Government Bailouts Multiply as Paulson Prepares to Leave Washington

by: Edward Harrison November 14, 2008 | about stocks: AIG / C / GE / GJM / GS / MS    

Edward Harrison

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Hank Paulson knows he has two months left until he leaves Washington. Therefore, he must feel he needs to pass out as much free cash to his friends in banking and finance before he leaves town. Or, at least so it seems.

The latest story I saw on this turn of events concerns Citigroup (C) and its bid to take over my local bank, Chevy Chase Bank. This bank, whose headquarters is literally half a mile from my house is a profitable institution with $14 billion in assets. How can Citigroup, which has over $60 billion in writedowns, is losing money hand over fist, and received a massive cash injection from the federal government just weeks ago take over a smaller, more profitable institution? Doesn't this create a moral hazard? I heard Peter Morici, a well-known International Business Professor at the University of Maryland, on the radio yesterday asking the same questions.

The US banking system is certainly in need of recapitalization. But I must confess this looks a lot like crony capitalism. Let me do a brief recap of how we got here and add in some of the ways US Government money and the $700 billion TARP (Troubled Asset Relief Program) have been used to date.

  • Originally, the TARP was passed under the guise of buying up dodgy assets from banks in order to set a floor on those assets' price. The premise was this would allow financial institutions to better price these illiquid securities, bringing back some liquidity to the market through better pricing and a willing trading partner in the US Government. Stephen Roach of Morgan Stanley (MS) had praise for putting some funds to work in this way. However, most commentators and many Americans, including yours truly, felt that this was an ill-conceived freebie for the financial services industry. See my post, "The $700 billion Paulson Plan is dead on arrival." As a result, this bill initially was rejected by the US House of Representatives.
  • However, after adding in some stimulus and other giveaways, the bill eventually passed. See my posts, "US Senate passes Economic Patriot Act 74-25" and "Congress passes the bailout bill." Hank Paulson has since said that he never intended to spend the funds in that way. So, why did the Bush Administration sell the program as such? See my News round-up for comments from various economists on Paulson and his recent claims. Instead of buying toxic assets, the Treasury has focused its efforts on recapitalizing the US banking system.
  • In my opinion, Hank Paulson is not being straight with us. It was only after the British went ahead and proposed their own recapitalization program that Treasury started singing this tune. See my Oct. 7th post, "Recapitalising Britain" and my October 8th post "The Swedish roots of the UK bailout plan." But, in the UK, the plan is much more stringent. The UK government is NOT forcing firms to take on equity capital. Barclays has tried to raise outside capital from Middle Eastern investors -- albeit in a way that leaves its shareholders uneasy. Moreover, the UK plan eliminates dividends for those banks taking on the government monies. Paulson has no string attached whatsoever.
  • So, in the case of Citigroup, we have a company whose CEO pocketed $150 million in compensation before being fired. The company then proceeds to write down $60 billion in credit. But then it gets billions of dollars in equity capital from the government with no strings attached. That allows this company to takeover a better run smaller institution like Chevy Chase Bank and still pay a dividend to shareholders. Meanwhile, they have not done nearly enough in loan modification or increased lending to justify giving them a free ride. Regional banks are already on record as saying this would happen and it has. See my post, "Quote of the day: Nationalized banking predators," for a quote from a regional bank CEO predicting this. This is the height of moral hazard.

However, there is a lot more to this story. Look at who is in line for free money from the U.S. government:

  1. Banks have gone to the Federal Reserve with dodgy assets and received trillions of dollars in loans at low rates (Fed Funds is 1% now) in return. However, the Federal Reserve refuses to reveal what assets it is taking on. Bloomberg News has sued to find out. See my post, "Bloomberg News sues the Fed under Freedom of Information Act."
  2. Money center banks received $125 billion in equity capital under TARP.
  3. Regional and local banks received another $125 billion dollars in equity capital.
  4. AIG (AIG) has received $40 billion in equity capital and a line of credit of $150 billion. See my post, "Doubling down at AIG."
  5. Morgan Stanly and Goldman Sachs (GS) became bank holding companies in order to secure low cost funding.
  6. American Express (AXP) became a bank holding company for the same reason
  7. GMAC (GJM) and GE Capital (GE) want to be bank holding companies for the same reason. Last time I checked. GMAC was a auto finance company and GE Capital was a private equity shop. They are not banks.
  8. GE Capital has received a blanket guarantee for $139 billion in debt from the FDIC which regulates and makes money available for depositary institutions. GE Capital is not a depositary institution.

