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Citigroup and Bank of America: How Many Bailouts Does a Bank Need?

Publication Date: 
February 03, 2009
Wall Street Journal Deal Journal Blog
Heidi N. Moore

Professor Ken Scott is interviewed for the Wall Street Journal's Deal Journal blog about struggling financial institutions that received bailout money and are now asking the government to purchase bad bank debt. The following is an excerpt from the interview:

The federal government’s capital purchase program gave $150 billion in low-cost financing to 52 financial institutions. Citigroup received $25 billion of that plus $301 billion in a federal backstop that would put taxpayers partly on the hook for the bank’s losses. Bank of America received $45 billion in capital injections and $118 billion in backstops. Then there is American International Group, which has received a $60 billion loan, as much as $152.5 billion in total government support and now is in talks with the government to get a backstop for its troubled assets, too.

Deal Journal spoke with Stanford Law School Prof. Kenneth Scott, an expert on federal banking regulation, to make some sense of why financial firms keep going back to the trough and why it is so easy for them to do so.

Deal Journal: What’s the problem here?

Prof. Kenneth Scott: From my perspective the big problem was that we couldn’t track the information in the subprime mortgage pool, and the securities that people were holding were further and further from the things that they were all based upon. And if you can’t track information in these pools of debt, whether auto or mortgage, there’s no way you can determine the value of those securities down the line. Counterparties can’t determine what securities are on the balance sheet of a bank they consider doing business with. People are now trying to estimate what the losses are, and we don’t have information I think is worth a d—. The result is that you have estimates of losses to date that are all over the map. Originally it was $200 billion of losses, then it went up to $400 or $600 billion, or a trillion. So we’re flying blind.

When you look at it from the point of view of the government to buy these assets, you can’t value them. If you value them at face value, that’s a huge subsidy to bad management. If you buy them at the banks’ marks, the banks have been resisting markdowns and I get the impression they are dragging their feet as much as they can. So everyone thinks the banks’ marks are too high. So if you buy them at the banks’ mark, it is still a subsidy. And then the question is, it is a subsidy for a solvent bank or an insolvent bank?


Deal Journal: Some banks are not willing to sell their souls to the government and are giving back the money.

Prof. Scott: He who pays the piper calls the tune, and Congress can’t resist calling the tune. The big banks have now gotten in bed with Congress. The word would be micromanagement. When Congress manages anything, God help us.