Tarp 2, The Return: The Progressive Case for Bank Bailouts

Nate Silver at FiveThirtyEight is wondering why a number of progressive senators voted to release the second installment of $350 billion under the TARP program while numerous conservative senators voted against it. In a post entitled "Is Tom Coburn a Closet Progressive?", Silver asks:

But which is more likely: that Jeff Merkley, a lifelong progressive, was instantly transformed into an evil corporate zombie the very moment that he took his seat in the Senate? Or that he had been campaigning against the bailout because it was a politically convenient position for him to take? Conversely, is Tom Coburn no longer under the "spell" of corporate America? Or did he perceive an opportunity for demagoguery in his own bid for re-election in 2010?

One problem with such questions, which Silver does address in terms of his skepticism of the rationales of bailout opponents, is that the phrasing of the questions presumes that a progressive stance = anti-bailout and that a conservative position = pro-bailout. Much of these assumptions rest on the notion that bailouts are always structured to be pro-corporation.

In addition, it is important to point out that the abstract concept of approving bank bailouts in order to save the financial system (and therefore prevent systemic economic collapse) does not appear to be a partisan issue, as is evidenced by the Congressional voting patterns when TARP was initially approved.

Thus, the devil is indeed in the details. And the second installment of TARP potentially comes with important conditions that were not attached to the first $350 billion. On top of this, the Obama administration has also been making public statements indicating that the free ride of corporate handouts in previous editions of bailouts is over.

More...Voting Records on TARP 1: Both Democrats and Republicans Shift with the Political Wind

In his post, Silver makes an observation that

the fact that the Republican and Democratic positions on the bailout appear to be so fluid would seem to indicate that it not an issue particularly well described by traditional ideological frameworks like liberal versus conservative.

I agree with this statement wholeheartedly with regard to the original TARP bills passed in the Senate on October 1-3, 2008, which subsequently released the first installment of funds. Many Democrat and Republican congressional reps voted against the bill (140 Democrats voted yes and 95 voted no; 133 Republicans opposed the measure, while 65 approved) the first time it came up on September 29, 2008, largely because of immense voter outpourings of disgust over the notion of a bailout. The populist move then was clearly a "no" vote.

However, when the US stock markets dropped more than 7% in that one day that the measure failed, and later in the week evidence of rising unemployment emerged, that was enough to change many of their minds. In the second House vote on October 3, 2008, 26 Republicans and 33 Democrats switched from no to yes. The numbers show that, at that point, partisanship and issues of liberal and conservative ideology didn't seem to be a priority. Rather, the priority on all sides was to prevent massive bank failure and economic collapse.


Events that Raised Popular Outrage about TARP 1

A lot changed between the passage of TARP 1 and 2. Particular events that became hot-button issues, influencing the stricter mandates on the release of funds in TARP 2, include:

* Citigroup needed to come back for a second bailout (after an initial loan of $25 billion) that resulted in a cash injection of $45 billion and over $300 billion in Federal. The next week Citi bought a Spanish highway operator for $10 billion;

* Bank of America invested $7 billion of the initial TARP funds they received in a Chinese bank (this week they came back for $20 billion more plus backstops of over $100 billion for its Merrill Lynch purchase);

* Widespread criticism emerged over the lack of restrictions on executive salaries, dividend payments, and lending requirements at banks that received TARP funds;

and

* Congress (and the public) became infuriated by the lack of transparency, at both the Treasury and the banks involved, over what exactly happened to the first $350 billion.


How Obama's Stance Regarding Bailouts Differs from Bush

Now, when the Senate voted to release the second installment of $350 billion on Thursday (January 15, 2009), they didn't exactly attach restrictions this time either. Instead, they voted to release the monies to Obama's incoming administration on the basis of a strongly worded letter to Congress on behalf of Harvard economist Larry Summers, Obama's pick for head of the National Economic Council, that addresses most of the concerns raised about TARP 1 and promises:

* no release of additional funds unless personally approved by President Obama in each and every individual case;

* a commitment of $50 to $100 billion explicitly to forestall foreclosures;

* a transparent accounting of all funds spent;

* to focus on using TARP funds to increase the flow of credit;

* to measure and monitor of bank lending;

* to limit executive compensation;

* to preclude the use of government funds to purchase healthy firms;

* that "public assistance to the financial system will be temporary."

Most of these restrictions would actually be seen as anti-corporate/anti-taxpayer-give-away by both Democrats and Republicans, and thus as positive reasons to approve the TARP 2 for Democrats and negative reasons for Republicans to vote no (in addition to the obvious political play of hanging the TARP program around Obama's neck). For example, many conservatives have been actively speaking out against limits on executive compensation since the passage of TARP 1, arguing that such limits would detrimentally affect the ability of firms to recruit and retain "top talent." Additionally, many have expressed concern that forcing banks to lend may put them in the position of taking on too much risk when they are already flirting with under-capitalization.

But actually I have left off perhaps the most important conditions that Summers promised, which are both progressively politically palatable and have been taken very seriously by Wall Street (as evidenced by trading this week).


Summers Vows that the Obama Administration Will End Corporate Profiteering from Government Bailouts

In his letter, Summers vows at the bottom of page two that the Obama administration will "prevent shareholders from being unduly rewarded at taxpayer expense."

This will take the form of forcing firms that have already accepted TARP funds to obtain approval from regulators prior to disbursing dividends. Also, any banks returning for second or third helpings from TARP will have to limit their dividend payout to $0.01 per share, which is a positive step, though actually I think that is still way too much (a $0.01 dividend translates to payouts of at least $54 million for Citigroup shareholders and $64 million for Bank of America shareholders each quarter).

On top of those conditions, there is another huge implication to be read into Summers' statement: that both common stockholders and bondholders could be wiped out by new government investments in troubled firms.

The Bush regime has been very inconsistent in this regard. The virtual nationalization of AIG, Fannie Mae and Freddie Mac has nearly wiped out common stock shareholders. However, when Citi was bailed out the second time, the Bush government took steps to preserve the share value of the company, and the stock quickly more than doubled.

In the wake of Summers' comments, however, the financial sector has been crushed this week, with Citi and Bank of America (both two-time recipients of TARP monies) stocks dropping almost 50% this week alone. In addition, the second Bank of America bailout did come with some of the restrictions outlined in Summers' letter, including the restriction of dividend payouts to $0.01 per quarter for the next three years.

All this offers some compelling evidence (though not concrete evidence, since it still mostly reflects promises of future action from the Obama administration) that Congress and Wall Street take seriously the potential future consequences of accepting TARP funding and the end of corporate give-aways.

Let me be clear: Even ultra-progressive economists such as Paul Krugman believe that government intervention has been necessary to stabilize the financial system. In other words, the progressive position, if one does not want to see the US enter into another great depression, has to be pro-bailout - but not necessarily pro-bailouts without conditions, restrictions, and oversight.

In this context, Summers' proposals are decidedly not conservative-friendly and might even be considered pro-progressive. I believe this did influence the increase in voting along partisan lines with the passage of TARP 2 (with only 6 Republican senators voting for the measure and 9 Democrats voting against).

To put it another way, the promises of the Obama camp may have dramatically re-aligned progressive and conservative ideologies with regards to bailouts, potentially producing the seeming paradox of Jeff Merkley voting for the measure and Tom Coburn rejecting it.

EDIT: Jeff Merkely expounds his version of the progressive case for TARP 2, emphasizing the Obama administration's promise to commit $50 to $100 billion in mortgage relief.