TARP Returns

The federal government sold its remaining shares in Citigroup, resulting in a total profit of $12 billion on its $45 billion investment in Citigroup during the financial crisis.

As I wrote at the time, the government's investment in financial services companies under TARP is very different than its bail out of GM, Chrysler, Fannie Mae, and Freddie Mac. The two biggest American banks, Citigroup and JP Morgan, combined to make $88 billion from 2005-2007, while in that same period the two biggest auto makers, General Motors and Ford, lost a staggering combined $65 billion. Recall these years exhibited strong economic growth.

The significance of this vast difference in pre-crisis financial performance is that the TARP investment in the big banks had a much better chance of turning a profit than the TARP investment in the auto companies.

And that is exactly how things have turned out to date.

Never Forget

This Wall Street Journal column reminds us of one of the key ingredients of the financial crisis: the opposition by Democrats to limiting the size of Fannie Mae and Freddie Mac.

Democrats used the power of the filibuster in the Senate to oppose reforms of Fannie and Freddie, because they wanted those firms to aggressively lend money to subprime borrowers to promote home ownership among poorer Americans. Barack Obama was voted with his fellow Democrats against reforms that would have cut taxpayer losses and lessened the extent of the financial crisis.

In other words, Democratic opposition to reforms were directly related to the cause of the crisis: the extension of too much credit to subprime mortgages. Or as Barney Frank put it, he wanted to "roll the dice" with Fannie and Freddie.

Trillions of dollars of losses later, massive unemployment, government bailouts, the socialization of greater swaths of American industry, and looming massive tax increases are the result.

Political Capital

The Wall Street Journal reports on the efforts to save ShoreBank, a Chicago-based bank that is on the verge of being taken over by the FDIC due to bad loans it made. ShoreBank lends to poor communities.

Remarkably, Goldman Sachs, Citigroup, JP Morgan, and Bank of America have tentatively agreed to invest money as part of a $125 million capital raising process to stave off insolvency.

A person involved in the process to save the bank said: "Sometimes a bank like ShoreBank has to rely on karma, and the planets seem to have aligned to provide some karma with respect to this particular deal."

And here I thought that capital raising was about providing attractive returns for shareholders, and not about karma.

In reality, this is about Wall Street firms, facing intense government and PR scrutiny, looking to appease a politically-connected bank and score points with the Obama administration and Democrats.

It takes the phrase "political capital" to a disturbing, new level.

Where's the Outrage II?

Coming Oon the heels of Freddie Mac asking for another $10.6 billion from the federal government to cover its first quarter losses, Fannie Mae has requested another $8.4 billion.

Since the Obama administration is using Fannie and Freddie to prop up the housing market while keeping their liabilities off the balance sheet of the U.S. government, Obama will continue to fund their losses without looking to reduce taxpayer losses.

The financial "reform" legislation that Obama and the Democrats want to pass has no reforms of Fannie and Freddie, despite their seminal role in the financial crisis and their staggering losses.

Where's the Outrage?

Freddie Mac, one of the two government-sponsored mortgage companies that played a central role in creating the financial crisis by spurring lending in lower credit quality mortgages, announced another $6.7 billion loss and asked the government for another $10.6 billion.

If this were Citigroup, Goldman Sachs, or any other private company, it would be a major news story and lead to cries of outrage directed against Wall Street, the company, and management.

So why is the story on the back pages of the Wall Street Journal and the New York Times?

Here's a hint. Precisely because it was created by the government to spur mortgage lending; precisely because Democrats blocked regulatory reform of Freddie Mac and its related company Fannie Mae; and precisely because blaming Wall Street helps avert attention from the government's role in the financial crisis, the press doesn't want to make a big deal about the catastrophic losses Freddie and Fannie have experienced.

Freddie and Fannie have cost taxpayers $136 billion, with more losses projected. Meanwhile, TARP funds invested in Wall Street banks will likely turn a profit.

