The US Treasury Department today rolled out detailed plans for persuading private investors to help rid banks of up to $1 trillion in toxic assets that are seen as a roadblock to economic recovery.
US stocks surged today as the Dow and the S&P 500 posted their best one-day advance in nearly five months following the unveiling of the plan.
Generous government financing will underpin the so-called Public-Private Investment Programme, which Treasury will kick off with $75-$100 billion that comes from its existing $700-billion bailout fund approved by Congress last fall.
The Treasury does not know whether it will need more federal funds to stabilise the US financial system, but it still has "substantial resources" from the $700 billion bailout to launch its asset purchase plan, Treasury Secretary Timothy Geithner said today.
"We will work with the Congress to try to make sure there are enough resources over time to do this right, but the judgment about what is going to be required is a judgment we don't need to make at this time and are not prepared to make at this time," Mr Geithner told reporters during a briefing.
He also said the administration will work with Congress to make sure executive compensation restrictions do not hinder the government's economic recovery efforts.
"We need to balance that basic objective that we not reward failure against the acutely important imperative that we get the financial system doing what it needs to do for recovery," Mr Geithner said.
The US House of Representatives last week passed legislation to to recoup controversial bonuses paid to American International Group (AIG). Public outrage erupted last week at the fact that AIG paid $165 million in bonuses after receiving $180 billion in government aid.
Lawmakers said they are considering further legislation to prohibit bonus payments by companies which have received government bailout funds. Firms receiving bailout funds are already restricted from paying senior executives more than $500,000 in total annual compensation and cannot pay out "golden parachutes" to retiring executives.
Mr Geithner also said asset managers and investors who participate in public-private partnerships to buy distressed assets from banks will not be subjected to new executive compensation restrictions as part of the programme.
Mr Geithner did not rule out the possibility that the administration will have to approach Congress for more bailout funds beyond the $700 billion allocated for the Troubled Asset Relief Program (TARP).
He said the administration will work with Congress to make sure the recovery efforts have the "maximum impact," which he said requires substantial resources.
"The basic lesson of financial crises is that you get recessions that are shorter, they cause less damage, you get lower future deficits, and you solve the crisis at the least cost to the taxpayer if you can move more forcefully earlier," Mr Geithner said.
Senate Majority Leader Harry Reid today backed the plan for buying banks' "toxic assets" to help encourage lending, saying it was based on "sound principle".
Mr Reid said the plan "carries the potential for both risk and reward" like any investment, but he added: "We must act - one risk we will not take is standing on the sidelines and doing nothing while a bad situation gets worse."
Mr Reid, a Democrat, said the key to reviving the US economy lies in unfreezing credit markets to help small businesses and consumers.
The plan is being launched in a volatile environment, with lawmakers still steaming over big bonus payments made to American International Group (AIG) employees when it was getting government handouts. Treasury specified that investors in its latest effort to revive credit markets will not face tough executive pay restrictions.
Initial market reaction to the plan, which had been leaked over the weekend, was favourable and signs pointed to a strong US stock market opening in contrast to the disappointment registered after Treasury Secretary Timothy Geithner offered only a scanty outline of the plan on February 10th.
While Treasury, in company with private investors, will put up initial financing, the Federal Deposit Insurance Corp. will guarantee debt financing issued by the investment funds that will fund asset purchases.
A third component will have the Federal Reserve widen the financing it now provides under its new Term Asset-Backed Securities Loan Facility, or TALF. That $200 billion program, will be bumped up to $1 trillion and will begin accepting older residential mortgage-backed securities that were once rated Triple-A, as well as commercial mortgage-backed securities and asset-backed securities that are Triple-A, as loan collateral.
Treasury is aiming for an early start for the programme. It will initially hire five, and possibly more, investment managers who can demonstrate that they can raise up to $500 million in private funds to buy securities. Bids for those spots are due April 10th, with winners to be notified by May 1st.
Mr Geithner, who already has faced calls for his resignation, faces a high bar in trying to persuade lawmakers, disgruntled taxpayers, and potential investors that his plan can succeed in getting credit flowing again.
Treasury said the FDIC will offer financing at up to a 6-to-1 leverage ratio and Treasury will provide up to 50 per cent of the equity capital that the funds will need to get started.
In a Wall Street Journaleditorial today, Mr Geithner said the government had to step in to clean up the banking sector in order to get normal lending flowing once more.
"Simply hoping for banks to work these assets off over time risks prolonging the crisis in a repeat of the Japanese experience," he said, referring to a decade of economic stagnation in Japan in the 1990s.
Reuters