Too corrupt to succeed

March 31, 2011 04:20 PM

Last night while channel surfing I came across CSPAN and saw Neil M. Barofsky, the special inspector general for the Troubled Asset Relief Program (TARP), testifying before a Congressional committee. The discussion was disturbing and the conclusions that were drawn were equally disturbing. The conclusions were basically that TARP succeeded in bailing out the large investment banks but failed in its other mission. Specifically in getting credit flowing to help small business and individual Americans—you know the folks who paid for it —  and create jobs. 

A point sharply made in an op ed piece in the New York Times by the retiring Barofsky and a point made here last December.

The wildest most universal and undisputable conclusion was that “Too big to fail institutions” remained; in fact they have only grown and have an uneven playing field, which will ensure that they continue to grow and continue to be too big to fail. Meaning our leaders have failed in the most important mission following the bailout—to ensure it doesn’t happen again.

Darrell Issa, chairman of the House Committee on Oversight and Government Reform, showed slides illustrating the interest rate advantage the five largest banks, who control 50% of total banking assets, have over its competitors and Barofsky added that that didn’t include the perception of too big to fail. Wouldn’t you want your money in an institution that you knew would not be allowed to fail by the government?

This is not a political argument on free market solutions. There was one free market solution—let them fail, after that all bets were off and every effort should have been made to ensure minimal impact on the economy, which should have meant making massive loan modifications quickly so the foreclosure issue wouldn’t be hanging over the housing market like the sword of Damocles for the past two and a half years with no resolution in site. TARP, at least the way it was drawn up, bailed out the banks from the perceived failure of subprime loans. Now they appear to be collecting on them again, double dipping.

 An important point made by Barofsky was that TARP was only able to pass due to language that ensured that it would be in the words of the Fed, “conducted to…, restore the flow of credit to American families and businesses, and support economic recovery and job creation in the aftermath of the crisis.”

Barofsky notes, "These Main Street-oriented goals were not, as the Treasury Department is now suggesting, mere window dressing that needed only to be taken “into account.” Rather, they were a central part of the compromise [which convinced] reluctant members of Congress to cast a vote that in many cases proved to be political suicide."

But shortly after it passed Treasury decided to fund banks directly rather than purchase toxic assets. But no conditions to meet the broader mandates of TARP were included. Why?

Before TARP was passed we pointed out that it was akin to buying deep out-of-the-money options but paying the price of deep in-the-money options. We asked what premium we were receiving for that cost. The answer was to restore the flow of credit to American families and businesses. It didn't happen.

More to come.

About the Author

Editor-in-Chief of Modern Trader, Daniel Collins is a 25-year veteran of the futures industry having worked on the trading floors of both the Chicago Board of Trade and Chicago Mercantile Exchange.