Taking Credit

Democrats have started "taking credit" for the government's initial estimate of 5.7% growth in economic output in the fourth quarter of 2009, saying that the "stimulus" bill was important to the return to growth. This simply isn't true.

It is important to note several things:

• There have been dozens of recession in American history, and we have always resumed economic growth - whether government policies were helpful or not to the recovery. Almost regardless of the policies pursued by the Bush and Obama administrations, we would have recovered from this recession. So the mere fact of coming out of a recession isn't relevant to taking credit for the policies pursued; instead, we have to see whether some or all of the specific policies contributed to recovery.

• There are many policies which are relevant to recovery, of which the "stimulus" bill is just one. For example, for those who believe increasing government spending is important to returning an economy to growth from a recession, there are long-established programs called "automatic stabilizers" which lead to increased government spending in a recession, such as unemployment insurance, food stamps, and welfare payments. They kick in immediately, rather than the long delay associated with the spending under the "stimulus" bill.

• Other government policies have clearly retarded growth. The Democrats efforts to restructure healthcare, legislate against global warming, and raise taxes has profoundly effected business confidence - which means that businesses are more wary of investing in new equipment or hiring additional employees with such risks looming over their business and the economy. The key to economic growth is to get businesses to want to expand again, and they need to understand how their investments can be profitable in the future. Without this, business will retrench. In the 1930s, this was called a "capital strike" as businesses feared the anti-business legislation and pronouncements of FDR. Obama's policies and rhetoric have created a similar situation today.

• The Bush administration also committed hundreds of billions to invest in the financial sector through TARP. While TARP has predictably turned into a political disaster, since it encouraged Democrats to pile on with its spending frenzy, it added a great deal of money to teetering banks. For those who believe government spending helps, the TARP money was spent quickly and in large amounts - as compared to the slow pace of spending under the "stimulus" bill. TARP stopped a modern run on the banks, which would have proved devastating to everyone. Given how TARP has turned into an excuse for government to spend outrageous amounts of money, it would appear to have been better for the government to guarantee banks liabilities - thereby stopping the run without giving Democrats the excuse to spend at unprecedented levels.

• In addition to TARP (or better yet a guarantee of banking liabilities), the most profound government policy to promote recovery was one not taken by elected officials, but instead decided and implemented by an independent government agency. The Federal Reserve undertook extraordinary measures to add liquidity to the financial system and cut interest rates. The Fed was trying to avoid a repeat of government policy 80 years before where the Federal Reserve's monetary policy turned the recession of 1929 into the Great Depression of the 1930s.

Christina Romer, Obama's head of Council of Economic Advisors, did extensive research work at Berkeley showing that fiscal stimulus is generally not relevant to aiding recovery from a recession whereas monetary policy is. While Romer has stated that this recession is different, she of course has to say that to justify Obama's "stimulus" bill.

Note monetary policy was one of the leading causes of the recent financial crisis, with the Fed's low interest rate policy serving to spur borrowing to an unprecedented degree and fueling the housing boom and its subsequent collapse.

We shouldn't be surprised monetary policy has such a profound impact on the economy, since it effects interest rates and the amount of money available to be spent and invested. Fiscal policy, particularly in the form of increased government spending, simply takes money from one person (a taxpayer or lender) and gives it to another person (a recipient of government spending). The impact of this transfer is modest at best, while the impact of monetary policy effects every decision in an economy.

Let's hope that the return to economic growth can be sustained. And let's hope that we can understand what did, and did not, cause it to occur.

A Proposal You Can't Refuse

The Wall Street Journal reports that the Federal Reserve Bank of New York pressured AIG in late 2008 to amend its filings with the Securities and Exchange Commission (SEC). Such filings are made public, and the New York Fed wanted to avoid disclosing which firms benefited from the government's bailout of AIG.

But there is a revealing comment about the nature of how government power is wielded in the brave new world we live in.

