Who Is Really Fighting for Perpetual Bailouts?

As we noted earlier this week, the attacks from some quarters that the President’s Wall Street Reform proposal somehow opens the door to perpetual bailouts comes straight out of a now-infamous polling memo on how to defeat reform by pretending it doesn’t go far enough.  A column from Paul Krugman in the New York Times today explains why this not only empty poll-driven rhetoric, but an absurd case of up-is-downism:

On Tuesday, Mitch McConnell, the Senate minority leader, called for the abolition of municipal fire departments.

Firefighters, he declared, “won’t solve the problems that led to recent fires. They will make them worse.” The existence of fire departments, he went on, “not only allows for taxpayer-funded bailouts of burning buildings; it institutionalizes them.” He concluded, “The way to solve this problem is to let the people who make the mistakes that lead to fires pay for them. We won’t solve this problem until the biggest buildings are allowed to burn.”

O.K., I fibbed a bit. Mr. McConnell said almost everything I attributed to him, but he was talking about financial reform, not fire reform. In particular, he was objecting not to the existence of fire departments, but to legislation that would give the government the power to seize and restructure failing financial institutions.

But it amounts to the same thing.

If there is a position that supports perpetual bailouts, it is protecting the status quo, where without reform government will be forced to make the awful choice between helping banks and letting the economy collapse over and over again.  That's what led financial reporter John Harwood to say that "Senator McConnell’s argument is a little silly when you look at the text of the bill."  So let's do exactly that and leave no doubt about who is really fighting to prevent the need for any more bailouts:

1) “This bill not only allows for taxpayer-funded bailouts of Wall Street banks; it institutionalizes them.”

Incorrect:  Under Chairman Dodd’s bill major failed financial firms will be sold off, broken apart, or otherwise liquidated; management will be fired, creditors will suffer losses, and shareholders will be wiped out.  Wall Street, not taxpayers, will pay for any losses.

Chairman Dodd’s bill specifically prohibits the use of any funds for “bailing out” financial institutions.  Under Chairman Dodd’s proposed resolution authority, large, interconnected financial firms facing insolvency would be sold off, broken apart, or otherwise liquidated over a limited time period.  In that process, culpable management would be replaced, shareholders would suffer losses, and there will be clear authority to impose losses on unsecured creditors in accordance with the priority of claim provisions in the bill. .  In addition, by requiring post-resolution assessments on the financial industry to recoup any losses, Chairman Dodd’s bill makes it absolutely clear that large financial firms – not taxpayers – would bear any costs associated with the resolution of a failed financial firm.

  • Must liquidate. Section 210(a)(1)(D) of the bill passed by the Senate Banking Committee (page 145, as modified by the Manager’s Amendment on page 54, line 16).

    The Corporation shall, as receiver for a covered financial company, and subject to all legally enforceable and perfected security interests and all legally enforceable security entitlements in respect of assets held by the covered financial company, liquidate, and wind-up the affairs of a covered financial company, including taking steps to realize upon the assets of the covered financial company, in such manner as the Corporation deems appropriate, including through the sale of assets, the transfer of assets to a bridge financial company established under subsection (h), or the exercise of any other rights or privileges granted to the receiver under this section.

  • Mandatory terms and conditions--wipe out shareholders, fire management, creditors suffer losses; Section 206; Page 140, lines 3-19.

    “In taking action under this title, the Corporation shall—

    (1) determine that such action is necessary for purposes of the financial stability of the United States, and not for the purpose of preserving the covered financial company;

    (2) ensure that the shareholders of a covered financial company do not receive payment until after all other claims and the Fund are fully paid;

    (3) ensure that unsecured creditors bear losses in accordance with the priority of claim provisions in section 210; and

    (4) ensure that management responsible for the failed condition of the covered financial company is removed (if such management has not already been removed at the time at which the Corporation is appointed receiver).”

