I know I keep harping on this particular issue but it's driving me up the wall at the moment, the clowns in Congress keep insisting that the banks increase their lending and/or lend out the TARP money, despite the fact that doing so would put us back at square one:
(From the WSJ): "WASHINGTON -- House Speaker Nancy Pelosi suggested Monday that Congress will force the Treasury Department to do more to help struggling homeowners if the administration seeks access to the second half of its $700 billion financial-rescue fund.
Ms. Pelosi's comments reflect frustrations of lawmakers from both parties who feel Treasury Secretary Henry Paulson has not spent the funds the way Congress intended. Specifically, they say the Troubled Asset Relief Program, or TARP, hasn't been used to directly aid homeowners having trouble paying their mortgages.
"As you will recall, there were no votes to pass this legislation on the Republican side, very few, and it wasn't until we intensified the provisions that related to keeping people in their homes that this legislation even passed," Ms. Pelosi told reporters.
"But it's been totally ignored by this administration," she added. "Absolutely nothing has been done with respect to that part of the legislation."
Rather than spending the money to help struggling homeowners, lawmakers complain, the Treasury Department provided cash infusions to banks, which haven't used it to start lending their funds to businesses and consumers again. As a result, they say, little of the money has trickled down to ordinary homeowners and the expenditures have done little to energize the economy.
Ms. Pelosi's comments suggest the administration faces obstacles if it asks for the remaining $350 billion, which may happen soon. The TARP has become entangled in the push for an automobile industry bailout now that the Bush administration suggested it may dip into the fund to help the Big Three auto companies. Financial markets could be unnerved if the loans to Detroit empty the fund, leaving the administration with little flexibility in case of an unexpected financial problem.
A $14 billion aid package to the auto industry failed on Capitol Hill last week in part because lawmakers were unhappy with how the TARP funds were being spent."
It's a common complaint we hear from Congress, various political pundits and/or read in the media on a daily basis: the Treasury somehow dropped the ball by deciding to take direct stakes in the banks (in the form of preferred shares) instead of buying bad mortgage assets, the banks are not holding up their end of the bargain by increasing lending and both parties have failed struggling homeowners as TARP funds haven't found their way into their hands.
There are multiple problems with that line of thinking:
Our banks are undercapitalized and overleveraged thus making them (in some respects) functionally insolvent; they're also having to deal with rapidly rising lending losses and are operating in a credit environment where it's difficult to raise the capital needed to maintain their current operations. As a result the primary use of any raised capital has to be to recapitalize the bank in question, followed by being used as a hedge against future lending losses, the capital can only be used to fund increased lending if the bank has managed to raise capital in excess of its primary needs.
Needless to say if you look at the balance sheets of many banks, consider their future lending losses, etc, the amounts received by many banks don't exactly qualify as "surplus capital".
Therefore demanding that the banks increase their lending volumes because they've received TARP capital, is functionally equivalent to asking them to make themselves insolvent (again) at the behest of Congress.
Now what sense does that make?
Lending Volume Expectations: the other problem with the lending volume argument is that many people are still looking at based on expectations that were set during the credit bubble, as opposed to considering the financial state of the banks and looking at lending volumes/standards from before the credit bubble.
In other words we've been spoiled with easy credit, and on a go-forward basis lending standards need to be tougher and lending volumes need to be dialed down if we're going to have a stable banking system.
Screaming for the banks to increase their lending volume due to receiving TARP funds is the same as saying: "can you please go back to the same irresponsible behavior that caused this mess in the first place?"
Preferred Shares vs. Buying Toxic Mortgages: I understand the desire to be critical of the Treasury for changing course on this one, but many people are doing it for the wrong reasons. We shouldn't be critical of the Treasury for changing course in of it self as if buying toxic mortgages was a good idea, we should be critical of them for not having gone with strategy of taking direct stakes in the banks via preferred shares in the first place.
Holders of preferred shares receive dividends in exchange for the cash they inject into a company, they're ahead of other debt holders in case of a bankruptcy proceeding and in many cases (as with TARP) owners of preferred shares receive warrants to purchase shares in the company at set price that will (hopefully) be significantly lower than the future share price of the company. In other words injecting cash into the nation's banks in exchange for preferred shares locks the taxpayers into any upside from the bank's recovery.
Doesn't the above sound like a more responsible use of taxpayer money, as opposed to purchasing bad mortgage assets that may or may not ever increase in value?
Helping Homeowners: the final problem with many of the criticisms being levied by Congress towards the Treasury is that regardless of whether you buy bad mortgages, take direct stakes in banks, or if the banks receiving the cash infusions increase lending, is that none of those things are capable of directly helping homeowners. Just think about it: the problem facing struggling homeowners is that they can't afford their mortgages, how exactly does re-capitalizing an undercapitalized bank, and/or buying their bad assets, affect their customer's income, mortgage balances, etc?
While I suppose (perhaps) that Congress was operating under the assumption that Treasury would use pressure the banks it bought mortgages from (or invested in directly) to modify mortgage terms, the fact remains that you can't modify someone out of a mortgage they couldn't afford in the first place. How else do you explain the apparent futility of mortgage modifications as depicted in a government report last week? The fact that 36% of all homeowners receiving mortgage modifications are 30 days (or more) past due after 3-months, suggests that some individuals only made one payment before falling behind again or didn't make any payments at all.
Outside of the indirect assistance for homeowners via the Treasury putting pressure on lenders to modify mortgages, nothing about the program (whether it's buying bad mortgages or buying direct stakes) would've provided direct assistance to homeowners struggling with their mortgages. Unless Congress expected the Treasury to directly subsidize the mortgages of homeowners in trouble, complaining about the lack of homeowner assistance is just fatuous.
In other words many in Congress (on both sides of the aisle) don't fully understand the problems facing the banking industry, didn't understand the potential impacts (on banking, the economy and homeowners) of the TARP program, the difference between buying preferred stakes vs. toxic mortgages, and the reasons why so many homeowners are in trouble.
If these people don't understand the problems the economy is facing, why are we letting them craft any of the solutions?
I'm starting to feel as if we would actually be better off if the government would just sit back and do nothing, as opposed to forcing companies to do engage in the same types of behaviors that caused the crisis, directing resources towards the wrong things , and/or creating solutions to resolve red herrings as opposed to actual problems (or their root causes).
It's not that I'm totally against government intervention in the current crisis, it's that our government is so bloody clueless that many of their efforts are just going to make things worse.
Resolving the crisis calls for our leaders to make smart business decisions even if those decisions are unpopular and/or requires them to tell the public things they don't want to hear, leading us in the wrong direction due to their own ignorance and/or because it's popular is only going to make things worse for all of us.
If all Congress has to offer is leadership that takes us in the wrong direction, we would be better off they would just do nothing at all.
You can read more on the issue here.
Disclosure: at the time of publishing the author didn't own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn't be viewed as financial or investment advice.