Thomas Baxter, the general counsel of the New York Fed, said "there was no effort to mislead the public," adding that "the final decision rested with AIG and its external securities counsel."

Let's analyze this. AIG's initial draft of its SEC filing included language naming its counterparties. Then the New York Fed pressured it to change that language, and AIG complied. AIG presumably thought it should disclose the information, hence why it drafted the initial document as it did. Moreover, AIG eventually had to disclose the information anyway since the SEC pressed it to amend its filings.

So to say that AIG had the "final decision" ignores the enormous power the Fed had over AIG through the funds it invested in the company under the bailout and its regulatory authority.

If a man is being tortured and confesses to something he didn't do, would you say "the final decision to confess rested with him so he must be guilty"?

If a gangster demands "protection money" from a local business, would you say "the final decision to pay rested with the owner so he must have entered into a normal business transaction"?

The economic system where the government controls and regulates businesses, without government ownership, is fascism. With government ownership, it is socialism.

Welcome to our part fascist, part socialist, part capitalist economy.

So Long TARP

Being tarped is such a bad thing that banks are racing to repay government investments to escape restrictions on their compensation and business practices.

Citigroup and Wells Fargo are the latest firms to announce plans to repay the government $20 billion and $25 billion respectively.

The government may make $14 billion on its Citigroup investment, which if realized soon would work out to approximately a 30% return for a year - which is a rate of return similar to what LBO investors and venture capital firms achieve.

As I have previously mentioned, the government's bailout of the banking sector was fundamentally a different exercise than its bailout of the auto industry. One bottom line measure of that difference is the government is making money on its bank bailout, while it is deeply in the red on its bailout of GM and Chrysler.

Tarped Again

Bank of America is finding it difficult to recruit a new CEO, made more challenging by the prospect of pay czar Kenneth Feinberg needing to review any new employment agreement.

One possible candidate turned down an approach out of fear Feinberg wouldn't approve buying out his unvested stock at his current employer, which is a common and necessary practice to induce an executive to leave his current employer.

So the Obama administration has made it harder to recruit a CEO where the government has a huge investment, making it more difficult for BoA to succeed and make that investment a success.

This is what government intervention produces in the economy. And this type of behavior is what Obama wants to inflict on our healthcare system.

Enabler in Chief

If there is one politician who, above all else, shares the largest responsibility for the financial crisis, it is Representative Barney Frank. He aggressively pushed Fannie Mae and Freddie Mac to expand subprime lending, and he has continued to demonstrate his reckless disregard for sound financial policies by pushing for more aggressive lending to lower- quality borrowers since the financial crisis has begun.

So what is Barney Frank's latest gambit? He and fellow Democrat Walt Minnick wrote a letter to Federal Reserve Chairman Ben Bernanke and FDIC Chairman Sheila Blair urging them to "show some temperance in their regulation of traditional banks.". Specifically, Barney Frank is worried that regulators are being too tough on smaller banks, many of whom have failed this year and many more which may fail due to poor loans quality.

Given the premises of our public-private financial system, this is exactly what regulators should be doing to protect taxpayers from shouldering an ever-higher cost to bail out these banks. Instead, Barney Frank wants these banks to get a break, at the risk of even greater taxpayer losses.

If Barney Frank were ever voted out of office, the stock market should rise 5% on the news - that's how harmful he has been and continues to be to America.

Where's the Outrage?

The Congressional Budget Office believes that none of the $50 billion in TARP funds used to modify home mortgages will be repaid to the U.S. Treasury.

$80 billion of TARP funds was invested in the auto companies, and GMAC just announced it needs several billion dollars more. It would be shocking if the government gets its money back, yet alone turns a profit. Staggering losses are more likely.

Meanwhile, many of the banks that received TARP funds have returned the money or have produced a profit for the Treasury.

So in a rationale world, you would expect intense scrutiny of why the government's spending on the mortgage modification and auto company investments has been squandered.

