The clock continues to tick for Capitol Hill lawmakers on negotiations to reach a deal on the debt limit (Image: Thinkstock)

• Time is Running Out for Capitol Hill Lawmakers to Reach a Deal on the Debt Limit

Although President Barack Obama made it a priority to enter negotiations on the nation’s debt limit today, the clock continues to tick for Capitol Hill lawmakers on negotiations to beef up the limit. Republicans are adamant in their position that they will not agree to raising the limit without a commensurate level of cuts in the federal budget. Democrats are equally determined that revenue increases and economic stimulus measures must be part of any deal. Failure to come to an agreement by the Treasury Department’s August 2 deadline, could throw financial markets into turmoil and jeopardize the nation’s already weak economic recovery.

House Majority Leader Eric Cantor (R-Virginia) chose to walk away from the group led by Vice President Joe Biden that is working on the deal, eliciting criticism from Democrats and surprise from Republicans who were caught unaware that he was even considering such a move. Sen. Jon Kyl, Cantor’s counterpart in the upper chamber, also has chosen to no longer participate in the process.

Cantor said that he walked away from the negotiations because the group has reached an impasse over taxes that he believes has to be resolved between Boehner and President Obama.

“These talks are essentially in abeyance for now. They may or may not resume in different forms,” White House spokesman Jay Carney told reporters last week.

Congressional Black Caucus Chairman Emanuel Cleaver called Cantor’s decision irresponsible.

“There is an urgent need to resolve the debt ceiling issue and it is beyond irresponsible not to work toward increasing the debt limit immediately,” he said. “I am very disappointed that the Republican leadership has decided to walk away from such critical negotiations with the future of our economic viability in an indeterminate state. The American people do not deserve this.”

So now the ball is in Obama and Boehner’s court. The two and Senate Majority Leader Harry Reid (D-Nevada) are expected to take place at the White House this week.

Speaking on ABC’s This Week With Christiane Amanpour Sunday morning, House Assistant Minority Leader James Clyburn (D-South Carolina) said that he thought the bipartisan talks had been going well until the Republican leaders opted out. He also disputed Republican “talking points” that Democrats want to increase taxes, saying that they want to close the loopholes that enable corporations and the wealthiest Americans to pay lower taxes than they should.

“We want to close those loopholes up. We do not want to raise anybody’s tax rates. That’s never been on the table, and I wish they would get beyond their talking points and really get honest with the American people as to what these discussions are about,” Clyburn said.

Continued on page 2

Photo: Kevin Allen

• Small Business Lending Fund is Moving Very Slowly

Remember the Small Business Lending Fund that President Obama’s administration boasted would provide a much-needed financial boost to small businesses and community development banks? In testimony before the House Small Business Committee last Wednesday, Treasury Secretary Timothy Geithner admitted that the process has moved much slower than the administration had hoped.

Geithener said that the administration is both surprised and disappointed about the program’s pace, but blamed it on safeguards that Congress put in the legislation to protect taxpayers. He also said that it was taking more time than anticipated for regulators to evaluate applications and ensure that loans would be repaid. According to Geithner, the Treasury Department has received 869 applications requesting $11.6 billion in SBLF program funds.

“We require the applications to be reviewed by their primary bank supervisor and we don’t consider them unless they get recommended by the bank supervisor. That program leaves us vulnerable to the time it takes those regulators to be careful in a review. But also, we have to look independently at them, and we’re trying to be careful,” he said. “So we’re a little slower than we thought. But we’re very close to moving ahead and again, I’m very confident you’re going to see a very meaningful impact on the institutions that are eligible. And we’re close to being able to unleash that capital.”

Rep. Allen West (R-Florida) said that during a meeting with a local chamber of commerce, community bankers expressed concern that they are facing a great deal more regulation that they do not have the resources to address. He suggested that there may be a need to review the Dodd-Frank bill to determine whether it is having an unanticipated adverse effect on small businesses and community banks. West also said that lawmakers need to find “that sweet spot, kind of like on a baseball bat” in terms of how much regulation is required.

