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Quelle Surprise! SIGTARP Report Finds Citi, Bank of America Allowed to Leave TARP Prematurely

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We said at the time it was inexcusable for the Treasury to allow banks to repay the TARP as early as they did (US banks are still below the capital levels many experts consider to be desirable; Andrew Haldane of the Bank of England has made a well-substantiated case that higher capital levels cannot remedy the problem, since the social costs of a major bank blow up are so great, and you therefore need very tough restrictions on their activities).

And why were the bank so eager slip the TARP leash? To escape some pretty minor restrictions on executive compensation. This had NOTHING to do with the health of the enterprise and everything to do with executive greed. And not surprisingly, Treasury indulged it.

Due to the late (for me) hour, I’m relying on the report by Shahien Nasiripour of the Financial Times, who seems to be releasing the story before the actual SIGTARP report is out. My big reservation is why the line was drawn at Citi and Bank of America. Yes, they were clearly the weakest banks, but I don’t buy the implicit endorsement of the ability of all the rest of the TARP recipients to weather another financial crisis with no government support.

SIGTARP is upset that the Treasury went through the stress tests, which among other things, determined how much capital the banks would need to raise, then ignored its own findings. The SIGTARP discusses that Treasury effectively made up on the fly how much more capital the banks would need to scrounge up, with the required number being lower than the stress test number.

Let’s put aside the fact that this blog and quite a few financial services experts not in the pay of the banks or dependent on their good will (like equity analysts needing access) called the stress tests a sham. We’re surprised that SIGTARP finds this Treasury shell game (of allowing the banks to get away with raising less dough than the stress tests indicated) to be a surprise. We reported that this was Treasury’s plan back in May 2009:

This is the legacy of regulators who are so subject to what Willem Buiter’s “cognitive regulatory capture” that the believe the Wall Street party line, that they are the best and the brightest, and therefore are better judges of how to manage their affairs than any outsider. Despite ample evidence to the contrary, plus the danger of giving hungry organizations a taxpayer backstop, the Treasury has shown a predictable lack of resolve, completely in keeping with its industry-favoring posture.

The most disturbing revelation comes via the Financial Times:

US banks have been given government assurances they will be allowed to raise less than the $74.6bn in equity mandated by stress tests if earnings over the next six months outstrip regulators’ forecasts, bankers said.

The agreement, which was not mentioned when the government revealed the results on Thursday, means some banks may not have to raise as much equity through share issues and asset sales as the market is expecting. It could also increase the incentive for banks to book profits in the next two quarters.

So get this: the official releases on the stress test results and process weren’t honest and complete. We basically have the real deal, which is the unwritten understanding between the Treasury and the banks, versus the phony version presented to the public. And if we can’t even believe the headline number in the tests (the amount of money they are supposed to raise), is there any other aspect we can trust? How many other winks and nods were there between the Treasury and banks that weren’t leaked to the press?

Admittedly, there is normally some give and take with a regulator, but the public has been led to believe that this process would be transparent. It has wound up being somewhat so by virtue of leaks rather than by living up to its promise.

And in case you missed it, the phrase in the FT, “increase the incentive for banks to book profits in the next two quarters” is code for “fabricate earnings”. Per below, there were quite a few instances of permissive accounting this quarter. The powers that be are inviting more of the same. And this is all in the name of boosting confidence.

Key extracts from the Financial Times report today:

US regulators moved too quickly to allow Bank of America and Citigroup to repay their troubled asset relief programme bail-outs, according to a new government audit…

Policymakers at the Treasury department also sought to allow the banks a rapid exit, at one point approving a BofA proposal that ultimately was rejected because it allowed the company to leave the assistance programme by issuing $4.8bn less common equity capital than was required.

Shortly after so-called “stress tests” in 2009 revealed capital shortfalls in the largest US banks, regulators developed a benchmark designed to guide Tarp exit procedures. For every $2 in Tarp aid reimbursed, banks were to raise $1 in new common equity. The assessment was based in part on banks’ capital needs.

Just a few weeks later, that benchmark was tossed aside, resulting in an “ad hoc” and “inconsistent” process, Sigtarp said…

After submitting 11 proposals, BofA was finally allowed to repay taxpayers their $45bn by issuing $18.8bn in common equity, $1.7bn in stock to employees and shedding $4bn in assets.

At one point, the bank requested it be allowed to repay the part of its rescue package that would have ended restrictions on executive pay, an indication it was principally concerned with the issue, Ms Romero said. Regulators balked.

The Federal Deposit Insurance Corp, then led by Sheila Bair, insisted that the bank had to raise more common equity to meet benchmarks, as opposed to meeting capital levels through “gimmicks” such as employee stock issuances and asset sales. Treasury approved BofA’s seventh proposal, which called for reduced common equity and greater asset sales…

BofA exited Tarp on December 9 2009, when its share price closed at $15.39. It has since plunged about 60 per cent. It closed at $6.35 on Thursday.

Unfortunately, we are likely to see all too soon how well Treasury’s secret pact with the banks worked. And unfortunately, if they are proven to have gambled and lost, no one in the officialdom or at the banks will suffer all that much while the rest of us suffer considerable costs.

