TOPICS > Economy

Paulson Shifts Economic Rescue Plan to Focus on Boosting Credit

November 12, 2008 at 6:20 PM EDT
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Economists discuss Treasury Secretary Henry Paulson's announcement Wednesday that the government will shift its focus from buying troubled assets to shoring up institutions that manage credit cards, auto loans and other types of borrowing.

RAY SUAREZ: Next, the government shifts the focus of its bailout plan, again. Jeffrey Brown has the story.

JEFFREY BROWN: At his news conference this morning, Treasury Secretary Henry Paulson acknowledged what had grown increasingly clear to observers: that the original plans for the $700 billion rescue package had been scrapped.

HENRY PAULSON, U.S. Treasury Secretary: It was clear to me, by the time the bill was signed on October 3rd, that we needed to act quickly and forcefully, and that purchasing troubled assets — our initial focus — would take time to implement and would not be sufficient given the severity of the problem.

In consultation with the Federal Reserve, I determined that the most timely, effective step to improve credit market conditions was to strengthen bank balance sheets quickly through direct purchases of equity in banks.

JEFFREY BROWN: The plan — known as the Troubled Asset Relief Program, or TARP — allowed Paulson to use half the money at his discretion immediately. Of that initial $350 billion, $290 billion has already been committed as capital for banks and other financial institutions.

Paulson said that part of the remaining funds would now be used to help troubled companies that are providing consumer credit.

HENRY PAULSON: Approximately 40 percent of U.S. consumer credit is provided through securitization of credit card receivables, auto loans, and student loans, and similar products. This market, which is vital for lending and growths, has for all practical purposes ground to a halt.

JEFFREY BROWN: Paulson also said he was considering an approach by which some firms seeking future government aid would need to raise matching capital from private sources.

A reporter asked the treasury secretary when he would request the remainder of the bailout money from Congress and if he thought the $700 billion was enough.

HENRY PAULSON: Well, first of all, I have no timeline for going to Congress to ask for the drawdown of the second $350 billion. We’re working to continue to design, develop programs that could be used. And when it’s the right time to use them, we will roll them out.

And if it then makes sense to go to Congress, we will go to Congress and ask for the drawdown of the second $350 billion. And, as you know, that’s the process that Congress laid out for us.

In terms of the $700 billion size, I still am comfortable that with $700 billion we have what we need.

JEFFREY BROWN: Paulson was also pressed on the shifting focus of the plan and asked whether he had misled Congress.

HENRY PAULSON: What we said to Congress was we needed a financial rescue package because the credit markets were stopped up. And we were focused on the problem.

And when we went to Congress, the illiquid assets looked like the way to go. As the situation worsened, the facts changed.

The thing I’m grateful for is we were prescient enough and Congress was that we got a wide array of authorities and tools under this legislation. And I will never apologize for changing an approach or a strategy when the facts change.

Focus on 'non-bank' capital

Krishna Guha
Financial Times
... what Secretary Paulson said today was that his initial idea to buy assets with these funds was already looking insufficient by the time Congress passed the bill into law. That was two weeks after he originally proposed it.

JEFFREY BROWN: Paulson suggested that the original rescue money should not be used to help automakers stave off bankruptcy. He called instead for modifying legislation passed this fall, which included funds to help the industry retool its factories.

And for a look at this latest twist, we turn to Krishna Guha, U.S. economics editor of the Financial Times; Alice Rivlin, a senior fellow at the Brookings Institution and former vice chair of the Federal Reserve Board; and Allan Meltzer, professor of political economy and public policy at Carnegie Mellon University and a visiting scholar at the American Enterprise Institute.

Well, Krishna Guha, we just heard Secretary Paulson say that, by the time the bill was signed in early October, it was clear that the troubled asset approach wouldn't be sufficient. But when and why did it fall off the table all together?

KRISHNA GUHA, Financial Times: Well, what Secretary Paulson said today was that his initial idea to buy assets with these funds was already looking insufficient by the time Congress passed the bill into law. That was two weeks after he originally proposed it.

He said that's why he went out straight away and said some of the money was going to be used to recapitalize banks.

What's happened since then is that, as they got further and further into the business of recapitalizing financial institutions, they realized that this is where they get the most bang for their buck.

And as this has gone on, the idea of putting aside some of the remaining money to by assets has become less and less plausible.

Paulson won't say exactly when he made up his mind that there was not going to be any asset purchases, but it appears that that came relatively quickly. And that's -- relatively recently, rather. And that's why he says that he wasn't at any point misleading the markets or the Congress.

JEFFREY BROWN: Alice Rivlin, what do you make of today's shift? Is it a smart move?

ALICE RIVLIN, Public Policy Institute, Georgetown University: I think it's a smart move. Buying the distressed assets was never a very good idea, because if you're buying something, it has to have a price.

And if they were going to buy it at market price, that wasn't going to help very much. It was going to mean that a lot of institutions were holding assets that weren't worth very much.

And if they were going to buy it above market price, then that was a kind of subsidy to the banks in a rather random way. And it was much smarter, if you're going to put in capital to the banks, to do it directly. So I think they came out right in the end.

JEFFREY BROWN: In the end.

Allan Meltzer, our regular viewers will remember that you were skeptical about all of this from the start. So what do you think now?

ALLAN MELTZER, Carnegie Mellon University: Well, as I said at the time, he didn't have a plan, he couldn't explain how it was going to work or why it would work or how it would help us. And so it's good news that he's given up that program.

He hasn't yet gotten to where I think he has to go. We have not a mortgage problem, but a housing problem. The fundamental problem is housing. He has to get to the housing problem, not the problem of default of mortgages, the problem of an excess supply of housing.

And what he needs to do, in my opinion, is he needs to expand demand for housing by saying to people, look, if you buy a house now and make a down payment between now and the end of next year, we'll give you a tax credit.

That will remove the stock of excess housing and, as a result, it will prevent part of the fall or all of the fall, the future fall expected in mortgages and housing prices, and get us back to something closer to normalcy.

Rescue plan likely to shift again

Alan Meltzer
Carnegie Mellon University
I believe that what Secretary Paulson most needs to do is to come up with a viable plan that's going to get us out of this problem. I don't think he's done that yet.

JEFFREY BROWN: What about -- let me stay with you, Allan Meltzer -- what about another part of the announcement today, which was that investments would now go to institutions that tied other institutions tied to consumer credit, so that credit card companies, auto companies, auto loans, student loans, what are the pros and cons of expanding in that direction?

ALLAN MELTZER: I'm not strong for spreading further and further the amount of people we put in the safety net. I believe that what Secretary Paulson most needs to do is to come up with a viable plan that's going to get us out of this problem. I don't think he's done that yet.

He moves from banks to money market funds, to commercial paper markets, and so on down the line, but he doesn't seem to have a coherent plan, and I believe that's why the marketplace is very reluctant to believe that he has a program that's going to get them relief.

JEFFREY BROWN: All right, Alice Rivlin, what do you think of this kind of expansion to other kinds of financial institutions?

ALICE RIVLIN: I think it's OK. And the reason is that the primary objective here is to get credit flowing again to credit-worthy borrowers.

Now, some of that is the business of the banks; some of it's not. People would like to buy cars, some people, not enough people. Some people would like to buy cars.

And the cars are there, ready to be bought, but they can't get a car loan. And they have perfectly good credit. Now, that's a problem which needs to be fixed.

JEFFREY BROWN: Now, Krishna, what about -- you've been reporting on Treasury throughout this period. What about some of the things we've just heard? Allan Meltzer is talking about kind of lurching from issue to issue, crisis to crisis. What does your reporting suggest about how the decision-making process has worked at Treasury?

KRISHNA GUHA: Well, they clearly haven't got everything right first time, but it might be unrealistic to suppose they could possibly have done so. I mean, being realistic, this is a crisis that is unlike anything anyone has seen, really ever, but certainly in many decades.

And furthermore, in the last couple of months in particular, events have moved so quickly that policymakers have had to lurch from one improvised solution to the next, starting off with company-specific measures, like, for instance, the various efforts to stabilize AIG, the insurance group, then moving to this $700 billion TARP plan, the initial idea buy the assets, rethinking maybe it's better to inject capital instead.

I think what we have seen is that the administration and the Fed are flexible enough to rethink and to adapt their policies in the light of what seems to be working and what isn't. And that's probably all for the good.

Housing market still key

Alice Rivlin
Georgetown University
... the international cooperation has been extraordinary, both from the central banks and from the treasuries, finance ministries, whatever they're called. So this is not a bad story in terms of process.

JEFFREY BROWN: Well, Allan Meltzer, you don't buy that, though?

ALLAN MELTZER: Well, first of all, when I use my credit card or you use your credit card, that's what determines the credit card business. That isn't something that the bank decides. It's something -- you have a line of credit, you can use it as you choose. So I don't see exactly where that problem comes from.

But I go back to what I think is the fundamental problem. The fundamental problem is in the housing market. We can't improve the housing market by improving the mortgage market, but we can improve the mortgage market by fixing the housing market.

So that's where we need to concentrate. We need to increase the demand for housing, and we need to get people back to work. And one of the industries which is on its back is the housing industry.

If we clean up the excess supply of housing, we'll eventually get to the point where people will start to build more houses, and that's a good thing.

JEFFREY BROWN: All right. Well, we've talked a lot about housing on the program over the last few weeks and months. But you can weigh in on that if you want, but I want you to weigh in on the process, how the -- this question of lurching from one thing to another or how the decision-making process has worked.

ALICE RIVLIN: Oh, there's been a lot of lurching, but this was a whole new ballgame. Nobody knew how to handle this crisis. And I think, in general, they've done pretty well.

The Congress cooperated. It was the Congress that put the injection of capital into the bill; it wasn't in the original Paulson plan. That was helpful.

And the international cooperation has been extraordinary, both from the central banks and from the treasuries, finance ministries, whatever they're called. So this is not a bad story in terms of process.

JEFFREY BROWN: But what about all those troubled assets? They're still out there, right?

ALICE RIVLIN: They're still...

JEFFREY BROWN: Doesn't something have to be done with them? That's what we were told at the beginning of October that led to all this.

ALICE RIVLIN: Eventually they'll get sold, but holding on to them is not such a terrible thing. I don't think the government has to rush in and buy them. They will have some value in the end.

And Allan Meltzer is right. The important thing, I think, is the housing market, but not just houses. It is also the problem that there are people who are facing foreclosure because they can't pay on their mortgage. And we need to keep as many of them in their houses as possible, if they can pay on a reduced mortgage.

JEFFREY BROWN: Now, Krishna Guha, we heard in that clip from Secretary Paulson today where he talked about -- saying he wasn't sure when he might draw down the second half of the $700 billion, but he was fairly sure that $700 billion would be enough.

Now, do you have any intelligence on thinking inside of Treasury at this point as to the reality of that position or what other alternative plans they might be making?

KRISHNA GUHA: Well, Hank made it quite clear today that he thought there should be a little pause before we have a second round of recapitalizations that maybe involves this new idea of matching funds, so, you know, you raise a dollar from the private sector and you get a dollar from the government, and the idea that this scheme might be open to non-bank financial companies.

He said it would be good just to wait a little while, see how the first round of capital injections works, see what's got right in terms of the terms and conditions, what maybe should be changed or improved.

That all suggests that he's not eager to grab the next batch of money very quickly and might even be prepared to let his successor as treasury secretary actually do that instead.

More foreclosures likely

Alan Meltzer
Carnegie Mellon University
Mortgages are being sold every day. One of the reasons Henry Paulson can't buy those mortgages is because if we bought them at the market price that is currently being used, he'd bankrupt all the sellers.

JEFFREY BROWN: And, Allan Meltzer, what does your crystal ball tell you at this point about the amount of the bailout or where it's going to go?

ALLAN MELTZER: Well, I'd like to go back to your main question. I agree with Alice, of course, that there's a problem with defaults and people losing their houses, and that's not a pleasant thing to contemplate.

But there's also a number of people who will lose their houses if housing prices continue to fall at the rate that is now projected or higher. That's why we need to do something first and foremost in the housing market.

As far as the assets, the bad assets of the bank, let me just say that those assets are being sold every day. Mortgages are being sold every day. One of the reasons Henry Paulson can't buy those mortgages is because if we bought them at the market price that is currently being used, he'd bankrupt all the sellers.

So they don't want to sell them if they don't have to, and they're pretty reluctant to fully mark them to market as they might. That's a problem, and that problem won't straighten out until we straighten out the economy and make demand for those assets go up.

That's where Secretary Paulson doesn't have a plan, as far as I can see.

JEFFREY BROWN: Do you want to make a quick prediction on the future size of the bailout?


JEFFREY BROWN: No, I'm sorry. I'm asking Alice Rivlin.

ALICE RIVLIN: I don't know whether the $700 billion will be enough. I think we have a lot of other things to do, including stimulating the economy directly.

JEFFREY BROWN: OK, another thing that we've been talking about a lot here. Alice Rivlin, Allan Meltzer, and Krishna Guha, thanks all very much.


KRISHNA GUHA: Thank you.