chrysler's top priority will be to
create a compelling brand and product offering. In addition,
Chrysler will leverage its alliance with Italian automaker
Fiat, manage its supply chain to match customer demand and
production, strengthen its dealer network, cut fixed costs,
develop its new MOPAR brand, build a strong team and high
performance culture, and adopt a financial plan that aims to
recapitalize the company. In conversations with Panel staff,
Chrysler maintained that it is happy with its progress in
merging with Fiat, and believes that it is creating a more
efficient company. Its product mix will include more fuel-
efficient cars, and it believes it is making progress in
reducing the time-to-market for newer products. Chrysler is
also sensitive to the need to act quickly, and believes that it
has brought greater focus to its product offerings.\488\
---------------------------------------------------------------------------
\487\ See generally Chrysler Group, Our Plan Presentation (Nov. 4,
2009) (online at www.chryslergroupllc.com/business/?redir=cllc).
\488\ Chrysler conversations with Panel staff (Dec. 16, 2009).
---------------------------------------------------------------------------
GM also issued a five-year plan,\489\ which includes
consolidating facilities, streamlining brands and dealer
networks, creating ``fewer, better'' vehicles, developing
technologies to increase fuel efficiency, hybrids, advanced
propulsion, and addressing unprofitable foreign operations. On
November 16, 2009, GM stated that its focus is currently on
``top line performance'' and gaining market share by offering
``performance and value'' to customers.\490\ In subsequent
conversations with Panel staff, GM stated that it believes that
it has made good progress on initiatives designed to increase
its competitiveness, including: building plants that can switch
between products; developing a more versatile product mix, with
more small cars; building its four core brands and attempting
to divest other brands; and creating strategic alliances in
overseas markets. GM believes that the restructured business
will be simpler and much easier to manage as a result.\491\
---------------------------------------------------------------------------
\489\ See generally General Motors Corporation, 2009-2014
Restructuring Plan (Feb. 17, 2009) (online at
www.financialstability.gov/docs/AIFP/GMRestructuringPlan.pdf).
\490\ General Motors Corporation, General Motors Announces the New
Company's July 10-September 30 Preliminary Managerial Results (Nov. 16,
2009) (online at media.gm.com/content/media/us/en/news/
news_detail.html/content/Pages/news/us/en/2009/Nov/1116_earnings).
\491\ GM conversations with Panel staff (Dec. 15, 2009).
---------------------------------------------------------------------------
Treasury has stated that the new companies are, in capital
structure alone, fundamentally quite different from their prior
incarnations. In addition to manufacturing changes and product
shifts, the restructured companies lack the debt that dogged
old Chrysler and old GM. They have lower overhead and a lower
break-even point. They compete in a smaller market and have
simplified obligations to fewer debt and equity holders.
Treasury believes that these differences significantly
distinguish the current auto companies from their predecessors,
and will help them to become profitable.\492\
---------------------------------------------------------------------------
\492\ Allison Testimony before House Oversight and Government
Reform Committee, supra note 118, at 5; Treasury conversations with
Panel staff (Dec. 22, 2009).
---------------------------------------------------------------------------
c. Analysis of Intended Exit Strategy
The crisis that beset Chrysler and GM was a long time
coming, even if its severity was unprecedented. As President
Obama observed in his speech on the GM bankruptcy, the crisis
resulted from a long series of poor business decisions, large
legacy costs, and failure to address a changing market.\493\ It
is to be hoped that the near-liquidation of these companies
will impress upon their respective managements and employees
the need to be more responsive to changes in markets, commodity
prices, and consumer preferences. Both Chrysler and GM were
resting upon a very long period of market dominance, and failed
to respond promptly when it was revealed that their influence
had waned and their competitors were more nimble and modern,
both culturally and technologically. High labor costs--from
wages, benefits, and rigid work rules--further hampered GM's
and Chrysler's competitiveness.\494\ Compounding the
difficulty, the auto industry overall suffers from a long time-
to-market, relatively high fixed and variable costs, and
substantial infrastructure needs, which make it difficult for
even a flexible and adaptive company to move quickly. Reports
that GM is restructuring its bureaucracy are encouraging,\495\
although substantial additional changes will be needed for both
companies to again become profitable and permit Treasury to
divest its holdings.
---------------------------------------------------------------------------
\493\ See Remarks by the President on GM, supra note 470; see also
COP September Oversight Report, supra note 108, at 107-110.
\494\ House Select Committee on Global Warming, Testimony of
Professor Peter Morici, The Energy Independence Implications of the
Auto Bailout Proposal, 110th Cong., at 2 (Dec. 9, 2008) (online at
www.globalwarming.house.gov/tools/3q08materials/files/0068.pdf).
\495\ Treasury conversations with Panel staff (Dec. 22, 2009).
---------------------------------------------------------------------------
As discussed above, Treasury owns equity in and holds debt
of both Chrysler and GM. While repayments on the debt and
successful IPOs are both dependent on revitalized companies,
Treasury will likely hold the equity stakes for longer than the
debt will remain outstanding. The equity stakes, accordingly,
are of greater concern in a discussion of exit. Further, it is
Treasury's GM holding that poses the most difficulty:
Treasury's stake in Chrysler is small enough that Treasury
could sell it shortly after a Chrysler IPO or to a third-party
buyer.\496\ The size of the GM holding therefore creates unique
circumstances: In the absence of buyers for a block sale or
sales, in all probability, Treasury will sell its stake into
the public market, and it probably cannot sell its entire stake
simultaneously. Although it continues to evaluate the best
methods for divesting its holdings in the GM equity, Treasury
currently takes the position that transparency--in the form of
successive registered follow-on offerings--will best serve the
markets and the taxpayers' investment in the auto
companies.\497\ If, by contrast, Treasury were to sell its
stake at less predictable or less transparent intervals,
Treasury believes that potential investors might be concerned
about unpredictable pressure on the stock price from Treasury's
sales. Any such sales, however, must follow the IPO, and likely
will be subject to a lock-up as well. Treasury therefore
probably cannot sell even the larger part, much less all, of
its equity stake until years in the future.
---------------------------------------------------------------------------
\496\ Allison Testimony before House Oversight and Government
Reform Committee, supra note 118.
\497\ Allison Testimony before House Oversight and Government
Reform Committee, supra note 118; Treasury conversations with Panel
staff (Dec. 22, 2009).
---------------------------------------------------------------------------
It is unusual for any company to have a majority
shareholder as passive as Treasury intends to be. This stance,
especially with respect to Treasury's GM holding, may result in
no other entity's being able to play the traditional majority
shareholder role, and create a governance vacuum. This concern
will intensify as the auto companies return to being publicly
traded companies. The Panel's September report suggested that
Treasury consider holding its auto company shares in a trust,
to which Treasury has responded with a variety of concerns,
from administrative costs to statutory obligations. In addition
to these concerns, establishing a trust to hold the shares
might: slow Treasury's exit; prolong its involvement in the
market; and make future interventions more palatable, any or
all of which could set an inappropriate precedent. However,
particularly with respect to the GM stake, it may be some time
before Treasury is able to divest itself of its holdings. GM
will therefore have a deliberately disinterested and passive
majority shareholder for the foreseeable future, which may
hamper its ability to again become viable and may affect the
value that the capital markets place on it. This being the
case, the Panel believes that Treasury should continue to
contemplate whether it should place the automobile company
shares, particularly the GM shares, in a trust. In an earlier
incarnation of the TARP, Treasury had contemplated creating a
trust for its financial sector investments.\498\ Treasury
should revisit the discussions surrounding the Financial
Stability Trust to help determine whether any of the
considerations in operation at that time might now be
applicable to the automobile company shares. If Treasury is of
the opinion that a trust is unnecessary at present, it should
reconsider this position at the time an IPO is being
planned.\499\
---------------------------------------------------------------------------
\498\ Secretary Geithner Introduces Financial Stability Plan, supra
note 485.
\499\ Other unconventional measures that Treasury might consider
would include replacing its common stock with a class of limited
shares, and, drawing from private equity traditions, breaking its
holding into six or more blocks and having private managers manage
those holdings, actively exercising the governance rights that
accompany the shares.
---------------------------------------------------------------------------
The uncertainty surrounding the long-term prospects for
these investments, of course, raises additional issues.
Investments without clear time frames for exit--if any--pose
particularly difficult questions about Treasury's involvement
in a commercial enterprise. Even if Treasury believes that the
taxpayers' best interest is served by its ``hands-off''
approach, it must nonetheless perform rigorous diligence of its
ongoing investment in search of good divestment windows. If,
instead, Treasury later determines that it should take a more
interventionist role, it must still find the appropriate
balance between serving the taxpayers' need and the significant
problems posed by involving Treasury in management. In any
case, however, Treasury should not exit either company without
establishing that it has a reasonable plan for long-term
viability. The alternative, as discussed below, would be to
reinstitute the full-scale liquidation avoided through
commitment of TARP funds.
The Panel is hopeful that both Chrysler and GM will return
to profitability in short order, making Treasury's continued
involvement unnecessary. The Panel also appreciates the auto
task force's difficulty in balancing its role as a shareholder
with its obligations to the taxpayers and its decided
reluctance to become actively involved in management. That
said, while there are many ways in which Treasury differs from
a shareholder in the ordinary course, one in particular is
relevant to our discussion: what Treasury should do if and when
it determines that it has made a ``bad investment.'' A typical
shareholder may decide that he or she no longer wishes to hold
a given investment, and may sell, generally without much effect
on the market. If, however, the automotive companies prove
unlikely to become profitable again, even if far in the future,
Treasury cannot simply sell and write off its investment. And
if Treasury sees no possibility of a sale, then in the best
interests of the taxpayers, Treasury may need to contemplate
its only remaining means of exit--an orderly wind-down of the
relevant company. Not only can this never be a casual decision,
but it must also involve deep and careful consideration of the
effect on all parties concerned--taxpayers, investors,
suppliers, car owners, and industrial workers, among others.
The consequences of liquidating one or both of these
companies, even if far into the future and in an orderly
fashion, would likely still be significant for the
economy.\500\ The Panel is hopeful that the global financial
crisis that precipitated the TARP will not be repeated, and
that if it is, the industries that require rescue will be more
robust. If there is a similar crisis, or if after some period
of time, one or both of GM and Chrysler appear unlikely to ever
become profitable again, Treasury will face a difficult choice.
Treasury should have procedures for the continuing evaluation
of its investment in the automotive industry. This report
discusses these procedures in the context of divestment
windows. These procedures should be formulated with an
awareness that Treasury may need to consider exit even though
the subject company or companies cannot continue without
Treasury's support. The Panel hopes that no such action will
ever be necessary, but believes that in order for Treasury to
have a comprehensive understanding of its role as an investor,
it must internally take note of this possibility. That said,
publication of precise metrics or timelines may be inadvisable,
both because they could limit Treasury's discretion and could
negatively affect the companies. Treasury, at present, takes
the view that the auto companies will not be ripe for long-term
evaluation until after any IPO. While it is reasonable to look
to the IPOs as a more concrete point at which to assess the
auto companies, it is also appropriate for Treasury to
consider, if not plan for, the longer term.\501\
---------------------------------------------------------------------------
\500\ See COP September Oversight Report, supra note 108, at 7-23.
\501\ The Panel understands that Treasury intends to begin a formal
evaluation of its investment in the automobile companies shortly.
---------------------------------------------------------------------------
8. GMAC
Since the results of the stress tests were announced in
early May,\502\ nine of the 10 bank holding companies that were
identified as needing to raise additional capital have met or
exceeded their capital raising requirements without government
assistance.\503\ GMAC, which was unable to raise sufficient
outside capital to meet the capital buffer established by the
stress tests, originally set at $11.5 billion, is the only
participant to seek additional TARP funds from Treasury.\504\
---------------------------------------------------------------------------
\502\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170; COP June Oversight Report, supra note 175, at 41.
\503\ Agency Financial Statement 2009, supra note 32, at 25.
\504\ Prior to the December 2009 capital injection, Treasury owned
$13.1 billion in preferred shares in GMAC, and 35 percent of GMAC's
common equity. Of this $13.1 billion, $5.25 billion was acquired in
December 2008 when Treasury purchased $5 billion in preferred equity
and received warrants for an additional $250 million in preferred
equity. Treasury then acquired an additional $7.875 billion in May 2009
when it purchased $7.5 billion of convertible preferred shares and
received warrants for an additional $375 million. Also, on May 29,
2009, Treasury exercised its option to exchange a $884 million loan for
the ownership interest that GM had purchased, amounting to about 35
percent of the common membership interests in GMAC. OFS FY09 Financial
Statements, supra note 133, at 62, 74.
---------------------------------------------------------------------------
At the conclusion of the stress tests in May 2009,\505\
Treasury made a ``down payment'' of $7.5 billion but
acknowledged that GMAC would need additional capital
support.\506\ On December 30, 2009, Treasury provided GMAC with
$3.8 billion in new capital.\507\ This amount was $1.8 billion
less than the remaining $5.6 billion shortfall on the capital
buffer calculated in May by the Federal Reserve under the
stress tests.\508\ According to Treasury, the reduced size of
the capital injection was due to ``less disruption'' than
anticipated in the GM and Chrysler restructurings.\509\ The
Panel is not aware of the stress tests being recalculated for
any other bank that participated in them, although it must be
noted that GMAC is the only participant that failed to meet the
stress tests' November 2009 deadline for raising additional
capital.
---------------------------------------------------------------------------
\505\ At the conclusion of the stress tests in May, the Federal
Reserve announced that GMAC required an additional $11.5 billion in
capital, $9.1 billion of which had to be in the form of fresh capital
(as opposed to conversions). Treasury conversations with Panel staff
(Jan. 8, 2010); Treasury Announces Restructuring of Commitment To GMAC,
supra note 170.
\506\ Of this $7.5 billion, $3.5 billion was used to add to GMAC's
required capital buffer, and $4 billion was used to support new
financing for Chrysler dealers and customers. Treasury conversations
with Panel staff (Jan. 8, 2010). The term sheet for this investment
stated that Treasury would invest ``up to $5.6 billion'' at a later
date.
Treasury stated that it decided to ``stage'' its investments
because it believed that the GM and Chrysler bankruptcy proceedings
might be less disruptive, and faster, than anticipated and because it
wanted to give a new GMAC management team the opportunity to develop
its own strategy for raising capital. Treasury conversations with Panel
staff (Jan. 8, 2010). Less disruptive bankruptcy proceedings would have
the effect of lowering GMAC's capital needs because the value of the GM
and Chrysler automobiles financed by GMAC and forming a large part of
its collateral, would be higher with GM and Chrysler standing behind
their warranties. Id.; see also Treasury Announces Restructuring of
Commitment To GMAC, supra note 170; OFS FY09 Financial Statements,
supra note 133, at 62 (``GMAC is in discussions with the Treasury-OFS
regarding additional financing to complete GMAC's post-SCAP capital
needs up to the amount of $5.6 billion, as previously discussed in
May'').
\507\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170. The transaction closed and was funded on December 30, 2009.
Treasury conversations with Panel staff (Jan. 6, 2010). Treasury stated
that it timed the transaction to close in fiscal year 2009 in order to
``clean up'' GMAC's balance sheet. Treasury conversations with Panel
staff (Jan. 8, 2010).
\508\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170; Treasury Announcement Regarding the CAP, supra note 486
(``[GMAC's] capital need is expected to be lower than anticipated at
the time the SCAP results were announced''); U.S. Department of the
Treasury, Questions for the Record for U.S. Department of the Treasury
Assistant Secretary Herbert M. Allison Jr., at 9 (Oct. 22, 2009)
(online at cop.senate.gov/documents/testimony-102209-allison-qfr.pdf)
(hereinafter ``Questions for the Record for Secretary Allison''); OFS
FY09 Financial Statements, supra note 133, at 62 (``GMAC is in
discussions with the Treasury-OFS regarding additional financing to
complete GMAC's post-SCAP capital needs up to the amount of $5.6
billion, as previously discussed in May''). A Wall Street Journal story
in late October stated that the capital injection would be between $2.8
billion and $5.6 billion. Dan Fitzpatrick and Damian Paletta, GMAC Asks
for Fresh Lifeline, Wall Street Journal (Oct. 19, 2009) (online at
online.wsj.com/article/SB125668489932511683.html?mod=djemalertNEWS).
\509\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170.
---------------------------------------------------------------------------
The additional funds were provided in the form of $2.54
billion in Trust Preferred Securities (TruPs) and $1.25 billion
in Mandatory Convertible Preferred Stock (MCP).\510\ Treasury
also received warrants to purchase $127 million of TruPs and
$63 million of MCP, which it exercised upon closing.\511\ At
the same time, Treasury converted $5.25 billion of its
preferred securities to MCPs (which have a more advantageous
conversion rate) and converted $3 billion of its MCPs to common
stock, increasing its ownership stake from 35 percent to 56
percent.\512\ Treasury also took the opportunity to recut the
terms of some of its existing securities, including the
conversion terms. With its enlarged ownership stake, Treasury
has the right to appoint four directors to GMAC's board of
directors.\513\ In total, Treasury now holds $2.67 billion in
TruPs and $11.4 billion in MCPs.
---------------------------------------------------------------------------
\510\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170.
\511\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170.
\512\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170.
\513\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170. The increase in ownership stake from 35 percent to 56 percent
gave Treasury the right to appoint two additional directors.
---------------------------------------------------------------------------
The additional capital was provided under the AIFP, rather
than under the Capital Assistance Program (CAP), which was
established to provide capital to financial institutions in
connection with the stress tests.\514\ Treasury stated that it
used the AIFP because its previous capital injections had been
through the AIFP and because of the relationship between GMAC
and the automotive industry.\515\ The terms of the securities
issued under the AIFP are also more advantageous to Treasury.
---------------------------------------------------------------------------
\514\ Id.; see also Congressional Oversight Panel, December
Oversight Report: Taking Stock: What Has the Troubled Asset Relief
Program Achieved?, at 20 (Dec. 9, 2009) (online at cop.senate.gov/
documents/cop-120909-report.pdf) (hereinafter ``COP December Oversight
Report''). Although Treasury provided the funds through the AIFP, it
stated that it was ``acting on its previously announced commitment to
provide capital to GMAC as identified in May as a result of the
Supervisory Capital Assessment Program (SCAP).'' Treasury Announces
Restructuring of Commitment To GMAC, supra note 170.
\515\ Treasury conversations with Panel staff (Jan. 8, 2010).
---------------------------------------------------------------------------
GMAC intends to seek financing in the credit markets during
2010, and if it is able to access the equity markets, then
Treasury will be able to start unwinding its position.
Treasury's large MCP position makes it likely that it will
convert the MCPs and sell common stock in the market after an
eventual IPO, although a private sale cannot be ruled out.\516\
In either case, Treasury's goal is to ``dispose of the
government's interests as soon as practicable consistent with
EESA goals.'' \517\ Treasury intends to sell its interests in a
timely and orderly manner that ``minimizes financial market and
economic impact,'' under what it determines to be appropriate
market conditions.\518\
---------------------------------------------------------------------------
\516\ Agency Financial Statement 2009, supra note 32, at 102;
Treasury conversations with Panel staff (Jan. 8, 2010).
\517\ Agency Financial Statement 2009, supra note 32, at 44.
\518\ Agency Financial Statement 2009, supra note 32, at 40.
---------------------------------------------------------------------------
In answers to questions posed by members of the Panel,
Assistant Secretary Allison suggested that Treasury's
assistance to GMAC has provided a ``reliable source of
financing to both auto dealers and customers seeking to buy
cars,'' helped ``stabilize our auto financing market,'' and
contributed ``to the overall economic recovery.'' \519\ GMAC is
a source of retail and wholesale financing for both GM and
Chrysler.\520\ Treasury has stated that if it refused to
support GMAC after providing assistance to GM and Chrysler, it
would undermine its own investments in the automotive
companies. Treasury has also stated that denying support to
GMAC in December 2009 would have placed Treasury's previous
investments at risk, and that refusing assistance after
promising it in May would have had a detrimental effect on
market confidence.\521\
---------------------------------------------------------------------------
\519\ Questions for the Record for Secretary Allison, supra note
508, at 9; see also COP December Oversight Report, supra note 514, at
71.
\520\ Treasury conversations with Panel staff (Jan. 8, 2010).
\521\ Treasury conversations with Panel staff (Jan. 8, 2010).
---------------------------------------------------------------------------
In spite of Assistant Secretary Allison's general
statements about the reasons for providing additional support
to GMAC, Treasury has not yet articulated a specific and
convincing reason to support the company. Treasury's most
recent announcement of assistance states only that its
``actions fulfill Treasury's commitments made in May to GMAC in
a manner which protects taxpayers to the greatest extent
possible.'' \522\ It has never stated that a GMAC failure would
result in substantial negative consequences for the national
economy. If Treasury has made such a determination, then it
should say so publicly. It does not appear that the support has
been made on the merits of the investment, particularly given
GMAC's recent statements that it anticipates reporting fourth
quarter 2009 losses of approximately $5 billion.\523\ Treasury
has not indicated whether it will be open to providing
additional financing to GMAC in the future.
---------------------------------------------------------------------------
\522\ Treasury Announces Restructuring of Commitment To GMAC, supra
note 170.
\523\ GMAC Financial Services, 2009 Fourth Quarter Strategic
Actions (Jan. 5, 2009) (online at phx.corporate-ir.net/
External.File?item=
UGFyZW50SUQ9MjY1MzIxN3xDaGlsZElEPTM2MzQ5M3xUeXBlPTI=&t=1); Samuel
Spies, GMAC Expects to Report Q4 Loss of about $5B, SNL Financial (Jan.
5, 2010).
---------------------------------------------------------------------------
Moreover, GMAC has received different treatment from all
other financial institutions that were subject to the stress
tests. Unlike other institutions, it was subjected to
additional stress tests after the initial stress test results
were released in May, and unlike other institutions, its
capital buffer requirements were revised in light of this
second round of tests. GMAC was the only institution that was
allowed to benefit from post-May improvements in its financial
position and in related sectors of the economy. In the face of
criticism about the merits of saving GMAC, Treasury owes the
public a more detailed and convincing explanation not only of
its rationale for providing substantial assistance to GMAC, but
also of its rationale for treating GMAC differently than other
stress-tested institutions.
9. PPIP
Treasury has committed up to $30 billion to be invested in
the Public-Private Investment Program (PPIP), a TARP initiative
pairing Treasury with private investors to purchase mortgage-
backed securities as a means of jump-starting that market back
into active trading. Treasury announced the PPIP on March 23,
2009, as part of its efforts to repair balance sheets distorted
by toxic assets and increase credit availability in the
financial system.\524\ Although the PPIP, when announced,
included both a legacy loans program and a legacy securities
program, the legacy loan program has been postponed for the
present.\525\ Because the loan program has not been
implemented, this report will address only the securities
program.
---------------------------------------------------------------------------
\524\ U.S. Department of the Treasury, Treasury Department Releases
Details on Public Private Partnership Investment Program (Mar. 23,
2009) (online at www.ustreas.gov/press/releases/tg65.htm).
\525\ ``Legacy securities'' are defined as ``Troubled real estate-
related securities (residential mortgage-backed securities or
commercial mortgage-backed securities), and other asset-backed
securities lingering on institutions' balance sheets because their
value could not be determined.'' Treasury Decoder, supra note 148.
---------------------------------------------------------------------------
The PPIP was designed to draw private capital into the
legacy securities market by creating public-private investment
funds financed by private investors, whose capital
contributions are matched dollar-for-dollar by Treasury using
TARP funds. The funds may also obtain debt financing from
Treasury equal to the full value of the fund's capital
investments.\526\ The funds, called PPIFs, are managed by fund
managers who have been selected by Treasury through an
application process. According to Treasury, those who were
ultimately selected were chosen based on a combination of the
following criteria:
---------------------------------------------------------------------------
\526\ This financing may include TALF financing, as described in
Section D.10, infra.
---------------------------------------------------------------------------
1. Demonstrated capacity to raise a minimum amount of
private sector capital;
2. Demonstrated experience investing in targeted
asset classes, including through performance track
records;
3. A minimum amount (market value) of the targeted
asset classes currently under management;
4. Demonstrated operational capacity to manage the
investments in a manner consistent with Treasury's
stated investment objectives while also protecting
taxpayers; and
5. Headquartered in the United States (although the
ultimate parent company need not be headquartered in
the United States).\527\
---------------------------------------------------------------------------
\527\ U.S. Department of the Treasury, Guidelines for the Legacy
Securities Public-Private Investment Program (accessed Jan. 6, 2010)
(online at www.financialstability.gov/docs/ProgramGuidelinesS-
PPIP.pdf).
---------------------------------------------------------------------------
Treasury ultimately selected nine funds, all of which have
succeeded in raising the private capital necessary to qualify
as fund managers under the program.\528\ As of December 31,
2009, Treasury has committed approximately $30 billion in eight
funds.\529\ Of the $30 billion invested under PPIP, $19.9
billion was committed as senior debt and $9.9 billion as
equity.\530\ Treasury received notes in exchange for its loans,
with the ``same duration as the underlying fund.'' \531\
---------------------------------------------------------------------------
\528\ One fund was recently frozen under the Key Man provision of
the partnership agreement creating the fund due to the departure of the
person named in that provision from the fund.
\529\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166, at 19.
\530\ These amounts represent Treasury's total commitment and not
the actual amount disbursed. Id.
\531\ See U.S. Department of the Treasury, Public-Private
Investment Program: $500 Billion to $1 Trillion Plan to Purchase Legacy
Assets (online at www.treas.gov/press/releases/reports/ppip--
whitepaper--032309.pdf) (accessed Jan. 12, 2010). This expiration term
will apply unless the note is accelerated in the event of default or
the fund is dissolved earlier. See, e.g., U.S. Department of the
Treasury, Loan Agreement (online at www.financialstability.gov/docs/
Loan%20Agreement%20(redacted)%20-%20AB.PDF) (accessed Jan. 12, 2010).
---------------------------------------------------------------------------
The PPIFs are structured as limited partnerships, with the
Fund Manager serving as General Partner and Treasury, along
with the other private investors, serving as Limited Partners.
Under the terms of the partnership agreements, the General
Partners have broad authority for the ``management, operation
and policy of the Partnership,'' which is ``vested exclusively
in the General Partner.'' \532\ Concerns have been expressed
over Treasury's apparent lack of control over the funds and the
funds' lack of transparency regarding their trading
activities.\533\ Although the agreements require the General
Partners to obtain Treasury approval for certain actions, these
actions are limited and generally involve the PPIFs venturing
beyond the prescribed terms of the program by, for example,
purchasing assets other than those designated as ``eligible
assets'' under the terms of the program. Obviously, as partner
in the funds, Treasury has the right and ability to counsel the
General Partners regarding investment strategy, but there is no
provision in the agreements to provide Treasury with the
ability to manage the assets directly or to dictate the General
Partners' management of the assets. Treasury has yet to
implement any measures to address these concerns.
---------------------------------------------------------------------------
\532\ Amended and Restated Limited Partnership Agreement for
AllianceBernstein Legacy Securities Master Fund, L.P., at 25 (online at
www.financialstability.gov/docs/AB%20Complete%20LPA%20(redacted).pdf).
The partnership agreements for the remaining PPIFs contain identical
language.
\533\ See COP August Oversight Report, supra note 65; SIGTARP,
Quarterly Report to Congress, at 171 (July 21, 2009) (online at
www.sigtarp.gov/reports/congress/2009/
July2009_Quarterly_Report_to_Congress.pdf) (expressing concern over the
lack of transparency in the PPIFs' trading activities and holdings and
requesting that Treasury take measures to address these concerns).
---------------------------------------------------------------------------
Under the agreements, each fund is able to conduct business
in the legacy securities markets until the eighth anniversary
of its inception, subject to a two-year extension with
Treasury's consent, unless the fund is terminated earlier by
the General Partner.\534\ Thus, the funds will be terminated
and dissolved no later than 2020.\535\ After outstanding debt
is repaid, any remaining funds will be divided equally between
Treasury (on account of its equity investment) and the private
investor.
---------------------------------------------------------------------------
\534\ U.S. Department of the Treasury, Public-Private Investment
Program (online at www.financialstability.gov/roadtostability/
publicprivatefund.html) (accessed Dec. 31, 2009) (providing redacted
versions of every executed partnership agreement between Treasury and
the private investor in establishing PPIFs).
\535\ Before Treasury and the private investor are paid on behalf
of their capital investments, the PPIF must first repay loans plus
principle, if any, under TALF. As previously discussed in this Section
and Section D.9 supra, Treasury may also receive a portion of this debt
repayment as a result of its financing of TALF's SPV.
---------------------------------------------------------------------------
As of the date of this report, neither Treasury nor the
funds have disclosed the nature of the PPIFs' investments.
While Treasury will have no direct role in selling the
assets held by the PPIFs, and therefore will not need as
detailed an exit strategy as other programs will require, OFS
will continue to have a responsibility to monitor the Fund
Managers and the funds' investments.
