TARP Overpaid Banks 44%

9 Comments on TARP Overpaid Banks 44%

Pelon on February 11, 2009 | permalink

 

I'm no fan of the TARP or most of the other plans as implemented, but I don't think it is fair to compare what the government paid to what private investors paid. Why? Because they forced some of the banks to take the money. The deal was that they had to take the money, but they got good terms in return. If they had forced them to take the money at terms favorable to the government, some of the banks would have complained publicly, and that would have caused problems for the other banks who really needed the money. At the time, they thought they could fool the market into thinking that all the banks were safe.

Ted on February 11, 2009 | permalink

 

Frankly, I'm surprised the government made out that well.

Ted,
Notes that Bernie Madoff also used foreign accountants

realistTheorist on February 11, 2009 | permalink

 

I enjoy your blog, but I must say that the Congressional Oversight Panel seems to be spinning here.

When the government gave AIG billions of dollars, how can we judge the private value of such a transaction when no private investor was willing to invest? We cannot.

Can we assume that a private investor would have invested on exactly the same terms as the government? Surely not.

In that case, what is this report telling us that we do not already know? I respectfully suggest that this is political spin, designed to give a message that bankers are stealing from tax-payers.
(You inspired me to write a more extensive blog post about this. Check it out)

maxwellthedog on February 12, 2009 | permalink

 

I am with Realist here. First, how are these valuations calculated? The central problem to this banking crisis is that banks hold a pool of assets that are extremely difficult to value. You have a mark to model (depends on a range of inputs), you have mark to market (depends on market prices which are substantially illiquid if not completely disfunctional), and you have cost basis (what they paid in the days of innocence pre-2008). Every bank has a blend of these marks on their books, and the underlying assets have a range of possible valuations. Determining that"fair value" of those banks is essentially impossible right now. And without a fair value calculation, you cannot calculate the premium or discount that someone has paid.

A more legitimate gripe might be that under a given set of assumptions, we can see that that the government paid more than private investors did. However, that is exactly what should be happening. The government's motives for investing– namely, propping up financial institutions to either help them survive when liquidity is not available, or keeping them on life support to provide for an orderly wind-down– are different than those of private investors (who just want to make a profit). Could the government drive a harder bargain to try and earn greater returns? Sure. But the more aggressive the government is, the more they fail to achieve their original intent– to keep the financial system functioning.

At the end of the day, there is only one reason the government is investing in private institutions– because the decision has been made that the social and economic pain associated with letting the private sector run its course is greater than it needs to be, and that targetted investment by the government can help the country sidestep the awful consequences of a full-blown, uncontrolled delevereaging (25% unemployment, anyone?). So the proper context for evaluating the government's investments is not "how much did we pay for these preferred shares", but instead it is "is the return on our total investment, in terms of a reduced recession and less unemployement relative to what it might have been, worth what we paid for it?"

The rest of these headlines are not just political spin and misleading, but very probably dangerous. They draw the public's attention away from what is really going on here.

TFB on February 12, 2009 | permalink

 

Thank you for all the comments. The naive me thought the government was providing additional capital for boosting the confidence in the system, not for subsidizing existing bond holders and shareholders. If a bank is already insolvent, we should just nationalize it. As for valuation for the preferred shares and warrants, I have nothing else to go by except what's in the COP and CBO reports. Because they hired independent experts, I have to take their words for it. Maybe not a higher interest rate on the preferred shares because it has impact to cash flow, couldn't they get *more* shares and warrants? When you are the last one in town willing to give funds, you should be able to dictate the terms.

realistTheorist on February 12, 2009 | permalink

 

TFB, At that time did you think that private capital was willing to lend on the same terms as the government? (E.g. @ 10% to AIG?)

All this report does is say that private capital would have lent @ 25%, therefore the DCF of the government's cash-inflows are around $20 billion…therefore the government paid $40 billion for $20 billion.

That's the level of analysis these experts did.

You're right that the government should not have provided the money in the first place. This is the mercantilism against which Adam Smith fought so hard. Nor should the government have nationalized the bad banks. The banks should simply have been allowed to be run by a liquidator, a system that had been fine-tuned by the law over decades.

Pelon on February 12, 2009 | permalink

 

This is what Paulson said when asking for approval of the TARP:

"The federal government must implement a program to remove these illiquid assets that are weighing down our financial institutions and threatening our economy," Paulson said in his statement. "This troubled asset relief program must be properly designed and sufficiently large to have maximum impact, while including features that protect the taxpayer to the maximum extent possible. The ultimate taxpayer protection will be the stability this troubled asset relief program provides to our financial system, even as it will involve a significant investment of taxpayer dollars. I am convinced that this bold approach will cost American families far less than the alternative — a continuing series of financial institution failures and frozen credit markets unable to fund economic expansion."

You'll notice that he clearly indicates that this plan will cost money. He did not sell this as a plan for taxpayers to maximize their return on the investments.

If you look at the stories written during the debate about the TARP, the overwhelming majority of stories were questioning how much the government would ultimately lose with the program. A few mentioned that in theory the government could make money on the investments, but I don't think many seriously beleived that.

Now, people want to evaluate the plan as if they should have acted like a private hedge fund? If they had done that, they would have let the banks fail and then bought their assets at steep discounts. The whole point of the TARP was to stabilize the financial system by preventing those failures. They thought spending money this way would yield an overall net positive for taxpayers by keeping the economy going, not by generating a positive return on the investments.

realistTheorist on February 12, 2009 | permalink

 

Pelon,

It is also important to add that conclusions of the report do not preclude the idea that government will "make money".

For example, if the government gave AIG $40 billion and gets 10% and also gets its $40 billion back, that is completely consistent with the report.

All they're saying is that the government could have earned more for its $40 billion if it had thought about it like a private investor.

dake on April 5, 2009 | permalink

 

So why did the gov. insist all banks participate,even those that had no need and now refuses to let them opt out by repayment?

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