Repaying TARP….not so fast

June 8, 2009

The Obama administration is on the verge of letting a number of financial institutions–think Goldman Sachs and JPMorgan Chase–to begin paying back tens of billions in bailout money. That may sound like a good idea, especially with the federal deficit continuing to balloon. But what’s the rush?

It’s obvious why the banks want to get out from under the Troubled Asset Relief Program: they want to be free of government meddling and prove they can operate without government support. But Sandy Lewis and William Cohan, in a long op-ed in The New York Times on Sunday, make a good case for the administration going slow in allowing banks to repay the bailout money.

I particularly like their suggestion that bank executives be forced to testify under oath about the causes of the financial crisis before any institution can repay TARP money. It brings to mind that infamous hearing when Congress hauled the CEOs of the tobacco companies to Capitol Hill and forced them to testify under oath about whether or not cigarettes caused cancer. Let’s force the bank executives to testify then whether they really believed a bundle of subprime mortgages could be turned into a Triple A security by waving some credit-agency pixie dust over it. Or whether it made sense to operate their firms with leverage ratios of 30 to 1.

Lewis and Cohan also rightly argue that the banking system is far from fixed. The recent surge in the stock market and a slight slowdown in the pace of job losses should not lull anyone into believing that the economy is on the fast road to repair. If all the talk about economic green shoots is just some mirage, the banks could be in for a lot more trouble if there’s a new spike in mortgage defaults or corporate bankruptcies. And given the current public mood, it will be impossible to provide any struggling bank with a new round of financial aid.

So why not wait a few more quarters, to make sure that the first quarter’s relatively strong bank results are sustainable. There’s a lot of reason to believe those results won’t be repeated in the second and third quarters. A good deal of the strong numbers posted by the banks came from trading gains fueled by bnormally big spreads between the yields on Treasuries and corporate bonds. Banks also got the benefit of a last minute accounting gift from FASB, which made it easier to value some hard-to-value assets.

Another thing the Obama administration should do is force the banks to rid themselves of some of the toxic assets clogging their balance sheets before they can repay any TARP money. Why not force the banks to take-up an idea I suggested last week, which would permit banks to donate ailing CDOs and other rotting securities to charitable trusts. That way, the banks could get a tax write-off to offset some of their losses and cash-starved charities would get these asssets for free. If CDOs and other ailing assets ever recover in value, the charities would be looking at some instant cash.

The truth is, until the banks get rid of the bad debts on their balance they never really will be healthy again.


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