10. TALF
Another small TARP program, the Term Asset-Backed
Securities Loan Facility (TALF), will require very little
action to facilitate a complete exit. FRBNY created the TALF in
response to ``near-complete halt'' of the asset-backed
securities (ABS) market in October 2008.\536\ Under the TALF,
FRBNY provides non-recourse, three- to five-year loans to
eligible borrowers who pledge qualifying ABS or commercial
mortgage-backed securities.\537\ FRBNY receives monthly
interest payments on these loans.\538\ As of December 31, 2009,
TALF loan requests totaled approximately $61 billion.\539\
Unless FRBNY grants an extension,\540\ the TALF will no longer
make new loans after March 31, 2010 for loans collateralized by
ABS, and after June 30, 2010 for loans collateralized by
commercial mortgage-backed securities.\541\
---------------------------------------------------------------------------
\536\ See Federal Reserve Bank of New York, Term Asset-Backed
Securities Loan Facility: Frequently Asked Questions (online at
www.newyorkfed.org/markets/talf_faq.html) (hereinafter ``TALF
Frequently Asked Questions'') (accessed Jan. 12, 2010) (``The asset-
backed securities (ABS) market has been under strain for some months.
This strain accelerated in the third quarter of 2008 and the market
came to a near-complete halt in October'').
\537\ In addition to other criteria, an ``eligible borrower'' must
be a ``U.S. company,'' as defined by FRBNY. See generally TALF Terms
and Conditions, supra note 27. ``Eligible collateral'' includes ABS
that have a long-term AAA credit rating and are backed by one or more
of the following classes of securities: auto loans, student loans,
credit card loans, equipment loans, floorplan loans, insurance premium
finance loans, small business loans fully guaranteed as to principal
and interest by the U.S. Small Business Association, receivables
related to residential mortgage servicing advances (servicing advance
receivables), or commercial mortgage loans. See generally id.
\538\ See generally TALF Terms and Conditions, supra note 27.
\539\ Federal Reserve Bank of New York, Term Asset-Backed
Securities Loan Facility: CMBS (online at www.newyorkfed.org/markets/
CMBS_recent_operations.html) (accessed Jan. 12, 2010) (hereinafter
``FRBNY CMBS Recent Operations''); Federal Reserve Bank of New York,
Term Asset-Backed Securities Loan Facility: non-CMBS (online at
www.newyorkfed.org/markets/talf_operations.html) (accessed Jan. 12,
2010) (hereinafter ``FRBNY non-CMBS Recent Operations'').
\540\ TALF has already been granted one extension, which authorized
this program to continue beyond December 31, 2009, the original
termination date. Board of Governors of the Federal Reserve System,
Federal Reserve and Treasury Department Announce Extension to Term
Asset-Backed Securities Loan Facility (TALF) (Aug. 17, 2009) (online at
www.federalreserve.gov/newsevents/press/monetary/20090817a.htm).
\541\ TALF Terms and Conditions, supra note 27.
---------------------------------------------------------------------------
Treasury has currently committed up to $20 billion in TARP
funds under the TALF.\542\ This amount is incrementally funded
and, as of September 30, 2009, Treasury has only disbursed $100
million under the program.\543\ In exchange for any amount
disbursed, Treasury will receive a promissory note bearing
interest at LIBOR plus 3 percent.\544\ Pursuant to an agreement
to subordinate its debt, Treasury's loan will be repaid only
after FRBNY's loans, if any, are paid in full with
interest.\545\ This program is administered by FRBNY, and
Treasury has limited discretion regarding its management.
---------------------------------------------------------------------------
\542\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166.
\543\ Agency Financial Statement 2009, supra note 32.
\544\ U.S. Department of the Treasury, Credit Agreement among TALF
LLC as Borrower, FEDERAL RESERVE BANK OF NEW YORK, as Controlling
Party, FEDERAL RESERVE BANK OF NEW YORK, as the Senior Lender and
UNITED STATES DEPARTMENT OF THE TREASURY, as the Subordinated Lender at
12 (Mar. 3, 2009) (online at www.financialstability.gov/docs/SPV-
Credit-Agt.pdf) (hereinafter ``TALF Credit Agreement'').
\545\ TALF Credit Agreement, supra note 544. FRBNY's loans, if any,
are secured by a first priority lien on all assets of the SPV. See U.S.
Department of the Treasury, Security and Intercreditor Agreement among
TALF LLC, as borrower, FEDERAL RESERVE BANK OF NEW YORK, as Senior
Lender, UNITED STATES DEPARTMENT OF THE TREASURY, as Subordinated
Lender, FEDERAL RESERVE BANK OF NEW YORK, as Controlling Party, and THE
BANK OF NEW YORK MELLON, as Collateral Agent (Mar. 3, 2009) (online at
www.financialstability.gov/docs/SPV-Sec-Agt.pdf).
---------------------------------------------------------------------------
Because a TALF loan is non-recourse,\546\ if the borrower
defaults, FRBNY cannot take action against the borrower.
Instead, FRBNY takes ownership of the collateral. In turn,
FRBNY sells the collateral to TALF, LLC,\547\ a special purpose
vehicle (SPV) formed to facilitate this program. The SPV
purchases the recovered collateral from FRBNY at a price equal
to the defaulted TALF loan amount, plus accrued unpaid interest
and fees.\548\ As of December 31, 2009, no TALF loans have
defaulted, and the SPV contains only $100 million of Treasury's
seed funding.\549\
---------------------------------------------------------------------------
\546\ ``The TALF loan is non-recourse except for breaches of
representations, warranties, and covenants, as further specified in the
MLSA.'' TALF Frequently Asked Questions, supra note 536.
\547\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166.
\548\ TALF Terms and Conditions, supra note 27.
\549\ Agency Financial Statement 2009, supra note 32, at 53.
---------------------------------------------------------------------------
Treasury's $20 billion commitment to the TALF is to provide
the initial funding of this SPV.\550\ To the extent the SPV
purchases assets exceeding $20 billion, FRBNY will loan the SPV
the additional funding. As mentioned above, FRBNY's loan to the
SPV, if any, will be senior to Treasury's loan. To the extent
there are any assets remaining in the SPV after both FRBNY and
Treasury have been repaid, those assets will be shared equally
between FRBNY and Treasury.\551\
---------------------------------------------------------------------------
\550\ TALF Terms and Conditions, supra note 27.
\551\ Board of Governors of the Federal Reserve System, Term Asset-
Backed Securities Loan Facility (TALF) Terms and Conditions (online at
www.federalreserve.gov/newsevents/press/
monetary/monetary20081125a1.pdf) (hereinafter ``TALF Terms and
Conditions'').
---------------------------------------------------------------------------
Loans extended by Treasury and FRBNY to the SPV are due on
the 10th anniversary of the credit agreement, subject to
extension by FRBNY upon receipt of Treasury's consent.\552\
Treasury has informed Panel staff that if an ABS sold to the
SPV is underwater, the SPV will hold the asset until it
appreciates in value before disposing of it, thereby increasing
the likelihood of Treasury being repaid in full and with
interest.\553\ While potentially maximizing taxpayer returns,
this exit strategy may also have the effect of prolonging the
winding down process and therefore Treasury's involvement in
the market. Moreover, it will be the SPV created by FRBNY that
will manage any assets it holds.\554\ Consequently, within the
10-year period after the execution of the credit agreement,
Treasury has little to no control over when its loan will be
repaid.
---------------------------------------------------------------------------
\552\ Assuming the agreement closed in 2009, FRBNY and Treasury
loans would become due in 2019. The credit agreement is considered
``closed'' upon the satisfaction or waiver of certain preconditions
stipulated therein. TALF Credit Agreement, supra note 544.
\553\ Treasury conversations with Panel staff (June 24, 2009).
\554\ Assuming the agreement closed in 2009, FRBNY and Treasury
loans would become due in 2019. The credit agreement is considered
``closed'' upon the satisfaction or waiver of certain preconditions
stipulated therein. TALF Credit Agreement, supra note 544.
---------------------------------------------------------------------------
11. Small Business Programs
a. Programs
Treasury has yet to acquire any assets under its small
business initiatives, but it has committed $15 billion in TARP
funds out of the $35 billion it has allocated toward supporting
small businesses so far, to potentially do so.\555\ Treasury's
small business initiatives are three-pronged: $20 billion
pledged as credit protection under the TALF, $15 billion
directed to the purchase of Small Business Administration
(SBA)-guaranteed securities, and a still-evolving initiative to
provide capital assistance to small banks in return for
commitments to lend to small businesses.\556\ As relates to the
first two initiatives, Treasury may directly acquire assets
should it elect to purchase SBA-guaranteed securities, but it
will not receive assets from its TALF credit protection
pledge.\557\ It is still unclear what assets, if any, Treasury
may receive from its latest initiative.
---------------------------------------------------------------------------
\555\ U.S. Department of the Treasury, Fact Sheet: Unlocking Credit
for Small Businesses (Oct. 19, 2009) (online at
www.financialstability.gov/roadtostability/unlockingCredit
forSmallBusinesses.html) (hereinafter ``Small Business Fact Sheet'').
\556\ Small Business Fact Sheet, supra note 555. Cf. U.S.
Department of the Treasury, Consumer & Business Lending Initiative
(July 17, 2009) (online at www.financialstability.gov/roadtostability/
lendinginitiative.html) (hereinafter ``Consumer & Business Lending
Initiative''); see White House, President Obama Announces New Efforts
to Improve Access to Credit for Small Businesses (Oct. 21, 2009)
(online at www.whitehouse.gov/assets/documents/
small_business_final.pdf) (hereinafter ``President Obama Announces New
Small Business Efforts'').
\557\ Small Business Fact Sheet, supra note 555; see TALF Terms and
Conditions, supra note 551 (accessed Jan. 12, 2010).
---------------------------------------------------------------------------
Under the TALF, as noted above, Treasury provides up to $20
billion of TARP funds as a credit backstop against first losses
on FRBNY's overall $200 billion program commitment.\558\ At
present, approximately $62 billion in TALF loans have been
requested.\559\ For Treasury's backstop to be fully depleted,
and for FRBNY to incur any loan losses subsequently, posted
collateral would need to decline in value by more than one-
third.
---------------------------------------------------------------------------
\558\ Consumer & Business Lending Initiative, supra note 556.
\559\ This figure includes both CMBS and non-CMBS loans requested
as of December 3, 2009. See FRBNY CMBS Recent Operations, supra note
539; FRBNY non-CMBS Recent Operations, supra note 539.
---------------------------------------------------------------------------
Another of Treasury's small business initiatives calls for
the purchase of up to $15 billion in securities backed by SBA
loans: the government-guaranteed portion of SBA 7(a) loans and
the non-government-guaranteed first-lien mortgage loans
affiliated with the SBA's 504 loan program.\560\ Although an
active secondary market traditionally allowed commercial
lenders to sell the government-guaranteed portion of their 7(a)
loans, providing lenders with new capital and allowing them to
offer additional loans, beginning last fall, the secondary
market for SBA-guaranteed securities froze.\561\ Unable to shed
the risk from their books, commercial lenders significantly
curtailed their lending activities.\562\ Treasury enacted this
initiative in March 2009 to ``jumpstart credit markets for
small businesses.'' \563\
---------------------------------------------------------------------------
\560\ Small Business Fact Sheet, supra note 555. Under its 7(a)
Loan Program, the Small Business Administration (SBA) guarantees a
portion of qualified loans made and administered by commercial lenders.
The SBA does not make 7(a) loans, nor fully guarantee them--the lender
and SBA share the risk that a borrower will not fully repay the loan.
U.S. Small Business Administration, SBA Programs Office (online at
www.sba.gov/financialassistance/borrowers/
guaranteed/7alp/index.html) (accessed Nov. 24, 2009).
\561\ From 2006 through 2008, between 40 and 45 percent of the SBA
guaranteed portion of 7(a) loans were sold into the secondary market.
See Government Accountability Office, Small Business Administration's
Implementation of Administrative Provisions in the American Recovery
and Reinvestment Act of 2009, at 6 (Apr. 16, 2009) (online at
www.gao.gov/new.items/d09507r.pdf); Congressional Oversight Panel, May
Oversight Report: Reviving Lending to Small Businesses and Families and
the Impact of the TALF, at 52 (May 7, 2009) (online at cop.senate.gov/
documents/cop-050709-report.pdf) (referring to the market freezing
because of (1) the tightening of the Prime versus LIBOR spread, which
reduced the attractiveness of investment in securitized 7(a) loans
(indeed, the return for investors had disappeared); (2) the strained
capacity of broker-dealers, who were unable to sell their current
inventory and thereby free up capital to buy and pool additional loans;
(3) the reduced access to and increased cost of credit for broker-
dealers, who could not sell off inventory to pay off existing loans;
and (4) general uncertainty and fear in the marketplace).
\562\ Small Business Fact Sheet, supra note 555.
\563\ Small Business Fact Sheet, supra note 555.
---------------------------------------------------------------------------
Under the initiative, Treasury hired Earnest Partners, an
independent investment manager with SBA-guaranteed loan
experience, to guide its efforts to buy the securities.\564\
Unlike the TALF, Treasury's program to purchase SBA-guaranteed
securities does not utilize private-sector pricing. Rather,
Treasury may purchase securities directly from ``pool
assemblers'' and banks.\565\ According to Treasury's
implementation documents, ``Treasury and its investment manager
will analyze the current and historical prices for these
securities'' in order to ``identify opportunities to purchase
the securities at reasonable prices.'' \566\ Treasury defines
such prices as those that fulfill the dual objective of
``[providing] sufficient liquidity to encourage banks to
increase their small business lending and [protecting]
taxpayers' interest.'' \567\
---------------------------------------------------------------------------
\564\ U.S. Department of the Treasury, Financial Agency Agreement
for Asset Management Services for SBA Related Loans and Securities
(Mar. 16, 2009) (online at www.financialstability.gov/docs/
ContractsAgreements/TARP%20FAA%20SBA%20Asset%20Manager%20-
%20Final%20to%20 be%20posted.pdf) (updated Nov. 12, 2009); See SIGTARP,
Quarterly Report to Congress, at 112 (Apr. 21, 2009) (online at
www.sigtarp.gov/reports/congress/2009/
April2009_Quarterly_Report_to_Congress.pdf).
\565\ Pursuant to EESA, Treasury expects to receive warrants from
the pool assemblers as additional consideration for the purchase of
7(a) and 504 first-lien securities. The pricing and exact nature of the
warrants is still under consideration by Treasury. U.S. Department of
the Treasury, Unlocking Credit for Small Businesses: FAQ on
Implementation (Mar. 17, 2009) (online at www.financialstability.gov/
docs/FAQ-Small-Business.pdf) (hereinafter ``Unlocking Credit for Small
Businesses: FAQ on Implementation'').
\566\ Id.
\567\ Id.
---------------------------------------------------------------------------
Treasury has $3 billion apportioned for its direct purchase
program, and despite stating 7(a) and 504 purchases would begin
by May 2009, Treasury has not yet made any purchases under the
program.\568\ A rejuvenated secondary market for SBA loans, as
Treasury previously noted, has tempered the need for an earlier
start to the program.\569\ If Treasury does engage in direct
purchases, it plans to either sell the securities to private
investors or pursue a buy-and-hold strategy, depending on
market conditions.\570\
---------------------------------------------------------------------------
\568\ Government Accountability Office, Troubled Asset Relief
Program: One Year Later, Actions are Needed to Address Remaining
Transparency, and Accountability Challenges, at 80 (Oct. 8, 2009)
(online at www.gao.gov/new.items/d1016.pdf); Unlocking Credit for Small
Businesses: FAQ on Implementation, supra note 565.
\569\ Between May and October, the total volume of loans settled
from lenders to broker averaged $344 million, exceeding pre-crisis
levels. By comparison, in January total volume was $85.9 million. U.S.
Department of the Treasury, SBA Host Small Business Financing Forum
(Nov. 18, 2009) (online at www.financialstability.gov/latest/tg--
11182009.html) (hereinafter ``SBA Host Small Business Financing
Forum''). See also Unlocking Credit for Small Businesses: FAQ on
Implementation, supra note 565.
\570\ SBA Host Small Business Financing Forum, supra note 569.
---------------------------------------------------------------------------
On October 21, 2009, the White House announced a third
small business lending initiative, part of which uses TARP
funds. Under this initiative, Treasury will provide low-cost
capital to community banks to be used in small business
lending.\571\ Participating banks must submit small business
lending plans and will be required to submit quarterly reports
describing their small business lending activities. If their
lending plans are accepted, banks will have access to capital
at a dividend rate of 3 percent, more attractive terms than the
5 percent rate under the CPP. These small banks will be able to
receive capital totaling up to 2 percent of their risk weighted
assets.\572\ For community development financial institutions
that can document that 60 percent of their small business
lending targets low income communities or underserved
populations,\573\ this dividend rate will be only two percent.
As currently conceived,\574\ this capital will be available
after the bank submits a small business lending plan, and may
only be used to make qualifying small business loans.\575\
Further implementing details for this program have not been
announced as of the release of this report.
---------------------------------------------------------------------------
\571\ Small- and medium-sized banks are seen as effective vehicles
for supporting small business lending because banks with less than $1
billion in assets hold greater proportions of small business loans to
all business loans. See President Obama Announces New Small Business
Efforts, supra note 556.
\572\ See id.
\573\ Community development financial institutions, which are
certified by the federal government, provide loans to underserved
communities.
\574\ See President Obama Announces New Small Business Efforts,
supra note 556.
\575\ See id.
---------------------------------------------------------------------------
b. Future Considerations
Small businesses continue to experience an inability to
access credit.\576\ Treasury has indicated that measures to
``get credit to small businesses'' will be a key driver in
Treasury's economic recovery strategy.\577\ At the Panel's
December hearing, Secretary Geithner stated that new TARP
investments would be limited to ``housing, small business, and
securitization markets that facilitate consumer and small
business loans.'' \578\ In the process of doing so, the
Secretary noted, Treasury is ``reserving funds for additional
efforts to facilitate small business lending.'' \579\
---------------------------------------------------------------------------
\576\ See U.S. Department of the Treasury, Report to the President
Small Business Financing Forum (Dec. 3, 2009 (online at
www.financialstability.gov/docs/Small%20Business%
20Financing%20Forum%20Report%20FINAL.PDF) (hereinafter ``Report to the
President Small Business Financing Forum'').
\577\ Agency Financial Statement 2009, supra note 32.
\578\ Id.
\579\ Id.
---------------------------------------------------------------------------
Treasury, in coordination with the SBA, held a Small
Business Financing Forum on November 18, 2009, convening
``entrepreneurs, small business owners, lenders, policymakers
and regulators to assess additional ways to spur small business
growth.'' \580\ Secretary Geithner delivered a summary of
participant views and recommendations to President Obama on
December 3, 2009.
---------------------------------------------------------------------------
\580\ See Report to the President Small Business Financing Forum,
supra note 576.
---------------------------------------------------------------------------
As of the date of this report, it is still unclear which
proposals, if any, the Administration is considering, and
Treasury has not allocated additional TARP funds to support new
small business initiatives beyond those discussed above.\581\
It is possible, however, that small business initiatives will
result in Treasury's acquisition of additional assets. As
Secretary Geithner noted at the Panel's December hearing, small
banks have been reluctant to participate in Treasury's recent
low-cost-capital initiative for fear of being stigmatized or
having operating conditions attached.\582\ Because community
bank lending is tied to small business growth, which often
feeds job creation, Treasury's success in tailoring its small
business programs to facilitate such lending will be essential
to the success of Treasury's adapted TARP strategy.
---------------------------------------------------------------------------
\581\ Senator Mark Warner has also offered a proposal calling for
the reallocation of up to $40 billion in unused TARP funds to create a
small business loan fund. Participating regional and community banks
would be required to contribute up to $10 billion and assume first-
dollar losses on the loans. On October 21, 2009, Senator Warner sent
President Obama a letter signed by 32 Senate colleagues seeking
Administration backing for the proposal. Letter from Senator Mark R.
Warner to President Barack Obama (Oct. 21, 2009).
\582\ See Agency Financial Statement 2009, supra note 32.
---------------------------------------------------------------------------
Moving forward, as other TARP programs wind down, Treasury
should be transparent about its eventual exit plans for
programs that are not yet under way.
E. Unwinding TARP Expenditure Programs
Some of Treasury's TARP initiatives will neither generate
fees, nor acquire assets with the potential to increase in
value. These initiatives constitute non-recoverable
expenditures from the TARP, whereby Treasury can only realize
monetary losses on these programs. To date, this exposure
relates solely to Treasury's mortgage foreclosure mitigation
efforts, including disbursements or potential disbursements,
made under Treasury's HAMP initiative and its subprograms, but
may also apply to the small business initiatives discussed
above.\583\ HAMP is the largest of the Making Home Affordable
programs and presents the most exposure for monetary losses. As
Secretary Geithner noted of HAMP at the Panel's December 10,
2009 hearing, ``expenditures through [HAMP] were never intended
to generate revenue.'' \584\ Rather, HAMP ``was created to help
mitigate foreclosure for responsible but at-risk homeowners.''
\585\
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\583\ In keeping with the scope of this report, this section
examines only Treasury's monetary exposure related to its mortgage
foreclosure mitigation programs. For an in-depth assessment of
Treasury's mortgage foreclosure mitigation efforts, see the Panel's
October 2009 report. See Congressional Oversight Panel, October
Oversight Report: An Assessment of Foreclosure Mitigation Efforts After
Six Months (Oct. 9, 2009) (online at cop.senate.gov/documents/cop-
100909-
report.pdf) (hereinafter ``COP October Oversight Report''); see also
COP December Oversight Report, supra note 514.
\584\ Agency Financial Statement 2009, supra note 32.
\585\ Id.; OFS FY09 Financial Statements, supra note 133, at 3.
(``In particular, the $50 billion Home Affordable Modification Program
or `HAMP,' is not designed to recoup money spent on loan modifications
to keep people in their homes.'')
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1. HAMP
Under HAMP, Treasury allocated up to $50 billion from the
TARP to modify private-label mortgages. To prevent
foreclosures, Treasury shares the cost of reducing monthly
payments on certain delinquent loans and provides targeted
incentives to borrowers, investors, and servicers that
participate in the program.\586\ Treasury currently estimates
it will spend $48.756 billion for private-label loans under
HAMP. Of the initial $50 billion allocation, $1.244 billion
will never be obligated due to the fact that TARP authority was
reduced by this amount under the Helping Families Save their
Home Act. Treasury has currently obligated $35.5 billion of the
amount, reflecting Treasury's legal commitments to 102
servicers as of December 31, 2009.\587\ Due to HAMP's payment
structure, including delayed payments and a long disbursement
cycle, only a fraction of TARP funds have been paid out to
date.\588\
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\586\ 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)
(hereinafter ``MHA Program Description'').
\587\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166.
\588\ OFS FY09 Financial Statements, supra note 133. (Treasury's FY
2009 net cost of operations of $41.6 billion includes the estimated net
cost related to loans, equity investments, and asset guarantees. Due to
its program structure, the $50 billion HAMP has delayed payments as
well as a long disbursement cycle so the FY 2009 amounts include only
$2 million in cost.)
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HAMP provides lenders/investors with cost-share payments
for up to five years for half the cost of reducing a borrower's
payment from 38 percent to 31 percent of the borrower's gross
monthly income.\589\ Investors must pay for reducing the
borrower's payment down to the 38 percent threshold before they
are able to benefit from the cost-share incentive.\590\
---------------------------------------------------------------------------
\589\ MHA Program Description, supra note 586.
\590\ MHA Program Description, supra note 586.
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HAMP also provides targeted incentive payments for first-
and second-lien mortgage modifications. On first-lien
mortgages, targeted incentives include an up-front payment of
$1,000 to the servicer for each successful modification
following the completion of the borrower's trial period, and
``pay for success'' fees of up to $1,000 annually for three
years if the borrower remains current.\591\ Additional one-time
incentives include $500 to servicers and $1,500 to investors if
loans are successfully modified for distressed borrowers who
are current but are in danger of imminent default.\592\
Homeowners also earn up to $1,000 towards principal balance
reduction annually for five years contingent on their remaining
current with payments.\593\ Treasury estimates that up to 50
percent of at-risk mortgages have second liens.\594\ In order
to address second lien debts, such as home equity lines of
credit or second mortgages, HAMP encourages servicers to
contact second lien holders and negotiate the extinguishment of
the second lien.\595\ Servicers are eligible to receive
payments of $500 per second lien modification, as well as
success payments of $250 per year for three years, provided the
modified first loan remains current.\596\ Borrowers also
receive success payments for participating of $250 per year for
up to five years that are used to pay down the principal on the
first lien.\597\
---------------------------------------------------------------------------
\591\ MHA Program Description, supra note 586.
\592\ Imminent default determinations are made by servicers based
on the borrower's financial condition in light of hardship as well as
the condition of and circumstances affecting the property securing the
mortgage. U.S. Department of the Treasury, Supplemental Documentation--
Frequently Asked Questions Home Affordable Modification Program (Nov.
12, 2009) (online at www.hmpadmin.com/portal/docs/hamp_servicer/
hampfaqs.pdf) (hereinafter ``Supplemental Documentation for HAMP'').
\593\ MHA Program Description, supra note 586.
\594\ U.S. Department of the Treasury, Making Home Affordable:
Program Update (Apr. 28, 2009) (online at www.financialstability.gov/
docs/042809SecondLienFactSheet.pdf) (hereinafter ``Making Home
Affordable: Program Update'').
\595\ Id.
\596\ Id.
\597\ Id.
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Treasury utilizes mortgage servicers to carry out the
process of modifying mortgages. In exchange for agreeing to
follow Treasury's standardized guidelines and process,
participating servicers are eligible for the various program
incentive payments. Under the Servicer Participation
Agreements, Treasury has authorized each participating servicer
to modify mortgages through December 31, 2012. Because
mortgages will continue to be modified past the October 2010
expiration of TARP, it is important to consider how various
aspects of the program will function.
HAMP modifications begin with a three-month trial
modification period for eligible borrowers, although the
maximum trial period was recently extended to allow borrowers
additional time to provide necessary documentation. After three
months of successful payments at the modified rate and
provision of full supporting documentation, the modification
becomes permanent. December 31, 2012 will be the last date upon
which servicers can commence a new trial modification. Under
current program guidelines, the last date for a possible
conversion to permanent status is May 1, 2013.
Presuming a HAMP modification remains current, incentive
payments will extend into the future for five years after the
trial modification converts to permanent status, long past the
scheduled expiration of the TARP. Based on the final date for a
modification to become permanent, servicer incentive payments
could continue until May 1, 2016, and borrower incentive
payments could continue until May 1, 2018. Following the
expiration of TARP and following the expiration of servicers'
authority to continue making new modifications, scheduled
payments will continue to be made by Fannie Mae, Treasury's
financial agent, as they are currently. HAMP payments are made
to servicers monthly via wire transfer in a consolidated
manner.\598\ Payments are remitted to servicers either for
themselves or on behalf of borrowers and investors.\599\
Servicers apply payments made to borrowers directly to reducing
the principal of the borrower's mortgage.\600\ Cost-share
payments to investors/security holders accrue monthly as of the
completed modification, not from the start of the trial period.
Servicers are responsible for delivering these payments to the
appropriate investors/security holders.\601\
---------------------------------------------------------------------------
\598\ Monthly incentive payments are distributed on a consolidated
basis, rather than by individual loan. Supplemental Documentation for
HAMP, supra note 592, at 25.
\599\ Fannie Mae provides loan-level accounting for the incentives.
Id.
\600\ Making Home Affordable: Program Update, supra note 594.
\601\ Treasury is not providing guidance on how those funds are to
be passed through to security holders of securitization trusts.
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Treasury anticipates that HAMP expenses will increase
significantly over time, ``as more modifications of mortgage
payments are finalized between mortgage servicers and
borrowers, resulting in increased incentive payments.'' \602\
As more money flows, the need for strong oversight becomes even
more important. Freddie Mac serves as Treasury's compliance
agent and monitors servicer payments to ensure the proper
remittance of funds to investors/security holders and the
proper application of funds to borrowers' accounts.\603\
Freddie Mac will continue in this role after the expiration of
the TARP.
---------------------------------------------------------------------------
\602\ See Agency Financial Statement 2009, supra note 32 (``We need
to continue to find ways to help mitigate foreclosures for responsible
homeowners . . .'').
\603\ Supplemental Documentation for HAMP, supra note 592, at 25.
---------------------------------------------------------------------------
Payments under HAMP are contingent on borrowers remaining
in ``good standing.'' A borrower loses good standing when an
amount equal to three full monthly payments is due and unpaid
on the last day of the third month in which payments were due.
If this occurs, good standing cannot be restored, and the
borrower permanently loses eligibility to receive further
incentives and reimbursements under HAMP. A borrower who fails
a HAMP modification is not eligible for another HAMP offer,
even if the borrower fully cures the delinquency. However, the
servicer is obligated to work with the borrower to attempt to
cure their delinquency. If a cure cannot be reached, the
servicer must consider the borrower for ``any other home
retention loss mitigation options that may be available.'' If
those options are unsuccessful, a short sale or deed-in-lieu
must be considered.\604\ Notwithstanding any future changes
Treasury may make to the program, provisions addressing
troubled modifications and redefaults will not change following
the expiration of the TARP or the cessation of additional
modifications.
---------------------------------------------------------------------------
\604\ Supplemental Documentation for HAMP, supra note 592, at 25.
---------------------------------------------------------------------------
The October 2010 expiration of TARP will have one notable
effect on the foreclosure mitigation programs by freezing the
maximum number of modifications, even though the program will
continue to operate. The funds available to pay servicer,
borrower, and investor payments are capped based upon each
servicer's Servicer Participation Agreement.\605\ Treasury
established the amount in each servicer's initial program
participation cap by ``estimating the number of HAMP
modifications expected to be performed by each servicer during
the term of the HAMP.'' \606\ Once a servicer's cap is reached,
a servicer cannot ``enter into any agreements with borrowers
intended to result in new loan modifications, and no payments
will be made with respect to any new loan modifications.''
