Banks That Got TARP $ Reduced Lending

by Dollars and Sense

From Yves Smith at naked capitalism; hat-tip to LP. I just realized that the name of the blog may be a reference to that famous quote from Warren Buffet about how you can't tell who's naked until the tide goes out (or however he phrased it). Is Yves suggesting that all the capitalists are naked? Or the whole system? No arguments here.

Quelle Surprise! Big Banks Who Got TARP Funding Reduced Lending
Monday, January 26, 2009

Before we get to the particulars of tonight's Wall Street Journal story, we need to step back a second.

Just like the war in Iraq, which had a ton of justifications served up by the Bush Administration, none of which added up (and the most obvious one, that the Bushies wanted to control the second biggest oil reserves on the planet, somehow never gets mentioned in polite company in the US), we've also had too many rationales offered for the TARP in its very short life.

The one that has stuck with Congress and in the public's mind is that it was meant to get banks lending again. And the Journal tells us that measured against that benchmark, it hasn't worked.

Like the war in Iraq, it's a given that the stated rationales for the TARP were not the real one. Cynics see it as a plutocratic transfer, son of the grossly inflated outsourcing contracts to Halliburton and friends in the Middle East, a last opportunistic looting of the Treasury (literally, in this case).

But this may instead have been the a recycling of Paulson's bazooka notion. Remember when he asked for and secured authority to increase Fannie's and Freddie's credit lines with the Treasury and buy equity:

If you've got a squirt gun in your pocket, you probably will have to take it out. If you have a bazooka in your pocket and people know it, you probably won't have to take it out.

That, as we now know, proved to be patently untrue, as the markets called the Treasury Secretary's bluff. But Paulson is a very stubborn man and also seems to have remarkably few ideas (his initial plan for the TARP funding was a rejiggered version of his failed "rescue the SIVs" MLEC plan of the previous fall).

Recall also that Paulson is a deal guy out of Goldman. Anyone who has been in the deal business knows that the verbal representations are meaningless, and what counts is what is in the contract, or in his Treasury role, in the legislation. And Congress approved a huge blank check.

Thus I suspect the real rationale behind the TARP was that Paulson would have so much money at his disposal that he could credibly rescue the banking system, and in Bazooka version 2.0, he would not need to use it in a major way (although he would need to be perceived to have ready access to it, hence his protests over having only $350 billion for his immediate use). The existence of the funding capability would (presumably) restore confidence in the banks.

That theory would be consistent with the shifting rationales and plans. Paulson saw this as emergency authority to be used as needed and figured with that much money, he could punch above his weight (recall that $700 billion seemed simply enormous back in October, we've now become inured). But anyone who was up on the work from Bridgewater Associates, or connected the dots from what bank analyst Meredith Whitney was saying, or took Nouriel Roubini seriously (to name just a few) would know that $700 billion wasn't sufficient to plug the leaks the banking system had ALREADY sprung.

But that aside, why should we expect that the TARP would lead to more lending? First, there should be less lending, independent of the economic contraction. We know now that TONS of credit was extended to people who shouldn't have gotten it at all or should have been granted much less than they got. Those balances NEED to shrink, ideally by paying them down, although a fair bit will be via defaults and writedowns.

Second, in case you somehow missed it, the economy stinks. Even among the solvent, far fewer businesses and consumers are keen to borrow than in "normal" times. Thus, as bankers know well, those who want more credit now are likely to have a higher level of adverse selection than you'd see most of the time.

Now offsetting that to a fair degree is that a lot of businesses are dragging out payments, which puts financial stress on their vendors. They could really use more financing now, if you assume that the business itself is viable and the customers won't default on their obligations. But banks aren't set up to do that level of credit investigation. If you fit in the right box on their grid, great, otherwise, you are toast.

That is a long-winded way of saying it's no surprise the banks aren't lending. If their assets were valued realistically, most doubtless need even more equity than the TARP provided. Shrinking their balance sheets is part of their effort to get their equity back to healthy levels (memo to regulators: why isn't there more in the way of formal regulatory forbearance right now? It's standard bank recession practice to let banks officially run with lower equity levels as they try to get themselves back on their feet. It's better to admit banks are undercapitalized and give them a temporary waiver than play blind with balance sheet games than undermine investor confidence).

Read the rest of the post, which is a discussion of the WSJ piece she mentions at the top.

Labels: Henry Paulson, Naked Capitalism, TARP program, Yves Smith

 

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1/26/2009 02:39:00 PM