WASHINGTON — The Obama administration aimed squarely at the crisis clogging the nation’s credit system Monday with a plan to take over up to $1 trillion in sour mortgage securities with the help of private investors. For once, Wall Street cheered.
The announcement, closely stage- managed throughout the day, filled in crucial blanks in the administration’s financial rescue package and formed what President Barack Obama called “one more critical element in our recovery.”
The coordinated effort by the Treasury Department, the Federal Reserve and the Federal Deposit Insurance Corp. relies on a mix of government and private money — mostly from institutional investors such as hedge funds — to help banks rid their balance sheets of real-estate-related securities that are now extremely difficult to value.
The goal, said Obama, is to get banks lending again, so “families can get basic consumer loans, auto loans, student loans, (and so) that small businesses are able to finance themselves, and we can start getting this economy moving again.”
It was a huge gambit and one that came like a tonic to Wall Street, which had panned an earlier outline of the program that lacked detail.
Stocks soared, the Dow Jones industrial average shooting up nearly 500 points, thanks to the bank-assets plan and a report showing an unexpected jump in home resales.
The fleshed-out plan is designed to help fix a value on damaged mortgage loans and other toxic securities.
If the value of the securities goes up, the private investors and taxpayers would share in the gains. If the values go down, the government and private investors would incur losses.
“This will help banks clean up their balance sheets and make it easier for them to raise capital,” Treasury Secretary Timothy Geithner said.
The plan will take $75 billion to $100 billion from the government’s existing $700 billion Troubled Asset Relief Program. The government will pair this with private investments and loans from the FDIC and the Fed to generate $500 billion in purchasing power.
Geithner said purchases eventually could grow to $1 trillion — roughly half of the estimated $2 trillion of toxic assets on bank books now.
On the hot seat, Geithner has a lot personally tied to the success of the program. His performance in the Cabinet, including his slowness in learning about multimillion dollar executive bonuses paid by insurance giant AIG after taking bailout money, has been criticized by some in Congress.
Geithner testifies today before the House Financial Services Committee.
Under a typical transaction, for every $100 in soured mortgages being purchased from banks, the private sector would put up $7 and that would be matched by $7 from the government. The remaining $86 would be covered by a government loan.
The plan was introduced ahead of a summit next week in London of 20 major and developing economies struggling with the global recession.
The administration was expected to outline its plan for financial regulation overhaul later this week.
FDIC Chairman Sheila Bair said she expects her agency will finance as much as $500 billion in purchases of residential and commercial real estate loans. Bair said the program should help banks clean up their balance sheets and raise fresh capital, though she added that “there may be some banks beyond help.” The agency has said before it expects more bank failures, she said.
Geithner said taxpayers still could lose money on the deal to soak up bad assets but there was no fixing the system without risk.
Other options, such as having the government purchase the securities outright or letting them languish on bank balance sheets, would pose even greater vulnerabilities, he said.
“I am very confident this scheme dominates all the alternatives for trying to find that balance,” he said.