\607\ Treasury, at its sole discretion, can adjust a servicer's
cap based on an updated estimate of the number of HAMP
modifications the servicer is expected to perform.\608\ For
example, the total initial allocation to servicers was $23.6
billion, but the various allocations have been increased by a
total of $11.9 billion to the current cap of $35.5 billion.
However, Treasury will only commit funds to servicers until
TARP's October 2010 expiration.\609\ This means that after
October 3, 2010, the maximum amount each servicer is authorized
to modify under HAMP will be locked into place, and Treasury
can no longer increase a servicer's cap, only decrease it,
through the end of the program.
---------------------------------------------------------------------------
\605\ U.S. Department of the Treasury, Supplemental Directive 09-01
Introduction of the Home Affordable Modification Program, at 23 (online
at www.hmpadmin.com/portal/docs/hamp_servicer/sd0901.pdf) (hereinafter
``Supplemental Directive for HAMP'').
\606\ Id.
\607\ Id.
\608\ Id.
\609\ U.S. Department of the Treasury, Making Home Affordable
Borrower Frequently Asked Questions, at 11 (July 16, 2009) (online at
www.financialstability.gov/docs/borrower_qa.pdf).
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2. Future Considerations
Moving forward, Treasury has stated that its focus will
remain on foreclosure mitigation as a key part of its new TARP
commitment strategy.\610\ The prospect of future initiatives
raises important questions about future expenditures,
timetables, management, supervision and enforcement, in
addition to Treasury's relationship to servicers and borrowers
going forward. At this time, Treasury has not announced any
changes to the foreclosure mitigation programs on these points.
Further, as noted in the Panel's October 2009 report, the
foreclosure problem is far from abating, and with rising
unemployment, widespread deep negative equity, and recasts on
payment-option adjustable rate mortgages and interest-only
mortgages increasing in volume, there is no immediate sign of a
resolution to the foreclosure crisis in sight.\611\ While
Treasury has structured the Servicer Participation Agreements
to allow servicers to modify mortgages through 2012, it is
unclear that Treasury would have the authority to introduce any
new foreclosure initiatives or make changes to existing
programs past the October 2010 expiration of the TARP.
Therefore, should Treasury intend to make changes to address
these matters, the changes would need to be implemented
relatively soon.
---------------------------------------------------------------------------
\610\ See Agency Financial Statement 2009, supra note 32; Sec.
Geithner Written Testimony, supra note 32, at 5 (``Second, we must
fulfill EESA's mandate to preserve home ownership, stimulate liquidity
for small businesses, and promote jobs and economic growth. To do so,
we will limit new commitments in 2010 to three areas. We will continue
to mitigate foreclosure for responsible American homeowners as we take
the steps necessary to stabilize our housing market'').
\611\ See COP October Oversight Report, supra note 583.
---------------------------------------------------------------------------
Treasury identified its key challenges related to HAMP
going forward as three-fold: To reach more eligible borrowers,
to help borrowers convert more modifications from trial to
permanent, and to increase transparency to assure the public
that the program is helping homeowners as intended.\612\ Of
these objectives, borrower conversions is the ``central
focus.'' \613\ HAMP was not designed to address foreclosures
caused by unemployment, which now appears to be a central cause
of nonpayment. Testifying before the House Financial Services
Committee in December, Assistant Secretary Allison stated:
---------------------------------------------------------------------------
\612\ House Financial Services Committee, Written Testimony of
Assistant Secretary Herbert Allison, The Private Sector and Government
Response to the Mortgage Foreclosure Crisis 111th Cong. (Dec. 8, 2009)
(online at www.house.gov/apps/list/hearing/financialsvcs_dem/
herb_allison.pdf).
\613\ Id.
While our key focus is on helping as many borrowers as
quickly as possible under the current program, Treasury
recognizes that unemployment presents unique challenges
and is still actively reviewing various ideas and
suggestions in order to improve implementation and
effectiveness of the program in this area.\614\
---------------------------------------------------------------------------
\614\ Id.
Finally, as Treasury winds down the foreclosure mitigation
programs under the TARP, it must be cognizant of the
intersection of these programs with other non-TARP programs and
initiatives, which may also be unwound or changed. For example,
the Federal Reserve's monetary policy has produced low interest
rates, which have stimulated greater demand for mortgage
financed home purchases by lowering the cost of capital, and
federal government support for the GSEs and the private label
mortgage backed securities market has also contributed to
liquidity and thus lowered the costs of mortgage capital. This
level of support cannot continue indefinitely, however, and as
long as foreclosures and real estate owned inventory flood the
housing market and contribute to an oversupply of housing stock
for sale, there will be strong downward pressure on home
prices.
F. What Remains and What Additional Assets Might Be Acquired?
Set forth above in Sections D and E is a summary of the
TARP initiatives that are open and closed to new expenditures.
As of December 30, 2009, $65.5 billion of TARP funds have been
committed and not used and $336.2 billion of TARP funds remains
uncommitted.\615\ On December 10, 2009, Secretary Geithner
announced that Treasury will continue to wind down programs put
in place to address the crisis. During the fourth quarter of
2009, the CPP ended. New TARP commitments in 2010 will be in
three areas:
---------------------------------------------------------------------------
\615\ See Figure 22.
---------------------------------------------------------------------------
Continuing foreclosure mitigation; \616\
---------------------------------------------------------------------------
\616\ For further discussion, see Section E, infra.
---------------------------------------------------------------------------
Providing capital to small and community
banks and reserve funds to facilitate small business
lending; \617\ and
---------------------------------------------------------------------------
\617\ For further discussion, see Section D.11, infra.
---------------------------------------------------------------------------
Increasing commitment to the TALF.\618\
---------------------------------------------------------------------------
\618\ For further discussion, see Section D.10, infra.
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In addition, if passed, the following proposed legislation
includes several provisions that would impact the TARP.
H.R. 4173, the Wall Street Reform and Consumer Protection
Act of 2009, passed the House of Representatives on December
11, 2009 by a vote of 223 to 202.\619\ The bill includes a
series of measures that would comprehensively reform the U.S.
financial regulatory structure. In addition, the bill includes
the following TARP provisions:
---------------------------------------------------------------------------
\619\ Wall Street Reform and Consumer Protection Act of 2009, H.R.
4173, 111th Cong. (2009).
---------------------------------------------------------------------------
The bill would reduce the maximum allowable
amount outstanding under TARP by $20.8 billion and use
the money to offset the excess costs of the bill.\620\
---------------------------------------------------------------------------
\620\ Congressional Budget Office, Cost Estimate of H.R. 4173, Wall
Street Reform and Consumer Protection Act of 2009 (Dec. 9, 2009)
(online at www.cbo.gov/ftpdocs/108xx/doc10844/hr4173asreported.pdf).
---------------------------------------------------------------------------
An amendment offered by Rep. Barney Frank
(D-MA), adopted by a vote of 240 to 182, would
authorize Treasury to transfer $3 billion in funds
available under EESA to the Department of Housing and
Urban Development (HUD) to provide emergency low-
interest loans to unemployed homeowners in need of
assistance in making mortgage payments and $1 billion
to HUD's Neighborhood Stabilization Program to assist
states and local governments with the redevelopment of
abandoned and foreclosed homes.\621\
---------------------------------------------------------------------------
\621\ Representative Barney Frank, Wall Street Reform and Consumer
Protection Act of 2009, Congressional Record Vol. 155, No. 186: p.
H14663-14664 (Dec. 10, 2009) (online at frwebgate.access.gpo.gov/cgi-
bin/getpage.cgi?position=all&page=H14663&dbname=2009_record).
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Section 134 of EESA states that should TARP
realize a net loss, ``the President shall submit a
legislative proposal that recoups from the financial
industry an amount equal to the shortfall in order to
ensure that the Troubled Asset Relief Program does not
add to the deficit or national debt.'' An amendment
offered by Rep. Gary Peters (D-MI), adopted by a vote
of 225-198, would authorize the FDIC to make
assessments on large financial institutions to
compensate for any such TARP shortfall.\622\
---------------------------------------------------------------------------
\622\ Rep. Gary Peters, Amendment to the Wall Street Reform and
Consumer Protection Act of 2009, Congressional Record, H14748-14750
(Dec. 11, 2009) (online at www.congress.gov/cgi-lis/query/D?r111:1:./
temp/r111kAWb3J::).
The Senate Committee on Banking, Housing & Urban Affairs
expects to mark up its version of this bill at the end of
January 2010.
H.R. 2847, Jobs for Main Street Act of 2010, passed the
House of Representatives on December 16, 2009, by a vote of 217
to 212.\623\ The bill, which originated as the FY 2010
Commerce-Justice-Science appropriations bill, authorizes $154
billion for job creation and the extension of unemployment
benefits. The bill would reduce the maximum amount outstanding
under the TARP by $150 billion and redirect $75 billion to
create new jobs through infrastructure projects ($48.3 billion)
and prevent layoffs of state and local employees ($26.7
billion).\624\ The remaining $79 billion in spending, not
funded through the TARP, would pay for the extension of
unemployment benefits and health insurance aid for the jobless,
measures that were included in the $787 billion economic
stimulus package (Pub. L. 111-5) earlier this year. The Senate
is expected to act on this bill in January 2010.\625\
---------------------------------------------------------------------------
\623\ Jobs for Main Street Act, H.R. 2847, 111th Cong. (2009).
\624\ In its March 2009 baseline projection, the Congressional
Budget Office (CBO) estimated that Treasury would use all of the
spending authority available under the TARP. That baseline was adopted
as the Congress' budget resolution baseline for scorekeeping purposes
and is used by CBO for estimating the budgetary impact of legislation
until the Congress adopts a new baseline for scorekeeping purposes.
Using the March baseline's estimated average subsidy of 50 percent for
the use of uncommitted TARP authority, the bill's proposed reduction in
authority of $150 billion would result in outlay savings of $75 billion
which would be redirected toward job creation initiatives.
\625\ Geof Koss, House-Passed Jobs Measure Will Wait, CQ Weekly
(Dec. 28, 2009).
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G. Unwinding Implicit Guarantees in a Post-TARP World
There are two kinds of tools available to counteract the
effects of implicit guarantees.\626\ One is to regulate the
institutions that are the beneficiaries of such risks in order
to minimize the impact of the guarantees. The second is to
create a credible system in which such institutions could be
liquidated or otherwise reorganized so that failure is a real
possibility.\627\ The options may work alone or in concert. In
the following section, this report lays out several options
that have been discussed by various commentators, and describes
legislative proposals by Congress and the current
Administration. The Panel does not take a position as to
whether any of these options are advisable; the sole purpose in
describing the options available is to provide a brief survey
of current thought on this issue.
---------------------------------------------------------------------------
\626\ It is important to note that implicit guarantees from
government subsidization or sponsorship exist in numerous markets. For
example, before the mortgage crisis, Government Sponsored Enterprises
(GSEs) such as Fannie Mae were thought to be shielded from aggregate
credit risks by implicit government backing, allowing them to take on
debt at rates below those paid by private institutions. See Karsten
Jeske & Dirk Kreuger, Housing and the Macroeconomy: The Role of
Implicit Guarantees for Government-Sponsored Enterprises, Federal
Reserve Bank of Atlanta Working Paper 2005-15 (Aug. 2005) (online at
papers.ssrn.com/sol3/
papers.cfm?abstract_id=811004). Some economists have argued that such
implicit guarantees contributed to the mortgage crisis. See Vernon L.
Smith, The Clinton Housing Bubble, Wall Street Journal (Dec. 18, 2007)
(online at online.wsj.com/article/SB119794091743935595.html). This
report, however, addresses the effects of TARP and its aftermath and so
is limited in scope to the concerns created by the implicit guarantee
to large financial institutions.
\627\ The Panel made a number of recommendations on this topic in
its special report on regulatory reform. Congressional Oversight Panel,
Modernizing the American Financial Regulatory System: Recommendations
for Improving Oversight, Protecting Consumers, and Ensuring Stability
(Jan. 29, 2009) (online at cop.senate.gov/reports/library/report-
012909-cop.cfm).
---------------------------------------------------------------------------
1. Regulatory Options
The regulatory options most often discussed at present
include the following broad categories:
a. Limitations on Size
One school of thought holds that size alone is a threat to
the system.\628\ The proponents of this theory point out that
just four of the 8,100 or so U.S. banks control nearly 40
percent of the deposits in the U.S. banking system,\629\ that
as of September 30, 2009, the four largest banks held 37.9
percent of all domestic assets,\630\ and that a collapse of any
one of them could bring down the banking system, if not large
portions of the economy.\631\ While JPMorgan Chase CEO Jamie
Dimon argues that a regulatory system could be created to deal
with the failure of very large banks, as the FDIC deals with
failed commercial banks,\632\ the ``just too big'' school
points out that the FDIC system is predicated on the existence
of bigger banks that can take over the assets of failed
commercial banks, and that no entity exists that can take over
a failed very large bank, except the U.S. government.\633\
Among the proponents of this argument is former Federal Reserve
Chairman Alan Greenspan, who maintains that the solution to the
too big to fail problem will require ``radical things,'' such
as the forced break-up of very large banks, just as Standard
Oil was broken up in 1911.\634\ Without such action, Mr.
Greenspan believes the implicit subsidy provided to very large
firms will result in ``a moribund group of obsolescent
institutions, which will be a big drain on the savings of this
society.'' \635\ David Moss, the John G. McLean Professor of
Business Administration at Harvard Business School, suggests an
alternative solution to the too big to fail problem in which
federal officials identify financial institutions whose failure
would pose a systemic threat to the broader financial system
and submit such institutions to increased oversight and
mandatory federal insurance.\636\
---------------------------------------------------------------------------
\628\ This seems to be the belief in Europe. Several large,
struggling financial institutions have instead been forced to sell off
business units, leaving the parent companies smaller but, ostensibly,
stronger. Most notably, Royal Bank of Scotland PLC in the UK, ABN Amro
in the Netherlands, and Dexia SA in Belgium have all recently announced
planned sell-offs. See The Royal Bank of Scotland, RBS Announces
Successful Sale of RBS Asset Management Fund Management Assets (Jan. 8,
2010) (online at www.rbs.com/media/news/press-releases/2010-press-
releases/2010-01-08-asset-finance-sale.ashx) (quoting the RBS Group's
CFO, Bruce Van Suan as saying ``This transaction represents another
step in our plan to restructure RBS around its core customer
franchises''); Ministry of Finance of the Netherlands, Government
Clears the Way for Integration of ABN Amro and Fortis Bank Netherlands
(Nov. 19, 2009) (online at www.minfin.nl/english/News/Newsreleases/
2009/11/Government_clears_the_way_for_integration_of_ABN_
AMRO_and_Fortis_Bank_Nederland) (citing letter from Dutch Minister of
Finance to the Dutch Lower House of Parliament stating that ``the
hiving off of business units is necessary''); Dexia, Societe General
and Dexia Complete the Credit du Nord Transaction (Dec. 11, 2009)
(online at www.dexia.com/docs/2009/2009_news/
20091210_credit_nord_UK.pdf) (noting that Dexia's divestiture of its 20
percent stake in Credit du Nord is part of the Dexia Group's
restructuring plan).
\629\ These banks are Citigroup, Bank of America, Wells Fargo, and
JPMorgan.
\630\ Specifically, four banks accounted for 37.9 percent of the
assets of all insured U.S.-chartered commercial banks with assets of at
least $300 million. See Board of Governors of the Federal Reserve
System, Large Commercial Banks (online at www.federalreserve.gov/
releases/lbr).
\631\ See, e.g., Joint Economic Committee, Written Testimony of
Joseph Stiglitz, Professor, Columbia University, Too Big to Fail or Too
Big to Save? Examining the Systemic Threats of Large Financial
Institutions, 111th Cong., at 2-3 (Apr. 21, 2009) (online at
jec.senate.gov/index.cfm?FuseAction=Files.View&FileStore`id=6b50b609-
89fa-4ddf-a799-2963b31d6f86).
\632\ Jamie Dimon, No More Too Big To Fail', Washington Post (Nov.
13, 2009) (online at www.washingtonpost.com/wp-dyn/content/article/
2009/11/12/AR2009111209924.html).
\633\ See, e.g., Joint Economic Committee, Written Testimony of
Thomas M. Hoenig, President, Federal Reserve Bank of Kansas City, Too
Big to Fail or Too Big to Save? Examining the Systemic Threats of Large
Financial Institutions, 111th Cong., at 23-24 (Apr. 21, 2009) (online
at jec.senate.gov/
index.cfm?FuseAction=Files.View&FileStore_id_5335d2cb-895a-4075-8db8-
a8b71e27f933).
\634\ Alan Greenspan, C. Peter McColough Series on International
Economics: The Global Financial Crisis: Causes and Consequences,
Council on Foreign Relations (Oct. 15, 2009) (online at www.cfr.org/
publication/20417/
c_peter_mccolough_series_on_international_economics.html) (hereinafter
``Greenspan on the Causes of the Crisis'').
\635\ Id.
\636\ David Moss, An Ounce of Prevention: The Power of Public Risk
Management in Stabilizing the Financial System, Harvard Business School
Working Paper No. 09-087 (Rev. Jan. 27, 2009) (online at www.hbs.edu/
research/pdf/09-087.pdf) (hereinafter ``David Moss An Ounce of
Prevention'').
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Others have suggested imposing limitations that prohibit
banks getting to a specified size. For example, Simon Johnson,
Professor of Global Economics and Management at the MIT Sloan
School of Management, has suggested that capping assets under
management at a single financial institution at $100 billion
may permit such institutions to pass easily through the
bankruptcy system, obviating the need for bailouts.\637\
---------------------------------------------------------------------------
\637\ House Financial Services Committee, Written Testimony of
Simon Johnson, Ronald A. Kurtz Professor of Entrepreneurship, MIT's
Sloan School of Management, Systemic Risk: Are Some Institutions too
Big to Fail, and if so, What Should We Do About It?, 111th Cong. (July
21, 2009) (online at www.house.gov/apps/list/hearing/financialsvcs_dem/
simon_johnson.pdf) (hereinafter ``Johnson Testimony on Systemic
Risk'').
---------------------------------------------------------------------------
Those in favor of retaining very large banks say there is a
need within the global economy for large banks capable of
lending billions of dollars at a time. Gerald Corrigan, a
managing director of Goldman Sachs & Co., has remarked that it
is the size of large financial institutions ``that allows
[them] to meet the financing needs of large corporations--to
say nothing of the financing needs of sovereign governments.''
\638\ And while one commentator has noted that ``[t]he
presumption . . . that big meant diversified and sophisticated
and, therefore, less risky . . . proved false,'' nonetheless,
``the size of many of our financial institutions, despite its
role in bringing on the crisis, has also greatly benefited the
U.S. economy'' by ``enabl[ing] our big financial firms to
compete against others in Europe and Asia'' and that ``[s]hould
we fragment and constrain the system and cap the size of banks,
it would undoubtedly limit the competitive level of service,
breadth of products, and speed of execution,'' leading clients
to ``turn to foreign banks that don't face the same
restrictions.'' \639\
---------------------------------------------------------------------------
\638\ E. Gerald Corrigan, Containing Too Big to Fail, Remarks at
The Charles F. Dolan Lecture Series, Fairfield University (Nov. 10,
2009) (online at www.fairfield.edu/documents/academic/
dsb_corrigan_remarks_09.pdf).
\639\ Mortimer Zuckerman, Finding the Right Fix for ``Too Big to
Fail,'' Wall Street Journal (Nov. 25, 2009) (online at online.wsj.com/
article/SB10001424052748704888404574550570805868530.html).
---------------------------------------------------------------------------
Martin Baily and Robert Litan of the Brookings Institution
have made the same argument, testifying before a Senate
committee that ``[w]e need very large financial institutions
given the scale of the global capital markets, and, of
necessity, some of these may be `too big to fail' because of
systemic risks. For U.S. institutions to operate in global
capital markets, they will need to be large.'' \640\ Messrs.
Baily and Litan further argued that punishing banks for
becoming ``too'' successful will also have a negative impact on
the willingness of financial institutions to compete with each
other.\641\
---------------------------------------------------------------------------
\640\ Senate Committee on Banking, Housing and Urban Affairs,
Testimony of Martin Neil Baily and Robert E. Litan, Regulating and
Resolving Institutions Considered ``Too Big to Fail,'' 111th Cong. (May
6, 2009) (online at banking.senate.gov/public/index.cfm?FuseAction=
Hearings.Hearing&Hearing_ID=7d66a948-69e4-407e-a895-04cec6a4f541)
(hereinafter ``Bailey and Litan Testimony'').
\641\ Bailey and Litan Testimony, supra note 640.
---------------------------------------------------------------------------
Opponents of the view that the global market demands very
large banks state that the need for a loan of $8 billion can be
met by eight smaller banks each lending $1 billion. They
further argue that these banks would compete against each other
to provide the best loan terms, improving market efficiency
over the current scenario in which a handful of banks provide
all of the capital.\642\ Such an arrangement would also spread
out the risk so that the majority of large transactions would
not rest on a small number of very large banks.\643\ One
commentator has argued that large corporations do not typically
use one megabank to complete a significant transaction, but
that up to 11 such large banks may be necessary.\644\ To the
extent that a company operates in multiple countries, this
commentator argues, the company is likely to select the best
bank for its needs in each country or region, rather than
relying on one-stop-shopping for its banking, countering the
argument that multinational companies need multinational
banks.\645\
---------------------------------------------------------------------------
\642\ Cf. Johnson Testimony on Systemic Risk, supra note 637 (Dr.
Johnson argues that ``breaking up our largest banks would likely
increase (rather than reduce) the availability of low-cost financial
intermediation services''). Ilan Moscovitz and Morgan Housel, It's Time
to End ``Too Big To Fail,'' The Motley Fool (Nov. 13, 2009) (online at
www.fool.com/investing/general/2009/11/13/its-time-to-end-too-big-to-
fail.aspx) (hereinafter ``It's Time to End `Too Big To Fail' '').
\643\ It's Time to End ``Too Big To Fail'', supra note 642.
\644\ James Kwak, Who Needs Big Banks, The Baseline Scenario (Oct.
12, 2009) (online at baselinescenario.com/2009/10/12/who-needs-big-
banks/) (hereinafter ``Who Needs Big Banks'').
\645\ Id.
---------------------------------------------------------------------------
b. Limitations on Activities
Some commentators have advocated for the reinstatement of
the provisions of the Glass-Steagall Act, repealed in 1999,
which precluded banks from acting as both investment banks and
depository institutions. Notably, in May 2009, Congressman
Maurice Hinchey (D-NY), with the support of fellow House
members John Tierney (D-MA), Jay Inslee (D-WA), John Conyers
(D-MI), and Peter DeFazio (D-OR), proposed an amendment that
would reinstate those provisions. In announcing the amendment,
Representative Hinchey stated that the repeal had created banks
that provided ``one stop shopping'' with the result that
``these banks were empowered to make large bets with
depositors' money and money they didn't really have. When many
of those bets, particularly in the housing sector, didn't pan
out, the whole deck of cards came crumbling down and U.S.
taxpayers had to come to the rescue.'' \646\ Senators John
McCain (R-AZ) and Maria Cantwell (D-WA) have recently
introduced a bill in the Senate to prohibit certain
affiliations between commercial and investment banks.\647\
---------------------------------------------------------------------------
\646\ Office of Representative Maurice Hinchey, Hinchey to
Introduce Amendment to Reinstate Glass-Steagall Act to Break Up
MegaBanks that Caused Financial Crisis (Dec. 7, 2009) (online at
www.house.gov/apps/list/press/ny22_hinchey/morenews/
120709glassstegallamendment.html).
\647\ Banking Integrity Act of 2009, S. 2886, 111th Cong. (2009).
---------------------------------------------------------------------------
Paul Volcker, the former chairman of the Federal Reserve
and current chairman of the President's Economic Recovery
Advisory Board, has also recommended reinstating a barrier
between commercial and investment banks that, while not a full
return to Glass-Steagall as it previously existed, would be
functionally similar to the barrier that existed under certain
repealed sections of that act. Mr. Volcker has proposed
breaking up the largest banks into investment houses and
commercial banks, with government assistance available only to
the commercial banks.\648\ The commercial banks would take
deposits, make loans, and trade securities for their customers,
but not for themselves. These banks would be eligible for
government assistance if they were to falter. The investment
banks, on the other hand, would be free to engage in riskier
behavior because they would be buying and selling their own
securities, but they would not be rescued if they were poised
to fail. According to Mr. Volcker, regulation is insufficient
without separating commercial banks from investment banks.
``The [commercial] banks,'' he has stated, ``are there to serve
the public, and that is what they should concentrate on. These
other activities create conflicts of interest. They create
risks, and if you try to control the risks with supervision,
that just creates friction and difficulties.'' \649\
---------------------------------------------------------------------------
\648\ Charlie Rose, Paul Volcker: The Lion Lets Loose, BusinessWeek
(Dec. 30, 2009) (online at www.businessweek.com/magazine/content/10_02/
b4162011026995.htm) (interview of Mr. Volcker in which Mr. Volcker
explained his vision of the type of reform needed); see also Louis
Uchitelle, Volcker Fails to Sell a Bank Strategy, New York Times (Oct.
21, 2009) (online at www.nytimes.com/2009/10/21/business/
21volcker.html?_r=1) (hereinafter ``Volcker Fails to Sell a Bank
Strategy'') (quoting statements by Mr. Volcker on the same subject).
\649\ This position is not far from the ``break-up-the-banks''
position advocated by Alan Greenspan. Greenspan, however, seems opposed
to reinstating Glass-Steagall at this juncture. Volcker Fails to Sell a
Bank Strategy, supra note 648. While similar in their desire to divide
up the banks, the rationale behind the two positions is not fully
aligned. The Greenspan position holds that the size of the banks
themselves creates the risk, while Volcker's position holds that it is
the inherent conflict within the banks that causes commercial banks to
engage in risky behavior befitting investment banks. Other commentators
suggest simply spinning off the banks' proprietary trading activities.
See Roger Ehrenberg, Rethinking the Wall Street Business Model (Part 1)
(Nov. 21, 2009) (online at www.informationarbitrage.com/2009/11/
rethinking-the-wall-street-business-model.html).
---------------------------------------------------------------------------
In response to these arguments, some commentators have
stated that the repealed portions of Glass-Steagall have had
little impact on the way traditional banks conduct their
business, and that reinstating these portions would have
implications in the international sphere while doing nothing to
prevent another crisis.\650\ These commentators note that
commercial banks have suffered because of their investment
decisions with respect to mortgages, and other types of
traditional lending--activities permitted under Glass-Steagall.
The repeal of portions of Glass-Steagall permitted banks to
engage in underwriting and dealing in securities, but these
commentators note, those activities have not caused banks to
fail. Instead, they argue, it was overinvestment in mortgage
backed securities that led to the crisis, a phenomenon that
would not have been prevented by Glass-Steagall.\651\ Former
chairman of the law firm Sullivan & Cromwell H. Rodgin Cohen
recently stated, ``If you look at what happened, with or
without Glass-Steagall, it would have made no difference.''
\652\ Mr. Cohen and others point out that both Bear Stearns and
Lehman brothers were pure investment banks, and so would not
have been affected by the Glass-Steagall prohibition on joint
investment-commercial banks.\653\ Opponents of the Act's
revival also argue that the Act was in place during the savings
and loan crisis of the 1980s, yet did not prevent that
crisis.\654\ Furthermore, according to economist Mark Zandi,
reinstating those portions of Glass-Steagall and ``breaking up
the banking system's mammoth institutions would be too
wrenching and would put U.S. institutions at a distinct
competitive disadvantage vis-a-vis their large global
competitors'' who do not have such restrictions.\655\
---------------------------------------------------------------------------
\650\ See, e.g., Peter Wallison, Did the ``Repeal'' of Glass-
Steagall Have Any Role in the Financial Crisis? Not Guilty. Not Even
Close, Networks Financial Institute (Nov. 2009) (online at
papers.ssrn.com/sol3/papers.cfm?abstract_id=1507803) (hereinafter
``Wallison Paper on Glass-Steagall''); Robert Pozen, Stop Pining for
Glass-Steagall, Forbes.com (Oct. 5, 2009) (online at www.forbes.com/
forbes/2009/1005/opinions-glass-steagall-on-my-mind.html).
\651\ See, e.g., Wallison Paper on Glass-Steagall, supra note 650.
\652\ Alison Vekshin & James Sterngold, Reviving Glass-Steagall
Means ``War'' on Wall Street, BusinessWeek (Dec. 27, 2009) (online at
www.businessweek.com/investor/content/dec2009/pi20091228_523550.htm)
(hereinafter `` `War' on Wall Street'').
\653\ ``War'' on Wall Street, supra note 652.
\654\ Would Reinstatement of Glass-Steagall Improve Banking?,
American Banking News (Jan. 4, 2010) (online at
www.americanbankingnews.com/2010/01/04/would-reinstatement-of-glass-
steagall-improve-banking/).
\655\ House Financial Services Committee, Written Testimony of Mark
Zandi, chief economist and co-founder of Moody's Economy.com, Systemic
Risk: Are Some Institutions too Big to Fail, and if so, What Should We
Do About It?, 111th Cong. (July 21, 2009) (online at www.house.gov/
apps/list/hearing/financialsvcs_dem/zandi.pdf).