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20 comments

  1. nonclassical

    “boosting confidence”…(in the name of)

    doesn’t give us CONfidence when we already found out taxbreaks were being generated to alleviate pay-backs in the first place…other “creative accounting” was certain to follow…

    I am soooo with Michael Hudson’s version of what is going on=”debt deflation”, from a quantity of books read over last
    5 years, including several of Kevin Phillips, Naomi Klein, Gretchen Morgenson, Paul Krugman, William Blum, Perkins, Geist’s “History of Wall $treet”, and of course Yves’…

  2. DP

    One thing the story apparently doesn’t mention is that those dumb regulators forced B of A to raise equity capital at $15+ per share when they were too stupid to do it on their own. Either the low paid regulators are a lot smarter than the high paid bankers, or the bankers don’t care about having enough capital because they want to maximize return on capital to maximize their compensation and know they’re backed by the taxpayers, or both.

  3. F. Beard

    … since the social costs of a major bank blow up are so great, and you therefore need very tough restrictions on their activities). Yves Smith paraphrase of Andrew Haldane

    So our choices are instability or “very tough restrictions” on bank activities?

    That does not sound optimal to me. Nor are “very tough restrictions” likely to be endured for long in a highly competitive world.

      1. Darren Kenworthy

        We need mechanisms to prevent factional capture of our public institutions. Lacking such mechanisms, “government” will serve factional interests under a cloak of continually undermined “tough new rules” that “seem to work” until their subversion becomes obvious.

        1. bmeisen

          Do you mean 5% threshholds for parties to participate in the legislature and 1 man/2 votes proportional representation?

  4. Ed

    Alot of our problems have been caused simply by the nomenklatura-style plundering of American companies by their own senior management. This site has document too many instances of this to keep track. The government at least should not be abetting this behavior.

  5. brian

    the corruption of the obama administration regarding the financial industry rivals nixon’s over watergate

  6. Justicia

    Buiter’s “cognitive regulatory capture”goes to the heart of what is wrong with our regulators.

    The cure requires that we excise money from politics and purge the noxious strains of neo-classical economic theory from the system by destroying its intellectual legitimacy.

    On the second front, I’m copying a message recently received from Prof. Jim Boyce that I think NC readers will find of interest:

    Dear friends,

    We are proud to announce the launch of an exciting new project called Econ4: economics for people, the planet and the future. Econ4 is an online platform for dissemination of innovative thinking in economics.

    Today we face not only a crisis of the economy, but also a crisis of economics. The free-market fundamentalism that dominated economic discourse for an entire generation has been discredited by financial collapse, mass unemployment, environmental decay and global economic imbalances. Innovative thinking about economics and the economy is urgently needed.

    Econ4 aims to break the stranglehold of corporate media and ideological orthodoxy in the teaching of economics and public conceptions of how the economy works and should work – and to do it in a style that’s both compelling and fun.
    [...]

    Econ4 has just launched its website: econ4.org. Here you’ll find the first of our new original film series as well as a host of other resources – videos, articles and links – bringing together the best the web has to offer in innovative economics thinking.

  7. Dave Angle

    The feds are unwilling to officially recognize that all these shenanigans favoring the TBTF entities and their executives/bonus chugging traders are tearing down what the feds claim to be trying to prop up – the economic strength of the good ol’ USA.

    By continuing with transparently bogus tricks like these, our economy continues its slide into banana land and our nation continues its descent. We will no longer be the place to run to when, in the immortal words of Peter Tosh, the sea will be boiling. Damn these people to hell.

  8. ep3

    ” $1.7bn in stock to employees”

    I wonder how much of this went to the local teller at the local branch of BofA?

  9. ArkansasAngie

    Apparently they don’t think they have to tell Americans how much of their money they are spending.

    OK Obama … here is your chance to actually shut up and do.

    On the other hand … Ron Paul … don’t let this pass.

    It’s time for trying the yahoos.

    Geithner et al. You’re fired.

    1. Tom g

      Yep, another day goes by, another bullshit scandal as people try to hide the sausage. Everyone wake up and realize with a paul presidency, literally everything talked about on this blog would go away over time… hey wait a minute, now i’m starting see what’s going on…

  10. avgJohn

    Geithner probably had no choice. It was either fudge the figures, and accept the early pay-backs or lose these supremely, gifted, talented executives.

    Who could possibly have stepped in to oversee and administer the massive foreclosure operations soon to follow? Tim was well aware, men of their caliber and integrity were just to hard to find. We are lucky that the fed and Mr. Geithner were able to guide us through the crisis, in good financial standing and relatively unscathed.

    Main Street America thanks all of these gentlemen from the bottom of our hearts. NOT!

  11. Fiver

    It is noteworthy that in Haldane’s paper there are many instances where a concept is expressed using a current environmental problem as part of the argument as well as the comparisons with other types of systems vulnerabilities. You hear nothing like this sort of language in use now in North America to describe the situation at all, i.e.,with the apparent “rescue” of the economics profession from extinction, bailed out every bit as much as bankers, they like bankers headed straight back into their unique, stand alone, worlds.

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