For Banks, an $80 Billion Gift

In efforts to stabilize troubled banks, the Treasury Department overpaid those institutions by nearly $80 billion, the head of a bailout oversight panel told lawmakers Thursday.

Elizabeth Warren, who chairs the congressional panel overseeing the Troubled Asset Relief Program, said Treasury officials chose not to risk-adjust the government’s investments in troubled banks, instead paying “a uniform price” regardless of each bank’s health. As a result, she estimates, taxpayers have spent $254 billion on capital investments worth just $176 billion — a difference of roughly $78 billion.

Illustration by: Matt Mahurin

“It’s clear that Treasury did not use market mechanisms,” Warren testified before the Senate Banking Committee. “They did not price for risk. That’s what markets do.” Warren equated the practice to paying $1 million each for a set of paintings, one of which is a Picasso, one a Rembrandt, and the rest of which are worthless.

Warren emphasized that “there may be good policy reasons for overpaying,” such as the ease and speed with which non-risk-adjusted investments could be made. “But without a clearly delineated reason,” she added, citing the Treasury’s stonewalling, “we can’t know that.”

Warren’s comments raised the ire of lawmakers already fuming over the ineffectiveness of the $700 billion bailout to jumpstart the economy by thawing frozen credit markets. Some are angry that the TARP bill ever passed; others simply blame the Bush administration’s management of the program; but there’s near-universal agreement on Capitol Hill that the program is a failure. Lawmakers are hoping that, under a new president, it will meet greater success.

“The TARP program remains a critical tool our government will need to address the economic crisis,” said Sen. Christopher Dodd (D-Conn.), chairman of the Banking Committee. “[But] we must see a sharp change in the direction of this program under new management.”

There has been plenty to criticize. In the four months since TARP was signed into law, the Treasury has switched the focus of the program; regulators have been denied access to information about how the bailout money is being spent; executives of bailed-out Wall Street firms have received billions in bonuses; and, despite the injection of nearly $300 billion into the struggling finance market, lending in the fourth quarter of 2008 actually fell relative to the quarter before.

It wasn’t supposed to be this way. When former Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke came to Congress in September, they sold a plan to buy up the toxic assets from struggling banks. Less than two weeks later, Treasury announced that that was no longer the case. Instead, the government would buy preferred shares in those institutions — a change of direction that Sen. Jim Bunning (R-Ky.) referred to Thursday as a “bait-and-switch.”

Announcing that change, the Treasury Department cited nine “healthy institutions” that had already volunteered to receive help under the program. Yet, as Sen. Richard Shelby (R-Ala.) pointed out Thursday, one of those firms (Merrill Lynch) no longer exists, and two others (Bank of America and Citigroup) have sucked tens-of-billions more from the TARP program to stay afloat.

“A 33 percent failure rate,” said Shelby, the highest ranking Republican on the committee, “does not … exactly provide confidence to the market that either Treasury or any of the federal regulators — including the Fed — understand the word healthy.”

Then there’s the issue of executive compensation. Paulson had resisted limits on Wall Street pay, saying that such restrictions would make it impossible for struggling firms to keep their most talented employees. Yet reports of enormous pay packages for executives of bailed-out banks — recent reports revealed that firms paid out roughly $18 billion in bonuses in 2008 alone — has infuriated an American public that understands bonuses as rewards for success, not, as President Barack Obama said Wednesday, for failure.

Some lawmakers are questioning the value of executives who couldn’t identify the dangers surrounding their investments, thereby driving their companies into the ground. “It seems to me,” Shelby said, “that people could go elsewhere for expertise.”

On Thursday, the Senate approved a Dodd-sponsored amendment to the stimulus bill that would ban bonuses and other incentive-based payments to the top 25 executives of companies benefiting from the taxpayers generosity. Obama and newly installed Treasury Sec. Tim Geithner announced similar guidelines Wednesday, though they’re full of loopholes .

Lawmakers also slammed the financial institutions for their lack of transparency. Regulators have complained that firms have withheld information about where the TARP money is being spent. “Heads should roll if that policy continues,” said Sen. John Tester (D-Mont.).

Regulators are vowing vigilance. Neil Barofsky, the chief watchdog of the TARP program, told lawmakers that his office plans a series of audits into the Bush administration’s management of the program. Those efforts will include studies of executive compensation; whether outside influences like lobbying have swayed the application process; and an in depth review of Bank of America, which has received $145 billion in TARP funds and guarantees.

On Wednesday, Senate lawmakers made Barofsky’s job easier, passing an amendment to the stimulus bill that grants his office the power to seize evidence without prior approval from the Department of Justice. It also allows him to carry a firearm while on the job.

Warren’s testimony was not the first evidence that the government is overspending under TARP. Last month, the Congressional Budget Office estimated the gap between the Treasury’s investments under TARP and the market value of those purchases at $64 billion. Warren called the CBO figures “understated,” adding that, “We’re very confident of our numbers,” said Warren, a finance expert at Harvard University.

Warren’s oversight panel will release its full 700-page report — the third in a series — on Friday.

Calls to the Treasury were not returned Thursday.

For the failures of TARP, Congress is not fully innocent. Despite early howls from many finance experts and watchdog groups, Congress passed a bill that generally gave the White House free reign to manage the program as it pleased. It lacked oversight, these critics insisted, and did nothing to rein in executive pay.

Yet for the lack of transparency, the overspending and the general failure of the TARP program to this point, Warren seemed to blame the management, not the law itself. “Congress assumed the Treasury would behave differently than they behaved,” Warren said.

“That raises the obvious question,” said Sen. Robert Bennett (R-Utah). “Can we believe what we get told next time?”

Lawmakers will have just a few days to decide. Geithner is scheduled to testify before the Banking panel next Tuesday.