Geithner Gets Tongue Lashing

By Lisa Valentine

Overheard at a U.S. Joint Economic Committee meeting:

U.S. Congressional Representative Kevin Brady to U.S. Treasury Secretary Tim Geithner: “Conservatives agree that as point person, you failed. Liberals are growing in that consensus as well. For the sake of our jobs, will you step down from your post?”

Geithner: “What I can’t take responsibility is for the legacy of crises you’ve bequeathed this country.”

U.S. Congressional Representative Michael Burgess to Geithner: “I don’t think you should be fired. I thought you should have never been hired.”

Ouch.

If Geithner is in the hot seat, things aren’t looking much better for Federal Reserve Chairman Ben Bernanke. U.S. Congressional Rep Ron Paul had introduced a bill in the summer (see related blogs on July 13 and July 15) that would limit the Fed’s power and require the central bank to disclose more information about its inner workings to the congressional Government Accountability Office (GAO). Bernanke retorted that the bill would ruin the Fed’s ability to set monetary policy not beholden to politicians.

At the time Paul announced the bill, we reported that it had little chance of passing.

We were wrong. The bill is gaining momentum in both the House and the Senate. Anger and frustration against Wall Street and banks are apparently pushing passage of the bill. The Senate Banking Committee is also looking at a bill that will strip the Fed of its bank supervision powers.

It’s no wonder that U.S. elected officials are putting severe pressure on the Fed. According to a July 2009 Gallup Poll, only 30% of Americans believe that the Federal Reserve is doing a good or excellent job and 22% believe the Fed is doing a poor job.  Now, 30% may not seem too low, except when you compare it to the 40% that say that the Internal Revenue Service (IRS) is doing a good or excellent job. You know the Fed has a public relations crisis at hand when it scores lower than the IRS.

In September 2003, 53% of Americans thought the Fed was doing a good or excellent job and only 5% thought it was doing a lousy job.

With the Thanksgiving recess upon us in the U.S., very little will be happening this week in the House and Senate. We wouldn’t expect any action on either bill until after the first of the year.

 

Geithner’s Solution for Too-Big-To-Fail

By Lisa Valentine

U.S. Treasury Secretary Tim Geithner called for five reforms to deal with the problem of U.S. financial firms that are “too big to fail,” creating a moral hazard where these firms benefit from knowing that the government will catch them if they fall.

The five reforms Geithner presented to the House Financial Services Committee are:

1.    Give the government the ability to resolve failing major financial institutions in an orderly manner that doesn’t rely on taxpayer bailouts. Instead, equity holders, unsecured creditors and possibly even financial institutions should bear the failure. The bankruptcy code doesn’t cut it—it’s too slow to implement and doesn’t take into account the ripple effect from the failure of a large, interconnected financial institution.

2.    Eliminate open bank assistance to failing financial institutions. The government could not put money into a failing firm unless the firm is in government receivership or being unwound, sold or liquidated.

3.    Protect taxpayers from losses. The government should be able to recoup any losses by charging a fee to large financial firms.

4.    Limit the Federal Reserve and Federal Deposit Insurance Corporation (FDIC) emergency authorities so they could step in and support a failing financial firm only to protect from systemic failure. This would mean appealing section 13(3) of the Federal Reserve Act which gives the Federal Reserve the ability to extend credit to failing non-bank firms. (Geithner said that the Fed should be able to use 13(3) during “periods of severe stress in the financial markets or U.S. economy” as long as they get permission from the Treasury and two-thirds of the members of the boards of the Federal Reserve and the FDIC.)

5.    In addition to imposing stricter capital and liquidity requirements, regulators should be able to force major financial firms to reduce their size or restrict the scope of their activities.

Number 5 is the kicker. Who are these major firms, and what constitutes a firm that is too large or is involved in too many businesses? Geithner said that the government will not prepare a blacklist of these firms, but it’s easy enough to figure out what firms he’s referring to.

Limiting the size of financial firms was mentioned almost toward the end of Geithner’s prepared testimony, which is interesting since solving the problem of moral hazard by not letting firms get too big to fail in the first place is not something that the Obama administration has focused on before.

It would be good to know who is responsible for cutting government down to size when it gets too big and gets its tentacles into all sorts of business it doesn’t belong it.
 

More Pay Cuts

By Lisa Valentine

Bank of America’s chief Ken Lewis, who we recently reported will receive no pay and no bonus, isn’t the only executive to get a pay cut. The U.S. Treasury’s Special Master on Compensation Kenneth Feinberg has announced that he will have the last word on the amount of compensation collected by the five most senior executives and the next 20 most highly compensated employees in seven firms receiving “exceptional” TARP assistance.

