In recent testimony before the Senate Banking Committee, Treasury Secretary Hank Paulson rejected the idea of the US government injecting capital into banks and taking preferred stock, suggesting that such an extreme measure would imply that the US banking system had failed.
"Some [say] we should just stick capital in the banks, take preferred stock in the banks. That's what you do when you have failure," Paulson said.
Houston, we have failure: Yesterday, after the markets closed, Paulson announced plans to just stick capital -- $250 billion, to be exact -- into the banks and take preferred stock.
According to the Wall Street Journal, 9 of our biggest banks will receive around half the total injection.
- Citigroup (C): $25 billion
- JPMorgan (JPM): $25 billion
- Bank of America (BAC) and Merrill Lynch (MER): $25 billion
- Wells Fargo (WFC): $20 - 25 billion
- Goldman Sachs (GS): $10 billion
- Morgan Stanley (MS): $10 billion
- State Street Bank (SST): $3 billion
- Bank of New York Mellon (BK): $3 billion
The rest of the $250 billion will be divvied up among smaller, healthier institutions around the country.
Reports indicate that some of the banks balked at the injections, which include restrictions on executive pay and requirements to help struggling homeowners.
Careful not to dilute existing shareholders by buying common equity, Treasury will purchase preferred stock carrying a 5% dividend, that jumps to 9% after five years. This represents a significant discount, however, to the 10% return Mitsubishi Finance (MTU) is earning on its recent $9 billion investment in Morgan Stanley, and Warren Buffett is picking up from his stake in Goldman Sachs.
In conjunction with Treasury's plan, the FDIC announced it will guarantee senior unsecured debt issued by banks, making it easier for them to raise capital in private markets. The FDIC will also insure all non-interest bearing deposits, which are typically held by businesses.
Over the weekend, after Europe announced a quasi-unified front to tackle the financial crisis which has spilled over into markets around the world, Washington said it planned to release details of a “comprehensive” plan to shore up America’s financial system - and by extension the economy as a whole.
Many scoffed at the idea that the government's actions to date -- hundreds of billions in liquidity injections, rescuing AIG (AIG) and Bear Stearns, the bailout package itself, and countless other measures -- didn't constitute a “comprehensive” approach. Today, as financial commentators huff and puff through reams of press releases and sift through details of the myriad new programs, we're coming to understand what a truly “comprehensive” plan entails.
Still, amazingly, bureaucrats don’t get it.
Even this morning, FDIC chairman Sheila Bair -- who by many accounts has performed admirably throughout this crisis -- described our situation as “a liquidity problem.”
Liquidity is just the external manifestation of the true issue: Too much debt. A liquidity crisis is easier to explain (and more politically palatable), because admitting the true problems facing this economy and their implications for our long-term prosperity are a bit too scary to trumpet around on national television.
Professor Depew laid out the details of why this is a debt crisis, not a liquidity crisis, last week:
"Similarly, the issue today is not one of temporary liquidity, time preferences being shortened out of a temporary risk aversion. The issue is too much debt supported by too little real income. As a result, global time preferences are retreating, risk aversion is growing, and access to credit is diminishing."
Until that debt load shrinks -- until American consumers and businesses alike save, repay debt, save again and repay some more -- the merry-go-round of bailouts, capital injections and more bailouts will continue its revolutions.
Unless they’re interrupted by a revolution of another kind.
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