A Fighting Chance (54 page)

See also COP report, “Examining the Consequences of Mortgage Irregularities for Financial Stability and Foreclosure Mitigation,” November 16, 2010. See also COP report “Foreclosure Crisis: Working Toward a Solution,” March 6, 2009. See also COP report “Evaluating Progress on TARP Foreclosure Mitigation Programs,” April 14, 2010.

COP found that banks cut their lending to small businesses by more than 9 percent between 2008 and 2009, prompting many businesses to close their doors entirely. “Unable to find credit, many small businesses have had to shut their doors, and some of the survivors are still struggling to find adequate financing … it is not clear that [Treasury’s] programs [to boost small business lending] have had a noticeable effect on small business credit availability.” COP also criticized Treasury for failing “to target the smaller financial institutions that often serve small businesses.” COP report, May 2010, 2.

Reports vary:
Neil Barofsky, Special Inspector General of TARP, noted: “TARP has become a program in which taxpayers are not being told what most of the TARP recipients are doing with the money, have still not been told how much their substantial investments are worth, and will not be told the full details of how their money is being invested.” Brady Dennis, “Lawmakers Rebuke Treasury Department Over TARP Spending,”
Washington Post
, July 21, 2009. One regional bank executive said to the press: “Make more loans? We’re not going to change our business model or our credit policies to accommodate the needs of the public sector as they see it to have us make more loans.… We see TARP as an insurance policy. That when all this stuff is finally over, no matter how bad it gets, we’re going to be one of the remaining banks.” Another regional bank executive said the Treasury money “really doesn’t change our perspective about doing things.… Adding $400 million in capital gives us a chance to really have a totally fortressed balance sheet in case things get a lot worse than we think. And if they don’t, we may end up just paying it back a little bit earlier.” Mike McIntire, “Bailout Is a Windfall to Banks, if Not to Borrowers,”
New York Times
, January 17, 2009.

or make other acquisitions:
In the initial days of the bailout, Secretary Paulson urged TARP recipients to lend the new money out. But at the same time, he noted that “some banks may use the capital they receive through the Treasury program to buy weaker banks and that this could benefit the financial system.” Luke Mullins, “Bailout Merger No. 1: PNC and National City,”
US News and World Report,
October 24, 2008. By January 2009, at least seven banks that had received TARP money had since bought other companies. Mike McIntire, “Bailout Is a Windfall to Banks.”

got even more aggressive in their efforts to foreclose on home mortgages:
“One reason foreclosures are so rampant is that banks and their advocates in Washington have delayed, diluted, and obstructed attempts to address the problem. Industry lobbyists are still at it today, working overtime to whittle down legislation backed by President Obama that would give bankruptcy courts the authority to shrink mortgage debt.” Brian Grow, Keith Epstein, and Robert Berner, “How Banks Are Worsening the Foreclosure Crisis,”
Bloomberg Businessweek
, February 11, 2009. See also Don Lee, “Home Foreclosures Expected to Surge in Coming Months: Moratoriums from Banks, Government to Expire, Setting Off New Wave of Default Actions,”
Chicago Tribune
, July 6, 2009.

many more were drowning:
By April 2009, forty-seven small and medium-sized banks had already failed. “Tracking the Nation’s Bank Failures,”
Wall Street Journal
(last update June 17, 2011) at
http://graphicsweb.wsj.com/documents/Failed-US-Banks.html
. The number would grow substantially.

small business customers went down, too:
According to the Business Journals of US Census Bureau data, more than 170,000 small businesses closed in the United States between 2008 and 2010. See Bonnie Kavoussi, “Recession Killed 170,000 Small Businesses Between 2008 and 2010: Report,”
Huffington Post,
July 25, 2012.

stress test remained top secret:
The COP report, “Stress Testing and Shoring Up Bank Capital,” June 9, 2009, notes that COP had engaged two internationally renowned experts in risk analysis, Professor Eric Talley and Professor Johan Walden, to review the stress test methodology.