---------------------------------------------------------------------------
c. Increased Regulatory Oversight
Another school of thought holds that large institutions
that pose a systemic risk will and must exist, and that the
best solution is to increase regulation of these institutions
proportionately to the risk that they pose.\656\ Certain
legislative proposals put forward in the House and Senate, and
by the current Administration, hew closely to this line. Under
key provisions of these proposals, systemic risk would be
managed through either new or newly empowered government
entities and increased supervision and regulation of financial
institutions.\657\ These proposals are discussed in detail in
Section G.4 below.
---------------------------------------------------------------------------
\656\ See, e.g., Paul Krugman, Too Big to Fail FAIL, The New York
Times (June 18, 2009) (online at krugman.blogs.nytimes.com/2009/06/18/
too-big-to-fail-fail) (noting that systemic risk is not a new concept
and was a concern at least as of the Latin debt crisis in 1982. The
solution, he states, is to ``[r]egulate and supervise, then rescue if
necessary; there's no way to make this [financial system] automatic'').
\657\ U.S. Department of the Treasury, Financial Regulatory Reform:
A New Foundation, at 10-19 (June 17, 2009) (online at
www.financialstability.gov/docs/regs/FinalReport_web.pdf).
---------------------------------------------------------------------------
Some have argued that increased regulation would only
exacerbate the current problem of implicit guarantees by
highlighting the firms that require additional oversight, thus
marking them as too big to fail. Kevin Hassett of the American
Enterprise Institute has remarked that ``[o]nce there is a
public list of firms that are too big to fail, they will have
an enormous competitive advantage . . . [s]ince government is
backstopping them, they will be able to borrow at lower
interest rates[.]'' \658\ SEC Commissioner Elisse Walter has
similarly testified that under proposed legislation creating a
council to monitor financial risk, ``a real risk remains that
market participants will favor large interconnected firms,
particularly those identified as systemically important, over
smaller firms of equivalent creditworthiness, because of the
belief that the government will step in and support such an
institution, its bondholders, or counterparties in times of
crisis.'' \659\ Others have observed that if interconnectedness
results in systemic risk that must be regulated, there is no
reason to stop at financial institutions; any large,
interconnected business must be similarly regulated--or there
is no need for such regulation because interconnectedness is
not inherently risky.\660\ There is the additional difficulty
of identifying potentially risky behavior in time to avert a
financial crisis. In light of the failure of many to predict
the current crisis, the question arises of what level of
competence is required for an economist to predict accurately
which institutions will pose a threat to our financial
system.\661\
---------------------------------------------------------------------------
\658\ Kevin Hassett, Obama's Too-Big-to-Fail Plan Is Too Dumb to
Pass, American Enterprise Institute for Public Policy Research (Sept.
28, 2009) (online at www.aei.org/article/101075).
\659\ House Committee on Agriculture, Written Testimony of
Securities and Exchange Commissioner Elisse Walter, Review of Financial
Stability Improvement Act, 111th Cong. (Nov. 17, 2009) (online at
agriculture.house.gov/testimony/111/h111709/Walter.pdf).
\660\ See Hal Scott, Do We Really Need a Systemic Regulator?, Wall
Street Journal (Dec. 10, 2009) (online at online.wsj.com/article/
SB10001424052748704342404574577870952276300.html).
\661\ One method of valuing risk that has been proposed in the past
is to track the spread between the yield on a Treasury bond and on an
institution's own subordinated debt with a similar maturity date. The
rationale is that the spread should reflect the increased yield to
balance the increased risk presented by the institution. This notion
has been challenged, however, by data analysis that shows a lack of
correlation between risk and yield spreads. C.N.V. Krishnan et al.,
Monitoring and Controlling Bank Risk: Does Risky Debt Help?, The
Journal of Finance (Feb. 2005); Diana Hancock and Myron L. Kwast, Using
Subordinated Debt to Monitor Bank Holding Companies: Is It Feasible?,
The Federal Reserve Board of Governors (Apr. 27, 2001) (online at
www.federalreserve.gov/Pubs/FEDS/2001/200122/200122pap.pdf).
---------------------------------------------------------------------------
d. Charging Too Big To Fail Institutions Insurance Fees or
Taxes
Banks that are considered too big to fail receive the
benefit of an implicit taxpayer subsidy, since their cost of
funding does not adequately reflect the potential costs of
their rescue. Some of the reform proposals suggest that
institutions that are found to pose systemic risks be assessed
financial contributions for the risk they pose, either before
or after any failure occurs. A proposal introduced by House
Financial Services Committee Chairman Barney Frank would create
an insurance fund within the FDIC similar to that available to
insure bank deposits to be used to ``extend credit to or
guarantee obligations of solvent insured depository
institutions or other solvent companies that are predominantly
engaged in activities that are financial in nature, if
necessary to prevent financial instability during times of
severe economic distress[.]'' \662\ This insurance would be
funded by assessments on ``large financial companies'' under
terms in the Administration's proposed regulatory reform
legislation that would enable the FDIC to impose ``risk-based
assessments on bank holding companies based on their total
liabilities.'' \663\
---------------------------------------------------------------------------
\662\ Financial Stability Improvement Act of 2009, H.R. 3996,
Sec. 1109(a) (2009).
\663\ Resolution Authority for Large, Interconnected Financial
Companies Act of 2009, 1209(o)(1) (2009). The House bill actually
states that the assessments are to be made under 1609(o) of the
Administration's proposal. No such section of that proposal exists
while 1209(o) appears to include the provision to which the House bill
intended to refer.
---------------------------------------------------------------------------
At least one commentator has noted a flaw in this proposal.
According to economist Dean Baker, because the fee is to be
assessed only after a bank faces failure, either the necessary
funds are unlikely to be available, or other banks are unlikely
to be willing to make such payments.\664\ Whether the former or
the latter scenario applies, he writes, depends on whether the
failing bank has gotten into trouble by doing what everyone
else was doing--in which case all the other banks would be in
just as much trouble and unable to pay--or it was doing some
unusual, risky thing--in which case all the other banks would
be unwilling to underwrite the failing bank's imprudence. David
Moss of the Harvard Business School has proposed, among other
options, a system of federal capital insurance under which
systemically significant institutions would be publicly
identified and then required to pay into a federal insurance
fund on a regular basis.\665\ Premiums, as for any insurance
plan, would be keyed to the level of risk the insured posed,
and payments on claims would be limited to a pre-set
amount.\666\ Mr. Moss also believes that in the event of a
failure, the federal government should not bail out or prop up
the failing company, but should take the company over and
restructure, sell, or liquidate it.\667\ Such measures, he
believes, would result in a system where no institution is too
big to fail.
---------------------------------------------------------------------------
\664\ Dean Baker, Breaking Up the Banks is Hard to Do, The Guardian
(Nov. 2, 2009) (online at www.guardian.co.uk/commentisfree/cifamerica/
2009/nov/02/banking-regulation-us-congress/print).
\665\ David Moss An Ounce of Prevention, supra note 636.
\666\ David Moss An Ounce of Prevention, supra note 636.
\667\ David Moss An Ounce of Prevention, supra note 636.
---------------------------------------------------------------------------
Another option may be a so-called Tobin tax, named after
the late economist James Tobin, which would impose a tax on
cross-currency financial transactions. While a Tobin tax has
been most often proposed as a means of funding projects for the
public good, today's proponents envisage it as an emergency
fund to be used to support a faltering financial system. The
most prominent proponent of the tax has been British Prime
Minister Gordon Brown, who reportedly raised the issue of
creating such a tax during the November 2009 meeting of the
finance ministers of the G-20.\668\ Secretary Geithner
reportedly rejected the idea during the same meeting.\669\
Opponents of the tax argue that the presence of such an
emergency fund may perpetuate moral hazard as institutions
begin to rely on the presence of the fund to backstop major
losses.\670\
---------------------------------------------------------------------------
\668\ Gordon Brown's Global Tax Trap, Wall Street Journal (Nov. 13,
2009) (online at
online.wsj.com/article/
SB10001424052748704576204574531211500981726.html#printMode)
(hereinafter ``Gordon Brown's Global Tax Trap'').
\669\ Gordon Brown's Global Tax Trap, supra note 668.
\670\ Gordon Brown's Global Tax Trap, supra note 668.
---------------------------------------------------------------------------
e. Other Regulatory Options
Messrs. Baily and Litan, whose views on the need for large
banks are discussed above, argue that while the government
should not break up large banks, it should take steps to ensure
that any large-scale growth is ``organic,'' based on the banks'
own success, and not the result of a merger. To this end, they
argue, the government should review proposed mergers to prevent
those that would create an institution that might pose a
systemic risk.\671\
---------------------------------------------------------------------------
\671\ Bailey and Litan Testimony, supra note 640.
---------------------------------------------------------------------------
2. Liquidation and Reorganization
The impact of implicit guarantees can also be substantially
reduced if there are credible ways to liquidate or reorganize
failing businesses. In effect, if there are ways to permit such
businesses to fail, then they are no longer too big to fail.
Several options are under discussion.
a. ``Living Wills''
There are many advocates of ``living wills,'' contingency
plans creating a systematic regime under which an institution
that posed a systemic risk would be wound down, which also
entails the institution reorganizing itself so that the plan
can be effected in a crisis.\672\ Advocates argue that the
existence of such plans would avoid the shockwaves that the
disorderly collapse of Lehman Brothers caused and AIG
threatened, but it is possible that the very act of creating
such plans might bring unexpected risks to the attention of
management in time for them to be addressed.\673\ Living wills
could be used in conjunction with several of the other
regulatory approaches being considered.
---------------------------------------------------------------------------
\672\ Among the proponents for such contingency plans are members
of the House and Senate and the President, who have included variations
on this idea in their financial reform bills. See Section G.4, infra.
\673\ One related proposal would have banks issue contingent
convertible bonds, long-term debt that would be convertible to equity
upon a triggering event, providing the bank with access to capital. A
``living will'' would be required in the event the new equity was
insufficient to meet the bank's needs. See, e.g., the description in
Section G.4(c) below of the bill that has been proposed in the Senate,
which incorporates this proposal.
---------------------------------------------------------------------------
However, even commentators generally in favor of this
concept note that living wills are an incomplete tool without
ensuring separation among an institution's component parts.
This separation can take place along activity lines, where
systemically critical functions must have ring-fencing capable
of protecting them during the unwinding pursuant to the living
will.\674\ The international complexities of large,
interconnected firms also may require that ring-fencing or
other separation by national operating units accompany living
wills.\675\ The absence of ring-fencing controls, along either
functional or national lines, means that an institution might
collapse more tidily but not necessarily that the government
will permit it to do so; until the government does, the moral
hazard remains.\676\
---------------------------------------------------------------------------
\674\ Senate Committee on Banking, Housing, and Urban Affairs,
Written Testimony of Vincent Reinhart, Resident Scholar, American
Enterprise Institute, Establishing a Framework for Systemic Risk
Regulation, 111th Cong., at 9-10 (July 23, 2009) (online at
banking.senate.gov/public/
index.cfm?FuseAction=Files.View&FileStore_id=c00a4670-8edd-4a6e-947f-
09afb555fa4d).
\675\ David G. Mayes, Banking Crisis Resolution Policy--Different
Country Experiences, Norges Bank Staff Memo, at 58-61 (2009) (online at
www.norges-bank.no/upload/77285/staff_memo_09_10.pdf).
\676\ See, e.g., Death Warmed Up, The Economist (Oct. 1, 2009)
(online at www.economist.com/businessfinance/
displaystory.cfm?story_id=14558456).
---------------------------------------------------------------------------
b. Resolution Authority
The problem with very large institutions, according to
some, is not that they are too big to fail, but that the proper
structures do not exist to enable their orderly failure.\677\
The Administration has also proposed legislation granting the
government resolution authority for systemically significant
institutions that fall outside of the FDIC's existing
resolution regime for commercial banks. Under the proposed
legislation, resolution authority would be available to the
Secretary of the Treasury upon determination, with positive
recommendations from the Federal Reserve and the appropriate
federal regulators, and in consultation with the President,
that ``the financial institution in question is in danger of
becoming insolvent . . . its insolvency would have serious
adverse effects on economic conditions or financial stability
in the United States; and . . . taking emergency action . . .
would avoid or mitigate these adverse effects.'' \678\ A
similar proposal has been drafted by the House.
---------------------------------------------------------------------------
\677\ According to Professor Charles Calomiris of the Columbia
Business School, bankruptcy law as it currently exists does not
contemplate allowing ``large, complex financial institutions to enter
bankruptcy, or receivership in the case of banks, because there is no
orderly means for transferring control of assets and operations,
including the completion of complex transactions with many
counterparties perhaps in scores of countries via thousands of
affiliates.'' Charles Calomiris, In the World of Banks, Bigger Can be
Better, Wall Street Journal (Oct. 19, 2009) (online at online.wsj.com/
article/SB10001424052748704500604574483222678425130.html). The
solution, Mr. Calomiris believes, lies in constructing a system that
would enable such a bankruptcy. As discussed below, various legislative
proposals include provisions to address just this concern.
\678\ U.S. Department of the Treasury, Treasury Proposes
Legislation for Resolution Authority (Mar. 25, 2009) (online at
www.financialstability.gov/latest/tg70.html).
---------------------------------------------------------------------------
In the Senate, Senators Bob Corker (R-TN) and Mark Warner
(D-VA) have introduced legislation that would vest resolution
authority in the FDIC. This authority would extend only to
depository institutions and their holding companies,
affiliates, and subsidiaries and would be available only when
the FDIC determined that a receivership was preferable to a
resolution under Chapter 11 bankruptcy.\679\ Other Republican
lawmakers, rejecting the view that the federal government
should determine which institutions should receive government
intervention in the event of failure, have instead proposed
improving the bankruptcy system to enable it to process huge,
complex bankruptcies such as AIG's might have been.\680\ A bill
proposed in the House would amend the current bankruptcy code
to enable the orderly liquidation or reorganization of non-bank
financial institutions as a means of forestalling the need for
future bail-outs.\681\ These bills are discussed in greater
detail below.
---------------------------------------------------------------------------
\679\ Resolution Reform Act of 2009, S. 1540, 111th Congress
(2009).
\680\ The current bankruptcy system has been criticized as being
ill-equipped to handle a bankruptcy such as AIG's. Professor Stephen
Lubben of Seton Hall Law School, for example, has noted that the 2005
expansion of sections of the Bankruptcy Code that provide a ``safe
harbor'' for the type of swap agreements at issue in AIG's decline have
exacerbated this problem. Stephen Lubben, Repeal the Safe Harbors,
Seton Hall Public Law Research Paper No. 1497040(Nov. 1, 2009). One of
the key functions of bankruptcy law is to freeze the debtor estate,
prohibiting any payments out of the debtor's assets, until the entire
estate and all claims on it have been sorted out and preferences
established. The safe harbor provisions exempt certain types of
agreements from this freeze and permit payment. Because the swap
agreements fit into the safe harbor provision, AIG's trouble triggered
what Professor Lubben describes as a ``run'' on the institution as CDS
counterparties insisted on payment. Professor Lubben has therefore
called for a repeal of the safe harbor provision as a way to prevent a
future situation like AIG's. In contrast, Professor Edward R. Morrison
of Columbia Law School has argued that the Bankruptcy Code is
inadequate to protect the economy from failing systemically significant
institutions, and a systemic risk regulator with the power to monitor
and rescue institutions should be created. Edward R. Morrison, Is the
Bankruptcy Code an Adequate Mechanism for Resolving the Distress of
Systemically Important Institutions?, Temple Law Review (forthcoming)
(available online at papers.ssrn.com/sol3/
papers.cfm?abstract_id=1529802).
\681\ Consumer Protection and Regulatory Enhancement Act, H.R.
3310, 111th Congress (2009).
---------------------------------------------------------------------------
c. Chapter 11
Some commentators have argued that Chapter 11 bankruptcy
principles should play a role in the extension of taxpayer
money to ``bail out'' private businesses. Of these
commentators, some propose the increased use of prepackaged
bankruptcy filings (commonly referred to as ``pre-packs'')
before the government provides assistance,\682\ some favor
ordinary bankruptcy filings in which the debtor's operations
come under court supervision and shareholders are wiped
out,\683\ and others propose implementing Chapter 11-like
measures without the business actually filing a petition with
the bankruptcy court.\684\ Any of these measures may help to
unwind implicit government guarantees by holding businesses and
investors accountable for their actions.
---------------------------------------------------------------------------
\682\ See, e.g., Edward I. Altman and Thomas Philippon, Where
Should the Bailout Stop?, in Restoring Financial Stability, at 355-61
(Viral V. Acharya and Matthew Richardson, eds., 2009).
\683\ See, e.g., Jennifer Chamberlain, The Big Three: Bailout or
Bankruptcy?, Illinois Business Law Journal (Mar. 7, 2009) (online at
www.law.uiuc.edu/bljournal/post/2009/03/07/The-Big-Three-Bailout-or-
Bankruptcy.aspx); Paul Ingrassia, The Case for Chapter 11, Portfolio
(Nov. 9, 2008) (online at www.portfolio.com/news-markets/national-news/
portfolio/2008/11/09/Can-
Bankruptcy-Save-US-Carmakers/).
\684\ See, e.g., Global Economic Symposium, The Global Polity: The
Future of Global Financial Governance, at 4 (Sept. 2009) (online at
www.global-economic-symposium.org/ges-2008-09/ges-2009/downloads/
session-handouts/the-global-polity/the-future-of-global-financial-
governance
_2009).
---------------------------------------------------------------------------
In a Chapter 11 reorganization, a troubled company
restructures its business to emerge as viable and
profitable.\685\ To this end, under certain circumstances the
business may wipe out existing shareholder classes, renegotiate
the terms or balances on its debt, exchange preexisting debt
for equity in the new business, replace management, and undo
fraudulent transfers or preferences.\686\ Often those who
provide financing to the debtor are given liens at a higher
priority than existing creditors and shareholders.\687\
---------------------------------------------------------------------------
\685\ See generally COP September Oversight Report, supra note 108,
at 40 (providing an in depth discussion of business restructuring under
bankruptcy law).
\686\ A ``fraudulent transfer'' is a transfer for less-than-
reasonably equivalent value made while insolvent. A ``preference'' is
an unusual payment to one creditor that prevents other creditors from
receiving a pro rata share of the assets. Professor Randy Picker,
Bailouts and Phantom Bankruptcies, The University of Chicago Law School
Faculty Blog (Sept. 23, 2008) (online at uchicagolaw.typepad.com/
faculty/2008/09/bailouts-and-ph.html) (hereinafter ``Bailouts and
Phantom Bankruptcies'').
Under these avoiding powers, creditors may be able to force
outgoing executives to repay their bonuses, thereby returning capital
to the business. See Jesse Fried, Uncle Sam Should Claw Back Wall
Street Bonuses, Harvard Law School Forum on Corporate Governance and
Financial Regulation (Oct. 4, 2008) (online at blogs.law.harvard.edu/
corpgov/2008/10/04/uncle-sam-should-claw-back-wall-street-bonuses)
(hereinafter ``Uncle Sam Should Claw Back Wall Street Bonuses'').
\687\ See COP September Oversight Report supra note 108, at 40-48
(discussing priority of claims and general principles of bankruptcy
law).
---------------------------------------------------------------------------
Congress amended the Bankruptcy Code in 2005 to exempt a
broad range of financial assets from bankruptcy rules.\688\
Swaps, repurchase agreements, securities contracts, and other
financial products were exempted from the automatic stay that
normally prevents creditors from seizing a debtor's assets
after the filing of a bankruptcy petition. Companies holding
substantial financial assets may therefore find bankruptcy a
less attractive way to resolve financial distress, since
creditors could continue to collect on some contracts. Critics
of the exemptions have argued that they hinder the bankruptcy
system's ability to distribute property in an orderly and
equitable manner.\689\ Under the current rules, some creditors
may collect on their debts while others are stayed. This
creates an incentive for parties seeking to bypass the
bankruptcy process to structure contracts as swaps, securities
contracts, or other exempt categories of assets.
---------------------------------------------------------------------------
\688\ See 11 U.S.C. Sec. Sec. 555-56, 559-61.
\689\ See, e.g., House Judiciary Committee, Subcommittee on
Commercial and Administrative Law, Written Testimony of Professor Jay
Lawrence Westbrook, Exemption of Financial Assets from Bankruptcy
(Sept. 26, 2008) (online at www.judiciary.house.gov/hearings/pdf/
Westbrook080926.pdf).
---------------------------------------------------------------------------
If Congress required a bankruptcy filing as a prerequisite
to receiving assistance, the petition could be a regular
bankruptcy or a pre-pack. Pre-packs are Chapter 11 bankruptcies
where the plans of reorganization are prepared in advance of
filing petitions with the bankruptcy court. Pre-packs are
formulated after negotiations and with the cooperation of
creditors and other invested parties. Most of the legal issues
litigated in the bankruptcy process are resolved as part of
this out-of-court negotiation. This reduces the time and cost
spent in the actual bankruptcy process. The sooner the
restructuring under Chapter 11 is completed, the sooner the
company can return focus to its core operations.\690\
---------------------------------------------------------------------------
\690\ Some of these pre-pack reorganizations are extremely large,
but can nevertheless be accomplished in less than two months. See COP
September Oversight Report, supra note 108, at 40 (discussing pre-packs
under Chapter 11).
---------------------------------------------------------------------------
Commentators who propose pre-packs as a solution to
reorganize large businesses hope to take advantage of the
debtor's rights under Chapter 11 at this reduced cost to the
business. They propose that the government should make the
extension of ``bailout'' funds contingent upon the distressed
business filing a pre-pack with the bankruptcy court.\691\ In
doing so, shareholders could be wiped out, creditors could take
a haircut, misappropriated funds could be returned to the
business, and incompetent management could be replaced. These
repercussions would add to a business's incentive to steer
itself away from the brink of disaster, and would incentivize
commercial creditors to pressure businesses to take fewer
risks. The same incentives could be created by mandating a
regular bankruptcy filing, and there is disagreement regarding
the cost savings associated with pre-packs.\692\ In either
case, it could be argued that the bankruptcy requirement may
counterbalance any market distortion that arises from implicit
guarantees, while allowing the government to intervene to save
systemically important institutions. Other commentators argue
the same result is possible without actually utilizing the
bankruptcy court.\693\ Instead of filing a pre-pack, the
government could make any taxpayer bailout contingent upon
successful out-of-court negotiations between the distressed
business and the invested parties. Thus, if the business wants
public funding, it must wipe out its shareholders, get its
creditors to agree to take a haircut, and replace its
management. This would have the same effect as filing a pre-
pack--i.e., holding managers and investors accountable for
their actions and incentivizing prudent decision making.
Moreover, this approach would also serve to wind down the
government's implicit guarantee.
---------------------------------------------------------------------------
\691\ Jim Kuhnhenn, Bailout With a Price: Chapter 11 Bankruptcy,
Associated Press (Nov. 20, 2008) (online at seattletimes.nwsource.com/
html/businesstechnology/2008412177_apmeltdownbankruptcy.html).
\692\ Pre-packs may prove infeasible in the case of systemic
failures, in which case regular filings may be the only form of
bankruptcy relief available to debtors.
\693\ See, e.g., Bailouts and Phantom Bankruptcies, supra note 108;
Uncle Sam Should Claw Back Wall Street Bonuses, supra note 686; Robert
Reich, The Real Difference Between Bankruptcy and Bailout, Robert
Reich's Blog (Nov. 11, 2008) (online at robertreich.blogspot.com/2008/
11/real-difference-between-bankruptcy-and.html).
---------------------------------------------------------------------------
3. International Aspects of Reform
Federal Reserve Board Governor Daniel Tarullo recently
remarked on the need for a resolution plan to contemplate the
specific issues confronting a failing international
institution. ``Some of those [insolvency] regimes may be
substantively inconsistent with one another, or may not account
for the special characteristics of a large international
firm,'' he noted.\694\ He further remarked that ``an effective
international regime would . . . likely require agreement on
how to share the losses and possible special assistance
associated with a global firm's insolvencies.'' Such
``satisfyingly clean and comprehensive solutions to the
international difficulties occasioned by such insolvency,'' he
believes, however, ``are not within sight.'' Professor Simon
Johnson of the MIT Sloan School of Management has expressed
similar concerns. Writing about last summer's G-8 summit, he
noted the lack of progress on ``any kind of international
agreement that would be the essential complement to a national
legal authority (for example, in the United States or Europe),
by providing a framework for `resolving' the failure of a major
financial institution with cross-border assets and
liabilities[.]'' \695\ The tension between the need for such an
international regulatory scheme and the difficulty of creating
one, even just for the European markets, was outlined by the
deputy director of the Monetary and Capital Markets Department
of the International Monetary Fund, Jan Brockmeijer, in his
remarks at a conference in Belgium this summer: ``on the one
hand, cross-border integration of European financial markets is
desirable,'' he stated. ``But . . . at the same time, financial
supervision remains fundamentally a national responsibility.''
\696\
---------------------------------------------------------------------------
\694\ Federal Reserve Board of Governors, Speech by Daniel Tarullo,
Supervising and Resolving Large Financial Institutions (Nov. 10, 2009)
(online at www.federalreserve.gov/newsevents/speech/
tarullo20091110a.htm).
\695\ Simon Johnson, What the G-8 Won't Achieve, The New York Times
(July 9, 2009) (online at economix.blogs.nytimes.com/2009/07/09/what-
the-g-8-wont-achieve/).
\696\ Jan Brockmeijer, Lessons of the Crisis for EU Financial
Supervisory Policy, Remarks at the IMF-Bruegel-National Bank of Belgium
Conference After the Storm: The Future Face of Europe's Financial
System (Mar. 24, 2009) (online at www.imf.org/external/np/seminars/eng/
2009/eurfin/pdf/brockm.pdf).
---------------------------------------------------------------------------
The Basel Committee's more modest approach suggests ring-
fencing during periods of considerable financial distress. Such
an approach would enable host countries to shore up
institutions operating within their domestic borders. To do so,
changes to existing laws would need to allow for this
particular framework to complement domestic regulatory aims.
The approach would protect the pertinent functions of the
failing institution, but not the institution itself. As a
result, such efforts would limit financial contagion and lessen
the likelihood of moral hazard.\697\
---------------------------------------------------------------------------
\697\ Basel Committee on Banking Supervision, Report and
Recommendations of the Cross-border Bank Resolution Group (Sept. 2009)
(online at www.bis.org/publ/bcbs162.pdf) (hereinafter ``Basel Committee
Report'').
---------------------------------------------------------------------------
4. Proposed Legislation
Legislative proposals from the Administration and both
houses of Congress have drawn from many of the proposals
discussed above.
a. Administration's Proposal
Under a legislative proposal put forward by the current
Administration, new government entities would provide
``robust'' supervision of the financial services sector. The
proposed government entities include a Financial Services
Oversight Council, a Consumer Financial Protection Agency, and
a National Bank Supervisor. The Council would ``identify
emerging risks'' and ``advise the Federal Reserve on the
identification of firms whose failure could pose a threat to
financial stability due to their combination of size, leverage,
and interconnectedness.'' \698\ The Consumer Financial
Protection Agency would ``protect consumers of credit, savings,
payment, and other consumer financial products and services,
and to regulate providers of such products and services,'' in
part to minimize aggregation of risk.\699\ The National Bank
Supervisor would ``conduct prudential supervision and
regulation of all federally chartered depository institutions,
and all federal branches and agencies of foreign banks.'' \700\
The proposal also includes the creation of various offices
within Treasury to improve oversight of systemically
significant institutions.
---------------------------------------------------------------------------
\698\ U.S. Department of the Treasury, Financial Regulatory Reform:
A New Foundation, Summary of Recommendations (online at
www.financialstability.gov/docs/regs/FinalReport_web.pdf) (accessed
Jan. 13, 2010).
\699\ Id.
\700\ Id.
---------------------------------------------------------------------------
The Administration's proposal also contemplates increased
oversight of institutions that may pose a systemic risk, dubbed
``Tier 1 financial holding companies,'' and a greater concern
for how individual firms may impact the overall economy. Tier 1
FHCs would be subject to stricter and more conservative
regulations regarding capital levels and liquidity
requirements,\701\ and might be subject to standards and
guidelines for executive compensation that aim to align
employees' interests with those of long-term shareholders and
prevent incentives for excessive risk-taking. These firms would
also be regulated with a macroeconomic view, taking into
consideration the effects that actions by the company might
impose on the wider economy. Finally, a Tier 1 FHC would be
required to implement a plan for an orderly winding down if the
firm were to face insolvency.
---------------------------------------------------------------------------
\701\ Contingent capital bonds (commonly referred to as ``CoCo
bonds'' or ``CoCos'') would be one method a Tier 1 FHC could use to
meet these more stringent requirements. CoCo bonds refer to debt that
may be converted to common equity when the issuer is under distress.
This conversion occurs automatically upon triggering one or more
contingencies (e.g., Tier 1 capital level falls below specific
threshold, market price contingency, etc.). As a result, the issuer is
instantly given a capital boost and is saved from having to raise fresh
capital at high interest rates.
