An unprecedented rescue plan for the financial system, pending imminent approval by Congress, could stabilize fragile markets, but also poses some risks of its own, analysts said.
The plan, worth up to US$700 billion, would be the largest government economic intervention since the Great Depression of the 1930s, and aims to steady an economy reeling from a burst US housing bubble that has ravaged the global banking system and dried up credit flows.
The plan “will provide some critical life support for the US financial system,” said Brian Bethune, economist at the research firm Global Insight.
PHOTO: AP
Bethune said the modified program, hammered out over more than a week of tense negotiations, “represents a reasonable compromise that more aggressively protects the interests of the American taxpayer.”
According to draft legislation, the Troubled Asset Relief Program would allow the government to buy up troubled assets from banks, pension plans, local governments and other firms. The first installment of US$250 billion could be boosted to a total of as much as US$700 billion.
Four separate oversight agencies or processes, including a presence in the Treasury office, would be set up to conduct audits and prevent fraud, as well as an independent inspector general to monitor the Treasury secretary’s actions.
It would also give taxpayers an ownership stake and chances to share in any future profits of participating companies, limit compensation payments for company executives and allow the government to help prevent home foreclosures. Some analysts remained skeptical about the deal — whether it would work or create new problems for markets and the economy.
David Kotok, chief investment officer at Cumberland Advisors, said he had been in favor of the original rescue plan but had doubts after tinkering by lawmakers, adding it could make it harder to emerge with a healthy banking sector needed for the economy.
“If you impose too much regulation, too much supervision, too much management and too much cost, you damage the franchise and profit outlook for banks,” he said. “If market figures out this is a bad bill, the markets will go south, not north.”
Peter Cohan, a consultant with Peter Cohan & Associates, said he believed “the market should react positively in the short term” and that “the most severe reaction would be if there was no deal.”
But Cohan said the program does nothing to deal with the immediate problem of banks freezing up lending among themselves, which has pushed up key interest rates and led to a squeeze in credit.
“The reason the banks don’t want to lend is because they don’t believe the other banks will pay them back,” he said.
It remained unclear how many banks will participate in the program because of the “disincentives” of limits on executive pay and the prices to be paid for bad mortgage debt, Cohan said.
The prospects for the plan, he said, are “overly optimistic unless the Treasury decides to buy the toxic waste at a price above their book values, but it would stick the taxpayers for a loss.”
Economist Ethan Harris at Barclays Capital said that the government’s best chance of stabilizing the economy and markets would be a “shock and awe” program instead of an incremental approach.
“The inconvenient truth is that for a bailout to work, it must put significant taxpayer money at risk. The piecemeal approach of reacting to individual financial firm failures has slowed, but not stopped, the erosion of confidence in the capital markets,” Harris said.
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