Earlier today, U.S. Treasury Secretary Timothy Geithner introduced and outlined the framework of the new Financial Stability Plan (the “Plan”). Following his speech, Treasury posted a Financial Stability Plan Fact Sheet (the “Fact Sheet”) on a new website specifically created to provide announcements and documents related to the Plan. In his remarks, Secretary Geithner stated that the new Plan would replace the current program and is intended to “repair the financial system, and support the flow of credit necessary for recovery” in addition to creating new standards for transparency and accountability.
The three key initiatives of the Plan highlighted in Secretary Geithner’s speech are the Financial Stability Trust Program (“FSTP”), the Public/Private Investment Fund (“PPIF”) and the Consumer and Business Lending Initiative ("CBLI"). The Secretary also referred briefly to a new Affordably Housing Support and Foreclosure Prevention Plan.
First, the FSTP includes both supervisory and financial support elements. On the supervisory side, banking institutions that may seek additional capital support from Treasury must pass a comprehensive “stress test” to determine whether they have sufficient capital to support lending and to absorb potential losses that could result from a more severe decline in the economy than projected. Treasury, together with other government agencies with authority over U.S. banking institutions will “initiate a more consistent, realistic and forward looking assessment about the risk on balance sheets” by introducing new measures designed to improve transparency and disclosure.
As to additional capital support, the FSTP includes a new program, the Capital Assistance Program (“CAP”), designed to serve as a “capital buffer” and a bridge to increased private investment. Participating institutions “will receive a preferred security investment from Treasury in convertible securities that the institutions can convert into common equity if needed to preserve lending in a worse than expected economic environment.” Convertible preferred securities “will carry a dividend to be specified later and a conversion price set at a modest discount from a prevailing level of the institution’s stock price as of February 9, 2009.” The CAP investments are separate from and in addition to any capital that a banking organization may have received under the existing Capital Purchase Program. Banking institutions with consolidated assets under $100 billion will be eligible to receive capital from the Capital Assistance Program after supervisory review, as well as passing the stress test. Treasury has not identified the total amount available under CAP. Treasury’s investments under CAP will be placed in a new Financial Stability Trust.
Second, the PPIF is a fund that will support sales by banking organizations of troubled assets and thus enable these institutions to “cleanse” their balance sheets. The PPIF will use public financing to “leverage” private capital on a scale up to $1 trillion, but it is intended that the PPIF will start with $500 billion of public and private funding. The scope of the PPIF will depend on the degree of leverage Treasury is willing to tolerate, and this ratio has not been identified.
The mechanics of PPIF investments were not specified, but it appears that the PPIF will not provide anmy direct support to institutions holding troubled assets. Rather, it appears that the PPIF will lend to private entities to fund purchases of troubled assets, although Treasury probably could use the PPIF to provide guarantees, engage in loss-sharing, etc. The terms of the financings have not been identified. These terms will, of course, determine the attractiveness of the program to potential purchasers.
Perhaps the most significant policy decision embedded in the PPIF is that the prices of the assets will be set solely by negotiations between private buyers and bank sellers. Any sales are likely to be at steep discounts, which may create capital challenges for the selling institutions. Indeed, for a banking organization now holding troubled assets, the accounting rules may favor retention of the assets rather than sales at what would be near-liquidation prices.
Third, the CBLI represents a five-fold increase in the size of the Term Asset-Backed Securities Facility (TALF) that was announced by the Federal Reserve in November and revised last Friday, but not yet put in operation. Under the TALF as previously proposed, Treasury and the Federal Reserve would provide up to $200 million of secured, non-recourse financing to holders of certain asset-backed securities, with Treasury seeding the facility with $20 billion of TARP funding and the Federal Reserve providing the remaining $180 billion of funding. According to the Fact Sheet, the new CBLI will perform essentially the same function but with $100 billion in TARP funding from Treasury and $900 billion in funding from the Federal Reserve. According to the Fact Sheet and a press release today from the Federal Reserve, the categories of assets backing securities eligible for the program will be expanded to include commercial mortgage-backed securities and private label residential mortgage-backed securities. Assets collateralized by corporate debt also may be included, but no decision has yet been made. The CBLI will be put in place promptly, but presumably the now fully developed TALF program will go into operation at the end of this month as previously planned. The Federal Reserve released additional guidance on the TALF program on Friday.
Finally, two other initiatives will be forthcoming in the next several weeks. A Housing Support and Foreclosure Prevention program will address various issues in the mortgage lending business, including $50 billion to support loan modifications that are intended to prevent foreclosures. A Small Business and Community Lending Initiative will, among other things, seek to expand the secondary market for small business loans.