---------------------------------------------------------------------------
b. House Legislation
The Wall Street Reform and Consumer Protection Act passed
the House of Representatives on December 11, 2009, by a vote of
223-202.\702\ The bill, which was introduced on December 2 by
Financial Services Committee Chairman Barney Frank (D-MA),
incorporates provisions from nine separate bills reported by
the Financial Services, Energy and Commerce, and Agriculture
committees. The bill, H.R. 4173, would create an inter-agency
oversight council charged with identifying large, complex
financial companies that pose a systemic risk to financial
stability and economic growth. These firms would be subject to
heightened oversight, prudential regulation, and reporting and
disclosure requirements. The bill would also establish an
orderly process for resolving large, failing financial firms
whose problems could not be addressed by a stricter regulatory
regime or the bankruptcy process.
---------------------------------------------------------------------------
\702\ CQ House Actions Reports, No. 111-22 (Dec. 7, 2009)
(describing the bill); CQ House Actions Reports, No. 111-20 (Dec. 14,
2009) (describing the vote).
---------------------------------------------------------------------------
H.R. 4173 would establish a council of federal regulators,
the Financial Services Oversight Council (``the Council''), to
monitor the financial system and regulate any financial company
whose material financial distress could pose a threat to
financial stability or whose scope, size, scale, concentration,
interconnectedness, or mix of activities could pose a threat to
economic stability.\703\ After consultation with a financial
company's regulator and upon a majority vote of the Council
members, the Council would be empowered to place stricter
regulatory standards on such company. This designation would
subject a company that was not already subject to the Bank
Holding Company Act of 1956 (Pub. L. 84-511), to certain
provisions of the Act, which the Federal Reserve is responsible
for enforcing, as if the company were a financial holding
company. The Federal Reserve, as agent for the Council and in
coordination with appropriate supervisors, would be responsible
for implementing and enforcing heightened prudential standards.
The heightened standards imposed by the Federal Reserve would
have to include:
---------------------------------------------------------------------------
\703\ Voting members of the council would include the secretary of
the Treasury; the chair of the Federal Reserve; Comptroller of the
Currency; chair of the Securities and Exchange Commission; chair of the
Commodity Futures Trading Commission; director of the Federal Housing
Financing Agency; chair of the National Credit Union Administration;
and an appointed state insurance commission and state-banking
supervisor would serve on the council for up to two years in a non-
voting capacity.
---------------------------------------------------------------------------
Risk-based and size-based capital
requirements;\704\
---------------------------------------------------------------------------
\704\ When calculating new capital requirements, the Federal
Reserve would have to take into account the company's off-balance sheet
exposure, including financial derivatives obligations. Companies
subject to stricter prudential standards would be limited to a debt-to-
equity ratio of 15 to 1.
---------------------------------------------------------------------------
Leverage limits;
Liquidity requirements;
Concentration requirements;
Prompt corrective action requirements;
Resolution plan requirements; and
Risk management requirements.
In addition to restrictions stipulated by the bill, the
Federal Reserve, as agent for the Council, also would have
authority to prohibit a firm from engaging in any credit
transaction or disbursal of capital it deemed a detriment to
financial stability. Senior management of undercapitalized
institutions would be subject to dismissal, and the Federal
Reserve could require the submission of quarterly stress tests
from troubled companies. All financial companies subject to
stricter regulatory standards would be required to submit to
the Federal Reserve and FDIC plans for an orderly and rapid
dissolution in the event of a severe financial crisis.
If, after the company were subjected to stricter regulatory
standards, it continued to pose a grave threat to financial
stability of the economy, the Council could take several
additional steps to limit the danger posed by the company. The
Council could modify the existing prudential standards, impose
conditions on certain activities, limit mergers and
acquisitions, and restrict the company's ability to offer
certain financial products. As a last resort, the Council, with
concurrence by the Secretary of the Treasury or the President,
could require a company to sell, divest, or otherwise transfer
business units, branches, assets, or off-balance sheet items to
unaffiliated companies.
H.R. 4173 would also grant to the FDIC the authority to
dissolve systemically important financial firms that are in
default or in danger of default. The new mechanism would
empower the FDIC--separate and apart from its authority to
liquidate banks--to take over and either wind down or act as a
receiver for large, complex financial institutions that are in
default or in danger of default, and whose failure would
threaten the financial system. The FDIC would have the
authority to make loans to a failing firm, guarantee the
obligations of a failing firm to its creditors, acquire common
or preferred shares in a failing firm, take a security interest
in the assets of a failing firm, and sell assets that the FDIC
has acquired from a failing firm. This authority, as it relates
to an individual firm, would be temporary and would last until
the firm was placed in receivership and liquidated. The
dissolution process would not affect financial institution
liquidation processes already in place, such as federal deposit
insurance, Securities Investor Protection Corporation (SIPC)
protection, and state insurance insolvency regimes.
The FDIC would also have the authority to liquidate the
company's assets and organize a bridge financial company, or
merge the financial institution with another company, or
transfer its assets and any liabilities. A maximum of $200
billion would be available to the FDIC to dissolve failing
firms; $150 billion would come from a Systemic Dissolution Fund
that would be pre-funded by assessments on financial companies
with more than $50 billion in assets and by hedge funds with
more than $10 billion in assets. Assessments would be risk-
based, so that more complex institutions engaged in riskier
activities would pay more. The remaining $50 billion could come
from the Treasury's general fund, as borrowing that would be
paid back through industry assessments, and would be available
only upon approval from Congress.
The FDIC's resolution authority could only be employed to
ensure broader financial stability and not solely to preserve a
particular failing institution. Shareholders in a failing
institution would not recoup any losses from the fund. The FDIC
would also be required to remove management responsible for the
company's failure. Companies placed into receivership by the
FDIC would be subject to the executive compensation limits
included in EESA (Pub. L. 110-343).
Under the House bill, the FDIC's appointment as receiver of
a financial institution would terminate at the end of one year,
with the ability to extend the appointment for two one-year
periods. The FDIC's general receivership authority would sunset
on December 31, 2013, unless Congress approved a joint
resolution extending the authority.
In addition, the bill would also create a Consumer
Financial Protection Agency to oversee institutions providing
financial services and products to consumers, provide the
Securities and Exchange Commission (SEC) with expanded powers
including the ability to regulate the over-the-counter
derivatives market, require hedge funds and other private pools
of capital to register with the SEC, and introduce new
regulations for credit rating agencies.
Republicans in the House unanimously opposed H.R. 4173. In
the area of resolution authority, some Republican members
criticized the systemic risk-related supervisory powers that
the bill granted to the Board of Governors of the Federal
Reserve, a criticism that was shared by some House Democrats.
The Federal Reserve's recent regulatory record and failure to
anticipate the bursting of the housing bubble give critics
little faith that the Federal Reserve will be an effective
agent for identifying and regulating systemic risk.\705\ The
Federal Reserve's mission, in their view, should be modified to
focus solely on monetary policy. In addition, some Republicans
argue, although the bill is allegedly designed to end the too
big to fail phenomenon, it in fact gives the federal government
unlimited authority to prop up ailing financial institutions
through the new powers granted to the FDIC and the Council. And
although the identity of those firms deemed to pose a systemic
risk is supposed to remain confidential, SEC disclosures and
changes in the identified firms' behaviors or strategies could
make it relatively easy for market watchers to discern which
firms are listed, according to the bill's critics. Such a
designation would foster favoritism and reduce competition in
the marketplace, providing an advantage to the firms with the
special designation. Finally, critics assert that by funding
the Systemic Dissolution Fund through assessments on all
financial companies with over $10 billion in assets, the bill
would penalize stable, profitable firms by making them pay for
the resolution of failed firms.\706\
---------------------------------------------------------------------------
\705\ House Republican Conference, Democrat Systemic Risk
Legislation--Permanent Bailout Mania for the Politically Significant
(Nov. 16, 2009) (online at www.gop.gov/policy-news/09/11/16/democrat-
systemic-risk-legislation) (hereinafter ``House Republican Conference
on Systemic Risk'').
\706\ The Republican Cloakroom, Republican Leader John Boehner,
Statement of Republican Policy, H.R. 4173, Wall Street Reform and
Consumer Protection Act (Dec. 9, 2009) (online at http://
repcloakroom.house.gov/news/DocumentSingle.aspx?DocumentID=159983).
---------------------------------------------------------------------------
The favored alternative of House Republicans is H.R. 3310,
a bill sponsored by the ranking member of the House Financial
Services Committee, Representative Spencer Bachus. The
Republican-sponsored Consumer Protection and Financial
Regulatory Enhancement Act would create a Market Stability and
Capital Adequacy Board, chaired by the Secretary of the
Treasury, to examine interactions of various areas of the
financial system, and to issue recommendations to policymakers
and regulators to stem potential systemic risk. This bill would
also provide the FDIC with enhanced resolution authority for
large banks and create a new chapter of the Bankruptcy Code for
failing non-financial institutions.\707\ This new chapter would
facilitate coordination between regulators and the courts to
ensure technical and specialized expertise is applied when
dealing with complex institutions. Bankruptcy judges under this
proposal would also have the power to stay claims by creditors
and counterparties to prevent runs on troubled institutions.
---------------------------------------------------------------------------
\707\ Protection and Regulatory Enhancement Act, H.R. 3310, 111th
Cong., 1st session (2009).
---------------------------------------------------------------------------
c. Senate Bill
On November 10, 2009, Senate Banking Committee Chairman
Christopher Dodd (D-CT) unveiled a discussion draft for
comprehensive financial regulatory reform.\708\ Unlike the
House Financial Services Committee, which passed the components
of the regulatory reform bill in piecemeal fashion, Senator
Dodd intends to report one bill out of committee. Senator
Dodd's discussion draft proposes even more sweeping changes to
the current financial regulatory framework than the bill that
passed the House. For example, it would consolidate all federal
banking regulation in one agency, the newly created Financial
Institutions Regulatory Administration (FIRA).
---------------------------------------------------------------------------
\708\ Discussion Draft (online at banking.senate.gov/public/_files/
AYO09D44_xml.pdf).
---------------------------------------------------------------------------
In order to address systemic risk, the discussion draft
would enact regulatory measures similar to those in the House
bill, but it would employ a much different institutional
structure. Rather than an inter-agency council of regulators,
Senator Dodd's proposal would create an independent Agency for
Financial Stability (AFS) responsible for identifying,
monitoring, and addressing systemic risks posed by large,
complex companies as well as products and activities that can
spread risk throughout the financial system. The agency would
be governed by a board of nine members and led by an
independent chairman, appointed by the President and confirmed
by the Senate.\709\ The agency would collect and analyze data
on emerging risks to the financial system and would be
empowered to set strict prudential standards for firms
identified as systemically important. Enhanced resolution
authority would be vested in the FDIC for companies that
continued to pose a systemic risk.
---------------------------------------------------------------------------
\709\ The board would include the secretary of the Treasury; chair
of the Federal Reserve; the chair of the Financial Institutions
Regulatory Administration; head of the Consumer Financial Protection
Agency; chair of the Securities and Exchange Commission; chair of the
Federal Deposit Insurance Corporation; chair of the Commodity Futures
Trading Commission; and independent members, including the chair,
appointed by the President and confirmed by the Senate.
---------------------------------------------------------------------------
Under Senator Dodd's proposal, the Agency for Financial
Stability would be empowered to regulate certain financial
companies, upon a determination by the Agency that the material
financial distress or failure of such a firm would pose a
threat to financial stability and economic growth. The agency
would establish prudential standards and reporting and
disclosure requirements on a graduated scale based on the size
and complexity of each firm. The prudential standards would
include risk-based capital requirements, leverage limits,
liquidity requirements, concentration limits, and prompt
corrective action requirements. In addition, the companies
would be required to establish a Board-level risk committee
responsible for the oversight of the enterprise-wide risk
management practices of the company. The companies would also
be required to issue a minimum amount of contingent capital,
long-term hybrid debt convertible to equity if a company fails
to meet prudential standards or its conversion is deemed
necessary by the AFS to preserve financial stability.
Each specified financial company would be required to
develop a plan for the rapid and orderly dissolution of the
company in the event of material financial distress or failure.
The company would report periodically to the AFS, FIRA, and
FDIC on the resolution plan, as well as the nature and extent
of the company's credit exposure and indebtedness to other
financial companies. Upon review of the resolution plan and
credit exposure reports, FIRA and FDIC could jointly determine
that a resolution plan is not credible and require the company
to resubmit a revised plan. If the company failed to provide a
satisfactory plan within a specified timeframe, FIRA and FDIC
could impose more stringent prudential requirements and
restrict certain growth, activities, and operations. In
consultation with AFS, the company could also be required to
sell certain assets and business operations.
Bank holding companies with total assets of over $10
billion would automatically be subject to heightened prudential
standards and reporting and disclosure requirements without the
need for an AFS evaluation of their systemic significance. The
stringency of the heightened standards, which would include
risk-based capital, leverage, and liquidity requirements, would
increase on a graduated scale based on the size of the company.
The bank holding companies would be required to establish a
risk committee to oversee all risk-management practices.
The Dodd proposal gives FIRA, with FDIC serving as
receiver, the authority to break up firms posing a systemic
risk on a case-by-case basis. Following consultation with AFS
and FIRA, FDIC would have a range of options at its disposal
for resolving the institution, including making loans,
purchasing debt obligations, purchasing or guaranteeing assets,
purchasing an equity stake, taking a lien on any or all assets,
or liquidating the company by selling or transferring all of
its assets, liabilities, obligations, equity interests, or
securities.
Senator Dodd's proposal stipulates that any exercise of the
enhanced resolution authority must be for the purpose of
financial stability and not for the purpose of rescuing or
preserving a particular company. Shareholders in the company
would not be eligible to recoup their investment until all
other claims are fully paid. The FDIC would be required to
ensure that the management responsible for the failed condition
of the company be removed. If proceeds from the sale of the
company or its assets were insufficient to cover the costs of
the resolution, the difference would be recouped from
assessments on financial companies with assets of over $10
billion.
Shortly after Senator Dodd released his discussion draft,
Senator Richard Shelby, the ranking member of the Senate
Banking Committee, announced his opposition to the bill and his
intention to draft his own alternative bill, in particular
because of his opposition to the creation of a Consumer
Financial Protection Agency and his view that the legislation
would institutionalize permanent bailout authority for the
government.\710\ Senator Dodd has agreed to work with Senator
Shelby and other Republicans on the Banking Committee in order
to arrive at a bipartisan bill. The two sides are currently
negotiating.
---------------------------------------------------------------------------
\710\ Senate Committee on Banking, Housing, and Urban Affairs,
Opening Statement of Senator Richard Shelby, Mark Up: Restoring
American Financial Security Act, 111th Cong. (Nov. 19, 2009) (online at
shelby.senate.gov/public/index.cfm?FuseAction=PressRoom.Speeches&
ContentRecord_id=0da23880-802a-23ad-45c9-
2c06baab4f5f&Region_id=&Issue_id=&County_id=).
---------------------------------------------------------------------------
H. Conclusions and Recommendations
Treasury holds, on behalf of the American taxpayer, a
diverse collection of assets that it must dispose of with all
deliberate speed, transparency, and good stewardship. In
general Treasury has made progress toward meeting these
requirements, but it could improve certain aspects of its
performance.
Strengthen Transparency and Accountability
In its past oversight reports, the Panel has repeatedly
urged Treasury to disclose greater detail about the goals,
metrics, and future plans for the programs that it has launched
and operated under the TARP. This same exceptional degree of
transparency will remain critical as Treasury exits the TARP.
In particular, Treasury should disclose to the public more
information about its plan for disposing of its assets. There
are some details that Treasury either cannot disclose (because
of the need to comply with securities laws, for example, or the
need to work with banking regulators using confidential
information) or should not disclose (because of the need to
time the market for asset sales). Treasury should, however, be
transparent with respect to the constraints under which it
operates (for example, any limits to Treasury's authority on
how and when to sell assets) and how it will balance its
sometimes conflicting obligations to maintain systemic
stability, preserve the stability of individual institutions,
and maximize taxpayers' return on investment. Treasury should
also disclose the metrics that it is using to determine timing
and manner of sales, and Treasury should publicly explain its
objectives so the American people can measure its success.\711\
Though it is the banking regulators' responsibility to disclose
their criteria for allowing repayments, Treasury also should be
able to articulate this policy in view of the broader economic
issues it raises. This lack of clarity breeds uncertainty and
instability in the financial markets and provides a disservice
to taxpayers as well as investors.
---------------------------------------------------------------------------
\711\ See also COP September Oversight Report, supra note 108, at
112.
---------------------------------------------------------------------------
Treasury should be particularly transparent with respect to
any plans to acquire additional assets or obligations under the
TARP, whether as a result of the TARP programs under which
money remains to be expended, or as a result of arrangements
with other governmental entities. If, for example, Treasury
were to acquire any of the assets that the Federal Reserve has
acquired as a result of its market interventions, those
arrangements, and Treasury's plans for disposition of those
assets, should be subject to the same transparency
considerations discussed above.
Reprising a theme of the Panel's September report, Treasury
should also be more transparent with respect to corporate
governance issues, including management succession issues, and
provide greater detail about the circumstances in which
Treasury will be involved in business decisions with respect to
its investee companies.\712\ Greater clarity will help to
reassure both taxpayers and market participants about the scope
of Treasury's role as a major investor in the private sector.
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\712\ See COP September Oversight Report, supra note 108, at 102.
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Because of the unprecedented nature of the TARP and the
many challenges involved in executing the sale of such an
enormous pool of assets, transparency is crucial to Treasury's
credibility and to the functioning of the markets in which
Treasury is now a key participant.
Demand Greater Transparency from TARP Participants
The need for greater transparency in TARP programs is not
limited to Treasury. Many TARP-recipient financial institutions
have provided very limited disclosures about their use of TARP
funds, denying taxpayers the opportunity to account precisely
for their tax dollars.
Any future recipient of TARP funds, including banks
participating in the small business initiative, must be
obligated to give a complete accounting of what they did with
the money and how those actions served the objectives of the
TARP.
Improve Operations to Protect Taxpayers
Exiting the TARP will be a lengthy and demanding process,
and a successful exit will require that Treasury have expertise
in complex markets and instruments. Treasury should take steps
to ensure that it will continue to be staffed, through final
exit from the TARP, with qualified and expert personnel.
Treasury should also give due consideration to each stage of
its exit strategy, including how it will handle the period in
the future when only a few recipients are left in the system.
Treasury should also be frank in addressing the potential
for conflicts of interest in light of the government's dual
role as investor and overseer of the financial industry. To
limit any conflicts of interest and facilitate an effective
exit strategy, Treasury should continue to consider holding its
TARP assets in a trust that would be insulated from political
pressure and government interference, especially as
circumstances change. Any such trust, however, should address
the concerns discussed above, which have been raised by
Professor Verret and others, so that the trust assets are
managed in the best interests of taxpayers.
Treasury should provide quarterly TARP financial
statements, and consider improving the readability of its
Management's Discussion and Analysis.
Take Steps to Resolve Implicit Guarantees
Perhaps the largest problem that Treasury faces is one that
Treasury cannot solve alone: the continued existence of a broad
implicit guarantee that hangs over the markets. There are
multiple options available and there is broad agreement that a
new approach to systemic risk regulation is necessary so that
businesses are not insulated from the effects of their own bad
decisions.
In the aftermath of the government's extraordinary economic
stabilization efforts, markets may believe that too big to fail
financial institutions operate under an implicit guarantee:
that the American taxpayer would bear any price, and absorb any
loss, to avert a financial meltdown. To the degree that lenders
and borrowers believe that such an implicit guarantee remains
in effect, moral hazard will continue to distort the market in
the future, even after TARP programs wind down. As Treasury
contemplates an exit strategy for the TARP and similar
financial stability efforts, addressing the implicit guarantee
of government support is critical.
SECTION TWO: ADDITIONAL VIEWS
A. Damon Silvers
The Panel's January Report is an extraordinarily detailed
survey of many issues associated with the windup of the
programs created under the Emergency Economic Stabilization Act
of 2008. Because of the breadth of the Report, I think it is
important to express in one place clearly what I see as the
problem with the direction the TARP has taken in recent weeks.
In the course of several weeks in December 2009, the Board
of Governors of the Federal Reserve announced it was allowing
three of the nation's largest banks to return their TARP
monies--allowing Bank of America and Wells Fargo to escape
TARP's limitations on executive pay, and allowing Citigroup to
escape the extraordinary limits on executive pay associated
with institutions receiving extraordinary aid, even though
Citigroup continued to be the beneficiary of tens of billions
of TARP funds in the form of common stock. Citigroup is now the
only company in which the TARP holds common stock that is not
subject to the rulings of the Special Master on Executive Pay.
But despite the intense interest that the executives of
Citigroup, Bank of America and Wells Fargo appeared to have in
the executive pay issue, that issue is a secondary one in
relation to the repayment decision. The real issues are about
systemic stability and moral hazard.
In relation to systemic stability the question is--are
these banks really sound after repayment? Given their enormous
size, if they are not sound after repayment allowing them to
repay would be a profoundly irresponsible act, making another
systemic financial crisis far more likely. Then there is the
question of these large banks' ability to withstand future
economic and financial turmoil. It would not be good for the
country if it turned out that these repayment transactions were
high stakes bets on continued economic and financial stability.
It is very important that the public and Congress
understand that the Congressional Oversight Panel has no
ability to answer this critical question because (1) we have
never received, despite repeated requests, the algorithms at
the heart of the stress tests (see our earlier hearings and our
correspondence with Secretary Geithner); (2) we were unable to
determine the extent of or the value of the toxic assets that
continue to be held by the major banks (see our August 2009
report) and (3) because the bank regulators have never
disclosed the criteria for allowing repayment.
Following the stress tests, each of these three banks began
to press to be allowed to repay their TARP funds. Because we do
not know what the criteria were for being allowed to repay, it
is impossible to know when they met them. But it is puzzling to
note that in the case of Wells Fargo and Bank of America, the
result of bank regulators allowing repayment transactions not
entirely funded by new equity was to reduce those banks' Pro
forma Tier 1 capital ratios, a basic measure of bank capital
strength, to below the level that it had been at these banks at
the end of the second quarter of 2009, when the Treasury
steadfastly refused to permit them to repay TARP funds. One
explanation for the regulator opposing transactions that
weakened Tier I capital is that the regulators were exclusively
focused on measures of common equity capital strength. But an
approach focused on common stock is odd in the context of the
fact that all of TARP's efforts to strengthen bank capital have
involved preferred stock infusions.
Then there is Citigroup. While our conversations with
Treasury and others on this matter are ongoing, we have yet to
receive a satisfactory explanation for how it is possible that
Citigroup, which had a Tier 1 capital ratio of 11.92 percent at
the end of 2008, and was generally understood to be the walking
dead, is now healthy enough to be let out of TARP with a Pro
forma Tier 1 capital ratio post-repayment of 11.0 percent.
Citigroup gets more puzzling in light of several other facts:
Citigroup posted net losses available to common shareholders in
the first and third quarters of 2009, and most analysts believe
it will lose money in the fourth quarter; its equity offering
ran into trouble; its stock price post-repayment is just over
$3 per share; and its total preferred and common equity market
capitalization is the same as it was at the beginning of 2009.
Of course, by converting the majority of its TARP preferred to
common, then selling common to replace preferred at the close
to option value price of $3.25, Citigroup has been able to
raise its common equity ratios significantly. But does trading
government preferred stock for government common stock
transform a sick bank into a healthy bank?
As to moral hazard, repayment converts what had been a
time-buying strategy into a fait accompli. We now know for
certain that, barring another systemic crisis requiring
revisiting these issues, the public has definitely rescued the
shareholders, bondholders and executives of these large banks
from the consequences of their actions. What is far less clear
is whether as a result we have strong, stable banks able to
play their proper role as provider of credit to the real
economy.
Note on Recusal
In July, 2009, I recused myself from participation in any
Panel discussions about and votes on matters pertaining to
General Motors, Chrysler or their financial affiliates,
including but not limited to GMAC. I did not vote on or
participate in discussions related to the Panel's September
Report, The Use of TARP Funds in Support and Reorganization of
the Domestic Automotive Industry. My vote in favor of this
Report and the Panel's December Report, entitled Taking Stock:
What Has the Troubled Asset Relief Program Achieved? should not
be taken as an expression of opinion on sections of the report
dealing with General Motors, Chrysler, or their financial
affiliates. Lastly, my votes in favor of this report and the
December Report were addressed only to those portions of the
reports that did not relate to General Motors, Chrysler, or
their financial affiliates.
B. J. Mark McWatters and Paul S. Atkins
We concur with the issuance of the January report and offer
additional observations below. We thank the Panel for
incorporating suggestions offered during the drafting process.
1. Executive Summary
We offer the following summary of our analysis:
Treasury should request that each TARP
recipient submit a formal exit strategy and update such
strategy each calendar quarter. Treasury should also
provide the Panel with its written assessment of the
exit strategies and updates submitted by the TARP
recipients.
In order to expedite the swift metamorphosis
of many TARP recipients from insolvent to investment
grade, the institutions were arguably subsidized
through government-sponsored purchases of mortgage-
backed securities and by the all but unlimited
investment of (and commitment to invest) public funds
in Fannie Mae, Freddie Mac and AIG. One may argue that
the government has created without meaningful public
debate or analysis a series of ``bad banks'' within the
Federal Reserve, Treasury, Fannie Mae, Freddie Mac, and
AIG to accomplish what TARP alone failed to achieve.
These ``bad banks'' or, perhaps, ``debt consolidation
entities'' operate by actually and virtually removing
toxic assets from the books of TARP recipients and
other holders and issuers. The Federal Reserve and
Treasury have actually removed up to $1 trillion of
troubled assets from the books of TARP recipients and
other holders and issuers through outright purchases.
The Federal Reserve and Treasury have also virtually
removed additional troubled assets from the books of
TARP recipients and other holders and issuers by
propping up the market values of such assets and
maintaining historically low mortgage rates.
A question arises as to whether the
termination of the AIG credit default swaps (CDSs) at
par--that is, without any discount or haircut--
constituted an inappropriate subsidy of the AIG
counterparties--which included TARP recipients Goldman
Sachs, Merrill Lynch and Bank of America--and
necessitated the investment of additional TARP funds in
AIG. Although then-FRBNY President Geithner denies that
the payments by the Federal Reserve Bank of New York
(FRBNY) constituted a ``backdoor bailout'' of the AIG
counterparties, without any other explanation it is
difficult to conclude that the FRBNY insisted that AIG
terminate the CDSs other than as a mechanism to provide
a direct--yet not particularly transparent--government-
sponsored subsidy to the AIG counterparties. Without a
better explanation of a straightforward business
purpose for these transactions, the taxpayers may be
best served by having Treasury seek recission from the
AIG counterparties, reversing cancellation of the CDS
contracts and requiring the counterparties to purchase
the underlying collateralized debt obligations (CDOs)
at their $62.1 billion par value.
Since Treasury is charged with protecting
the interests of the taxpayers who funded the Home
Affordable Modification Program (HAMP) and the other
TARP programs, we recommend that Treasury's foreclosure
mitigation efforts be structured so as to incorporate
an effective exit strategy by allowing Treasury to
participate in any subsequent appreciation in the home
equity of any mortgagor whose loan is modified under
HAMP or any other taxpayer subsidized program.
2. Required Submission of Proposed Exit Strategies by TARP Recipients
One job of effective oversight is to assess the exit
strategies proposed by TARP recipients and Treasury. In
discharging this responsibility the Panel undertook in the
January report to analyze (i) how each major TARP recipient
plans to repay its TARP funds, (ii) how Treasury expects to
recoup the TARP funds advanced to each major TARP recipient,
and (iii) each of these strategies for transparency,
effectiveness and taxpayer protection. The January report
serves as an intermediate step in an ongoing process, the
ultimate effectiveness of which will depend upon the
transparency and accountability of the disclosure provided by
the TARP recipients and Treasury. The Panel cannot claim unique
expertise regarding the wide array of financial institutions
and non-financial institutions, such as Chrysler and General
Motors, which have accepted TARP funds and, as such, must rely
to a significant extent upon good faith submissions by TARP
recipients and Treasury.
In our view, Treasury should request that each TARP
recipient submit a formal exit strategy and update such
strategy each calendar quarter. Treasury should also provide
the Panel with its written assessment of the exit strategies
and updates submitted by the TARP recipients. Because Treasury
has stated that it has a ``reluctant shareholder'' investment
strategy, the Panel and its staff, together with outside
experts and advisors, should commit periodically to offer
updated assessments of the proposed exit strategies for major
TARP recipients as an addendum to the Panel's monthly reports.
In our view, Treasury should exit each TARP investment as soon
as possible,\713\ and apply all proceeds received with respect
to each TARP investment permanently to repay the national
debt.\714\
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\713\ It does not appear, however, that Treasury in fact is
operating as a reluctant shareholder in all instances. The investment
of yet another $3.8 billion in GMAC--an apparently non-systemically
significant financial institution--indicates a contrary strategy.
Treasury's exit strategy with respect to GMAC remains a mystery. In
addition, although the Panel in reports predating our membership on the
Panel, has encouraged Treasury to hold its TARP investments in a series
of trusts, as the January report acknowledges, such a structure is
problematic and we cannot recommend it.
\714\ Treasury has interpreted TARP as a ``revolving facility''
pursuant to which payments received under the program may be recycled
and remitted to other TARP recipients. We disagree with this analysis
and contend that all such payments should be applied permanently to
repay the national debt.