Instead, we are treated to attacks on the banks who have returned the money or where the government made a profit.

Why? Because the Obama administration and the Democrats are doing all they can to deflect attention from the government's role in causing the financial crisis, through encouraging subprime lending and the low interest rate policy of the Federal Reserve, by focusing on the employee compensation at the banks. And in the process, Obama can hand subsidies to his union supporters and people looking to restructure their mortgage obligations.

This is America?

Pay czar Kenneth Feinberg cut salaries before he raised them. If that sounds like one of John Kerry's flip-flops from the 2004 presidential election campaign, it is probably because Feinberg has a job that simply shouldn't exist in America.

Feinberg is responsible for reviewing employee compensation at the largest recipients of government bailout funds.

He announced last week significant reductions in employee compensation for the top 25 employees at seven large TARP and auto bailout recipients, saying: "One of the critical aspects of what I tried to do was to vastly diminish the amount of guaranteed cash salary that would be paid these top officials."

"Guaranteed cash salary" is another phrase for your weekly paycheck. But now we learn that Feinberg increased salaries, while reducing discretionary cash bonuses.

Bonuses are paid based on the employee's individual performance, as well as the success of the company and the groups within the company for whom they work.

Feinberg aslo increased significantly the amount of stock employees are paid and the amount of time they have to hold the stock before it can be sold. While this seemingly ties compensation to the company's performance, the reality is that for most of the effected employees, outside the CEO and perhaps a handful of senior executives, their individual performance has only a modest effect on the company's stock price at these large companies.

So Feinberg, in bowing down to the anti-compensation crowd, has moved away from a pay-for-performance compensation culture through his intervention in the market for employee compensation.

And as bad as this is for the health of the companies in question and the overall economy (note that Feinberg and the Obama administration want this to serve as an example other companies to emulate), it represents another in the long line of outrageous interventions by the government in matters that ought to lie outside the proper scope of government.

The Pay Czar

Citigroup solved a political problem by selling its Phibro commodities-trading business for book value. The problem? Andrew Hall, the star trader at Phibro, is likely to make nearly $100 million this year pursuant to his employment contract with Citigroup that pays him a percentage of Phibro's revenues.

Kenneth Feinberg is the "pay czar", appointed by Barack Obama to evaluate employee compensation at companies the U.S. government has invested in through TARP and the auto bailout. He was planning to produce an embarrassing report to Citigroup on Hall's pay, so the firm decided to avoid a political backlash by selling Phibro.

However, Citigroup gets no value for the business beyond compensation for the net assets of the business, which is the equivalent of liquidating its assets - despite Phibro earning hundreds of millions of dollars a year for Citigroup.

So the U.S. government, through its pay czar, has pressured Citigroup to sell a business for such a low price that Citigroup's value has declined as a result - and the U.S. government is Citigroup's largest shareholder. In effect, the government took money out of its own (and taxpayers) pockets to satisfy political correctness.

And Andrew Hall will continue to earn vast sums, at his new employer.

I hope you "feel" better as a result, because that's all the good that will come from this bizarre outcome.

Would They Rather Banks Lose Money?

After Goldman Sachs recently reported strong quarterly earnings and accordingly accrued higher amounts for year end bonuses, many commentators and politicians on the left became apoplectic. While the complaints varied, the basic gist was: it was wrong for Goldman to pay large bonuses after receiving TARP funds last fall.

First, some firms who took TARP funds did so at the insistence of the Treasury Department, which feared that if just weaker firms took the money, their could be greater instability in the financial system as customers and investors avoided doing business with the weaker firms. Note that when firms like Goldman Sachs and JP Morgan wanted to repay the TARP money this spring, the government initially hesitated.

Such hesitation flies in the face of those who believe TARP funds were a "giveaway" to the banks - if it was such a good deal, why did the banks want to return the money and the government hesitate to take it back?

