LegalCorner
By Susan J. Booth
Interesting Times Are Upon Us
The origin of the proverb “May you live in interesting
times” is uncertain, but its application to the present is
not. We do live in interesting times. The financial markets
are volatile. The credit markets are devoid of capital. The country’s economic condition is dire. On Oct. 3, the federal government passed the Emergency Economic Stabilization Act of 2008
in an effort to improve the situation by increasing liquidity and
stabilizing the financial and housing markets.
On its face, the Troubled Asset Relief Program
authorizes Treasury Secretary Henry Paulson to
spend up to $700 billion, of which $250 billion is
available for immediate use, to acquire troubled
assets from financial institutions.
When the Administration proposed the bill, the
intent was to increase the availability of capital in
the markets through the Treasury’s acquisition of
illiquid real estate-related financial instruments.
In furtherance of this objective, the government
solicited bids for asset managers to handle whole
mortgages and securitized mortgage loan portfolios; however, the managers were never selected.
The Secretary admitted subsequently that it “was
clear to me by the time the bill was signed on Oct.
3 that we needed to act quickly and forcefully,
and that purchasing troubled assets—our initial
focus—would take time to implement and would
not be sufficient given the severity of the problem
[in the financial markets].”
At the time, Paulson concluded that the purchase of illiquid mortgage-related assets “is not the most effective way to
use TARP funds, but we will continue to examine whether targeted forms of asset purchase can play a useful role in helping
to strengthen our financial system and support lending.” With
that statement, the Secretary effectively extinguished TARP as
originally conceived and embarked on the implementation of a
new program by the same name, whose parameters have yet to
be fully established.
Paulson has affirmed that he will “live within the intent of the
bill,” but strongly believes that the act gives him broad authority to take such action as he deems necessary “to protect and
recapitalize our financial system as we work through the stresses
in our credit markets.”
As an alternative to purchasing troubled assets, Paulson determined that “the most timely, effective step to improve credit
market conditions was to strengthen bank balance sheets
quickly through direct purchases of equity in banks,” and on
Oct. 14, he announced the implementation of the Capital
Purchase Program. Under that program, the government will
acquire up to $250 billion in preferred stock in federally regulated financial institutions—$125 billion will be invested in the
country’s nine largest financial institutions, and the remainder
will be invested in eligible financial institutions that elect to
participate in the program.
The Secretary has indicated the government
will use the TARP funds in accordance with the
“purposes of the Act,” which he summarizes as
follows: “How best to strengthen the capital base
of our financial system; how best to support the
asset-backed securitization market that is critical
to consumer finance and how to increase the
foreclosure mitigation efforts.”
On Nov. 11, Paulson further modified TARP
by authorizing the use of funds to acquire shares
in AIG, which is not a regulated financial institution. He justified the investment in AIG as necessary “to prevent systemic failures.”
Speculation runs rampant about the future of
TARP and the likely beneficiaries of its funds.
Bloomberg News, for instance, has stated that
the best chance of survival for GMAC Financial
Services would be to sell assets pursuant to TARP.
While an asset sale seems unlikely in light of Secretary Paulson’s recent pronouncement, GMAC
could benefit from an equity investment. The Secretary has said
that he would consider making equity investments in companies
that provide consumer credit through the securitization of auto
loans, student loans and credit card receivables, so GMAC could
be one of the next beneficiaries of the program.
The future of TARP is uncertain. The Secretary has left open
the possibility that TARP funds could be invested in troubled
firms wholly unrelated to the financial system, such as automobile manufacturers. Only time and the actions of the Secretary
will resolve the uncertainty.—SOCAL
“The Secretary
has left open the
possibility that
TARP funds could
be invested in
troubled firms
wholly unrelated
to the financial
system.”
The views expressed in this article are those of the author and not
Real Estate Southern California.
Susan J. Booth heads the West Coast Real Estate Group at the
law firm of Holland & Knight LLP. She can be reached at
213-896-2540 and susan.booth@hklaw.com.
