Strategy

Economy: The TARP lifeline is now an anchor

Treasury targets 2010 shutdown for its loathed US$700-billion bank bailout fund.

If all goes well, Uncle Sam will soon fold the controversial protective cover that was hastily tossed over America’s financial sector when the sky started falling last year. “We are working to put the TARP out of its misery,” U.S. Treasury Secretary Tim Geithner announced in mid-November, referring to tentative plans to “terminate” the US$700-billion Troubled Asset Relief Program next year.

The end of TARP, of course, can’t come soon enough for the legion of critics who claim Washington’s troubled asset fund has caused more trouble than it has solved. Simply put, when it comes to current despised American domestic public policy, TARP takes the crown. Launched in October 2008 under Bush-era Treasury secretary Henry Paulson during the panic that followed the implosion of Lehman Bros., TARP was initially designed to prop up bank balance sheets via the government purchase of equity stakes or the acquisition of illiquid assets. (The latter included the “toxic” collateralized debt obligations that became relatively valueless because they were tied to sub-prime mortgages.) Yet despite the need and best intentions, the program was loathed on Main Street and Wall Street almost the instant it launched.

Joe and Jane Average hate TARP because Treasury officials never tracked the bailout dollars that were handed out. “This program was supposed to make sure credit flowed to Main Street,” Republican Sen. Charles Grassley recently noted, “but instead it has been used as a slush fund to pick winners and losers in New York and Detroit. It’s also clear that this kind of massive spending by the government hasn’t helped the struggling economy.”

Meanwhile, the investment banking crowd considers TARP objectionable because its overseers had the gall to issue funds with strings (albeit rather loose ones) that tried to force recipients to adopt the Treasury’s standards for executive compensation and corporate governance.

It only made matters worse when TARP’s mandate was expanded last December so that the fund could finance the restructuring of General Motors and Chrysler. That led critics to complain about a hidden end game, noting TARP appeared to be more about financing a massive expansion of government control over the economy than saving U.S. capitalism.

David Kotok, senior executive of New Jersey — based Cumberland Advisors, thinks America could have done better, noting TARP was “flawed” and “expensive” and only “partially helped unfreeze markets.” His view prevails despite TARP having provided 690 financial institutions with a whopping US$205 billion in capital — almost double what the developed world was spending on foreign aid before the global meltdown.

Treasury officials point out that the U.S. government received preferred shares in return for most TARP loans, and that U.S. taxpayers have already been paid about US$10 billion in dividends as a result. They also note that more than three dozen banks — including Goldman Sachs and JP Morgan Chase — have already paid back a combined US$71 billion.

But the naysayers note TARP was supposed to help viable institutions survive the global financial crisis. Instead, U.S. regulators have had to seize numerous banking-sector recipients, including a few that were reportedly on the industry’s death-watch list when handed tax dollars.

Furthermore, most of the allocated money went to three companies that were in deep trouble: Bank of America (US$45 billion), Citigroup (US$45 billion) and American International Group (US$70 billion). And they used the money in questionable ways. AIG, for example, paid face value for securities being unloaded by other Wall Street firms. (That happened under Geithner’s watch when he was head of the New York Federal Reserve Bank, which is why he will be happy to close the book on TARP.)

How much of the fund remains at risk is undetermined. But auto analysts doubt Detroit’s troubled duo will be able to fully repay the billion of dollars received from American (and Canadian) taxpayers. And TARP’s financial-sector losses are mounting due to ongoing banking sector woes. In November, the 2009 total of U.S. bank failures crossed the 120 mark. And every time a TARP bank fails, U.S. taxpayers take a hit, because the stock they own typically becomes worthless. The recent bankruptcy filing of commercial lender CIT Group alone is expected to cost the Treasury at least US$2.3 billion.

For all of that, however, judging TARP is easier said than done — for the simple reason that no one really knows where the U.S. economy would be today if the program wasn’t put in place. This is why you can also find people out there, like independent Wall Street economist Robert Brusca, who think the initiative is getting a bum rap. “TARP stabilized a sinking banking system,” he says. “It did good.”

As far as the outspoken economist is concerned, the troubled asset fund deserves the same marks as most of the emergency actions that came out of the U.S. Federal Reserve, where Brusca used to work. And while “some argue that the Fed was slow, I think that is a view that works only in hindsight.” America’s real problem, he adds, is what followed TARP.

According to Brusca, after the Bush gang cleared out of Washington, the Obama administration underestimated the severity of the recession and looked upon the crisis as an opportunity to push a new agenda. As a result, the economist argues, recent U.S. fiscal policy has been more about politics than healing the economy. And despite so-called stimulus spending totalling nearly three-quarters of a trillion dollars, he points out that there is still very little momentum in the world’s largest economy. “Banks are at a sort of standstill,” Brusca says. “They are not making loans. Some are not yet stabilized. But don’t blame TARP. The economy hasn’t followed through.”