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3. The Repayment of TARP Funds
It is encouraging that several of the most significant
recipients of TARP funds have been permitted by their
regulators \715\ to repay their TARP advances.\716\ It is more
satisfying that many of these recipients have funded their
redemptions by successfully accessing the private capital
markets. We remain optimistic that many--if not most--of these
former TARP recipients will not return to business-as-usual,
but will endeavor to operate with best practices in corporate
governance and risk management guidelines and policies.
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\715\ We assume the applicable regulators have analyzed the many
challenges facing financial institutions, including, without
limitation, (i) rising credit card, consumer and home equity loan
defaults, (ii) rising commercial real estate and private equity/
leveraged buyout loan defaults, (iii) the loss of traditional profits
centers due to recent regulatory changes, and (iv) the fall in loan
demand from borrowers. See Loan-Rate Differences are Challenges for
Banks, Wall Street Journal (Jan. 4, 2010) (online at online.wsj.com/
article/SB10001424052748704162104574630570328742070.html).
\716\ Recipients of TARP funds appear eager to exit the program
most likely because of the executive compensation restrictions as well
as the general stigma associated with participation in the program and
the risk that Congress and Treasury will mandate the application of
additional adverse laws and regulations to such recipients.
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As the December Report discussed, TARP is only a small part
of the total activity of the federal government to intervene in
the financial markets in 2008, including larger government
programs instituted by the Federal Reserve and the FDIC. TARP
amounted to approximately 10 percent of the total exposure of
the taxpayer.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Thus, we are troubled that some may view TARP as
monochromatic whereby any institution that receives regulatory
approval to redeem its TARP advances must necessarily be
financially stable. This may not be the case. It is possible
that but for the other programs and intervening events, many
TARP recipients would not have been financially strong enough
to receive regulatory clearance to exit TARP.
Financial institutions (and the automobile companies) have
received many direct and indirect financial and regulatory
subsidies, including:
The support of TARP recipients by the Federal
Reserve and Treasury with non-TARP sourced funds; and
The settlement of AIG credit default swap
obligations with certain TARP recipients at par value
(i.e., without any discount).
It is possible that these subsidies contributed to the
alleged transformation of a group of essentially insolvent
banks in 2008 into non-TARP dependent financial institutions by
the end of 2009. These subsidies were delivered at significant
cost, and the taxpayers--not the TARP recipients--will most
likely ultimately bear those costs.\717\
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\717\ It is also likely that a series of unintended consequences--
such as the establishment of the United States government as the
implicit/explicit guarantor of certain ``too big to fail''
institutions--will gain sounder footing from these investments. We do
not support the recently announced proposal to levy a special tax, fee
or assessment against financial institutions. Such a levy could impede
lending in an already tight credit market.
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We have heard much lately about the success of TARP and how
the Capital Purchase Program--the original bailout program for
approximately 700 financial institutions--may actually yield an
overall net profit. This assessment appears premature and
inappropriate. The final operating results of TARP should not
be tallied without including the costs of the other subsidies
afforded TARP recipients by the Federal Reserve, Treasury,
Fannie Mae, Freddie Mac, and AIG (channeling Federal Reserve
money).
a. Support by the Federal Reserve and Treasury of TARP
Recipients
Fannie Mae and Freddie Mac together own or guarantee
approximately $5.5 trillion of the $11.8 trillion in U.S.
residential mortgage debt and financed as much as 75 percent of
new U.S. mortgages during 2009.\718\ On December 24, 2009,
Treasury announced that it would provide an unlimited amount of
additional assistance to the two government-sponsored
enterprises (GSEs) as required over the next three years.\719\
Treasury apparently took this action out of concern that the
$400 billion of support that it previously committed to the
GSEs could prove insufficient. Additional assistance by
Treasury will also allow the GSEs to honor their mortgaged-
backed securities (MBS) guarantee obligations and to absorb
further losses from the modification or write down of
distressed mortgage loans.\720\ Treasury also revised upwards
to $900 billion the cap \721\ on the retained mortgage
portfolio of each of the GSEs which means the GSEs will not be
forced to sell MBS into a distressed market just as the Federal
Reserve is preparing to end its program to purchase up to $1.25
trillion of MBS.\722\ The increased commitment and revised cap
enhance the likelihood that the GSEs will undertake to make
``large-scale'' purchases of distressed MBS for which they
provided a guarantee.\723\ Presumably, the GSEs may make such
purchases from TARP recipients and other holders and issuers,
and it will be interesting to note how the GSEs elect to employ
the proceeds of this unlimited facility.
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\718\ Dawn Kopecki, Mortgage Anxieties Mean Limbo for Fannie and
Freddie (Update 2), Bloomberg (Dec. 28, 2009) (online at
www.bloomberg.com/apps/news?pid=newsarchive&sid=aLEn75100iNg#).
\719\ U.S. Department of the Treasury, Treasury Issues Update on
Status of Support for Housing Programs (Dec. 24, 2009) (online at
www.treasury.gov/press/releases/2009122415345924543.htm).
\720\ Nick Timiraos, Questions Surround Fannie, Freddie, Wall
Street Journal (Dec. 30, 2009) (online at online.wsj.com/article/
SB20001424052748704234304574626630520798314.html#mod=
todays_us_money_and_investing).
\721\ The revised number should not be viewed as a ``cap'' since
Treasury may again elect to increase the amount of retained MBS.
\722\ Nick Timiraos, Questions Surround Fannie, Freddie, Wall
Street Journal (Dec. 30, 2009) (online at online.wsj.com/article/
SB20001424052748 704234304574626630520798314.
html#mod=todays_us_money_and_investing).
``The relaxed portfolio limits calmed investor worries that Fannie
and Freddie would be forced to sell some of their mortgage holdings
just as the Federal Reserve was preparing to wind down its purchases of
mortgage-backed securities next spring. The Federal Reserve's
commitment to buy up to $1.25 trillion has helped to keep mortgage
rates near record lows; without that support some economists have said
that could rise to 6% by the end of 2010.
Others said the new flexibility means that Fannie and Freddie could
replace the Federal Reserve as a big buyer of mortgage-backed
securities, especially if weak demand for mortgage-backed securities
from private investors drives rates higher.''
\723\ Jody Chenn, Fannie Changes Clear Way for `Large-Scale'
Buyouts (Update 1), Bloomberg (Dec. 28, 2009) (online at
www.bloomberg.com/apps/news?pid=newsarchive&sid=aA7QrMCZHhRs#).
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As reflected on its November 25, 2009 balance sheet, the
Federal Reserve System holds $155 billion face-value federal
agency debt securities representing the direct obligations of
Fannie Mae, Freddie Mac and the Federal Home Loan Banks, and
$852 billion of face-value MBS representing securities
guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae. Since
November 26, 2008, the Federal Reserve has increased its
holdings of federal agency debt securities by $143 billion, and
the $852 billion of MBS is entirely new since that date.\724\
In addition, Treasury anticipates that as of December 31, 2009,
it will have purchased $220 billion of GSE-guaranteed MBS under
the Housing and Economic Recovery Act of 2008 (HERA).\725\
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\724\ Board of Governors of the Federal Reserve System, Federal
Reserve System Monthly Report on Credit and Liquidity Programs and
Balance Sheet (Dec. 2009) (online at federalreserve.gov/monetarypolicy/
files/monthlyclbsreport200912.pdf).
\725\ U.S. Department of the Treasury, Treasury Issues Update on
Status of Support for Housing Programs (Dec. 24, 2009) (online at
www.treasury.gov/press/releases/2009122415345924543.htm).
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It does not seem unreasonable to conclude that the actions
of Treasury and the Federal Reserve in support of the MBS
market and the GSEs also offered material assistance to many
TARP recipients and expedited the exit of some recipients from
the TARP.\726\ By directly and indirectly (through the GSEs)
funding the acquisition of MBS \727\ from TARP recipients and
other holders and issuers, Treasury and the Federal Reserve
added liquidity to an all but frozen MBS market and no doubt
enhanced the trading value of such securities. It is difficult
to imagine that the Federal Reserve's public commitment to
purchase up to $1.25 trillion of MBS did not materially move
the market and permit holders of MBS--including TARP
recipients--to liquidate their investments at more favorable
pricing. Even if the Federal Reserve ends its program to
purchase MBS within the next few months \728\ the GSEs could
potentially pick up the slack by funding the acquisition of MBS
through Treasury's recently announced expansion of its
commitment to the GSEs. Further, by funding Fannie Mae's and
Freddie Mac's performance of their MBS guarantee obligations,
Treasury has directly supported the MBS market and, as such,
quite likely improved the net worth of many TARP recipients.
Similarly, by purchasing MBS and GSE-issued mortgage bonds, the
Federal Reserve has kept mortgage rates near historic
lows,\729\ thereby facilitating mortgage loan originations and
refinancings and lessening the default rate on existing
adjustable rate mortgage loans--all of which have benefited
many TARP recipients.
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\726\ This is not to say that the overarching purposes and
mechanics of the Treasury and Federal Reserve programs are necessarily
transparent. A number of questions--without limitation--are presented.
What is the authority for Treasury's unlimited assistance
to the GSEs?
Will the GSEs continue to use funds contributed by
Treasury to guarantee the MBS purchased by the Federal Reserve?
If so, are the taxpayers--through Treasury's recently
announced unlimited capital commitment to the GSEs--in effect bailing
out the Federal Reserve for its efforts to create a liquid one-buyer
market for MBS?
Is one of the principal purposes of these circular
purchases, capital infusions and guarantee payments simply to remove
MBS from the books of TARP recipients (the original purpose of TARP)
and other holders and issuers at favorable prices to the sellers?
Is the Federal Reserve in effect bailing out TARP
recipients and other holders and issuers of MBS?
If so, will this action also placate foreign sovereigns
and other holders and issuers that acquired GSE guaranteed MBS with the
understanding that it was full faith and credit paper of the United
States government?
Have the purchases of MBS by the Federal Reserve coupled
with the unlimited assistance from Treasury converted the implicit
guarantee into an explicit guarantee of the GSEs by the United States
government?
If so, under what authority was such action taken?
Has the Federal Reserve or Treasury purchased any MBS from
any TARP recipient or other holder or issuer for consideration in
excess of the then existing market value?
If so, under what authority was such action taken?
\727\ To the extent Treasury or the Federal Reserve purchased MBS
from TARP recipients for consideration in excess of market value, it is
possible that some or all of the spread should be classified as a
subsidy--without an offsetting additional reimbursement obligation--for
the benefit of the selling TARP recipients. We question whether many
TARP recipients would have sold a material portion of their MBS
portfolios for less than the original purchase price paid for the
securities due to the adverse effect the recognition of any resulting
losses would have had on their required capital ratios. In addition,
these transactions would have provided lower ``marks'' for valuation
purposes, which could have had significant adverse balance sheet and
income statement effects under FAS 157. Thus, the revision of the mark-
to-market accounting rules noted below in the text may have also
encouraged TARP holders to defer any sales of MBS for consideration
less than their original purchase price. In addition to the cash
infusion generated from the sale of illiquid MBS at favorable prices,
the selling TARP recipients may have been able to book trading profits
from the MBS dispositions and it is possible that some TARP recipients
generated material trading gains by purchasing distressed MBS at well
below par and selling the securities to Treasury or the Federal Reserve
at or near par. These transactions would have bolstered the recipient's
capital and expedited its exit from TARP.
The quantification of any such subsidy is not free from doubt since
each MBS purchased by Treasury or the Federal Reserve apparently
carried a GSE guarantee and presumably would have been paid pursuant to
the terms of the guarantee contract assuming the guarantor remained
solvent. Nevertheless, GSE guaranteed MBS presumably may trade below
par if the guarantee obligation has not been triggered (or has only
been partially triggered) and the disposition of any such MBS by a TARP
recipient for consideration in excess of its prevailing market price
may in certain instances be viewed as a subsidy to the selling
recipient. The recognition of significant subsidies would have improved
the financial position and operating results of TARP recipients and
assisted their exit from the program. The cost of providing such
subsidies to the TARP recipients will be borne by the taxpayers and not
the recipients.
\728\ Fed may re-enter MBS market later in 2010--Market News,
Reuters (Jan. 5, 2010) (online at www.reuters.com/article/
idUSN0530695520100105?type=marketsNews):
``The Federal Reserve is discussing re-entering the mortgage-backed
securities market later this year if its buying power is needed to hold
down interest rates, Market News said on Tuesday in a story citing Fed
officials.
The $5 trillion agency mortgage-backed securities market may weaken
when last year's biggest buyer, the Federal Reserve, ends its $1.25
trillion agency MBS purchasing program at the end of the first quarter
of 2010.''
See also, Fed Minutes Show Division on Emergency Steps, New York
Times (Jan. 6, 2010) (online at www.nytimes.com/2010/01/07/business/
07fed.html?hp); see also, Fed Plan to Stop Buying Mortgages Feeds
Recovery Worries, Wall Street Journal (Jan. 8, 2010) (online at
online.wsj.com/article/SB126291088200220743.html).
\729\ Although the purchases have reduced the cost of capital of
the GSEs and lowered mortgage rates, some analysts fear that the
withdrawal of Federal Reserve support for the GSEs will lead to an
``asset collapse'' while others note that such concerns are
``overblown.'' See Mortgage Anxieties Mean Limbo for Fannie and Freddie
(Update 2), Bloomberg (Dec. 28, 2009) (online at www.bloomberg.com/
apps/news?pid=newsarchive&sid=aLEn75100iNg#); see also, Mortgage Bond
Rally May End, Rates Rise as Fed Stops Purchases, Bloomberg (Dec. 31,
2009) (online at www.bloomberg.com/apps/
news?pid=20601087&sid=aukqYVzx6x3w&pos=4).
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In order to expedite the swift metamorphosis of many TARP
recipients from insolvent to investment grade, the institutions
were arguably subsidized through government-sponsored purchases
of MBS and by the all but unlimited investment of (and
commitment to invest) public funds in Fannie Mae, Freddie Mac
and AIG. One may argue that the government has created without
meaningful public debate or analysis a series of ``bad banks''
within the Federal Reserve, Treasury, Fannie Mae, Freddie Mac
and AIG \730\ to accomplish what TARP alone failed to achieve.
These ``bad banks'' or, perhaps, ``debt consolidation
entities'' operate by actually and virtually removing toxic
assets from the books of TARP recipients and other holders and
issuers. The Federal Reserve and Treasury have actually removed
up to $1 trillion of troubled assets from the books of TARP
recipients and other holders and issuers through outright
purchases.\731\ The Federal Reserve and Treasury have also
virtually removed additional troubled assets from the books of
TARP recipients and other holders and issuers by propping up
the market values of such assets and maintaining historically
low mortgage rates.
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\730\ It is our understanding that many of the distressed assets of
AIG are housed in a group of special purpose vehicles with the common
name ``Maiden Lane LLC.''
\731\ Treasury anticipates that it will have purchased
approximately $220 billion face value of mortgage-backed securities
guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae by December 31,
2009, and the Federal Reserve's November 25, 2009 balance sheet
discloses the purchase of $852 billion face value of mortgage-backed
securities guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae. See
U.S. Department of the Treasury, Treasury Issues Update on Status of
Support for Housing Programs (Dec. 24, 2009) (online at
www.treasury.gov/press/releases/2009122415345924543.htm; see also,
Board of Governors of the Federal Reserve System, Federal Reserve
System Monthly Report on Credit and Liquidity Programs and Balance
Sheet (Dec. 2009) (online at www.federalreserve.gov/monetarypolicy/
files/monthlyclbsreport200912.pdf).
---------------------------------------------------------------------------
Although Treasury and the Federal Reserve have arguably
bolstered the net worth of many TARP recipients by purchasing
MBS and investing in the two GSEs, much of the risk associated
with Treasury's and the Federal Reserve's investments will fall
to the taxpayers even though substantial benefits may inure to
many TARP recipients. Such actions by Treasury and the Federal
Reserve have all but enshrined the ``implicit guarantee'' of
the United States government with respect to institutions that
are deemed ``too big or too interconnected to fail'' and may
have intentionally or inadvertently subsidized the early exit
from TARP of many recipients at an increasing cost of the
taxpayers.
b. AIG and Credit Default Swap Payments
On November 17, 2009, the Special Inspector General for
TARP (SIGTARP) issued a report addressing the termination of
certain AIG CDSs at par (SIGTARP Report).\732\ In order to
close out the AIG CDSs the FRBNY remitted $27.1 billion to the
AIG counterparties (CPs) in return for $62.1 billion of face
value CDOs held by the CPs.\733\ The CPs were also permitted to
retain $35 billion of cash collateral previously pledged by AIG
pursuant to the CDSs. The CPs--which included TARP recipients
Goldman Sachs, Merrill Lynch and Bank of America--were paid the
full face value of their respective CDOs and the FRBNY failed
in its efforts to receive a discount in payment from any
CP.\734\
---------------------------------------------------------------------------
\732\ Office of the Special Inspector General for the Troubled
Asset Relief Program, Factors Affecting Efforts To Limit Payments to
AIG Counterparties (Nov. 17, 2009) (online at www.sigtarp.gov/reports/
audit/2009/Factors_Affecting_Efforts_to_
Limit_Payments_to_AIG_Counterparties.pdf).
\733\ Each AIG CDS was structured with the applicable CP based upon
a unique set of facts. The noted description is, by necessity,
simplified.
\734\ The aggregate face amount of the underlying CDOs equaled
$62.1 billion and the CPs received $27.1 billion from the FRBNY and
were permitted to retain $35 billion of cash collateral previously
pledged under the CDS contracts. Id.
---------------------------------------------------------------------------
A question arises as to whether the termination of the CDSs
at par--that is, without any discount or haircut--constituted
an inappropriate subsidy of the CPs and necessitated the
investment of additional TARP funds in AIG. According to the
SIGTARP Report, the CPs refused to accept a discounted payment
and terminate the CDSs for less than par because (i) the
collateral previously posted under the CDS contracts ($35
billion) plus the then fair market value of the CDOs ($27.1
billion) equaled the full face value of the CDOs ($62.1
billion), (ii) the United States government had clearly
signaled that it would not permit AIG to fail and, therefore,
the CDSs would be honored in full, (iii) certain CPs had hedged
against a default by AIG under the CDSs, and (iv) the CPs were
entitled to par value payments pursuant to the CDS
contracts.\735\ Although the FRBNY apparently asked the CPs to
accept a discounted payment for the settlement of the CDSs,
their efforts ultimately proved unsuccessful.
---------------------------------------------------------------------------
\735\ Office of the Special Inspector General for the Troubled
Asset Relief Program, Factors Affecting Efforts to Limit Payments to
AIG Counterparties, at 15 (Nov. 17, 2009) (online at www.sigtarp.gov/
reports/audit/2009/Factors_Affecting_Efforts_to_Limit_
Payments_to_AIG_Counterparties.pdf).
---------------------------------------------------------------------------
These justifications proffered by the CPs, and accepted by
the FRBNY, are not compelling. If the CPs believed that the
United States government would not permit AIG to fail, then why
did the FRBNY insist on terminating the CDSs? If the CPs were
confident that AIG--or the FRBNY in its absence--would continue
to post collateral if the fair market value of the CDOs
declined or that the CDOs could be sold for their then market
value if AIG collapsed, then why not let the CPs assume that
risk? If the CPs believed that their third-party hedges against
an AIG default would be honored in full, then (again) why not
let the CPs assume that risk? Although the SIGTARP Report notes
that then-FRBNY President Geithner denies that the payments by
the FRBNY constituted a ``backdoor bailout'' of the CPs,\736\
without any other explanation, it is difficult to conclude that
the FRBNY insisted that AIG terminate the CDSs other than as a
mechanism to provide a direct--yet not particularly
transparent--government-sponsored subsidy to the CPs.\737\
---------------------------------------------------------------------------
\736\ Office of the Special Inspector General for the Troubled
Asset Relief Program, Factors Affecting Efforts to Limit Payments to
AIG Counterparties, at 30 (Nov. 17, 2009) (online at www.sigtarp.gov/
reports/audit/2009/Factors_Affecting_Efforts_to_Limit_Payments_to_
AIG_Counterparties.pdf).
\737\ Is it likely that the market value of the referenced CDOs
would have dropped from $27.1 billion to zero and necessitated that AIG
post additional collateral of $27.1 billion? By terminating the CDS
contracts at par, the FRBNY effectively assumed that the market value
of the CDOs would drop to zero within the very near term.
---------------------------------------------------------------------------
Even if the FRBNY did not intend for the termination of the
CDSs to serve as a government-sponsored subsidy of the CPs, why
did the FRBNY fail to negotiate material discounts with each
CP? Although the CPs may have believed that (i) the United
States government would not let AIG fail, (ii) AIG--or the
FRBNY--would continue to post collateral under the CDS
contracts or that the CDOs could be sold for their then market
value if AIG collapsed, and (iii) their third-party hedges
would be honored in full, such assumptions were by no means
free from doubt. All doubt was resolved, however, in favor of
the CPs upon their receipt of cash payments from the FRBNY for
the full par value of the CDOs. It seems that the negation of
these risks should have merited the termination of the CDS
contracts at a material discount to par value.
In addition, other justifications exist for discounting the
payments remitted by the FRBNY to the CPs. Prior to the
termination of the CDSs, the CPs held cash collateral of $35
billion. Yet, after the termination of the CDSs, the CPs held
actual cash in the same amount. The transformation of cash
collateral into actual cash must have been of some benefit to
the CPs.\738\ Further, prior to the termination of the CDSs,
the CPs held CDOs with a (falling) market value of $27.1
billion, but after the termination of the CDSs, the CPs held
actual cash in the same amount.\739\ In effect, the FRBNY
permitted--if not directly encouraged--the CPs to convert
illiquid cash collateral and illiquid CDOs into $62.1 billion
of actual cash. Trading cash collateral and CDOs with a
problematic market value for cash during a worldwide liquidity
crunch must have been of substantial benefit to the CPs. Why
was the FRBNY unable to terminate the CDSs at a material
discount to par value? Why did the FRBNY not insist on these
discounts? Again, the inescapable conclusion, without other
facts, seems to be that this was a direct government-sponsored
subsidy to the CPs.
---------------------------------------------------------------------------
\738\ This assumes that posted collateral under these transactions
was encumbered by contractual and legal restrictions.
\739\ At the time the FRBNY financed the termination of the AIG
CDSs, the CDO market was illiquid--if not frozen--and it is doubtful
that lenders would have accepted CDOs as collateral without the
imposition of substantial discounts to their then significantly
depressed market values.
---------------------------------------------------------------------------
It is unlikely that the FRBNY (or the United States
government) has a basis to seek to unwind the termination of
the CDSs or compel the CPs to promptly remit a suitable
discount to the FRBNY. It appears that the CPs--including
several TARP recipients--received another taxpayer subsidy for
which they hold no reimbursement obligation. Without this
substantial subsidy, it is possible that at least some of the
CPs would not have been permitted by their regulators to exit
the TARP program on an expedited basis. We recommend that the
Panel investigate this matter in its upcoming report on AIG.
Without a better explanation of a straightforward business
purpose for these transactions, the taxpayers nevertheless may
be best served by having Treasury seek recission from the CPs,
reversing cancellation of the CDS contracts and requiring the
CPs to purchase the underlying CDOs at their $62.1 billion par
value.
4. Exit Strategy from HAMP and Other Foreclosure Mitigation Programs
The TARP-funded HAMP program carries a 100 percent subsidy
rate according to the General Accounting Office.\740\ This
means that the United States government will recover none of
the $50 billion of taxpayer sourced TARP funds invested in the
HAMP foreclosure mitigation program.\741\ The projected
shortfall will become more burdensome to the taxpayers as
Treasury contemplates expanding HAMP or introducing additional
programs targeted at modifying or refinancing distressed home
mortgage loans. Since Treasury is charged with protecting the
interests of the taxpayers who funded HAMP and the other TARP
programs, we recommend that Treasury's foreclosure mitigation
efforts be structured so as to incorporate an effective exit
strategy by allowing Treasury to participate in any subsequent
appreciation in the home equity of any mortgagor whose loan is
modified under HAMP or any other taxpayer subsidized
program.\742\ In order to encourage the participation of
mortgage lenders in Treasury's foreclosure mitigation efforts,
such lenders should also be granted the right--subordinate to
the right granted Treasury--to participate in any subsequent
equity appreciation. The incorporation of an equity
participation right may be achieved by the filing of a one-page
document in the local real estate property records when the
applicable home mortgage loan is modified. The mechanics of
such a feature may be illustrated by the following example of a
typical home mortgage loan modification.
---------------------------------------------------------------------------
\740\ Government Accountability Office, Financial Audit: Office of
Financial Stability (Troubled Asset Relief Program) Fiscal Year 2009
Financial Statements (Dec. 2009) (online at www.gao.gov/new.items/
d10301.pdf).
\741\ Congressional Budget Office, The Troubled Asset Relief
Program: Report on Transactions Through June 17, 2009 (June 2009)
(online at www.cbo.gov/ftpdocs/100xx/doc10056/06-29-TARP.pdf).
\742\ Congressional Oversight Panel, Taking Stock: What Has the
Troubled Asset Relief Program Achieved?, Additional views of former
panelist Congressman Jeb Hensarling (Dec. 9, 2009) (online at
cop.senate.gov/documents/cop-120909-report-hensarling.pdf).
Assume a homeowner borrows $200,000 and purchases a
residence in the same amount.\743\ The home
subsequently declines in value to $175,000 and the
homeowner and the mortgage lender agree to restructure
the loan under a TARP-sponsored foreclosure mitigation
program pursuant to which the outstanding principal
balance of the loan is reduced to $175,000 and Treasury
advances $10,000 in support of the restructure.
Immediately after the modification the mortgage lender
has suffered a $25,000 \744\ economic loss and Treasury
has advanced $10,000 of TARP funds. If the homeowner
subsequently sells the residence for $225,000, the
$50,000 of realized equity proceeds \745\ will be
allocated in accordance with the following waterfall--
the first $10,000 \746\ is remitted to reimburse
Treasury for the TARP funds advanced under the
foreclosure mitigation program; the next $25,000 \747\
is remitted to the mortgage lender to cover its $25,000
economic loss; and the balance of $15,000 is paid to
the homeowner.
---------------------------------------------------------------------------
\743\ These facts illustrate the zero ($0.00) down-payment
financings that were more common a few years ago.
\744\ The $25,000 loss equals the $200,000 principal balance of the
original loan, less the $175,000 principal balance of the modified
loan. The example does not consider the consequences of modifying the
interest rate on the loan.
\745\ The $50,000 of realized equity proceeds equals the $225,000
sales price of the residence, less the $175,000 outstanding balance of
the modified loan. The example makes certain simplifying assumptions
such as the absence of transaction and closing fees and expenses.
\746\ In order to more appropriately protect the taxpayers, the
$10,000 advanced under the TARP sponsored foreclosure mitigation
program should accrue interest at an objective and transparent rate of
interest. For example, if the 30-year fixed rate of interest on
mortgage loans equals five-percent when the mortgage loan is modified,
the $10,000 advance should accrue interest at such a rate and Treasury
should be reimbursed the aggregate accrued amount upon realization of
the equity proceeds. If at such time $2,500 of interest has accrued,
Treasury should be reimbursed $12,500 ($10,000 originally advanced,
plus $2,500 of accrued interest) instead of only the $10,000 of TARP
proceeds originally advanced.
\747\ The mortgage lender may also argue that its $25,000 loss
should accrue interest in the same manner as provided Treasury. In such
event, the mortgage lender would be entitled to recover $25,000, plus
accrued interest upon the realization of sufficient equity proceeds.
Prior to the repayment of all funds advanced by Treasury
and the economic loss suffered by the mortgage lender the
homeowner should not be permitted to borrow against any
appreciation in the net equity value of the mortgaged property
unless the proceeds are applied in accordance with the
waterfall noted above. That is, instead of selling the
residence for $225,000 as assumed in the foregoing example, the
homeowner should be permitted to borrow against any net equity
in the residence, provided $10,000 is remitted to Treasury and
$25,000 is paid to the mortgage holder prior to the homeowner
retaining any such proceeds.\748\ Such flexibility allows the
homeowner to cash out the interests of Treasury and the
mortgage lender without selling the residence securing the
mortgage loan. The modified loan documents should also permit
the homeowner to repay Treasury and the mortgage lender from
other sources such as personal savings or the disposition of
other assets.\749\
---------------------------------------------------------------------------
\748\ Prudent underwriting standards should apply to all such home
equity loans.
\749\ Treasury may wish to structure its foreclosure mitigation
efforts so as to encourage the early repayment of TARP funds by
homeowners. Treasury, for example, could agree to a ten-percent
discount or waive the accrual of interest on the TARP funds advanced if
a homeowner repays such funds in full within three years following the
restructuring. Any such incentives should appear reasonable to the
taxpayers and should not negate the intent of the equity participation
right. Mortgage lenders may also agree to similar incentives.
---------------------------------------------------------------------------
We also recommend that to the extent permitted by
applicable law, Treasury should structure all mortgage loan
modifications and refinancings under HAMP and any other
foreclosure mitigation programs as recourse obligations to the
homeowners. If the loans are structured as non-recourse
obligations, under state law or otherwise, the homeowners may
have a diminished incentive to repay Treasury the funds
advanced under TARP.\750\
---------------------------------------------------------------------------
\750\ Roger Lowenstein, Walk Away From Your Home, New York Times
(Jan. 7, 2009) (online at www.nytimes.com/2010/01/10/magazine/10FOB-
wwln-t.html?hp). The article implies that a recourse structure is of
little benefit if the homeowner is otherwise judgment proof.
