WASHINGTON — A report due today from the special inspector general created to police the Troubled Asset Relief Program questions the Treasury Department's decision to value the government's investment in hundreds of financial institutions at cost, particularly since the value of so many banks has fallen in recent weeks.
"In light of recent market volatility and the distressed financial condition of some of the entities in which the Treasury has made an investment," the report says, "the cost-based valuation methodology will not provide an accurate view of the value of the securities over time."
The report, the first by Special Inspector General Neil Barofsky, recommends that the Treasury develop a long-term investment strategy that addresses topics such as whether it would buy common shares for which it now holds warrants.
"How long these securities should be held and when, and under what circumstances, they should be sold into the market are vitally important questions that implicate not only the taxpayers' return on their investment, but also the stability of the markets," the report said. "SIGTARP recommends that Treasury quickly determine its going-forward valuation methodology."
Since Tarp began in October, the Treasury has invested $279 billion in 319 financial institutions.
The law establishing Tarp also created the bailout's oversight arm, which is required to provide reports to Congress. Mr. Barofsky will testify on the initial study, which mostly provides an overview of Tarp, at a Senate Banking Committee hearing today.
The 185-page report says the Treasury has not fully developed its program to invest directly in institutions to ensure maximum return for the government.
"Although this is understandable," because of the "urgency associated with standing up Tarp, … Treasury needs, in the near term, to begin developing a more complete strategy on what to do with the very substantial portfolio that it now manages on behalf of the American people," the report says.
The special IG said it would be "unusual" if Treasury ended up exercising its warrants, but urged the government to make a decision. "Treasury must decide whether it has any intention to exercise warrants in order to hold the common stock," the report said. "[B]ecause Treasury has not set aside any TARP money to fund the exercise of warrants, it needs either to rule out the possibility of exercising warrants for the purpose of holding the common stock or reserve sufficient TARP funds to pay for the exercise price of the warrants that it anticipates exercising for that purpose.
"We have inquired of Treasury what its intentions are on this point, and it has indicated that no decision has been made," the report stated.
The Treasury also should better articulate the restrictions on participating institutions, according to the report; contracts with Tarp recipients should spell out compliance requirements, including the establishment of internal controls to ensure the money is used appropriately and reports on the matter to the Treasury.
The special inspector general also said policymakers need to address "potential fraud vulnerabilities" in the Term Asset-Backed Securities Loan Facility. That program, run by the Federal Reserve Board and due to begin this month, is being financed with $20 billion from Tarp and aims to revive the securitization market. But the report said it has communicated with the Treasury and the Fed about "concerns regarding the program's vulnerability to fraud, waste, and abuse."