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Repaying TARP Funds: Playing Ball With Uncle Sam

Posted by Larry Doyle on April 20, 2009 10:27 AM |

Last evening on NQR’s Sense on Cents with LD (note: you can listen to audio recording of the show from the BlogTalkRadio player in the right sidebar), I proposed that the Obama administration would not release individual results of the Bank Stress Tests. I further added that I thought the administration may encourage stronger banking institutions to channel funds to weaker institutions. In so doing, these stronger banks – such as JP Morgan and Goldman Sachs – may actually take equity stakes in the weaker banks. Will JP Morgan and Goldman bear the entire risk of those equity stakes? Doubtful. Uncle Sam will likely negotiate terms along the lines of other bank bailouts in which a strong bank provides capital but the government bears the brunt of the losses.

As I write this, Bloomberg reports Bank of America is speculated to need another $10-20 billion in equity capital. BofA’s earnings were reported this morning at .44 earnings per share versus an expectation of approximately .03 earnings per share. Analysts are panning the earnings due to the propsects for ongoing increases in credit losses within BofA’s loan portfolio. BofA’s stock is down approximately 8% in early trading.

If BofA does need another $10-$20 billion in equity capital, where might it come from? In my opinion, in a non-public transferral of capital, those funds may come from JP Morgan and/or Goldman Sachs, and would actually be recycled TARP funds.  Effectively, JPM and GS will merely be a conduit for increased government funds injected into BofA and Citigroup, as well. Remember JPM has $25 billion in TARP funds, Goldman has $10 billion.  If BofA took $15 billion of these funds then Citi could receive $20 billion. What would JPM and GS receive in return? I would think these negotiations would be private and not released, although given that the capital provided is public money all information should be released. 

The administration has released word that the focus of the Bank Stress Tests will be on the industry as a whole and not individual institutions. The FT reports, U.S. to Put Conditions on TARP Repayment. What are the conditions? 

Strong banks will be allowed to repay bail-out funds they received from the US government but only if such a move passes a test to determine whether it is in the national economic interest, a senior administration official has told the Financial Times.

“Our general objective is going to be what is good for the system,” the senior official said. “We want the system to have enough capital.”

His comments come as Goldman Sachs, JPMorgan Chase and other relatively strong banks are pressing to be allowed to repay their bail-out funds. On Sunday, Lawrence Summers, President Barack Obama’s top economic adviser, told NBC’s Meet the Press that repayments could eventually help the government provide further resources to help the sector. Such a move could also allow healthier institutions to differentiate themselves from weaker banks and free them from constraints on executive pay, and other activities, that come with bail-out money.

The most restrictive covenant of holding TARP funds centers on compensation limits. How JPM and GS negotiate their way out of that noose is the big carrot for playing ball with Uncle Sam. 

We also should not forget that every banking institution on Wall Street has issued FDIC-backed debt. That support has allowed the banks to save themselves 3-4% on the cost of funds and is another version of the private profit vs. public risk scenario.  

Despite statements from Obama and team, the political game plan of buying time and spreading the banking risks across the taxpaying public is in place. I do not see that changing at this juncture. The “games” being played via the Bank Stress Tests will likely be another version of Games of Chance: TALF, PPIP, TARP, FDIC, FASB.   


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