Here We Go Again . . .

The Wall Street Journal (subscription required; shorter Bloomberg article here) is reporting that Bank of America will receive billions of dollars more in government aid, probably in a deal that looks something like the second Citigroup bailout, ostensibly to help absorb losses incurred by Merrill Lynch since the acquisition was negotiated in September but more generally to shore up B of A’s increasingly shaky balance sheet. At least someone involved knows how this looks: the reports say the deal will be announced on January 20 – yes, the day of Barack Obama’s inauguration – thereby keeping it from being the main story of the day.

It looks bad for all sorts of reasons:

  • Wasn’t B of A supposed to be a healthy bank? Isn’t Ken Lewis (CEO) the person who told Henry Paulson he didn’t need the first round of TARP money, but he would take it to show solidarity and for the public good?
  • The money is going to finance an acquisition? Isn’t that the thing that (according to most people) banks aren’t supposed to be doing with their bailout money?
  • The B of A-Merrill deal closed on January 1. So it looks like – as the WSJ is reporting – the deal only closed because Treasury gave B of A a verbal commitment to supply the needed bailout money later.
  • Isn’t this more policy by deal?

That said, I think some sort of deal has to be done. Even Yves Smith at naked capitalism (one of the most consistent and sharp critics of the way TARP has been implemented), who says this deal “stinks to high heaven,” says that “Merrill is a systemically important player” and “letting the deal with BofA ‘fail’ is a non-starter.” But I predict that when the terms are announced I will think they are too generous – especially since B of A now has all the negotiating power, since they closed the acquisition based on a promise from Treasury.

To recap – because I have this pathological fear of not being understood – I think that TARP’s primary purpose is to protect the financial system against the collapse of any systemically critical financial institutions (I leave it to others to define what those are, but Bank of America definitely is one, GMAC I’m skeptical about), and it has suffered from three main problems:

  1. The initial round was too small, with banks only getting 3% of assets or $25 billion, whichever was smaller – which is why Citi and now B of A have had to come back.
  2. The terms were too generous; I can make an exception for the first round, but I don’t understand why Citigroup 2 and GMAC were so favorable to shareholders.
  3. Except for the very generous initial round, it’s just a pile of money to be used in ad hoc deals, not a comprehensive program with a coherent strategy, so no one is quite sure how or if it will be able to protect the financial system.

The B of A bailout will only sour public and Congressional opinion further against TARP, making it less likely that the second $350 billion will ever be released, and more likely that if it is released it will be packaged with all sorts of conditions (not necessarily bad) or allocated to community banks (beside the point).

It is true that one price we are paying in these bailouts is the creation of a new tier of mega-banks that, because they are Too Big To Fail, have the competitive advantage of being essentially government-guaranteed. What we really need as a condition on TARP money is a new regulatory structure to make sure that these mega-banks do not abuse the oligopolistic position we have just handed them, and perhaps a commitment to break them up when economic circumstances allow. That would be considerably more valuable than a cap on executive salaries and corporate jets. But it will also be a lot more difficult to define and to agree on.

7 thoughts on “Here We Go Again . . .

  1. Wasn’t B of A supposed to be a healthy bank? Isn’t Ken Lewis (CEO) the person who told Henry Paulson he didn’t need the first round of TARP money, but he would take it to show solidarity and for the public good?

    -I thought it was Jamie Dimon who said such thing during the meeting. But then, I wouldn’t be surprised if all CEOs present in the meeting tell us that they said the same thing during the meeting.

  2. You may very well be right – I was working from memory, and this would be a hard thing to look up, since it was all off the record. But I think it’s definitely true that at that time, of the big three, Bank of America and JPMorgan were considered the healthier ones, and Citi was already considered the sicker one.

  3. We can complain all we want about the terms of these deals, but I think there is a great deal of pressure being placed on Citi, for one, to use as little of the $306 billion federal guarantee as possible.

    Pandit stated earlier this year that Smith Barney was definitely not on the auction block, but lo and behold, Morgan Stanley now owns 51% and probably 100% in the next few years. Reports are that Citi will eventually be trimmed by one third of its size. Considering the size of Citi, that is a lot of trimming.

    I’ve seen headlines stating that Citi now has a new CEO, the federal government. I think when companies like Citi, AIG, and BofA accept second bailout lines, they are effectively being nationalized. They are being watched very closely by federal regulators and the Treasury and are taking orders from these sources.

    I believe it was also a goal of the original capital injections that supposedly healthy banks would buy up banks which were in dire straits. This happened with PNC Financial buying National City Corporation, BofA buying Merrill/Lynch and Countrywide, JP Morgan Chase taking over WAMU, and Wells Fargo buying Wachovia. Apparently the hope was that these supposedly healthy banks would be able to handle the lousy balance sheets of the companies they took on. The depth of the recession and its corrosive effects were probably not foreseen when these deals were made.

    It would not surprise me after all is said and done that these large financial institutions now being formed with government money will be forced to break apart when financial health is restored. That is likely the quid pro quo. Nobody wants “too big to fail” banks anymore.

    As for the release of the second round of TARP, it is a done deal. Congress will approve it this week or next. If it does not, there is a veto looming.

  4. There was an news story on Bloomberg today that JPMorgan is planning to emulate Citi by leasing a supertanker, as they both continue, via subsidiaries, to speculate on oil prices. Regulators must breakup these super “banks” that continue in their ways knowing that they are to big to fail.
    To get any aid BoA should be requires to eliminate their dividend. Actually, these banks should be nationalized and their management fired and all opportunites looked at that could lead to jail time.

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