Second, many claim they want Wall Street compensation practices to change to "pay for performance". Aside from the fact the Wall Street bonus arrangements have always sought to do just that, if a firm makes a lot of money, is it any surprise that it is going to pay higher bonuses?

Third, if Goldman and other firms don't pay higher bonuses when markets turn for the better, they will lose employees to other firms. Such a loss of talent will cause such firms to be less profitable or unprofitable. And if there is anything that we should have learned this past year, if it wasn't obvious before, we are all much better off if businesses make money than lose money - and the more money, the better. Business profit is the driver of economic growth, since it encourages firms to hire more workers, pay greater compensation, and invest in new activities.

And if the left doesn't get that, and many seem not to, they are no friend of prosperity.

Will They (and We) Ever Learn?

Barney Frank, the key Congressman on financial services legislation, is pressing Fannie Mae and Freddie Mac to lower their lending standards for buyers of condos.

This is consistent with Frank's comments during the housing boom, when he said he wanted Fannie / Freddie to "roll the dice" on making mortgage loans.

The first "roll of the dice" was a major contributor to our financial crisis. And now Barney Frank wants to do it again.

Since we, as voters, let him get away with his role in promoting the financial meltdown we have suffered, we ultimately have no one to blame but ourselves.

We Don't Need No Stinkin' Rights

Chrysler's secured creditors who are banks, such as Citigroup and JP Morgan, have agreed to accept the government's proposed settlement of their debt - no doubt in whole or in part due to their status as a "tarped" firm. Since they are under the thumb of the Obama administration, they need to do its bidding.

But not all of Chrysler's secured creditors are TARP firms, and they don't like the deal the government has offerred them.

The deal upends the traditional payouts in bankruptcy, because the unsecured creditors (the UAW retirees) are getting a higher recovery rate on their liabilities than the secured creditor (the banks) under Obama's plan.

In a normal bankruptcy, the opposite occurs. This is pure wealth confiscation by the Obama administration, in support of its political ally the UAW.

The bankruptcy judge has to decide if the identities of these lenders need to be revealed, which is a problem, since some have received death threats.

This is just another obscenity that the economic downturn has led to: creditors who have the right to decide for themselves whether to accept a deal being threatened with death for not doing so. Obama's attack on these creditors as "speculators" further inflames passion on the issue, when all they are doing is representing their investors interests - as their fiduciary duty requires.

Along with the death threats made against AIG employees who received contractually agreed bonuses, this shows the naked hatred that exists in the hearts and minds of some.

If you won't speak out in their defense, don't expect anyone to speak out in your defense.

Catch-22

The recent disclosure that Treasury Secretary Hank Paulson and Federal Reserve Chairman Ben Bernake pressured Bank of America to complete the purchase of Merrill Lynch in December, after learning of $15 billion in additional lossess at Merrill, illustrates the monstrous impact government intervention in the economy has produced.

BoA was excoriated by its shareholders for completing the Merrill deal in the face of such staggering lossess, but we now learn it felt it had to do so in order to satisfy the government.

BoA should have been free to pull out of the deal, or renegotiate its terms to make it more attractive in light of the new losses. Instead, its shareholders have subsidized the losses at Merrill that the government would have borne absent a BoA deal.

Democrats Outsource Jobs

When the Obama administration and Congress approved the "stimulus" bill in February, the plan included new limits on the ability of TARP recipients to hire foreign workers who need H-1B visas.

The idea was to force the tarped firms to hire more American employees.

But the firms had already made numerous offers to hire foreign college and MBA students who attend U.S. schools, and since rescinding offers is both unethical and bad for one's reputation, the firms have come up with a solution.

They are moving the new hires to overseas offices.

Aside from deflating the pursuit of the American dream for such talented people, look at the result: the Democrats are sending high-paying jobs overseas which further erodes our domestic financial services industry. And those employees will now spend their money in foreign economies, rather than providing much-needed business to, and jobs with, American firms.