Those firms are AIG, Citigroup, Bank of America, Chrysler, GM, GMAC and Chrysler Financial.

Noticeably missing from the list are Fannie Mae and Freddie Mac—the government lending agencies slated to receive $290 billion in federal subsidies in 2009, according to The Pew Charitable Trusts. Do you think it’s any coincidence that President Obama nominated Fannie Mae Chief Executive Officer Herb Allison to run the Treasury office overseeing the $700 billion bank rescue?

Here are a few of the highlights of the Special Master’s decree:

• No cash bonuses based on short-term performance.
• Bonuses should be in the form of company stock that must be held for the long-term, sold only in one-third installments beginning in 2011 (or earlier if the firm repays TARP). Stock is immediately vested to ensure that execs have skin in the game.
• Limit salaries to $500,000 (although Feinberg does say that “exceptions where necessary to retain talent and protect taxpayer interests” will be allowed. He’s allowed a salary greater than $1 million for the new AIG CEO ad two employees of Chrysler Financial).
• Executives must meet goals set in consultation with the Special Master.
• Incentive awards can be paid only if the executive provides three years of service to the firm after the award is made.
• Limits on “golden parachute” severance packages.

As a result of this edict, Feinberg reports that cash compensation for these execs decreased by more than 90% and the total compensation decreased by more than 50%.

Treasury Secretary Tim Geithner released the following statements to support the Special Master: “We gave [Feinberg] the difficult task of cutting excessive pay, striking a balance between compensations and risk taking, and keeping strong management teams in place to help the companies recover—all in the public interest.”

In some altered sense of realty, does Geithner really think that these actions will keep strong management teams in place?  The executives are bailing out. According to the Washington Post, 14 of the 25 highest paid Bank of America executives have already left. At AIG, only 12 of the top 25 executives remain.

Having the government determine pay is ludicrous. Let the firms (and their shareholders) set their own rules. For example, Credit Suisse recently announced that it was introducing a new bonus payout plan to link awards to the bank’s profitability. That makes much more sense that letting pay be dictated by a Special Master.

Treasury Outlines “Core Principles” of Capital

All capital isn’t created equal. That’s one of the lessons learned from the financial meltdown. A bank may say it has enough capital to meet regulatory requirements, but if that capital is based on risk underlying assets, then clearly the bank is not as stable as it appears. The U.S. Treasury recently released its “Principles for Reforming the U.S. and International Regulatory Capital Framework for Banking Firms.” The Treasury has set a deadline of December 31, 2009 for issuing its domestic report on acceptable levels of capital requirement. The agency is looking to win international agreement on these capital requirement standards by December 31, 2010, with implementation set for December 31, 2012.

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Six-Month Report Card

It’s difficult to keep up with the proposed regulatory changes the Obama administration is recommending. Since taking office in January, President Obama has been busy selling his plan for financial reform. Timothy Geithner, U.S. Treasury Secretary, provided an overview of those changes to the House Financial Services Committee, just in case they’ve forgotten. Here are the five areas of focus for the administration, according to Geithner:

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The U.S./China Economic Talks

U.S. Treasury Secretary Timothy Geithner and Chinese Vice Premier Wang Qishan have completed their dialogue on U.S. and Chinese economic strategies. The meetings in Washington, D.C. are a positive step on the road to making a “global economy” more than an advertising slogan and having the U.S. admit that we really need China to help pull us out of the economic downturn. Among the initiatives discussed are having both countries take the IMF Financial System Assessment Programs (FSAPs), creating a single global accounting and financial reporting standard, implementing technical exchanges on developing private pensions, sharing ideas for insurance regulation, working for a more open global trade and investment system, and fighting protectionism.

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Treasury Pushes OTC Derivative Regulation

In an oft-repeated quote, Warren Buffet called derivatives “financial instruments of mass destruction.” U.S. Treasury Secretary Timothy Geithner stopped far short of making an analogy between weapons and derivatives, but it is clear that the U.S. government has much disdain for the largely unregulated financial instruments that are mostly controlled by four large banks in the U.S.: JP Morgan Chase, Bank of America, Citigroup and Goldman Sachs. “Because of their enormous scale and the critical role they play in our financial markets, establishing a comprehensive framework of oversight for the OTC derivatives market is crucial to laying the foundation for a safer, more stable financial system,” Geithner told the joint hearing of the House Financial Services and Agriculture Committee last Friday.

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