Monday, January 17, 2011

Little Timmy G. Bares His Fangs


Geithner warns of future intervention
Government ‘may have to do exceptional things again,’ Treasury secretary says
SAN FRANCISCO (MarketWatch) — Treasury Secretary Timothy Geithner warned that the U.S. government may have to take control of major financial institutions again if there’s a crisis as big as the last one, according to a report released Thursday by a group overseeing the Troubled Asset Relief Program.
“We may have to do exceptional things again if we face a shock that large,” Geithner told the Office of the Special Inspector General for TARP in December.
President Obama’s speech in Tucson
In Wednesday's speech in Tucson, Ariz., President Obama called on the country to emerge from the tragedy a more thoughtful, civil nation.
SIGTARP, as the oversight group is known, spoke with Geithner during its investigation of the government bailout of Citigroup Inc. (NYSE:C) . The group’s findings were released Thursday.
SIGTARP commended Geithner for his candor, but the group also said the Treasury secretary’s comments highlight that TARP has left a legacy of “moral hazard associated with the continued existence of institutions that. remain ‘too big to fail.’”
“It also serves as a reminder that the ultimate cost of bailing out Citigroup and the other ‘too big to fail’ institutions will remain unknown until the next financial crisis occurs,” SIGTARP added in its report.
Orderly wind down
When Geithner said “exceptional things” he wasn’t referring to old-school bailouts like the ones that saved American International Group Inc. (NYSE:AIG) or Citigroup, according to Treasury officials.
Instead, Geithner was referring to the possible orderly wind down of a failing institution under new powers given to regulators by last year’s Dodd-Frank bill.
The legislation allows a Financial Stability Oversight Council to set general criteria to identify firms that should be exposed to heightened prudential standards from the Federal Reserve. This may include higher capital or liquidity requirements.
If an institution still looks like it might fail, the legislation gives the Federal Deposit Corp. the tools to wind down the firm in a way that regulators hope will avoid the broader impact of an unruly collapse.
‘Gratitude’
Citigroup said in a statement Thursday that when the financial crisis hit in the fall of 2008, it was “well-capitalized and liquid,” but faced uncertainty resulting from “dysfunctional markets and a declining stock price.”

“The government’s investment removed that uncertainty,” the banking giant said.
“As Citi CEO Vikram Pandit has said, we owe a debt of gratitude to the U.S. Government and the American taxpayer for providing Citi with TARP funds,” the bank said. “This program restored confidence in the financial system and built a bridge to sound footing for many institutions.”
Citigroup shares slipped 3 cents to $5.05 in afternoon trading on Thursday. The stock is down 90% in the past five years.
‘Citi Weekend’
Citigroup almost failed in November 2008, even after getting $25 billion from TARP’s Capital Purchase Plan just weeks earlier, SIGTARP said in its report Thursday.
During a late-November weekend, officials including Geithner, then-Treasury Secretary Henry Paulson and FDIC Chairwoman Sheila Bair crafted a rescue for Citigroup that included asset guarantees and a $20 billion capital infusion in exchange for preferred stock in the company.
Participants called it “Citi Weekend,” according to SIGTARP.
Citigroup initially proposed that the U.S. government guarantee 100% of $306 billion in troubled assets in return for $20 billion of preferred stock. But officials rejected this and made a “take-it-or-leave-it” offer that required the bank to absorb the first $37 billion of losses in the asset pool, plus 10% of any losses beyond that, in return for $7 billion in preferred stock, SIGTARP’s report said.
Citi executives were concerned that the government’s terms were too expensive and some bank insiders recommended against accepting the bailout, SIGTARP said, without identifying these people.
$12 billion profit
In the end, Citi accepted the deal. It’s stock price stabilized, access to credit improved and the cost of insuring the company’s debt dropped, SIGTARP reported.
Just over a year later, Citi terminated the guarantee program and repaid the $20 billion it got from the government, the oversight group said. Citi also ended up absorbing all losses on assets that were guaranteed by the government. That totaled $10.2 billion by the time the guarantee ended, SIGTARP said.
The U.S. government ended up making more than $12 billion from its rescue of Citi, the group noted.
“The Government constructed a plan that not only achieved the primary goal of restoring market confidence in Citigroup, but also carefully controlled the risk of Government loss on the asset guarantee,” SIGTARP said.
‘Ad hoc’
Still, SIGTARP said that the criteria used by government officials to decide whether to save Citi were “strikingly ad hoc.”
The FDIC’s Bair told SIGTARP that the New York Fed warned told her that “problems would occur in global markets” if Citi failed.
“We didn’t have our own information to verify this statement, so I didn’t want to dispute that with them,” Bair added, according to SIGTARP.
Pandit told SIGTARP that no one knew what the systemic effect of a Citi failure would be, and that no one wanted to find out.
John Reich, then-director of the Office of Thrift Supervision, said during a Nov. 23 FDIC board meeting that “selective creativity” was used to decide which financial institutions were systemic and which weren’t.
There “has been a high degree of pressure exerted in certain situations, and not in others, and I’m concerned about parity,” Reich added, according to SIGTARP.
Migrate and respond
SIGTARP said this ad hoc approach to massive government bailouts can be avoided if regulators develop objective criteria and a “detailed roadmap” showing how these rules should be applied during future crises.
However, Geithner told SIGTARP that it’s impossible to develop such criteria because no one knows yet what the nature of another economic shock might be. Financial institutions and markets would just “migrate around” such rules, he added.
SIGTARP countered that regulators must not simply accept that Wall Street with work around regulation. Instead, they must “maintain the flexibility to respond in kind.”

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