  • Financial industry held responsible for any losses; subparagraph (C) of Section 210(o)(1); Page 280, line 8 to Page 281, line 2.

    “(C) Additional Assessments. The Corporation shall charge one or more risk-based assessments in accordance with the provisions of subparagraph (E), if—

    (i) the Fund falls below the target size after the initial capitalization period, in order to restore the Fund to the target size over a period of time determined by  the Corporation;

    (ii) the Corporation is appointed receiver for a covered financial company and the Fund incurs a loss during the initial capitalization period with respect to that covered financial company; or

    (iii) such assessments are necessary to pay in full the obligations issued by the Corporation to the Secretary within 60 months of the date of issuance of such obligations.

2) “The bill gives the Federal Reserve enhanced emergency lending authority that is far too open to abuse.”

Incorrect: The Federal Reserve’s emergency lending authorities are restricted, not expanded, under Chairman Dodd’s bill. 

Chairman Dodd’s bill eliminates the ability of the Federal Reserve to provide firm-specific assistance, requires prior approval from Treasury of any emergency lending program, and imposes strict congressional reporting requirements.  Under Chairman Dodd’s bill, the Federal Reserve may not use its emergency authorities to aid failing financial firms, and those authorities will be subject to new approvals and significant reporting to Congress.

Chairman Dodd’s bill, in unequivocal terms, states that the Federal Reserve may not use its 13(3) lending authorities to “aid a failing financial company” and requires that the collateral received for any such emergency loans be of “sufficient quality to protect taxpayers from losses.”  Failing firms will receive no protection from the emergency lending authorities of the Federal Reserve.

  • No aid to a failing financial firm; Section 1151; Page 1304, lines 1-8. “Such policies and procedures shall be designed to ensure that any emergency lending program or facility is for the purpose of providing liquidity to the financial system, and not to aid a failing financial company, and that the collateral for emergency loans is of sufficient quality to protect taxpayers from losses.”

  • Treasury approval prior to using emergency authorities; Section 1151; Page 1304, line 9-12.  “The Board may not establish any program or facility under this paragraph without the prior approval of the Secretary of the Treasury.”

  • Enhanced congressional reporting requirements; Section 1151; Pages 1304, line 12 to 1308, line 17.

    “The Board shall provide to the Committee on Banking, Housing, and Urban Affairs of the Senate and the Committee on Financial Services of the House of Representatives—

    (i) not later than 7 days after providing any loan or other financial assistance under this paragraph, a report that includes—

    (I) the justification for the exercise of authority to provide such assistance;
    (II) the identity of the recipients of such assistance, subject to subparagraph (D);
    (III) the date and amount of the assistance, and form in which the assistance was provided; and
    (IV) the material terms of the assistance, including—

    (aa) duration;
    (bb) collateral pledged and the value thereof;
    (cc) all interest, fees, and other revenue or items of value to be received in exchange for the assistance;
    (dd) any requirements imposed on the recipient with respect to employee compensation,
    19 distribution of dividends, or any other corporate decision in exchange for the assistance; and
    (ee) the expected costs to the taxpayers of such assistance; and

    (ii) once every 30 days, with respect to any outstanding loan or other financial assistance under this paragraph, written updates on—

    (I) the value of collateral;
    (II) the amount of interest, fees, and other revenue or items of value received in exchange for the assistance; and
    (III) the expected or final cost to the taxpayers of such assistance.

    (D)(i) The Board shall disclose, not later than 1 year after the date on which assistance was first received under the facility, unless the Board determines that such disclosure likely would reduce the effectiveness of the program or facility in addressing or mitigating the financial market disruptions, financial market conditions, or other unusual and exigent circumstances sought to be addressed or mitigated by the program or facility, or would otherwise have a significant effect on the economic or financial market conditions—

    (I) the identity of the participants in an emergency lending program or facility commenced under this paragraph after the date of enactment of the Restoring American Financial Stability Act of 2010;
    (II) the amounts borrowed by each participant in any such program or facility  and
    (III) identifying details concerning the assets or collateral held by, under, or in connection with such a program or facility within 1 year of the date on which assistance was first received under the program or facility.