Geithner acknowledged that bank examiners are only human and want to ensure that they are on the side of caution, but also said it was important to not overdo it.

Congresswoman Barbara Lee (Image: Lee.house.gov)

As President Obama prepares to address the nation tonight, members of the Congressional Black Caucus publicly criticized the administration on the military engagement in Libya. Most vocal among them was Rep. Barbara Lee (D-California), the lone member of Congress to vote against the use of military force in Iraq after the 9/11 terrorist attacks.

“I’m concerned, first of all, that any military engagement in Libya or anywhere in the world should have been debated and voted on by Congress. We all know that there’s a serious crisis in Libya. But United States military intervention could really exacerbate the humanitarian crisis, it could heighten instability in the region,” she said during a television interview.

She also maintained that the Constitution specifies that the president to have a full conversation with Congress before agreeing to participate in any military intervention and doesn’t believe that the briefing Obama held with House and Senate leadership prior to implementation of the no-fly zone meets that requirement. In addition, she pointed to similar “circumstances of unrest” in other parts of the world, including the Ivory Coast, Syria and Yemen.

Democratic D.C. Del. Eleanor Holmes Norton also strongly disagrees with U.S. involvement in Libya, expressing grave concerns about mission’s purpose. She referred to it as a third war in the Middle East. Like Lee, she believes that the mission could escalate the situation in Libya.

“Most disturbing are confused objectives for the intervention. Is it Gaddafi must go or is this a no-fly mission to protect civilians?” Norton asked. “These objectives are at war with each other. If Gaddafi remains and becomes entrenched, the rebels and other civilians could be in even greater danger. Yet the U.S. position is that we are not after Gaddafi, but are only there to protect innocent civilians.”

Rep. James Clyburn (D-South Carolina), the House Assistant Democratic Leader, said on in a televised news report that he “supports what the president is doing,” but also would have preferred to have received more consultation from the Obama White House beyond the bipartisan meeting with House and Senate lawmakers last week.

Treasury’s Program For Small Business Innovation

In remarks delivered to a group of policymakers and entrepreneurs last Tuesday at the conference “Fostering Growth and Innovation for Small Companies,” Treasury Secretary Timothy Geithner said the Obama administration is working to improve access to capital for small businesses to boost growth and job creation.

“This financial crisis we’re just coming out of caused a lot of damage to the capacity of innovators to access capital and we can’t promote innovation on the scale we need unless we can do a better job in the future of helping innovative companies again gain access to funding,” he says.

According to Geithner, the president has signed into law 17 different tax cuts for small businesses, including eliminating capital gains taxes on investments in those businesses and increasing the amount they can expense to $500,000. In addition, the administration has put in place increases in funding and incentives for investment for industries that have the potential for “high, broad economic social returns,” such as clean energy, health care, basic science and research.

The Treasury Secretary also announced that Connecticut, Vermont and Missouri have been approved to receive funding for small business lending under the Small Business Credit Initiative, which supports state-level programs that partner with private lenders to increase the amount of credit available to small businesses. The initiative is a provision that was included in the Small Business Jobs Act signed into law last year. The administration estimates that the three states could generate more than $534 million in total lending. California, Michigan and North Carolina have already received funding through the initiative.

“This funding provides a lot of leverage for the taxpayers’ resources, probably roughly 10 to 1,” Geithner says. “And we’re working with programs that have an established track record on the ground in states across the country.”

