Lessons from TARP
The Troubled Asset Relief Program (TARP) came into effect in the U.S. on October 3, 2008. TARP was intended to allow the Treasury to spend up to $700 billion to buy so-called toxic assets from financial institutions. It was loudly criticized as a bail-out of Wall Street.
Henry Paulson, who was Treasury Secretary at the time, succumbed to pressures and followed the path charted by Gordon Brown, the UK Prime Minister. Paulson changed the program from one created to buy toxic assets to one that would invest directly in banks. Indeed, on November 12, 2008, Paulson announced that no TARP funds would be used to purchase troubled assets.
This change in focus did not lead to any improvement in the financial system. Neither the financial system nor the equity markets recovered until the new Treasury Secretary, Timothy Geithner, announced on March 23, 2009 a Public-Private Investment Program (PIP) to buy toxic assets from the banks. The markets understood what needed to be done at that time.
In the meantime, TARP expanded in several directions, including special assistance for AIG, the auto industry, consumer and business loans, and a home affordable modification program. As of today, TARP has committed $482 billion, of which only $380 billion has been disbursed. Less than $300 billion is currently outstanding.
$245 billion has been invested in banks, and the banks have repaid almost $116 billion of this amount. Interestingly, while the financial and capital positions of the U.S. banks have improved sufficiently for many of them to rush forth to repay their TARP funds, the UK banks continue to languish, and the UK Government continues to be the largest shareholder in several of them.
The U.S. Government has done quite well on its assistance to the “fat cats” of Wall Street. For the fiscal year 2009, the U.S. Treasury has made a “profit” of $15 billion on its capital purchase program, and had unrealized profits of an additional $8 billion. The Treasury earned more than 10% on its investments in Goldman Sachs, Morgan Stanley and American Express. However, the Treasury expects to lose $31 billion on its financial support to AIG. Treasury could have reduced these losses if it had negotiated more forcefully with the financial institutions who were on the buy side of the credit default swaps (CDS) sold by AIG. Treasury failed to do so, and this failure will cost the U.S. taxpayers billions.
The U.S. likely will lose $40 to $60 billion on TARP, far below the original estimates of losses in the $300 billion range. Most of the losses will come from the financial support of the auto industry, and the consumer and business lending and housing initiatives. The losses might be even greater because the President recently announced his intention to use the “bail-out” money for a new jobs program. In other words, rather than go through Congress to get approval for a second round of fiscal stimulus, President Obama has decided to end run Congress and use the spending authority and “excess’ cash in TARP.
PIP, the only attempt to achieve the original objective of TARP, is expected to max out at $30 billion. In fact, there appears to be little use for this program, as depressed asset prices are beginning to recover, and banks can use the new mark-to-market rules to avoid drastic write-downs on the toxic assets.
There are three important lessons in TARP.
Simplicity – each government program should have only one goal. Multiple goals lead to confusion and bad policy.
Making policy on the run also leads to confusion and bad policy.
Finally, with the exception of the mistakes made with AIG’s CDS, TARP has not turned out to be a bail-out of Wall Street.
The opinions expressed in this blog are strictly personal, and do not reflect the views of Global Brief or the Glendon School of Public and International Affairs.