    (ii) If the Board determines not to make the disclosures required in clause (i) within 1 year of the date on which a participant first received under a program or facility, then the Board shall—

    ‘‘(I) provide to the Committee on Banking, Housing and Urban Affairs and the Committee on Financial Services a written report explaining the reasons for delaying the disclosures about such program or facility within 30 days of making such a determination; and
     ‘(II) provide to the Committee on Banking, Housing and Urban Affairs and the Committee on Financial Services each year thereafter a written report explaining the reasons for continuing to delay disclosure, until the disclosures are complete.

    (iii) The disclosures required in clause (i) shall be made not later than 12 months after the effective date of the termination of the facility by the Board.
    (iv) If the Board determines not to make the disclosures required in clause (i), then the Comptroller General shall issue a report to the Committee on Banking, Housing and Urban Affairs and the Committee on Financial Services evaluating whether that determination is reasonable.’’

3.   “…the mere existence of this fund will ensure that it gets used.  And one it’s used up, taxpayers will be asked to cover the balance.  This is precisely the wrong approach.”

Incorrect.  Under Chairman Dodd’s bill, FDIC and Treasury may only use the resolution authorities to protect the U.S. taxpayer from a financial crisis in connection with the failure of a major financial firm; and they have no authority to use the Orderly Liquidation Fund for any other purpose.

First, the bill provides no authority whatsoever for Treasury or the FDIC to expend funds from the Orderly Liquidation Fund, other than in exercising the resolution authority established in Title II of the bill – that is, only in connection with the resolution of a failed financial firm. There would be no reason and no authority to “use” the funds other than for their intended purpose.

Second, the bill mandates that financial firms be assessed fees to establish a $50 billion resolution fund.  And the bill mandates that, if the costs of resolving a financial firm exceed that amount, the additional costs will be paid by additional fees assessed on the largest financial institutions so that Wall Street, not taxpayers, will pay the price of financial failure.

  • Use of Orderly Liquidation Fund is limited to winding down failed firms; Section 210(n)(1); Page 272, line 21 to Page 273, line 6.

    “There is established in the Treasury of the United States a separate fund to be known as the ‘‘Orderly Liquidation Fund’’, which shall be available to the Corporation to carry out the authorities contained in this title, for the cost of actions authorized by this title, including the orderly liquidation of covered financial companies, payment of administrative expenses, the payment of principal and interest by the Corporation on obligations issued under paragraph (9), and the exercise of the authorities of the Corporation under this title.”

  • Fund amounts not needed for resolution can only be invested in U.S. Government securities; Section 210(n)(8); Page 274, line 21 to Page 275, line 4.

    “(8) Investments.—At the request of the Corporation, the Secretary may invest such portion of amounts held in the Fund that are not, in the judgment of the Corporation, required to meet the current needs of the Corporation, in obligations of the United States having suitable maturities, as determined by the Corporation. The interest on and the proceeds from the sale or redemption of such obligations shall be credited to the Fund.”

  • Financial industry held responsible for the initial fund and any losses; subparagraphs (C) and (D) of Section 210(o)(1); Page 280, line 8 to page 281, line 2.

    “(C) Additional Assessments. The Corporation shall charge one or more risk-based assessments in accordance with the provisions of subparagraph (E), if—

    (i) the Fund falls below the target size after the initial capitalization period, in order to restore the Fund to the target size over a period of time determined by  the Corporation;
    (ii) the Corporation is appointed receiver for a covered financial company and  the Fund incurs a loss during the initial capitalization period with respect to that covered financial company; or
    (iii) such assessments are necessary to pay in full the obligations issued by the Corporation to the Secretary within 60 months of the date of issuance of such obligations.
     

Jen Psaki is Deputy Communications Director

Related Topics: Economy
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