These experts “noted that there remain unanswered questions about the details of the stress tests. Without this information, it is not possible for anyone to replicate the tests to determine how robust they are or to vary the assumptions to see whether different projections might yield very different results. There are key questions surrounding how the calculations were tailored for each institution and questions about the quality of the self-reported data.” Also, “The Panel recommends that the Federal Reserve Board release more information on the results of the tests, including results under the baseline scenario” (2–3).

risk for insolvency:
On
Charlie Rose,
Secretary Geithner said, “I think the results will be, on balance, reassuring. None of these 19 banks are at risk for insolvency.” See Jim Puzzanghera and E. Scott Reckard, “Big Banks’ ‘Stress Test’ Results to Be Reassuring, Geithner Says,”
Los Angeles Times
, May 7, 2009. Note that the results of the stress tests revealed that ten out of nineteen banks tested needed to raise a total of $74.6 billion in new capital. David Ellis, “Stress Tests: Banks Need $75 Billion,”
CNNMoney
, May 8, 2009. Many have excoriated the “stress tests.” As one commentator put it, the tests were “about as intimidating as a 1040-EZ tax form.” Frank Partnoy, “Geithner’s Stress Test Sham,”
Daily Beast
, May 7, 2009.

give the taxpayers their bonus:
Senator Jack Reed was a vocal advocate for the view that the taxpayers would be taking a huge risk that one or more of the banks might fail and leave the government stuck with the bill. He argued that if TARP worked, it wasn’t enough for the banks to pay back the TARP money; taxpayers should be compensated for the risk they had assumed. The warrants were an important component of that and he insisted that TARP include a provision for warrants. See Senator Reed’s statement, “Floor Statement on TARP Warrants,” May 5, 2009,
http://www.reed.senate.gov/news/speech/floor-statement-on-tarp-warrants

value that Treasury was entitled to:
With the support of three renowned finance experts, Professor Robert Merton, Professor Daniel Bergstresser, and Professor Victoria Ivashina, COP—along with the Special Inspector General of TARP, Neil Barofsky—set out to determine how much the warrants were actually worth. In terms of methodology, COP adopted a modified version of the Black-Scholes method for valuing warrants to account for dilution and dividend yield. COP did not apply a liquidity discount to this valuation. Using different stock price volatility scenarios, COP generated high, low, and best estimates for the value of the warrants Treasury held on July 6, 2009. COP also estimated the value of the warrants Treasury had already sold using the same Black-Scholes method, except that the relevant date was changed to the date of the sale to enable comparison. The experts independently ratified the technical valuation model and its underlying assumptions. For more information on the methodology used for this analysis, see Annex A of the July 10, 2009, COP report.

COP ultimately found that eleven small banks had repurchased their warrants from Treasury for about 66 percent of their best-estimated value. COP report, 2. In other words, Treasury failed to maximize return to the taxpayers by selling warrants to banks at below-market value. See “TARP Repayments, Including the Repurchase of Stock Warrants,” COP report, July 10, 2009.

$8.6 billion back in taxpayers’ pockets:
In the final COP report, March 16, 2011, COP reported: “Due in part to pressure generated by the Panel’s work, Treasury changed its approach, and subsequent sales recovered 103 cents on the dollar, contributing to $8.6 billion in returns.”

Several articles reported that Goldman Sachs initially offered the government around $400 million to $600 million to repurchase its stock warrants. See “Chump Change from Goldman?” DealBook (blog),
New York Times,
July 23, 2009. Shortly after the COP report, Goldman doubled its offer for TARP warrants to $1.1 billion, representing an improvement of $500 million to $700 million for the taxpayer. This offer was considered “the best deal taxpayers ha[d] got to date.” Kristin Wong, “Goldman Buys Back TARP Warrants for $1.1 Billion,” ABC News, July 22, 2009.

