Feature

Treasury’s bailout gets a midcourse correction

The $700 billion bailout plan approved by Congress in October is getting a major overhaul. Plans to buy troubled bank assets have been scrapped, the terms of AIG's bailout have been revised, and the roster of firms qualifying for help will be exp

What happened

Amid signs that the federal rescue of the financial system is faltering, the Bush administration this week announced a major overhaul of the $700 billion bailout plan approved by Congress in October. Treasury Secretary Henry Paulson told Congress that the Treasury had scrapped its original plan to buy troubled assets from banks. Instead, it will directly inject capital into financial institutions through stock purchases. The administration also revise the terms of its assistance to tottering insurance giant AIG, purchasing $40 billion in company stock, lowering the interest rate on its $60 billion loan, and extending its term. And in what the Treasury said was a “one-time exception,” the U.S. will also buy $52.5 billion of toxic assets held by AIG.

With a broad array of non-financial companies clamoring for federal aid, Paulson said the Treasury would expand the roster of qualifying firms to include other insurers and specialty-finance companies, such as automobile lenders. “Both banks and non-banks may well need more capital,” Paulson said. Credit card giant American Express said it would reorganize as a bank holding company in order to qualify for low-interest, long-term loans from the Federal Reserve. What the editorials saidIt’s all too easy to “second-guess” the Bush administration’s bank-rescue efforts, said The Washington Post. Yes, the government can do more to get banks to start lending again. But congressional Democrats and other critics should remember that the rescue program is, by necessity, “an improvised approach to a financial panic.” There will be missteps and false starts. But Congress should give the plan a chance to work before pronouncing it a failure.

Waiting for proof of failure is a big risk to take, said The New York Times. Treasury’s response to the crisis has been ineffective because it doesn’t address the millions of home foreclosures that are at the root of this crisis. “The system won’t stabilize until housing prices stabilize, and banks won’t lend freely until losses on defaulting mortgages abate.” In some regions of the country, the Federal Deposit Insurance Corp. has slowed foreclosures by persuading banks to cut mortgage interest rates and lengthen loan maturities. It would take about $40 billion to extend this program nationwide. Compared to the bailout’s $700 billion price tag, that looks like a bargain.

What the columnists saidHow much more bailout can the U.S. afford? asked Linda Bilmes in The Boston Globe. The national debt stands at a record $10.6 trillion, and with Congress now drafting yet another economic stimulus package, “more borrowing is on the way.” But the rest of the world may be tiring of taking our IOUs. “If the world’s appetite for U.S. Treasury bonds begins to wane,” painful spending cuts and tax hikes will be unavoidable.

Unfortunately, the federal government has no choice but to intervene more aggressively in the economy, said William Pesek in Bloomberg.com. Paulson earlier tried the “peashooter” approach, hoping new federal guarantees would spur the economy. But the stock market “is still sliding, U.S. consumers are worried, and world leaders are biting their nails.” Paulson was right to shift toward direct injections of capital. But with the crisis spreading faster than Washington can contain it, it’s far from clear that even this “bazooka” can stave off catastrophe.

It certainly can’t if the U.S. keeps handing out money to greedy “scavengers,” said financial strategist Barry Ritholtz in TheBigPicture.com. Paulson should know that “enormous amounts of taxpayer cash attract all manner of unsavory, undeserving characters.” Lobbyists for everyone from building contractors to boat financing companies are besieging Washington for a piece of the pie. “Never before has so much money been spent with so little oversight, controls, or transparency.”

What next?Struggling mortgage guarantor Fannie Mae is likely next in line to renegotiate its bailout, said Zachary Goldfarb in The Washington Post. The firm this week reported a staggering $29 billion loss for the quarter ended Sept. 30, and Fannie Mae CEO Herbert Allison said it might need $100 billion more from the Treasury. Without additional aid, Allison warned, “the mission it was given by the government, to help revive the mortgage market, could be compromised.”

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