Bailout: Getting Banks to Bite 2

Pressure from Bank Regulators

Then again, they may not have much choice. The federal government owns significant stakes in most of the big banks, giving Administration officials and key members of Congress a toehold to pressure the banks. And bank regulators hold considerable sway over the assets that banks hold, and sell, even in ordinary times.

Indeed, asked if the FDIC and banking regulators will pressure banks to sell assets under the program, Bair was vague, but suggested they would. "There will be a consultative process with the [banking] supervisors," Bair said, "and yes, this program will be among the tools available" to improve bank finances.

Administration officials said banks may actually be willing to take a hit by selling the assets at a lower price if it lets them clean up their balance sheets and get access to the now-wary capital markets again. "This will make it easier for them to raise private capital," Geithner said.

Plan Praised by Industry Group

That's a point echoed by Scott Talbott, a lobbyist for the Financial Services Roundtable, which represents large financial institutions. The group lauded Monday's proposal. Any losses likely wouldn't be large, Talbott predicted. "This program allows them to strengthen their balance sheet and increase their presence in the lending arena."

Bair's comments on the plan suggested that the Administration fundamentally agrees with banks in the debate over how much the assets are worth. She referred at times to a "liquidity discount" that she said was present in the depressed market prices of the troubled assets. Bair also described "prices that are much, much lower than credit losses would suggest." That has prompted disbelief from some investors, who argue the market prices accurately reflect the assets' values, and say many banks are in fact already insolvent as a result. "It's not a liquidity problem—it's always been a solvency problem," said Bob Eisenbeis, chief monetary economist for Cumberland Advisors.

Critics raised other concerns as well, primarily noting that the government may well end up overpaying for the assets. Private-sector investors will set the selling prices by bidding on pools of assets; that will determine the amount the Treasury invests, and, ultimately, help determine the amount of leverage backed by the Fed or the FDIC.

Transfer of Wealth to Stockholders

But that government-backed lending will lower the risk that the investors face, which in turn will help raise the price that investors are willing to pay for a given set of assets. "It represents a huge transfer of taxpayer wealth from the taxpayers to the shareholders of financial stocks," said Albert "Pete" Kyle, a University of Maryland finance professor.

Others question the small part of the total investment the private sector will provide under the program—as little as 6% for some asset pools. But Geithner stressed that investors stand to lose everything before the government takes a hit.

Investors' "entire capital will be at risk, that's the important thing," he said. "If there's a return over time, which we expect there will be, taxpayers will share in that return."

At the evening conference, Geithner also stressed that the potential risks are far better than the other two alternatives: that either the government do nothing and let the dangerous process of deleveraging continue uninterrupted, or that the government step in on its own. That, he argues, would increasing the likelihood of overpaying for the bad assets.

"All financial crises are ultimately a debate about how much risk the government should take on," he said. To have the government shoulder the risk of cleaning up the banks on its own, he added, "is not healthy for the economy."