COP was not the only force trying to get a better return for the taxpayer: members of Congress also clamored for greater transparency in Treasury negotiations and greater attention to the interests of the taxpayer. For example, US Representative Mary Jo Kilroy introduced a bill on July 16, 2009, that “would force TARP warrants to be sold in the open market rather than settled through private negotiations.” Colin Barr, “Goldman ‘Warrants’ Raves from Congress,”
CNNMoney,
July 22, 2009.

lost it all when the music stopped:
In the wake of the financial crisis, many people blamed American consumers and government homeownership policies for the financial crisis. For example, on its top 25 list of “people to blame” for the financial crisis,
Time
magazine listed “American consumers” as one of the key figures because Americans have “enjoyed living beyond [their] means” for decades without regard for when it would end. “25 People to Blame for the Financial Crisis,” Time Lists, at
http://content.time.com/time/specials/packages/completelist/0,29569,1877351,00.html
. Along similar lines, some people have claimed that the financial crisis resulted from the Community Reinvestment Act and other government policies aimed at expanding homeownership. For example, Charles Krauthammer said these policies were “at the root of [the financial crisis],” as he relegated the role of lenders and banks in the financial crisis: “Were there some predatory lenders? Of course. But only a fool or a demagogue … would suggest that this is a major part of the problem.” Charles Krauthammer, “Catharsis, then Common Sense,” op-ed
Washington Post
, September 26, 2008. Similarly, “We hear a lot of blaming of the creditor, but it’s almost like we’re afraid to blame the consumer.… I would challenge really somebody find me somebody that a gun was held to their head to sign the documentation. It’s like we’re afraid to really admit that these folks went beyond their means.” Leslie Linfield quoted in Sara Murray, “Q&A: What the ‘Middle-Class’ Recession Means for Bankruptcies,” Real Time Economics (blog),
Wall Street Journal
, October 23, 2009. I have disputed this line of thinking more directly in the text, but it is worth noting that a great deal of evidence debunks the claim that affordable housing policies caused the crisis. For example: “While it is unquestionable that Fannie Mae and Freddie Mac held substantial amounts of subprime mortgages, and that their holdings of these securities played a significant role in their demise, the evidence in this paper refutes the claim that the affordable housing mandates were responsible for the subprime crisis.” Rubén Hernández-Murillo, Andra C. Ghent, and Michael T. Owyang, “Did Affordable Housing Legislation Contribute to the Subprime Securities Boom?,” Federal Reserve Bank of St. Louis, August 2012, 36. “… We find little evidence to support the view that either the CRA or the GSE goals caused excessive or less prudent lending than otherwise would have taken place.… In fact, the evidence suggests that loan outcomes may have been marginally better in tracts that were served by more CRA-covered lenders than in similar tracts where CRA-covered institutions had less of a footprint. Loan purchases by CRA-covered lenders also do not appear to have been associated with riskier lending.” Robert B. Avery and Kenneth P. Brevoort, “The Subprime Crisis: Is Government Housing Policy to Blame?,” Division of Research and Statistics Board of Governors of the Federal Reserve System, August 3, 2011.

too few people to make any real difference:
“When viewed in light of the millions of foreclosure completions since 2007 and the large number waiting in the pipeline due to continued hardships from high unemployment rates and lower home values, HAMP has failed to make a significant dent in the number of foreclosures and does not appear likely to do so in the future.” COP report, December 2010, 133. In addition to criticizing Treasury for failing to reach the vast majority of homeowners with its foreclosure mitigation efforts, COP also expressed concern that the relief offered was only temporary. COP condemned “the timeliness of Treasury’s response to the foreclosure crisis, the sustainability of mortgage modifications, and the accountability of Treasury’s foreclosure programs.” COP report, April 2010. COP believed more of Treasury’s efforts should have been channeled toward “dealing with the crisis directly by addressing home mortgage foreclosures,” particularly in view of the relationship among housing, unemployment, and long-term economic growth. COP report, March 2009, 5; see also note,
“
actual policies were anemic
.”