An Improved Plan By Paulson

Nov 12, Paulson on TARP priorities going forward: "First, Although the financial system has stabilized, both banks and non-banks may well need more capital given their troubled asset holdings, projections for continued high rates of foreclosures and stagnant U.S. and world economic conditions. Second, the important markets for securitizing credit outside of the banking system also need support. Approximately 40 percent of U.S. consumer credit is provided through securitization of credit card receivables, auto loans and student loans and similar products. This market, which is vital for lending and growth, has for all practical purposes ground to a halt. Third, we continue to explore ways to reduce the risk of foreclosure. " Treasury Secretary Henry Paulson said Wednesday the $700 billion government rescue program will not be used to purchase troubled assets as originally planned. (Finally, some sensibility because buying the troubled assets will not help. If you buy at the market prices, it just means the banks will have to write down the losses with no hope of recouping them. This does not help shore up capital, which is what they need. To shore up capital the Treasury will have to buy them at a premium, which is no good also as it will lock the government into owning toxic assets, or the taxpayers actually owning them at a premium, whereby they could end up with huge losses.)

Paulson said the administration will continue to use $250 billion of the program to purchase stock in banks as a way to bolster their balance sheets and encourage them to resume more normal lending. (That is a more sensible way. By owning stocks and maybe even sit on management committees of banks, they can hasten the lending part.)

He announced a new goal for the program to support financial markets, which supply consumer credit in such areas as credit card debt, auto loans and student loans. Paulson said that 40 percent of U.S. consumer credit is provided through selling securities that are backed by pools of auto loans and other such debt. He said these markets need support. "This market, which is vital for lending and growth, has for all practical purposes ground to a halt," Paulson said.

The administration decided that using billions of dollars to buy troubled assets of financial institutions at the current time was "not the most effective way" to use the $700 billion bailout package, he said.

The announcement marked a major shift for the administration which had talked only about purchasing troubled assets as it lobbied Congress to pass the massive bailout bill.

Paulson said the administration is exploring other options, including injecting more capital into banks on a matching basis, in which government funds would be supplied to banks that were able to raise capital on their own. (This is smart. By voicing this out, it would theorectically DOUBLE the amount of capital injection, putting some onus on the banks to look for funding elsewhere as well. Instead of just $500bn of capital, suddenly it becomes $1 trillion. If banks are desperate, they will act fast. The source of capital will have to be largely from sovereign wealth funds. The fact that its on a matching basis should be an easier pill to swallow with the Treasury riding alongside them.)

p/s photos: Nozomi Sasaki