All of this is well documented as you can see from the number of posts even I have written on the subject. This whole charade is a bit of a head scratcher because it confirms the notion that financial interests are clearly winning out over consumer interests. How many people do you know getting mortgage loan modifications or debt relief? Not may I suspect. Wall Street is still getting a lot more dosh than Main Street. And it's all happen right under our noses in plain view for all to see.

Hank Paulson is going back to the Democratic Congress to get his hands on the $350 billion he has yet to spend in order to dole out the cash to consumer finance companies -- read American Express, GE Capital and GMAC before Obama gets into office. Should he get his money?

As Yves Smith told me, it sounds a lot like the Clinton pardons from 2000 -- a nice parting gift for friends.

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This article has 4 comments:

  •  
    Nov 14 07:25 AM
    nice article edward. i like to call it buy it's real name: fascism. or at least "socialism for the rich". i think now people are beginning to understand why europeans held up pictures of hitler when bush visited their continent. you knew this was going to be a disaster for the american people when the paulsen and bernanke went to congress with the initial unconstitutional requests for billions of dollars to "spend" (give-away might be a better word...) as they saw fit. no taxpayer protection, no guidelines, just give us the money they said. naomi klein (author of Shock Doctrine) recently had a great article in Rolling Stone magazine about how the Bushies are using yet another shock (Iraq, Katrina, etc. etc) to bilk the US taxpayer out of their hard earned dollars:

    www.boingboing.net/200...

    note the person they put in charge of the bailout out, Reuben Jeffrey III, is the same guy that lorded over Bremer;s "Coalition Provisional Authority" in Baghdad. some government officials (not many....) are still trying to find billions of dollars which mr. jeffrey handed out over there.

    this is the main reason i contend bush is not, and never has been, a "conservative republican". fiscal discipline, long a tightly held belief of conservative republicans, is not an adjective that describes bush. yet, if you pay rush limbaugh and larry kudlow and the other hacks on CNBC enough money they will brainwash Americans into thinking bush IS a conservative republican. he is not. he is a fascist. and the US will be lucky to have survive his 8 years as "king george". how on earth the US dollar can be strong right now i have no idea. as jim rogers said in an interview the other day: "this is insanity. did they learn nothing from japan? this is the biggest transfer of wealth in history from the competent (the US tax-payer) to the incompetent (the Wall Streeters, bankers, insurance, and auto execs). captitalism isn't supposed to work that way. we are propping up institutions that should fail, just as japan did. it didn't work for them, it won't work for us. we have 9,000 banks...some of them need to fail, instead we are giving money to them which will go into the pockets of the executives who lent money irresponsibly". go figure. i am not surprised. but then again, after 8 years of bush, i am the biggest cynic on "capitalism" in the world today.
    Reply | Link to Comment
  •  
    Nov 14 10:56 AM
    uh, no strings attached??? I think you had better actually READ TARP before commenting...
    Reply | Link to Comment
  •  
    Nov 14 11:43 AM
    It is good to see that Fascism is the term being used to describe this looting of the economy. Mussolini himmself said that "corporatism"... was the better term- the melding of Big business and Government. The well connected/bribe paying few get the benefits.
    Reply | Link to Comment
  •  
    Nov 15 11:17 PM
    "Too Big to Fail."
    That's the reason.
    Imagine if those Big ones fail,
    thousands of smaller ones will follow.
    Maybe half the country will be unemployed as the result.
    Nobody wants to see that happens.
    Bailouts are mostly loans anyway.
    Reply | Link to Comment
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