Treasury Lacks True Strategy to Exit Tarp

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Little about the Troubled Asset Relief Program has gone according to plan.

Its name reflects the government's original goal of buying lousy assets from banks to strengthen their balance sheets. But execution proved more difficult than design, so policymakers quickly changed course and simply bolstered the system by injecting capital directly into banks.

Barbara A. Rehm

Tarp took other swerves along the way, namely the Community Development Capital Initiative and the Small Business Lending Fund.

Through these programs and simple repayments, roughly half of the 707 banks that took $245 billion in Tarp funds have repaid their debt, with interest.

But now, nearly four years on, another major course correction is under way: the Treasury Department, in a sudden rush to settle up with the remaining 343 banks, wants to auction the debt to private investors.

I don't know if selling these investments at a discount is good for taxpayers or for the banking business. But the problem is neither does the Treasury.

The government hasn't vetted the auction strategy publicly and has no comprehensive plan. What influence will outside investors have on these small banks, particularly those that are privately held or family owned? What will happen to the 175 banks that have already missed five quarterly dividend payments? Private investors are unlikely to bid on that debt at a price that makes sense for the government. Will they simply limp along indefinitely?

No one at the Treasury has addressed these questions.

In fact, the agency unveiled this new strategy in a blog post, which seems a bit casual to me. "The exit strategy," Tim Massad, assistant secretary for financial stability, wrote in early May, "represents a path forward for winding down our remaining bank investments in a way that's good for community banks, preserves financial stability, and protects taxpayer interests."

Massad presents that as a fact. Only time will tell if it is.

So far the Treasury has auctioned the debt of 20 banks, reaping between 74% and 98% of par. More auctions of individual banks will occur over the summer, but then the Treasury plans to double down on the strategy. It has told 200 banks — more than half left in the program — that it intends to package the debt of numerous banks into pools and then auction off the pools.

The Treasury's returns will fall as weaker banks are offered, but Massad's blog post says Tarp has already turned a fat profit. "Since we've already locked in a $19 billion positive return to date on Tarp bank investments, every additional dollar we recover from these investments is an additional return for taxpayers."

That ignores the fact that when a bank continues to pay its 5% premium, the Treasury continues to make money on its investment.

And remember, when Tarp was created in fall 2008 the goal wasn't to make money. It was to stabilize the financial system, which in turn was supposed to spur economic growth.

It did stabilize the financial sector, but the government still needs strong banks to fuel the economy, including the small banks that fuel their towns.

And while it is also true that Tarp was never envisioned to be a permanent source of capital, neither was it expected to expire this quickly.

The Treasury has never explained why it's in such a hurry to wrap the bank portion of the Tarp program up. The obvious speculation is that the administration wants to close the books on Tarp before the November elections, but the Treasury can't move that fast.

According to Massad's blog, "the government shouldn't be in the business of owning stakes in private companies for an indefinite period of time."

But there doesn't appear to be any similar pressure on the auto companies or AIG, and the administration has hardly been in a hurry to fix Fannie Mae or Freddie Mac.

As it was designed, Tarp takers were required to pay a 5% quarterly dividend for the first five years. As an incentive to find private capital to take the place of public money, the rate jumps to 9% at that point, which will be in late 2013 or early 2014, depending on when a bank entered the program.

But who figured interest rates would still be at historic lows in 2012 and that Federal Reserve policy would indicate they will stay there through 2014?

Maybe instead of auctioning off bank debt to the highest bidder — and all the unknown consequences that might trigger — policymakers should consider extending the 5% rate.

That's not a bad deal for taxpayers, and it would be a good deal for the banks that still hold $11 billion in Tarp funds. Of the 343 banks left, three-quarters have less than $1 billion of assets. (The biggest category of banks still in Tarp is $100 million to $500 million of assets, at roughly 160 banks.) Many of those are unable to raise capital in the private market, and if their Tarp debt is sold by the Treasury, the new investors will be getting that 9% dividend that kicks in roughly 18 months from now.

Is that the position we want to put these banks? Is that good public policy?

Some experts figure the Treasury's push to get small banks out of Tarp is just one more straw on the camel's back of consolidation.

"There are legitimate concerns about the resulting ownership of these banks and how that ownership might influence the way the banks are operated," said Ray Grace, acting commissioner of banks in North Carolina, "whether they are in it for the long haul or whether they're simply pawns in a roll-up."

I get the politics here. It's great to be able to declare victory and move on. But the potential repercussions deserve more attention.

Barb Rehm is American Banker's editor at large.
She welcomes feedback to her column at
Follow her on Twitter at @barbrehm.

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