---------------------------------------------------------------------------
In our view, the incorporation of these specifically
targeted modifications into each TARP funded foreclosure
mitigation program will enhance the possibility that Treasury
will exit the programs at a reduced cost to the taxpayers.
5. Implicit Guarantees
The January report analyzes the difficulties that may arise
when the United States government directly or indirectly
undertakes to prevent certain systemically significant
institutions from failing. Although the government does not
generally guarantee the assets and obligations of private
entities, its actions and policies may nevertheless send a
clear message to the market that some institutions are simply
too big, or too interconnected, to fail. Once the government
adopts such a policy it is difficult to know how and where to
draw the line. With little public debate, automobile
manufacturers were recently transformed into financial
institutions so they could be bailed out with TARP funds and an
array of arguably non-systemically significant institutions--
such as GMAC \751\--received many billions of dollars of
taxpayer funded subsidies. In its haste to restructure favored
institutions, the government may assume the role of king
maker--as was surely the case in the Chrysler and GM
bankruptcies--and dictate a reorganization structure that
arguably contravenes years of well-established commercial and
corporate law precedent. The unintended consequences of these
actions linger in the financial markets and legal community
long after the offending transactions have closed and
adversely--yet subtly--affect subsequent transactions that
carry any inherent risk of future governmental intervention.
The uninitiated may question why two seemingly identical
business transactions merit disparate risk-adjusted rates of
return or why some transactions appear over-collateralized or
inexplicably complicated. The costs of mitigating political
risk in private sector business transactions are seldom
quantified or even discussed outside the cadre of
businesspersons and their advisors who structure, negotiate and
close such transactions, yet such costs certainly exist and
must be satisfied.
---------------------------------------------------------------------------
\751\ Although Treasury indicates that GMAC was (again) saved so as
to support its auto financing business, it also appears that
substantial GMAC losses stem from speculation in the MBS market. It is
unclear why GMAC--a putative auto finance company--chose to speculate
in the MBS market. We recommend that the Panel investigate GMAC and the
inherent ongoing subsidies that its taxpayer-supported operations
afford to Chrysler and GM in contrast to their competitors.
---------------------------------------------------------------------------
The resolution of the fundamental public policy issues
arising from implicit guarantee and political risk should
remain with Congress.
SECTION THREE: CORRESPONDENCE WITH TREASURY UPDATE
Secretary of the Treasury, Timothy Geithner, sent a letter
to Chair Elizabeth Warren on December 10, 2009 \752\ in
response to a series of questions presented by the Panel
regarding the Supervisory Capital Assessment Program (the
``stress tests'').
---------------------------------------------------------------------------
\752\ See Appendix I of this report, infra.
---------------------------------------------------------------------------
On behalf of the Panel, Chair Elizabeth Warren sent a
letter on December 24, 2009 \753\ to Secretary of the Treasury,
Timothy Geithner, requesting information with respect to the
Emergency Economic Stabilization Act of 2008 provisions
governing executive compensation at TARP-recipient financial
institutions and regarding the authority of the Special Master
for TARP Executive Compensation. The Panel requested a written
response from Treasury by January 13, 2010. The Panel has not
yet received a response from Secretary Geithner.
---------------------------------------------------------------------------
\753\ See Appendix II of this report, infra.
---------------------------------------------------------------------------
On behalf of the Panel, Chair Elizabeth Warren sent a
letter on January 11, 2010 \754\ to Secretary of the Treasury
Timothy Geithner, to follow-up on a letter sent on November 25,
2009,\755\ requesting information with respect to Treasury's
assistance to CIT Group, Inc. As of the publication of this
report, the Panel has not received a response from Secretary
Geithner.
---------------------------------------------------------------------------
\754\ See Appendix III of this report, infra.
\755\ See Appendix IV of the Panel's December oversight report.
Congressional Oversight Panel, December Oversight Report: Taking Stock:
What Has the Troubled Asset Relief Program Achieved? (Dec. 9, 2009)
(online at cop.senate.gov/documents/cop-120909-report.pdf).
SECTION FOUR: TARP UPDATES SINCE LAST REPORT
A. Restructuring of Treasury's Investment in GMAC
Treasury injected an additional $3.8 billion of capital
into GMAC on December 30, 2009. The $3.8 billion is divided
into a $2.54 billion purchase of Trust Preferred Securities
(TruPs), $127 million in warrants to purchase TruPs exercised
on December 30, a $1.25 billion purchase of Mandatory
Convertible Preferred Stock (MCP), and $63 million in warrants
to purchase MCP exercised on December 30.
In addition, Treasury converted $3 billion of the $7.5
billion in MCP it purchased in May 2009 into common equity;
Treasury now owns 56 percent of GMAC's common stock, up from 35
percent prior to this transaction. As a result, Treasury will
appoint four members of GMAC's board of directors, up from two
before the restructuring. The restructuring also converted
Treasury's preferred stock and warrants, from a $5 billion
purchase in December 2008, into MCP. Treasury exercised
warrants it held following both transactions prior to the
conversions, totaling $375 million and $250 million,
respectively.
Treasury made the additional purchases and restructured the
investment in order to help GMAC satisfy its additional capital
requirements under the Supervisory Capital Assistance Program
(SCAP) following the May 2009 stress tests. Treasury's
additional commitment came in under the $5.6 billion Treasury
previously estimated GMAC would require under SCAP.
For a more complete discussion of the restructuring of
Treasury's GMAC investment, please see Section D.8 of this
report.
B. CPP Monthly Lending Report
Treasury releases a monthly lending report showing loans
outstanding at the top 22 CPP recipient banks. The most recent
report, issued on December 14, 2009, includes data through the
end of October 2009. Treasury reported that the overall
outstanding loan balance at the top CPP recipients declined by
one percent between the end of September 2009 and the end of
October 2009.
C. TARP Repayments
Since the Panel's most recent oversight report, additional
banks have repaid their TARP investments under CPP. A total of
58 banks have repaid their preferred stock TARP investments
provided under the CPP to date. Treasury has also liquidated
the warrants it holds in 40 of these 58 banks.
Most notably, Bank of America and Wells Fargo & Company
both repaid their full $25 billion CPP investments. In
addition, both Bank of America and Citigroup repaid all $20
billion Treasury invested in both institutions through the TIP.
Finally, General Motors repaid the first $1 billion of a $6.7-
billion debt obligation to Treasury remaining after GM's
bankruptcy proceedings. Similar quarterly payments will
continue until the debt is repaid.
During November 2009, Treasury received $1.87 billion in
dividends and $13.5 million in interest from its investments.
D. Asset Guarantee Program Termination
On December 23, 2009, Treasury, the Federal Reserve, the
Federal Deposit Insurance Corporation, and Citigroup terminated
a loss-sharing agreement on $301 billion of ring-fenced
Citigroup assets reached under Treasury's Asset Guarantee
Program (AGP) in January 2009 and expected to run for 10 years.
As a result of the early termination, Treasury cancelled $1.8
billion in Trust Preferred Securities, leaving Treasury with a
little over $2.2 billion in Trust Preferred Securities and a
warrant for 66 million shares of Citigroup common stock in
exchange for the guarantee. This transaction was the only one
ever consummated under the AGP, and Treasury is terminating the
program.
E. Public-Private Investment Program
On December 18, 2009, the last of the nine pre-qualified
PPIP fund managers, Oaktree Capital Management, L.P., closed a
PPIF transaction. As a result, Treasury has made available to
fund managers its full complement of $30 billion financing,
representing $10 billion in equity capital and $20 billion in
secured debt financing.
As of December 22, 2009, Treasury reported that PPIP
transactions totaling $24 billion in purchasing power had
closed, representing $6 billion in private equity capital, $6
billion in Treasury equity capital, and $12 billion in secured
debt financing.
On January 4, 2010, Treasury entered into a wind-up and
liquidation agreement with TCW Asset Management, one of the
nine pre-qualified PPIP fund managers. The agreement will
unwind a Treasury investment of $356.3 million, with a portion
of the losses backstopped by TCW.
F. Term Asset-Backed Securities Loan Facility (TALF)
At the December 14, 2009 facility, investors requested $1.3
billion in loans for legacy CMBS. Investors did not request any
loans for new CMBS. By way of comparison, investors requested
$1.4 billion in loans for legacy CMBS at the November facility
and $2.1 billion at the October facility. Investors requested
$72.2 million in loans for new CMBS at the November facility,
the only loans requested for new CMBS during TALF's operation.
At the January 7, 2010 facility, investors requested $1.1
billion in loans to support issuance of ABS collateralized by
loans in the credit card, floorplan, and small business
sectors. No loans were requested in the auto, equipment,
premium financing, servicing advances, and student loan
sectors. By way of comparison, at the December 3, 2009
facility, investors requested $3 billion in loans
collateralized by the issuance of ABS in the credit card,
equipment, floorplan, small business, servicing advances, and
student loan sectors; investors did not request any loans in
the auto or premium financing sectors.
G. Warrant Auctions
Treasury previously announced that it would sell its
warrant positions in JPMorgan Chase & Co. and TCF Financial
Corporation through a modified Dutch auction process. The
auction of JPMorgan Chase warrants closed on December 10, 2009,
with proceeds to Treasury of $950.3 million. The auction of TCF
Financial warrants closed on December 15, 2009, with proceeds
to Treasury of $9.6 million.
H. Metrics
Each month, the Panel's report highlights 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 EESA.
This section discusses changes that have occurred in several
indicators since the release of the Panel's December report.
Interest Rate Spreads. Interest rate spreads have
continued to tighten since the Panel's December report, showing
further signs of financial stability. Interest rates on
overnight commercial paper have returned to near pre-crisis
levels. The interest rate spread for AA asset-backed commercial
paper, which is considered mid-investment grade, has decreased
by nearly 8 percent since the Panel's December report and is at
its lowest level since July 2007. Interest rate spreads on
overnight A2/P2 commercial paper, considered to be lower
quality, have decreased over 95 percent since the enactment of
EESA.
FIGURE 14: INTEREST RATE SPREADS
----------------------------------------------------------------------------------------------------------------
Percent Change Since
Indicator Current Spread Last Report (as of 11/
(as of 12/31/09) 30/09)
----------------------------------------------------------------------------------------------------------------
3 month LIBOR-OIS spread \756\.................................... 0.09 -33
1 month LIBOR-OIS spread \757\.................................... 0.10 -16
TED spread \758\ (in basis points)................................ 19 -5
Conventional mortgage rate spread \759\........................... 1.29 -12.8
Corporate AAA bond spread \760\................................... 1.56 -11.9
Corporate BAA bond spread \761\................................... 2.66 -9.5
Overnight AA asset-backed commercial paper interest rate spread 0.17 -7.6
\762\............................................................
Overnight A2/P2 nonfinancial commercial paper interest rate spread 0.13 52.3
\763\............................................................
----------------------------------------------------------------------------------------------------------------
\756\ 3 Mo LIBOR-OIS Spread, Bloomberg (online at www.bloomberg.com/apps/quote?ticker=.LOIS3:IND) (accessed Jan.
4, 2010) (hereinafter ``3 Mo LIBOR-OIS Spread'').
\757\ 1 Mo LIBOR-OIS Spread, Bloomberg (online at www.bloomberg.com/apps/quote?ticker=.LOIS1:IND) (accessed Jan.
4, 2010).
\758\ TED Spread, SNL Financial.
\759\ 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 Jan. 4, 2010); 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)
(hereinafter ``Federal Reserve Statistical Release H.15'') (accessed Jan. 4, 2010).
\760\ 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 Jan. 4, 2010); Federal
Reserve Statistical Release H.15, supra note 759 (accessed Jan. 4, 2010).
\761\ 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 Jan. 4, 2010); Federal
Reserve Statistical Release H.15, supra note 759 (accessed Jan. 4, 2010).
\762\ 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) (hereinafter ``Federal Reserve Statistical
Release on Commercial Paper'') (accessed Jan. 4, 2010); 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 Jan. 4, 2010). In order to provide a more complete comparison, this metric
utilizes a five-day average of the interest rate spread for the last five days of the month.
\763\ Federal Reserve Statistical Release on Commercial Paper, supra note 762. In order to provide a more
complete comparison, this metric utilizes a five-day average of the interest rate spread for the last five
days of the month.
LIBOR-OIS Spread. The LIBOR-OIS spread provides
another example of how credit conditions have improved. This
spread measures the difference between LIBOR, which shows
quarterly borrowing costs for banks, and the Overnight Indexed
Swaps rate (OIS), which measures the cost of extremely short-
term borrowing by financial institutions. As the spread
increases, market participants have greater fears about whether
counterparties will be able to deliver on their obligations.
The lower spread means that the banking sector now has a
significantly lower cost of short-term capital than it did at
the height of the crisis.\764\
---------------------------------------------------------------------------
\764\ Federal Reserve Bank of St. Louis, What the Libor-OIS Spread
Says (May 11, 2009) (online at research.stlouisfed.org/publications/es/
09/ES0924.pdf).
---------------------------------------------------------------------------
FIGURE 15: 3 MONTH LIBOR-OIS SPREAD (AS OF DECEMBER 2009) \765\
---------------------------------------------------------------------------
\765\ See 3 Mo LIBOR-OIS Spread, supra note 756.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
TED Spread. The TED spread, which is the
difference between LIBOR and short-term Treasury bill interest
rates, is another indicator of perceived credit risk. After
peaking in late 2008, the TED spread has fallen to pre-crisis
levels, as Figure 16 illustrates. The TED spread has continued
to tighten since the Panel's December report, declining 5
percent since November 30, 2009.\766\
---------------------------------------------------------------------------
\766\ SNL Financial, Historical Dividend Yield Values, 3 Month
Libor (online at www1.snl.com/InteractiveX/history.aspx?
RateList=1&Tabular=True&GraphType= 2&Frequency=0&TimePeriod2=
11&BeginDate=12%2F29%2F06&EndDate =11%2F4%2F2009&SelectedYield2
=YID%3A63&ctl00%24ctl09%24IndexPreference= default&ComparisonIndex2
=0&ComparisonYield2=1&CustomIndex= 0&ComparisonTicker2=&Action=Apply)
(accessed Nov. 5, 2009) (hereinafter ``Historical Dividend Yield
Values, 3 Month Libor''); SNL Financial, Historical Dividend Yield
Values, 3 Month Treasury Bill (online at www1.snl.com/InteractiveX/
history.aspx?RateList
=1&Tabular=True&GraphType=2&Frequency=0&TimePeriod2=
11&BeginDate=12%2F29%2F06&EndDate =11%2F4%2F2009&Selected Yield2
=YID%3A63&ctl00%24ctl09%24IndexPreference=default&ComparisonIndex2
=0&ComparisonYield2=1&CustomIndex=0&ComparisonTicker2=&Action=Apply)
(accessed Nov. 5, 2009).
---------------------------------------------------------------------------
FIGURE 16: TED SPREAD SINCE OCTOBER 3, 2008 \767\
---------------------------------------------------------------------------
\767\ Historical Dividend Yield Values, 3 Month Libor, supra note
766; Historical Dividend Yield Values, 3 Month Libor, supra note 766.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Commercial Paper Outstanding. Commercial paper
outstanding, a rough measure of short-term business debt, is an
indicator of the availability of credit for enterprises. The
amount of commercial paper outstanding has decreased across the
three categories the Panel measures since the December 2009
report. Financial commercial paper outstanding has decreased by
over 9 percent since the Panel's last report while nonfinancial
commercial paper outstanding fell by over 13.5 percent.\768\
Commercial paper outstanding has continued to decrease since
the enactment of EESA. Asset-backed commercial paper
outstanding has declined nearly 32 percent and nonfinancial
commercial paper outstanding has decreased by over 49 percent
since October 2008.\769\
---------------------------------------------------------------------------
\768\ Federal Reserve Statistical Release on Commercial Paper,
supra note 762.
\769\ Federal Reserve Statistical Release on Commercial Paper,
supra note 762.
FIGURE 17: COMMERCIAL PAPER OUTSTANDING
----------------------------------------------------------------------------------------------------------------
Current Level (as
of 12/31/09) Percent Change Since
Indicator (billions of Last Report (11/25/09)
dollars)
----------------------------------------------------------------------------------------------------------------
Asset-backed commercial paper outstanding (seasonally adjusted) $485.8 -2.35
\770\.............................................................
Financial commercial paper outstanding (seasonally adjusted) \771\. 578 -9.13
Nonfinancial commercial paper outstanding (seasonally adjusted) 103.1 -13.57
\772\.............................................................
----------------------------------------------------------------------------------------------------------------
\770\ Federal Reserve Statistical Release on Commercial Paper, supra note 762.
\771\ Federal Reserve Statistical Release on Commercial Paper, supra note 762.
\772\ Federal Reserve Statistical Release on Commercial Paper, supra note 762.
Lending by the Largest TARP-recipient Banks.
Treasury's Monthly Lending and Intermediation Snapshot tracks
loan originations and average loan balances for the 22 largest
recipients of CPP funds across a variety of categories, ranging
from mortgage loans to commercial real estate to credit card
lines. The data below exclude lending by two large CPP-
recipient banks, PNC Bank and Wells Fargo, because significant
acquisitions by those banks since October 2008 make comparisons
difficult.\773\
---------------------------------------------------------------------------
\773\ PNC Financial and Wells Fargo purchased large banks at the
end of 2008. PNC Financial purchased National City on October 24, 2008
and Wells Fargo completed its merger with Wachovia Corporation on
January 1, 2009. The assets of National City and Wachovia are included
as part of PNC and Wells Fargo, respectively, in Treasury's January
lending report but are not differentiated from the existing assets or
the acquiring banks. As such, there were dramatic increases in the
total average loan balances of PNC and Wells Fargo in January 2009. For
example, PNC's outstanding total average loan balance increased from
$75.3 billion in December 2008 to $177.7 billion in January 2009. The
same effect can be seen in Wells Fargo's total average loan balance of
$407.2 billion in December 2008 which increased to $813.8 billion in
January 2009. The Panel excludes PNC and Wells Fargo in order to have a
more consistent basis of comparison across all institutions and lending
categories.
---------------------------------------------------------------------------
In October, these 20 institutions originated over $187 billion
in loans, a decrease of nearly one percent compared to
September 2009.\774\
---------------------------------------------------------------------------
\774\ U.S. Department of the Treasury, Treasury Department Monthly
Lending and Intermediation Snapshot: Summary Analysis for October 2009
(Jan. 4, 2010) (online at www.financialstability.gov/docs/surveys/
Snapshot_Data_October_2009.xls) (hereinafter ``Treasury Snapshot for
October'').
FIGURE 18: LENDING BY THE LARGEST TARP-RECIPIENT BANKS (WITHOUT PNC AND WELLS FARGO) \775\
----------------------------------------------------------------------------------------------------------------
Most Recent Data
(October 2009) Percent Change Percent Change
Indicator (millions of Since September Since October
dollars) 2009 2008
----------------------------------------------------------------------------------------------------------------
Total loan originations.............................. $187,033 -0.67 -14.3
Total mortgage originations.......................... 54,645 0.84 23.4
Small business originations.......................... 5,394 8 \776\ 5.6
Mortgage refinancing................................. 30,427 -0.15 62.1
HELOC originations (new lines & line increases)...... 2,226 -1.98 -53.2
C&I renewal of existing accounts..................... 47,677 -12.6 -17
C&I new commitments.................................. 41,824 19.7 -29.1
Total average loan balances...................... $3,398,679 -0.89 -0.7
----------------------------------------------------------------------------------------------------------------
\775\ Treasury Snapshot for October, supra note 774.
\776\ Treasury only began reporting data regarding small business originations in its April Lending Survey. U.S.
Department of the Treasury, Treasury Department Monthly Lending and Intermediation Snapshot (hereinafter
``Treasury Snapshot for April'').
Housing Indicators. Foreclosure filings decreased
by over seven percent from October to November, and are nearly
10 percent above the level of October 2008. Housing prices, as
illustrated by both the S&P/Case-Shiller Composite 20 Index and
the FHFA House Price Index, increased slightly in October.
FIGURE 19: HOUSING INDICATORS
----------------------------------------------------------------------------------------------------------------
Percent Change
Most Recent From Data Percent Change
Indicator Monthly Data Available at Time Since October
of Last Report 2008
----------------------------------------------------------------------------------------------------------------
Monthly foreclosure filings \777\................... 306,627 -7.7 9.7
Housing prices--S&P/Case-Shiller Composite 20 Index 145.4 0.37 -7.3
\778\..............................................
FHFA Housing Price Index \779\...................... 199.41 0.64 -1.91
----------------------------------------------------------------------------------------------------------------
\777\ RealtyTrac, Foreclosure Activity Press Releases (online at www.realtytrac.com//ContentManagement/
PressRelease.aspx) (accessed Jan. 4, 2010) (hereinafter ``RealtyTrac Foreclosure Activity Data''). The most
recent data available is for October 2009.
\778\ Standard & Poor's, S&P/Case-Shiller Home Price Indices (Instrument: Seasonally Adjusted Composite 20
Index) (online at www.standardandpoors.com/prot/servlet/BlobServer?blobheadername3=MDT-
Type&blobcol=urldata&blobtable=MungoBlobs&
blobheadervalue2=inline%3B+filename%3DSA_CSHomePrice_History_122925.xls&blobheadername2=Content-Disposition
&blobheadervalue1=application%2Fexcel&blobkey=id&blobheadername1=content-
type&blobwhere=1243629218624&blobheadervalue3=UTF-8) (hereinafter ``S&P/Case-Shiller Home Price Indices'')
(accessed Jan. 4, 2010). The most recent data available is for October 2009.
\779\ Federal Housing Finance Agency, U.S. and Census Division Monthly Purchase Only Index (Instrument: USA,
Seasonally Adjusted) (online at www.fhfa.gov/webfiles/15321/MonthlyIndex_Jan1991_to_Latest.xls) (accessed Jan.
4, 2010). The most recent data available is for October 2009.
FIGURE 20: FORECLOSURE FILINGS AS COMPARED TO THE CASE-SHILLER 20 CITY
HOME PRICE INDEX (AS OF OCTOBER 2009) \780\
---------------------------------------------------------------------------
\780\ RealtyTrac Foreclosure Activity Data, supra note 777; S&P/
Case-Shiller Home Price Indices, supra note 778. The most recent data
available is for October 2009.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Commercial Real Estate. The commercial real estate
market has continued to deteriorate since the Panel's last
report. New CRE lending by the top 22 CPP recipients has
decreased by over 71 percent since the enactment of EESA.
Respondents to Treasury's survey of the top 22 CPP participants
reported that demand for C&I and CRE loans was still below
normal levels due to the lack of new construction.\781\ A
recent Goldman Sachs report notes that rent growth in this
market declined at an annualized rate of 8.7 percent in the
second quarter and estimates that there will be a total of $287
billion in aggregated losses.
---------------------------------------------------------------------------
\781\ Treasury Snapshot for April, supra note 776. The Goldman
Sachs Group, Inc., US Commercial Real Estate Take III: Reconstructing
Estimates for Losses, Timing (Sept. 29, 2009).
FIGURE 21: COMMERCIAL REAL ESTATE LENDING BY TOP 22 CPP RECIPIENTS (WITHOUT PNC AND WELLS FARGO) \782\
----------------------------------------------------------------------------------------------------------------
Current Level as of 12/ Percent Change Since
Indicator 31/09) (millions of Percent Change Since EESA Signed into Law
dollars) September 2009 (10/3/08)
----------------------------------------------------------------------------------------------------------------
CRE New Commitments.................. $2,977 -4.07 -71.7
CRE Renewal of Existing Accounts..... 9,194 -11.9 2.2
CRE Average Total Loan Balance....... 370,569 -1.16 -1.14
----------------------------------------------------------------------------------------------------------------
\782\ Treasury Snapshot for October, supra note 735.
I. Financial Update
Each month, the Panel summarizes the resources that the
federal government has committed to economic stabilization. The
following financial update provides: (1) An updated accounting
of the TARP, including a tally of dividend income, repayments
and warrant dispositions that the program has received as of
November 30, 2009; and (2) an updated accounting of the full
federal resource commitment as of December 30, 2009.
1. TARP
a. Costs: Expenditures and Commitments
Treasury has committed or is currently committed to spend
$532.6 billion of TARP funds through an array of programs used
to purchase preferred shares in financial institutions, offer
loans to small businesses and automotive companies, and
leverage Federal Reserve loans for facilities designed to
restart secondary securitization markets.\783\ Of this total,
$297 billion is currently outstanding under the $698.7 billion
limit for TARP expenditures set by EESA, leaving $403.3 billion
available for fulfillment of anticipated funding levels of
existing programs and for funding new programs and initiatives.
The $297 billion includes purchases of preferred and common
shares, warrants and/or debt obligations under the CPP, AIGIP/
SSFI Program, PPIP, and AIFP; and a $20 billion loan to TALF
LLC, the special purpose vehicle (SPV) used to guarantee
Federal Reserve TALF loans.\784\ Additionally, Treasury has
allocated $35.5 billion to the Home Affordable Modification
Program, out of a projected total program level of $50 billion.
---------------------------------------------------------------------------
\783\ EESA, as amended by the Helping Families Save Their Homes Act
of 2009, limits Treasury to $698.7 billion in purchasing authority
outstanding at any one time as calculated by the sum of the purchase
prices of all troubled assets held by Treasury. Pub. L. No. 110-343,
115(a)-(b); Helping Families Save Their Homes Act of 2009, Pub. L. No.
111-22, 402(f) (reducing by $1.26 billion the authority for the TARP
originally set under EESA at $700 billion). For further discussion of
pending legislation that may affect the total amount of TARP funds
available, see Section F, infra.
\784\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166.
---------------------------------------------------------------------------
b. Income: Dividends, Interest Payments, and CPP Repayments
As of December 30, 2009, a total of 58 institutions have
completely repurchased their CPP preferred shares. Of these
institutions, 37 have repurchased their warrants for common
shares that Treasury received in conjunction with its preferred
stock investments; Treasury sold the warrants for common shares
for three other institutions at auction.\785\ Treasury received
$50.9 million in repayments from 13 CPP participants during
December.\786\ The vast majority of this total was repaid by
two institutions--Bank of America and Wells Fargo--that each
repaid $25 billion received as part of the CPP.\787\
Furthermore, Treasury closed its Targeted Investment Program
(TIP) after Citigroup and Bank of America's program repayments
of $20 billion each ended any of TIP's outstanding obligations.
In addition, Treasury receives dividend payments on the
preferred shares that it holds, usually five percent per annum
for the first five years and nine percent per annum
thereafter.\788\ In total, Treasury has received approximately
$186.5 billion in income from repayments, warrant repurchases,
dividends, and interest payments deriving from TARP
investments,\789\ and another $1.2 billion in participation
fees from its Guarantee Program for Money Market Funds.\790\
---------------------------------------------------------------------------
\785\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166.
\786\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166.
\787\ TARP Transactions Report for Period Ending December 30, 2009,
supra note 166.
\788\ See, e.g., U.S. Department of the Treasury, Securities
Purchase Agreement: Standard Terms (online at
www.financialstability.gov/docs/CPP/spa.pdf) (accessed Jan. 4, 2010).
\789\ See Cumulative Dividends Report as of November 30, 2009,
supra note 241; TARP Transactions Report for Period Ending December 30,
2009, supra note 166.
\790\ U.S. Department of the Treasury, Treasury Announces
Expiration of Guarantee Program for Money Market Funds (Sept. 18, 2009)
(online at www.treasury.gov/press/releases/tg293.htm).
---------------------------------------------------------------------------
c. TARP Accounting
FIGURE 22: TARP ACCOUNTING (AS OF DECEMBER 30, 2009) \791\
[Dollars in billions]
----------------------------------------------------------------------------------------------------------------
Anticipated Total Funding Funding
TARP Initiative Funding Actual Funding Repayments Outstanding Available
----------------------------------------------------------------------------------------------------------------
Capital Purchase Program $218.0 $204.9 $121.9 $83 $13.1
(CPP) \792\.................
Targeted Investment Program 40.0 40.0 40 0 0
(TIP) \793\.................
AIG Investment Program 69.8 \794\ 46.9 0 46.9 22.9
(AIGIP)/Systemically
Significant Failing
Institutions Program (SSFI).
Automobile Industry Financing 81.3 81.3 3.2 78.1 0
Program (AIFP) \795\........
Asset Guarantee Program (AGP) 5.0 5.0 \797\ 5.0 0 0
\796\.......................
Capital Assistance Program .............. .............. ............... ............... ...............
(CAP) \798\.................
Term Asset-Backed Securities 20.0 20.0 0 20.0 0
Lending Facility (TALF).....
Public-Private Investment 30.0 30.0 0 30.0 0
Partnership (PPIP)..........
Supplier Support Program \799\ 3.5 3.5 0 3.5 0
(SSP).......................
Unlocking SBA Lending........ 15.0 0 N/A 0 15.0
Home Affordable Modification 50.0 \800\ 35.5 0 35.5 14.5
Program (HAMP)..............
Total Committed.............. 532.6 467.1 -- 297 65.5
Total Uncommitted............ 166.1 N/A 170.1 N/A \801\ 336.2
Total.................... $698.7 $467.1 $170.1 $297 \802\ $401.7
----------------------------------------------------------------------------------------------------------------
\791\ TARP Transactions Report for Period Ending December 30, 2009, supra note 166.
\792\ As of December 30, 2009, the CPP was closed. This figure reflects funds that were committed but unused.