Nice work by the Democrats in outsourcing all of these jobs.

Atlas Strikes Again

The New York Times reports on the continued exodus of bankers from the "tarped" firms to boutiques, start ups, international firms, and retirement.

The restrictions on compensation and business practices; the threat of retroactive, extortionate taxes; the attacks by politically-motivated attorney generals who are abdicating their responsibility to protect citizens; the demonstrations at executives' homes by Acorn thugs; the death threats; and the fear of mob violence are driving financial services employees to leave the firms that have received TARP money for greener and more pleasant pastures.

The New York Times spins this as a good thing, since it is making big Wall Street firms smaller. But if size is a problem for these firms, it isn't due to the size of the number of investment bankers and traders - it is the size of the balance sheet risks they took which are being reduced regardless of employment levels.

Instead, this exodus of talent will mean that these firms are losing employees who will help them recover and make money - reducing the value of the government's investment in them.

No private investor, as a price for its investment in these firms, would demand such restrictions or punishments. They would want to make sure such people were staying, not leaving.

Nothing illustrates more clearly how divorced from reality the government and the Democrats are than this destructive behavior: the country is up in arms over the bailout for the financial services firms, and their actions and policies increase the likely taxpayer losses.

Outrage

The political and media response to AIG's bonus payments, which appear to be contractually guaranteed, is one of the most outrageous and despicable public acts in recent (and not-so-recent) American history.

Morally, the tax plan is pure wealth confiscation. The 90% excise tax, when combined with state, local, and payroll taxes, is likely to produce a tax rate in excess of 100%. Consider this: during the presidential campaign Barack Obama took umbrage with accusations that his tax policies were a form of socialism, and Joe Biden reacted with disbelief during a TV interview when asked if Obama/Biden's policies were a form of Marxism.

And now the Democratic party wishes to impose taxes that make Obama's tax plans look modest by comparison.

Legally, it is a retroactive tax increase - meaning it is a game of gotcha. There is some debate as to whether it violates the U.S. Constitution's prohibition on Bills of Attainers, which prohibition is designed to prevent the government from imposing specific penalties on specific individuals.

Politically, it represents the rule of the mob. The names of the AIG bonus recipients have been disclosed, which has led to death threats and picketing outside their homes by Acorn "activists".

Is this the activism that Barack Obama cherishes so much?

Worse, the mob may be succeeding in its goals. News reports indicate many of the AIG bonus recipients are returning their bonuses. If you think that is a good thing, consider that now that the mob has won a victory, it will be emboldened for the next issue it seeks to pursue.

Economically, it will reduce the willingness of people to work in the financial sector, particularly TARP firms - making it more likely that the government will lose billions on its TARP investments. The government needs the TARP firms to make lots of money to recoup its investment in them, and the firms need the best talent they can attract and retain to increase profits.

Moreover, the Obama administration introduced today its latest plan to combat the problems confronting the financial sector, after its initial plan a month ago lacked specifics and was poorly received. The new plan entails the government partnering with large investors to purchase assets from banks, with the government providing attractive terms to investors to induce them to participate.

The government will now have to make those terms even more attractive to encourage investors to participate, since the risk of doing business with the government is so high - with the investors having to ask: will they be allowed to keep the profits that they hope to earn from such investments, given the frenzy over the bonuses paid to TARPed firms?

The government will lose far far more money, from further losses on its TARP investments and increased subsidies to investors in the latest bailout plan, then the amount of the AIG bonuses.

And Barack Obama has been AWOL in terms of exerting presidential leadership on the issue. For a man who made his political career by not taking hard stands (witness his huge number of missed votes when he was an Illinois state legislature - if you don't vote, then a constituency who doesn't like your vote can't be upset with you), he now confronts making tough choices.

Yes, he has made tentative comments expressing his concern with the tax plan. But real leadership means speaking out, even if it isn't popular.

The silence is deafening, and disturbing.