TARP for Main Street

By W. Bernard Mason

We seem to be awash in media reports touting the return to health for the nation’s largest financial institutions. Another year of big profits and big bonuses is well underway for these firms. Much of this success can be attributed to the emergency programs implemented by the federal government within the past year. As The New York Times recently pointed out, “Many of the steps that policy makers took last year to stabilize the financial system – reducing interest rates to near zero, bolstering big banks with taxpayer money, guaranteeing billions of dollars of financial institutions’ debts “ helped bring about this robust return.

These same Washington policymakers now seem to be puzzled over the fact that, while the big banks are even bigger and stronger, there still seems to be a lack of available credit for “Main Street.” At virtually every Congressional hearing on the subject of banking reform, at least one lawmaker laments that his/her constituents continue to complain about the lack of consumer and small business lending activity.

Recalling what now seems ancient history, TARP was sold to Congress as a way to stabilize the markets and bring liquidity back to credit functions. We know what ultimately occurred: capital contributions to the largest institutions with little accountability for fund use to increase lending. With a couple of notable exceptions, we also know these funds have been repaid to the Treasury with interest. However, there was no significant increase in the availability of credit for consumers and small businesses as a result of this effort.

When a U.S. Senator most recently asked the now familiar question regarding lack of credit availability, FDIC Chairman Sheila Bair responded by noting that there had been “100% participation” in the TARP by the largest U.S. Banks, whereas only 9% of all other banks had received TARP funding. She stated that community banks are disproportionately the source of credit for small businesses and pointed out that lending by the largest banks had declined in the second quarter while lending by smaller institutions had actually increased. Her conclusion was that these smaller institutions are striving to make sound loans to “Main Street,” but are hindered in their capacity by a lack of capital and balance sheets already laden with devalued and non-earning assets. She said that funding costs for the largest institutions had declined, while these costs for smaller institutions had been increasing. Sitting alongside Ms. Bair at this particular hearing was North Carolina Banking Commissioner Joseph Smith, who fully concurred in this view and stated that smaller banks must be given a mechanism by which to cleanse their balance sheets of these weaker assets in order to restore robust lending activities.

Chairman Bair suggested that TARP should be restructured to make it more accessible for smaller institutions and those that may not now meet the stringent eligibility requirements. She said she had discussed with Treasury a plan, perhaps employing a “one-for-one” matching arrangement where private capital would be used alongside TARP money, to bolster the capital of smaller institutions, thus giving them the capital cushion necessary to dispose of weaker assets and allow for new lending. She believes it is critical that capital be made more available to these smaller institutions.

Other policymakers and critical observers have raised objection to the entire notion of TARP and more specifically any desire to continue its usage now that the large “systemically important” institutions have repaid their TARP funds. Many (including lawmakers on both sides of the aisle) were skeptical of the proposal at inception, and they believe their skepticism was validated by the subsequent decision to deploy taxpayer funds in ways not initially envisioned when the program was hastily approved. These observers believe the market should allow entities to succeed and fail without government intervention and without the subjective picking of winners and losers. They believe government intervention sends the message that taxpayers will step in to assist troubled entities when times are tough, furthering the problem of moral hazard. In their view, the economy will work itself out in due course, with credit and employment improving over some natural period of time.

Discussion Topic:  Join the discussion in the Comment Box below.
Given these observations, should the federal government do more to assist smaller institutions in raising capital (either through direct capital infusions or through other mechanisms to improve balance sheets) as a means to more quickly bring credit to consumers and small businesses, or should government now remove itself from direct intervention in banking activities?