Tuesday, November 18, 2008

Paulson to Keep Reserve to Stay Flexible; October Producer Prices Fell Record 2.8%

In The Wall Street Journal on Monday there was an interesting article based on an interview with Treasury Secretary Henry Paulson. On a day when Atlanta's SunTrust Bank received its own $3.5 billion capital injection of capital from the TARP program along with 21 other financial institutions, it is important to remember that these injections are being and will be put to work over the coming months. There has been recent data showing an increase in loans being made by banks, and we will see how this trend continues.

Paulson Will Keep Reserve to Stay Flexible for Future
November 18, 2008
By Deborah Solomon

Treasury Secretary Henry Paulson is unlikely to use what remains of the $700 billion Wall Street rescue fund to launch substantial new programs, preferring to keep money in reserve for unforeseen emergencies and to preserve flexibility for the Obama administration.

In an interview Monday, Mr. Paulson said the financial system is stabilizing, and he is thinking about how the remaining $410 billion could be best utilized, but that he doesn't plan to tap it unless a further need arises.

"I'm going to do what we need to do to keep the system strong and to react the ways we need to react during the nine weeks I'm here, but I'm not going to be looking to start up new things unless they're necessary or it's just clear that they need to be done or [that they] make great sense," Mr. Paulson said. "I want to preserve the firepower, the flexibility we have now and those that come after us will have."

Congress approved a $700 billion bailout in October after Mr. Paulson and Federal Reserve Chairman Ben Bernanke insisted a broad response was needed to prevent an economic meltdown. Mr. Paulson was allowed immediate access to $350 billion, with a second tranche available upon issuing a written notice to Congress. Lawmakers would have 15 days to deny such a request.

Mr. Paulson's decision is a signal that the Bush administration is unlikely to heed demands by some in Congress that the rescue funds be used to help mitigate mounting home foreclosures. That has been a thorny issue, prompting clashes within the administration over the intent of the fund and the best way to help homeowners. Mr. Paulson has already ruled out using the money to assist U.S. auto makers.

His decision also in effect hands the choice of how to spend the remaining $350 billion to the next White House. Obama advisers haven't said publicly how they might use the money.

On Tuesday, Mr. Paulson could face a hostile reception from lawmakers when he testifies about the bailout, including Treasury's decision to forgo its initial plan to buy bad loans from banks and other entities, and instead inject capital directly into banks. Mr. Paulson plans to tell Congress that Treasury couldn't pursue its first option because after investing $250 billion in banks, it didn't have enough left to make a meaningful impact.

"We recognized that a troubled-asset purchase program, to be effective, would require a massive commitment of TARP funds," Mr. Paulson plans to say, according to a draft of his prepared testimony, referring to the Troubled Asset Relief Program.

Mr. Paulson defended that decision, saying Treasury's equity-purchase program has helped stabilize the financial sector and limited the potential for the future collapse of any big financial institution. "We've turned the corner in terms of stabilizing the system. There's no longer this worry out there that some systemic institution is going to fail."

Still, Mr. Paulson acknowledges that dropping the asset-purchase plan will leave a key problem unresolved: "These institutions are still clogged with these assets. They're going to need to write them down, sell them over time, take losses," he said.

Mr. Paulson added that he is working with the Fed to develop a lending facility that would encourage investors to buy some of these assets.

If Mr. Paulson doesn't request the second TARP installment, he could avoid some political backlash from Congress. In addition to criticizing the Treasury's switch of plans, lawmakers might seek to add new conditions to the funds, such as requiring that participating companies make more loans or refrain from using the money for dividends or acquisitions.

The Treasury's use of the $700 billion has shifted since Mr. Paulson won broad authority on how to deploy it. But many lawmakers still expect him to do more to help homeowners in danger of foreclosure. Treasury initially planned to use leverage it would earn from buying residential loans and mortgage-backed securities to encourage lenders to help troubled homeowners. But having dropped that approach, there is no alternative for aiding homeowners through the TARP.

Last week, Democratic Rep. Barney Frank said he expects Treasury to use some of its $700 billion to reduce foreclosures.

Mr. Paulson seemed to rule out embarking on any large-scale foreclosure-mitigation program through the rescue fund, though. He argues that the TARP money is meant to be invested, and that most foreclosure programs would require a direct expenditure of taxpayer dollars that won't likely be paid back.

Instead, the Bush administration is likely to focus on programs already in place, including a plan to have mortgage giants Fannie Mae and Freddie Mac, which are under government control, help halt preventable foreclosures. The voluntary plan, which officials hope will be adapted by other mortgage holders, would enable certain borrowers to receive loans that would make their mortgage payments at most 38% of their monthly income.

Pressure has been building within the administration to do something broad to attack the foreclosure problem. Federal Deposit Insurance Corp. Chairman Sheila Bair, a Bush appointee, has criticized policy makers for not doing enough to help homeowners.

Ms. Bair has been pushing a plan within the administration to use some of the $700 billion to have the government share in the loss of any modified loan that falls into default.

But many within the Bush administration are opposed, arguing that her plan provides an incentive for banks to foreclose on homeowners and gives a windfall to investors who own the securities backing the loans.

In the interview, Mr. Paulson said Treasury has "spent a lot of time on the FDIC program" and is "working to see if we can come up with something that works."

"Foreclosures are a significant problem, they're an economic problem," Mr. Paulson said. But finding a solution is complicated, he said, because "the issues then become, 'How effective are the individual programs going to be, where did the money go, is it going to banks or is it going to homeowners, and what's the cost-benefit analysis?'"

The Treasury developed an alternative to the FDIC's plan that would encourage banks to lower interest rates on certain loans by having the government finance part of the modification through TARP, according to people familiar with the effort. However, Mr. Paulson rejected the proposal because it would be an expense rather than an investment.

Separately, the Treasury on Friday provided $33.56 billion of capital to 21 domestic financial institutions, bringing the total number of companies getting a cash infusion to 30 (SunTrust's $3.5 billion included), the agency said in a report yesterday.

October Producer Prices Fell Record 2.8%

U.S. producer prices fell a record 2.8% in October, the most since 1947, as gasoline prices plummeted a record 24.9%, the Labor Department reported Tuesday. Overall finished energy goods prices fell 12.8%, the most since 1986, while food prices declined 0.2%. Excluding food and energy, core producer prices rose 0.4% in October. Analysts polled by MarketWatch were looking for a decrease of 1.6% in overall PPI, and a 0.1% increase in the core rate. Producer prices are up 5.2% over the past 12 months. Further back in the production pipeline, prices for intermediate goods fells a record 3.9% in October, while prices for crude goods fell a record 18.6%

Sources: The Wall Street Journal, MarketWatch

No comments: