Citigroup Offered Another Government Safety Net

The intricate plan marks the government's biggest move yet to rescue a single bank during the ongoing effort to end the financial crisis.

The Treasury Department, the Federal Reserve and the Federal Deposit Insurance Corp. jointly announced the plan to shore up the huge financial institution whose collapse would wreak havoc on the already crippled financial system and the U.S. economy.

"With these transactions, the U.S. government is taking the actions necessary to strengthen the financial system and protect U.S. taxpayers and the U.S. economy," the three agencies said in a statement. "We will continue to use all of our resources to preserve the strength of our banking institutions, and promote the process of repair and recovery and to manage risks."

The sweeping plan is geared to stemming a crisis of confidence in Citigroup, whose stock was hammered in the past week on worries about its financial health. Analysts said a Citigroup failure would have seized up still fragile lending markets and caused untold losses among institutions holding debt and financial products backed by the company.

"Clearly, this will stabilize the (banks) group near term, and the stocks this morning should reflect it," Oppenheimer & Co analyst Meredith Whitney told Reuters. "We are still cautious on the potential future dilution from further prospective capital raises for the group as well as continued higher losses related to credit and asset deflation."

Citigroup's battered stock surged more than 55 percent in the first half hour of trading Monday morning. But the stock was still down more than 81 percent of its value from a year ago.

Not all investors were pleased. "You're seeing an inept management team being rewarded by the U.S. government," said William Smith, chief executive of Smith Asset Management in New York, which owns Citigroup stock, according to Reuters.

Citigroup's latest rescue came after a weekend of marathon discussions led by Treasury Secretary Henry Paulson and Fed Chairman Ben Bernanke. Timothy Geithner, president of the Federal Reserve Bank of New York, who is being tapped by President-elect Barack Obama as his Treasury chief also participated.

Vikram S. Pandit, Citi's chief executive officer, welcomed the action. "We appreciate the tremendous effort by the government to assure market stability," he said in a statement, according to the Associated Press.

The $20 billion cash injection by the Treasury Department will come from the $700 billion financial rescue package. The capital infusion follows an earlier one of $25 billion in which the government also received an ownership stake in Citigroup.

As part of the plan, Treasury and the FDIC will guarantee against the "possibility of unusually large losses" on up to $306 billion of risky loans and securities backed by commercial and residential mortgages.

In return for the bailout, Citigroup's dividend will be effectively wiped out. The bank cannot pay out more than 1 cent per share per quarter over the next three years without government consent. The quarterly dividend is now 16 cents.

The move is the latest in a string of high-profile government bailout efforts. In March, the Fed provided financial backing to JPMorgan Chase's buyout of ailing Bear Stearns. Six months later, the government was forced to take over mortgage giants Fannie Mae and Freddie Mac and throw a recently revamped financial lifeline to insurer American International Group.

Critics worry the actions could put billions more of taxpayers' dollars in jeopardy and encourage financial companies to take excessive risk on the belief that the government will bail them out of their trouble spots.

Under the loss-sharing arrangement unveiled Sunday, Citigroup Inc. will assume the first $29 billion in losses on the risky pool of assets. Beyond that amount, the government would absorb 90 percent of the remaining losses, and Citigroup 10 percent. Money from the $700 billion bailout and funds from the FDIC would cover the government's portion of potential losses. The Federal Reserve would finance the remaining assets with a loan to Citigroup.

In exchange for the guarantees, the government will get $7 billion in preferred shares of Citigroup.

Importantly, the agreement calls on Citigroup to take steps to help distressed homeowners.

Specifically, Citigroup will modify mortgages to help people avoid foreclosure along the lines of an FDIC plan that was put into effect at IndyMac Bank, a major failed savings and loan based in Pasadena, Calif.

Under the IndyMac plan, struggling home borrowers pay interest rates of about three percent for five years. Rates are reduced so that borrowers aren't paying more than 38 percent of their pretax income on housing.