On the way: A bigger, broader bailout

By Jim Jubak

Ready or not, here it comes: Bailout II.

With Bailout I, which culminated in then-Treasury Secretary Henry Paulson's now-infamous three-page, $700 billion Troubled Asset Relief Program, clearly unable to stabilize a reeling financial system, new Treasury chief Timothy Geithner has put together Bailout II.

The first stage of that will be spending the remaining $350 billion from Paulson's plan, but it won't stop there. More funds will be needed, although no one really wants to say so now.

The details await a formal announcement and the compromises of congressional lawmaking, but the broad scope is clear.

Bailout II will be bigger. It will:

• Create a "bad bank" to own the worst of the so-called toxic assets now burning through bank balance sheets.

• Guarantee hundreds of billions more in shaky assets that banks decide to keep in their vaults.

• Help to prevent foreclosures and to reduce unsustainably large mortgage payments.

• Require more limits on CEO pay and bonuses, more visibility into how banks use taxpayer money and more disclosure of who lobbied whom to get billions for specific banks.

The one big thing we won't know, even after the last vote is cast, is whether Bailout II will work. It will embody the best thinking available on how to fix this mess, but this crisis has so far confounded the experts.

• Talk back: Do you think the bailouts can work?

Nobody can say the Obama administration hasn't hit the ground running. Even as senators were grilling Geithner in confirmation hearings over why he didn't pay the correct taxes from 2001 to 2004, the administration was laying the groundwork to win congressional and public approval for the new plan.

What? No new jet?

The White House very publicly slapped Citigroup (C, news, msgs) for the company's plan to spend $50 million on a new corporate jet just days after taxpayers ponied up $45 billion to save the bank's behind. Forcing Citigroup to give up its jet scored points with a public that is rightly skeptical about the way that Washington has doled out cash without so much as asking how the banks intended to use it.

The Obama administration should send a thank-you note to John Thain and the folks at Merrill Lynch and Bank of America (BAC, news, msgs) for creating a public fight over the size of the bonuses passed out by Merrill just before it announced a $15 billion loss for the fourth quarter. It's the equivalent of putting a sign that says "kick me" on your back. Politicians haven't been slow to take up the invitation.

In other ways, too, the administration has sought to put distance between Bailout I and Bailout II, even when the latter was no more than a gleam in pundits' eyes. The administration will require the Treasury to keep a log of all meetings and individuals who seek to influence which banks get how much, and it'll post that log on the Internet.

Finally, help for homeowners

But perhaps the most important political move has been the Obama administration's clear call to include relief for homeowners facing foreclosure in Bailout II. The Bush administration had been stubborn in its refusal to include help for stretched homeowners in any bank bailout. That stance faced increasing opposition from Congress and from a public now loudly asking, "Where's my bailout?" By including foreclosure and mortgage payment relief in Bailout II, the Geithner Treasury hopes to get out in front of this issue before it derails any new rescue effort.

So what else is Bailout II likely to include?

A bad bank or banks. This revisits a key concept of Bailout I as first proposed by Paulson -- one that was never enacted even though it was the basis of the plan that Congress thought it had passed. The government would buy up the toxic assets now clogging bank balance sheets and put them on the balance sheet of one big, government-established bad bank (or two).

That would remove one of the major impediments preventing banks from raising private capital: No one wants to put money into a Citigroup because no one knows how many more billions of dollars in losses the bank might face from the toxic assets in its portfolio. No one knows what these assets are worth because the markets that normally value them are either shut down tight by fear or aren't providing prices that anyone believes.

Capital injection rejection

Paulson's Bailout I proposed that the government buy these assets, which was why it was called the Troubled Asset Relief Program. But when push came to shove, the Treasury abandoned the idea in favor of injecting capital directly into banks -- and insurance companies and credit card companies and the financing arms of car companies and . . .

Why the retreat before the idea even got a trial? These assets are so toxic to banks because no one knows what they're worth, so how would the Treasury decide what to pay for them? Pay too much -- 60 cents on the dollar, say, for assets that turn out to be worth just 40 cents -- and taxpayers take a bath. Pay too little -- 20 cents on the dollar for assets that turn out to be worth 40 cents -- and banks get taken to the cleaners.

Continued: Bank resistance killed the idea

 1 | 2 | 3 | next >