This information was provided by Treasury in response to Panel inquiry.
\793\ Both Bank of America and Citigroup repaid the $20 billion in assistance each institution received under
the TIP on December 9 and December 23, 2009, respectively. Therefore the Panel accounts for these funds as
repaid and as uncommitted. U.S. Department of the Treasury, Treasury Receives $45 Billion in Repayments from
Wells Fargo and Citigroup (Dec. 22, 2009) (online at www.treas.gov/press/releases/20091229716198713.htm)
(hereinafter ``Treasury Receives $45 Billion from Wells Fargo and Citigroup'').
\794\ In information provided by Treasury in response to a Panel request, AIG has completely utilized the $40
billion made available on November 25, 2008 and drawn-down $5.3 billion of the $29.8 billion made available on
April 17, 2009. This figure also reflects $1.6 billion in compounding of accumulated but unpaid dividends owed
by AIG to Treasury due to the restructuring of Treasury's investment from cumulative preferred shares to non-
cumulative shares. TARP Transactions Report for Period Ending December 30, 2009, supra note 166.
\795\ Treasury indicated that it would most likely not provide additional assistance to companies through the
AIFP. Government Accountability Office, Auto Industry: Continued Stewardship Needed as Treasury Develops
Strategies for Monitoring and Divesting Financial Interests in Chrysler and GM, at 28 (Nov. 2009) (GAO-10-151)
(online at www.gao.gov/new.items/d10151.pdf) (``Although the immediate crisis of helping Chrysler and GM
maintain solvency has passed for now and Treasury has no plans for further financial assistance to the
companies, the significant sums of taxpayer dollars that are invested in these companies warrant continued
oversight''). However, on January 5, 2010, Treasury announced a restructuring of its investment in GMAC, which
resulted in $3.8 billion in additional funds being provided to the company through the AIFP.
\796\ Treasury, the Federal Reserve, and the Federal Deposit Insurance Company terminated the asset guarantee
with Citigroup on December 23, 2009. The agreement was terminated with no losses to Treasury's $5 billion
second-loss portion of the guarantee. Citigroup did not repay any funds directly, but instead terminated
Treasury's outstanding exposure on its $5 billion second-loss position. As a result, the $5 billion is now
accounted for as available. Treasury Receives $45 Billion from Wells Fargo and Citigroup, supra note 793.
\797\ Although this $5 billion is no longer exposed as part of the AGP and is accounted for as available,
Treasury did not receive a repayment in the same sense as with other investments. See infra notes 806-807.
Treasury did receive other income as consideration for the guarantee, which is not a repayment and is
accounted for in Figure 25. See id.
\798\ On November 9, 2009, Treasury announced the closing of this program and that only one institution, GMAC,
was in need of further capital from Treasury. Treasury Announcement Regarding the CAP, supra note 486.
\799\ On July 8, 2009, Treasury lowered the total commitment amount for the program from $5 billion to $3.5
billion. This action reduced GM's portion from $3.5 billion to $2.5 billion and Chrysler's portion from $1.5
billion to $1 billion. TARP Transactions Report for Period Ending December 30, 2009, supra note 166.
\800\ This figure reflects the total of all the caps set on payments to each mortgage servicer and not the
disbursed amount of funds for successful modifications. TARP Transactions Report for Period Ending December
30, 2009, supra note 166.
\801\ This figure is the sum of the uncommitted funds remaining under the $698.7 billion cap ($166.1 billion)
and the repayments ($170.1 billion).
\802\ This figure is the sum of the uncommitted funds remaining under the $698.7 billion cap ($166.1 billion)
and the difference between the total anticipated funding and the net current investment ($297 billion).
FIGURE 23: TARP REPAYMENTS AND INCOME
[Dollars in billions]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Warrant
Repayments (as Dividends \803\ Interest \804\ Repurchases Other Proceeds
TARP Initiative of 12/30/09) (as of 11/30/ (as of 11/30/ (as of 12/30/ (as of 12/30/ Total
09) 09) 09) 09)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Total................................................. $165.1 $11.7 $0.36 $4.03 - $183.7
CPP................................................... 121.9 8 0.02 4.03 - 134
TIP................................................... 40 2.7 N/A 0 - 42.7
AIFP.................................................. 3.2 0.75 0.33 N/A - 4.3
ASSP.................................................. N/A N/A 0.01 N/A - 0.01
AGP................................................... \805\ 0 0.26 N/A 0 \806\ $2.23 2.5
Bank of America Guarantee............................. - - - - \807\ 0.28 .28
--------------------------------------------------------------------------------------------------------------------------------------------------------
\803\ See Cumulative Dividends Report as of November 30, 2009, supra note 241.
\804\ See Cumulative Dividends Report as of November 30, 2009, supra note 241.
\805\ Although Treasury, the Federal Reserve, the FDIC, and Citigroup have terminated the AGP, and although Treasury's $5 billion second-loss position
no longer counts against the $698.7 TARP ceiling, Treasury did not receive any repayment income. See infra notes 806-807. Treasury did receive other
income as consideration for the guarantee, which is not a repayment and is accounted for in Figure 25. See id.
\806\ As a fee for taking a second-loss position up to $5 billion on a $301 billion pool of ring-fenced Citigroup assets as part of the AGP, Treasury
received $4.03 billion in Citigroup preferred stock and warrants; Treasury exchanged these preferred stocks and warrants for trust preferred
securities in June 2009. Following the early termination of the guarantee, Treasury cancelled $1.8 billion of the trust preferred securities, leaving
Treasury with a $2.23 billion investment in Citigroup trust preferred securities in exchange for the guarantee. U.S. Department of the Treasury,
Troubled Asset Relief Program Transactions Report for Period Ending December 30, 2009 (Jan. 4, 2010) (online at www.financialstability.gov/docs/
transaction-reports/1-4-10%20Transactions%20Report%20as%20of%2012-30-09.pdf).
\807\ Although Treasury, the Federal Reserve, and the FDIC negotiated with Bank of America regarding a similar guarantee, the parties never reached an
agreement. In September 2009, Bank of America agreed to pay each of the prospective guarantors a fee as though the guarantee had been in place during
the negotiations. This agreement resulted in payments of $276 million to Treasury, $57 million to the Federal Reserve, and $92 million to the FDIC.
U.S. Department of the Treasury, Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corporation, and Bank of America
Corporation, Termination Agreement, at 1-2 (Sept. 21, 2009) (online at www.financialstability.gov/docs/AGP/BofA%20-%20Termination%20Agreement%20-
%20executed.pdf).
Rate of Return
As of December 30, 2009, the average internal rate of
return for all financial institutions that participated in the
CPP and fully repaid the U.S. government (including preferred
shares, dividends, and warrants) is 14.4 percent.\808\ The
internal rate of return is the annualized effective compounded
return rate that can be earned on invested capital.
---------------------------------------------------------------------------
\808\ Participating privately-held qualified financial institutions
provided Treasury with warrants to purchase additional preferred stock,
which Treasury exercised immediately. TARP Transactions Report for
Period Ending December 30, 2009, supra note 166. The corresponding
figure does not reflect the repayment of private institutions'
preferred stock. The internal rate of return for repayments by these
institutions is 16.7 percent.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
2. Other Financial Stability Efforts
Federal Reserve, FDIC, and Other Programs
In addition to the direct expenditures Treasury has
undertaken through TARP, the federal government has engaged in
a much broader program directed at stabilizing the U.S.
financial system. Many of these initiatives explicitly augment
funds allocated by Treasury under specific TARP initiatives,
such as FDIC and Federal Reserve asset guarantees for
Citigroup, or operate in tandem with Treasury programs, such as
the interaction between PPIP and TALF. Other programs, like the
Federal Reserve's extension of credit through its section 13(3)
facilities and SPVs and the FDIC's Temporary Liquidity
Guarantee Program, operate independently of TARP.
Figure 25 below reflects the changing mix of Federal
Reserve investments. As the liquidity facilities established to
face the crisis have been wound down, the Federal Reserve has
expanded its facilities for purchasing mortgage related
securities. The Federal Reserve has announced that it intends
to purchase $175 billion of federal agency debt securities and
$1.25 trillion of agency mortgage-backed-securities.\809\ As of
January 7, 2010, $160 billion of federal agency (government-
sponsored enterprise) debt securities and $909 billion of
agency mortgage-backed-securities have been purchased. The
Federal Reserve has announced that these purchases will be
completed by April 2010.\810\
---------------------------------------------------------------------------
\809\ Board of Governors of the Federal Reserve System, Minutes of
the Federal Open Market Committee, at 10 (Dec. 15-16, 2009) (online at
www.federalreserve.gov/newsevents/press/
monetary/fomcminutes20091216.pdf) (hereinafter ``Minutes of the Federal
Open Market Committee'').
\810\ RealtyTrac Foreclosure Activity Data supra note 809, at 10
(``In order to promote a smooth transition in markets, the Committee is
gradually slowing the pace of these purchases, and it anticipates that
these transactions will be executed by the end of the first quarter of
2010''); Board of Governors of the Federal Reserve System, Factors
Affecting Reserve Balances (Jan. 7, 2010) (online at
www.federalreserve.gov/Releases/H41/Current/).
---------------------------------------------------------------------------
FIGURE 25: FEDERAL RESERVE AND FDIC FINANCIAL STABILITY EFFORTS \811\
---------------------------------------------------------------------------
\811\ Federal Reserve Liquidity Facilities include: Primary credit,
Secondary credit, Central Bank Liquidity Swaps, Primary dealer and
other broker-dealer credit, Asset-Backed Commercial Paper Money Market
Mutual Fund Liquidity Facility, Net portfolio holdings of Commercial
Paper Funding Facility LLC, Seasonal credit, Term auction credit, Net
Portfolio Holdings of TALF LLC. Federal Reserve Mortgage Related
Facilities Include: Federal agency debt securities and Mortgage-backed
securities held by the Federal Reserve. Institution Specific Facilities
include: Credit extended to American International Group, Inc., and the
net portfolio holdings of Maiden Lanes I, II, and III. All Federal
Reserve figures reflect the weekly average outstanding under the
specific programs during the last week of the specified month. Board of
Governors of the Federal Reserve System, Factors Affecting Reserve
Balances (H.4.1) (online at www.federalreserve.gov/datadownload/
Choose.aspx?rel=H41) (accessed Jan. 4, 2010). For related presentations
of Federal Reserve data, see Board of Governors of the Federal Reserve
System, Credit and Liquidity Programs and the Balance Sheet, at 2 (Nov.
2009) (online at www.federalreserve.gov/monetarypolicy/files/
monthlyclbsreport200911.pdf). The TLGP figure reflects the monthly
amount of debt outstanding under the program. Federal Deposit Insurance
Corporation, Monthly Reports on Debt Issuance Under the Temporary
Liquidity Guarantee Program (Dec. 2008-Nov. 2009) (online at
www.fdic.gov/regulations/resources/TLGP/reports.html).
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
---------------------------------------------------------------------------
3. Total Financial Stability Resources (as of November 30, 2009)
Beginning in its April report, the Panel broadly classified
the resources that the federal government has devoted to
stabilizing the economy through myriad new programs and
initiatives as outlays, loans, or guarantees. Although the
Panel calculates the total value of these resources at over $3
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.
With respect to the FDIC and Federal Reserve programs, the
risk of loss varies significantly across the programs
considered here, as do the mechanisms providing protection for
the taxpayer against such risk. As discussed in the Panel's
November report, the FDIC assesses a premium of up to 100 basis
points on TLGP debt guarantees.\812\ In contrast, the Federal
Reserve's liquidity pro- grams are generally available only to
borrowers with good credit, and the loans are over-
collateralized and with recourse to other assets of the
borrower. If the assets securing a Federal Reserve loan realize
a decline in value greater than the ``haircut,'' the Federal
Reserve is able to demand more collateral from the borrower.
Similarly, should a borrower default on a recourse loan, the
Federal Reserve can turn to the borrower's other assets to make
the Federal Reserve whole. In this way, the risk to the
taxpayer on recourse loans only materializes if the borrower
enters bankruptcy. The only loans currently ``underwater''--
where the outstanding principal amount exceeds the current
market value of the collateral--are two of the three non-
recourse loans to the Maiden Lane SPVs (used to purchase Bear
Stearns and AIG assets).
---------------------------------------------------------------------------
\812\ COP November Oversight Report, supra note 2, at 36.
FIGURE 26: FEDERAL GOVERNMENT FINANCIAL STABILITY EFFORT (AS OF NOVEMBER 30, 2009)
[Dollars in billions]
----------------------------------------------------------------------------------------------------------------
Treasury Federal
Program (TARP) Reserve FDIC Total
----------------------------------------------------------------------------------------------------------------
Total........................................... $698.7 $1,509.9 $678.4 $2,887
Outlaysi.................................... 299.8 1,069.5 69.4 1,438.7
Loans....................................... 42.7 440.4 0 483.1
Guaranteesii................................ 20 0 609 629
Uncommitted TARP Funds...................... 336.2 0 0 336.2
AIG............................................. 69.8 68.7 0 138.5
Outlays..................................... iii6938 0 0 69.8
Loans....................................... 0 iv68.7 0 68.7
Guarantees.................................. 0 0 0 0
Bank of America................................. 0 0 0 0
Outlays..................................... v0 0 0 0
Loans....................................... 0 0 0 0
Guarantees.................................. 0 0 0 0
Citigroup....................................... 25 0 0 25
Outlays..................................... vi25 0 0 25
Loans....................................... 0 0 0 0
Guarantees.................................. 0 0 0 0
Capital Purchase Program (Other)................ 71.1 0 0 71.1
Outlays..................................... vii71.1 0 0 71.1
Loans....................................... 0 0 0 0
Guarantees.................................. 0 0 0 0
Capital Assistance Program...................... N/A 0 0 viiiN/A
TALF............................................ 20 180 0 200
Outlays..................................... 0 0 0 0
Loans....................................... 0 x180 0 180
Guarantees.................................. ix20 0 0 20
PPIP (Loans)xi.................................. 0 0 0 0
Outlays..................................... 0 0 0 0
Loans....................................... 0 0 0 0
Guarantees.................................. 0 0 0 0
PPIP (Securities)............................... xii30 0 0 30
Outlays..................................... 10 0 0 10
Loans....................................... 20 0 0 20
Guarantees.................................. 0 0 0 0
Home Affordable Modification Program............ 50 0 0 xiv50
Outlays..................................... xiii50 0 0 50
Loans....................................... 0 0 0 0
Guarantees.................................. 0 0 0 0
Automotive Industry Financing Program........... xv78.2 0 0 75.4
Outlays..................................... 59 0 0 75.4
Loans....................................... 19.2 0 0 19.2
Guarantees.................................. 0 0 0 0
Auto Supplier Support Program................... 3.5 0 0 3.5
Outlays..................................... 0 0 0 0
Loans....................................... xvi3.5 0 0 3.5
Guarantees.................................. 0 0 0 0
Unlocking SBA Lending........................... xvii15 0 0 15
Outlays..................................... 15 0 0 15
Loans....................................... 0 0 0 0
Guarantees.................................. 0 0 0 0
Temporary Liquidity Guarantee Program........... 0 0 609 609
Outlays..................................... 0 0 0 0
Loans....................................... 0 0 0 0
Guarantees.................................. 0 0 xviii609 609
Deposit Insurance Fund.......................... 0 0 69.4 69.4
Outlays..................................... 0 0 xix69.4 69.4
Loans....................................... 0 0 0 0
Guarantees.................................. 0 0 0 0
Other Federal Reserve Credit Expansion.......... 0 1,261.2 0 1,261.2
Outlays..................................... 0 xx1,069.5 0 1,069.5
Loans....................................... 0 xxi191.7 0 191.7
Guarantees.................................. 0 0 0 0
Uncommitted TARP Funds.......................... 336.2 0 0 336.2
----------------------------------------------------------------------------------------------------------------
iThe 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. Outlays used here represent investment and asset purchases
and commitments to make investments and asset purchases and are not the same as budget outlays, which under
section 123 of EESA are recorded on a ``credit reform'' basis.
iiAlthough 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.
iiiThis number includes investments under the AIGIP/SSFI Program: a $40 billion investment made on November 25,
2008, and a $30 billion investment committed on April 17, 2009 (less a reduction of $165 million representing
bonuses paid to AIG Financial Products employees). As of January 5, 2010, AIG had utilized $45.3 billion of
the available $69.8 billion under the AIGIP/SSFI. This information was provided by Treasury in response to a
Panel inquiry.
ivThis number represents the full $35 billion that is available to AIG through its revolving credit facility
with the Federal Reserve ($22.2 billion had been drawn down as of December 31, 2009) and the outstanding
principal of the loans extended to the Maiden Lane II and III SPVs to buy AIG assets (as of December 31, 2009,
$15.7 billion and $18 billion, respectively). Income from the purchased assets is used to pay down the loans
to the SPVs, reducing the taxpayers' exposure to losses over time. Board of Governors of the Federal Reserve
System, Federal Reserve System Monthly Report on Credit and Liquidity Programs and the Balance Sheet, at 17
(Oct. 2009) (online at www.federalreserve.gov/monetarypolicy/files/monthlyclbsreport200910.pdf). On December
1, 2009, AIG entered into an agreement with FRBNY to reduce the debt AIG owes the FRBNY by $25 billion. In
exchange, FRBNY received preferred equity interests in two AIG subsidiaries. This also reduced the debt
ceiling on the loan facility from $60 billion to $35 billion. American International Group, AIG Closes Two
Transactions That Reduce Debt AIG Owes Federal Reserve Bank of New York by $25 billion (Dec. 1, 2009) (online
at phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9MjE40D18Q2hpbGRJRD0tMXxUeXB1PTM=&t=1).
vBank of America repaid the $45 billion in assistance it had received through TARP programs on December 9, 2009.
U.S. Department of the Treasury, Troubled Asset Relief Program Transactions Report for Period Ending December
30, 2009 (Jan. 4, 2010) (online at www.financialstability.gov/docs/transaction-reports/1-4-
10%20Transactions%20Report%20as%20of%2012-30-09.pdf) (hereinafter ``TARP Transactions Report'').
viAs of December 30, 2009, the U.S. Treasury held $25 billion of Citigroup common stock. See TARP Transactions
Report, supra note v.
viiThis figure represents the $218 billion Treasury has anticipated spending under the CPP, minus the $25
billion investment in Citigroup ($25 billion) identified above, and the $121.9 billion in repayments that are
reflected as available TARP funds. This figure does not account for future repayments of CPP investments, nor
does it account for dividend payments from CPP investments.
viiiOn November 9, 2009, Treasury announced the closing of the CAP and that only one institution, GMAC, was in
need of further capital from Treasury. GMAC, however received further funding through the AIFP, therefore the
Panel considers CAP unused and closed. U.S. Department of the Treasury, Treasury Announcement Regarding the
Capital Assistance Program (Nov. 9, 2009) (online at www.financialstability.gov/latest/tg_11092009.html).
ixThis figure represents a $20 billion allocation to the TALF SPV on March 3, 2009. See TARP Transactions
Report, supra note vi. As of January 7, 2010, investors had requested a total of $64.3 billion in TALF loans
($9.2 billion in CMBS and $55 billion in non-CMBS). Federal Reserve Bank of New York, Term Asset-Backed
Securities Loan Facility: CMBS (accessed Jan. 7, 2009) (online at www.newyorkfed.org/markets/
CMBS_recent_operations.html); Federal Reserve Bank of New York, Term Asset-Backed Securities Loan Facility:
non-CMBS (accessed Jan. 7, 2009) (online at www.newyorkfed.org/markets/talf_operations.html).
xThis number is derived from the unofficial 1:10 ratio of the value of Treasury loan guarantees to the value of
Federal Reserve loans under the TALF. U.S. Department of the Treasury, Fact Sheet: Financial Stability Plan
(Feb. 10, 2009) (online at www.financialstability.gov/docs/fact-sheet.pdf) (describing the initial $20 billion
Treasury contribution tied to $200 billion in Federal Reserve loans and announcing potential expansion to a
$100 billion Treasury contribution tied to $1 trillion in Federal Reserve loans). Because Treasury is
responsible for reimbursing the Federal Reserve Board for $20 billion of losses on its $200 billion in loans,
the Federal Reserve Board's maximum potential exposure under the TALF is $180 billion.
xiIt is unlikely that resources will be expended under the PPIP Legacy Loans Program in its original design as a
joint Treasury-FDIC program to purchase troubled assets from solvent banks. See also 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) and Federal Deposit Insurance Corporation, Legacy Loans Program--Test of
Funding Mechanism (July 31, 2009) (online at www.fidc.gov/news/press/2009/pr09131.html). The sales described
in these statements do not involve any Treasury participation, and FDIC activity is accounted for here as a
component of the FDIC's Deposit Insurance Fund outlays.
xiiU.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, and Chairman of the Federal Deposit
Insurance Corporation Sheila Bair: Legacy Asset Program (July 8, 2009) (online at www.financialstability.gov/
latest/tg_07082009.html) (``Treasury will invest up to $30 billion of equity and debt in PPIFs established
with private sector fund managers and private investors for the purpose of purchasing legacy securities.'');
U.S. Department of the Treasury, Fact Sheet: Public-Private Investment Program, at 4-5 (Mar. 23, 2009) (online
at www.treas.gov/press/releases/reports/ppip_fact_sheet.pdf) (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). As of December 30, 2009, Treasury reported $19.9 billion in outstanding loans and $9.9 billion in
membership interest associated with the program, thus substantiating the Panel's assumption that Treasury may
routinely exercise its discretion to provide $2 of financing for every $1 of equity 2:1 ratio. TARP
Transactions Report, supra note v.
xiiiU.S. Government Accountability Office, Troubled Asset Relief Program; June 2009 Status of Efforts To Address
Transparency and Accountability Issues, at 2 (June 17, 2009) (GAO09/658) (online at www.gao.gov/new.items/
d09658.pdf). Of the $50 billion in announced TARP funding for this program, $35.5 billion has been allocated
as of December 30, 2009. See TARP Transactions Report, supra note v.
xivFannie Mae and Freddie Mac, government-sponsored entities (GSEs) that were placed in conservatorship of the
Federal Housing Finance Housing 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. 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).
xvSee TARP Transactions Report, supra note v. A substantial portion of the total $81 billion in loans extended
under the AIFP have since been converted to common equity and preferred shares in restructured companies.
$19.2 billion has been retained as first lien debt (with $6.7 billion committed to GM, $12.5 billion to
Chrysler). This figure ($78.2 billion) represents Treasury's current obligation under the AIFP after
repayments.
xviSee TARP Transactions Report, supra note v.
xviiU.S. Department of Treasury, Fact Sheet: Unlocking Credit for Small Businesses (Oct. 19, 2009) (online at
www.financialstability.gov/roadtostability/unlockingCreditforSmallBusinesses.html) (``Jumpstart Credit Markets
For Small Businesses By Purchasing Up to $15 Billion in Securities'').
xviiiThis 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 institutes participating. $313
billion of debt subject to the guarantee has been issued to date, which represents about 51 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 (Nov. 30, 2009) (online at www.fdic.gov/
regulations/resources/TLGP/total_issuance11-09.html) (updated Jan. 4, 2010). The FDIC has collected $10.3
billion in fees and surcharges from this program since its inception in the fourth quarter of 2008. Federal
Deposit Insurance Corporation, Monthly Reports on Debt Issuance Under the Temporary Liquidity Guarantee
Program (Nov. 30, 2009) (online at www.fdic.gov/regulations/resources/TLGP/fees.html) (updated Jan. 4, 2010).
xixThis 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 and the first, second and third quarters of 2009. 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); Federal Deposit Insurance Corporation, Chief Financial Officer's (CFO) Report to the Board: DIF
Income Statement (First Quarter 2009) (online at www.fdic.gov/about/strategic/corporate/cfo_report_1stqtr_09/
income.html); Federal Deposit Insurance Corporation, Chief Financial Officer's (CFO) Report to the Board: DIF
Income Statement (Second Quarter 2009) (online at www.fdic.gov/about/strategic/corporate/cfo_report_2ndqtr_09/
income.html); Federal Deposit Insurance Corporation, Chief Financial Officer's (CFO) Report to the Board: DIF
Income Statement (Third Quarter 2009) (online at www.fdic.gov/about/strategic/corporate/cfo_report_3rdqtr_09/
income.html). This figure includes the FDIC's estimates of its future losses under loss-sharing agreements
that it has entered into with banks acquiring assets of insolvent banks during these four quarters. Under a
loss-sharing agreement, as a condition of an acquiring bank's agreement to purchase the assets of an insolvent
bank, the FDIC typically agrees to cover 80 percent of an acquiring bank's future losses on an initial portion
of these assets and 95 percent of losses of another portion of assets. See, for example Federal Deposit
Insurance Corporation, Purchase and Purchase and Assumption Agreement Among FDIC, Receiver of Guaranty Bank,
Austin, Texas FDIC and Compass Bank at 65-66 (Aug. 21, 2009) (online at www.fdic.gov/bank/individual/failed/
guaranty-tx_p_and_a_w_addendum.pdf). In information provided to Panel staff, the FDIC disclosed that there
were approximately $132 billion in assets covered under loss-sharing agreements as of December 18, 2009.
Furthermore, the FDIC estimates the total cost of a payout under these agreements to be $59.3 billion. Since
there is a published loss estimate for these agreements, the Panel continues to reflect them as outlays rather
than as guarantees.
xxOutlays are comprised of the Federal Reserve Mortgage Related Facilities. The Federal Reserve balance sheet
accounts for these facilities under Federal agency debt securities and mortgage-backed securities held by the
Federal Reserve. Board of Governors of the Federal Reserve System, Factors Affecting Reserve Balances (H.4.1)
(online at www.federalreserve.gov/datadownload/Choose.aspx?rel=H41) (accessed Jan. 4, 2010). Although the
Federal Reserve does not employ the outlays, loans and guarantees classification, its accounting clearly
separates its mortgage-related purchasing programs from its liquidity programs. See Board of Governors of the
Federal Reserve, Credit and Liquidity Programs and the Balance Sheet November 2009, at 2 (online at
www.federalreserve.gov/monetarypolicy/files/monthlyclbsreport200911.pdf) (accessed Dec. 7, 2009).
xxiFederal Reserve Liquidity Facilities classified in this table as loans include: Primary credit, Secondary
credit, Central bank liquidity swaps, Primary dealer and other broker-dealer credit, Asset-Backed Commercial
Paper Money Market Mutual Fund Liquidity Facility, Net portfolio holdings of Commercial Paper Funding Facility
LLC, Seasonal credit, Term auction credit, Net Portfolio Holdings of TALF LLC, and loans outstanding to Bear
Stearns (Maiden Lane I LLC). Board of Governors of the Federal Reserve System, Factors Affecting Reserve
Balances (H.4.1) (online at www.federalreserve.gov/datadownload/Choose.aspx?rel=H41) (accessed Jan. 4, 2010);
see id.
SECTION FIVE: OVERSIGHT ACTIVITIES
The Congressional Oversight Panel was established as part
of the Emergency Economic Stabilization Act (EESA) and formed
on November 26, 2008. Since then, the Panel has produced
thirteen oversight reports, as well as a special report on
regulatory reform, issued on January 29, 2009, and a special
report on farm credit, issued on July 21, 2009. Since the
release of the Panel's December oversight report, which
assessed the performance of the Troubled Asset Relief Program
(TARP) since its inception, the following developments
pertaining to the Panel's oversight of the TARP took place:
The Panel held a hearing in Washington, DC with
Secretary of the Treasury Timothy Geithner on December 10, his
third appearance before the Panel. Secretary Geithner answered
questions relating to the Panel's December oversight report,
discussed the TARP exit strategy, and provided an overview of
how the TARP would be used as it is extended into 2010.
Secretary Geithner has agreed to testify before the Panel once
per quarter.
Upcoming Reports and Hearings
The Panel will release its next oversight report in
February. The report will address the TARP's role in mitigating
continued concerns about the commercial real estate market.
The Panel is planning a field hearing in Atlanta on January
27, 2010. The hearing will discuss the implications of the
troubled commercial real estate market on sustained financial
stability.
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 Stability (OFS) within Treasury to implement the
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. Congress subsequently expanded the Panel's
mandate by directing it to produce a special report on the
availability of credit in the agricultural sector. The report
was issued on July 21, 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, Director of Policy and Special 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, 2008, 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. Effective August 10, 2009, Senator Sununu
resigned from the Panel, and on August 20, 2009, Senator
McConnell announced the appointment of Paul Atkins, former
Commissioner of the U.S. Securities and Exchange Commission, to
fill the vacant seat. Effective December 9, 2009, Congressman
Jeb Hensarling resigned from the Panel and House Minority
Leader John Boehner announced the appointment of J. Mark
McWatters to fill the vacant seat.
APPENDIX I: LETTER FROM SECRETARY TIMOTHY GEITHNER TO CHAIR ELIZABETH
WARREN, RE: STRESS TESTS, DATED DECEMBER 10, 2009
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
APPENDIX II: LETTER FROM CHAIR ELIZABETH WARREN TO SECRETARY TIMOTHY
GEITHNER, RE: EXECUTIVE COMPENSATION, DATED DECEMBER 24, 2009
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
APPENDIX III: LETTER FROM CHAIR ELIZABETH WARREN TO SECRETARY TIMOTHY
GEITHNER, RE: CIT GROUP ASSISTANCE, DATED JANUARY 11, 2010
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]