BE Editor-in-Chief Derek Dingle with Secretary Geithner

When Barack Obama became the 44th President of the United States, the nation stood on a financial cliff. The deteriorating banking sector, credit crunch, collapsing housing market and plummeting stock market, among other fiascos, threatened to plunge the nation into Depression 2.0. Part of the president’s rescue plan was tapping Tim Geithner, the former New York Reserve Bank president, as Treasury Secretary. Having served in the Treasury Department during the Clinton Era and engaged in the first leg of the bailout of the financial industry before George W. Bush left the White House, Obama saw him as being perfectly suited to help him develop every major plank of his agenda to revive and grow the American economy, including continuation of the $700 billion Troubled Asset Relief Program, or TARP; crafting the $787 million American Recovery and Reinvestment Act, better known as the stimulus package; and comprehensive financial reform. Two years later, the nation is back from the brink and GDP is growing at pre-recession levels. However, Geithner must wrestle with major challenges as he meets the  president’s mandate to rebuild America for future prosperity and competitiveness: stubbornly high unemployment,  a tepid housing market and a projected $1.5 trillion federal budget deficit.

In an exclusive interview that took place after the president’s second State of the Union address, BLACK ENTERPRISE Editor-In-Chief Derek T. Dingle talked with the nation’s chief financial officer on Black Enterprise Business Report about a range of issues, including the administration’s ability to finance Obama’s ambitious “win the future” agenda, provide foreclosure relief for the jobless, implement financial reform and develop targeted programs for African American communities that have suffered the most during the economic downturn.

BE's EIC Derek T. Dingle shoulder-to- shoulder with Geithner (Image: Kevin Allen)

When President Obama delivered his second State of the Union address to the American people last week, he boldly proclaimed his plan to “win the future” by making investments in industrial innovation, education and infrastructure.  As he charged the nation to “out-innovate, out-educate and out-build the rest of the world,” the president also stressed “the need to take responsibility for our deficit and reform our government,” offering proposals such as streamlining  government and a five-year freeze on domestic spending outside of Medicare, Medicaid and Social Security.

Obama shared his vision during a week that produced a number of economic reports, both promising and troubling. The good news included the Commerce Department revealing Friday that gross domestic product – a broad measure of goods and services produced – grew at a 3.2% annual rate in the fourth quarter, regaining the level reached before the Great Recession. The Conference Board, an industry group, reported that consumer confidence in January rose to its highest level in eight months. And a day after the president’s address, the Dow Jones Industrial Average crossed the 12,000 threshold for the first since 2008. The bad news, on the other hand, was alarming. The nonpartisan Congressional Budget Office projected that the federal budget deficit for 2011 would hit $1.5 trillion, almost 10% of GDP. The bellwether S&P/Case-Shiller index of home values in 20 cities fell 1.6% from November the prior year, the greatest 12-month decline since December 2009.  And real estate market researcher RealtyTrac found that high unemployment drove up foreclosures in 72% of 206 leading metros in 2010. With U.S. unemployment at 9.4% — 15.8% for African Americans – all eagerly await release of the US Department of Labor jobs report this Friday.

The man who will help President Obama put the American economy back on track is Treasury Secretary Timothy F. Geithner. For the past two years, the nation’s chief financial officer has been pivotal in every major economic and financial policy decision, from stabilizing the financial system and averting Depression 2.0 to helping thousands gain foreclosure relief. In our exclusive interview on Jan. 26, a day after the State of the Union, BLACK ENTERPRISE Editor-In-Chief Derek T. Dingle was the the only media company to sit down with Geithner and talk about the delicate balancing act of making investments to increase American competitiveness while putting the nation’s financial house in order. As the interview began, Geithner characterized the administration’s response to financial crisis and recovery: “We were fire fighting, defusing bombs, using a little battlefield medicine, triage but now it’s about rebuilding.”  The following are edited excerpts from that session:

BLACK ENTERPRISE: What is the current state of the American economy?

Timothy Geithner: The economy is growing and it’s getting a little more momentum now. We’re seeing exports stronger, private investment is stronger, you’re seeing manufacturing come back, the agricultural economy is very strong now, the strongest it’s been in a long period of time. The economy has created about more than 1 million private sector jobs in the last 12 months or so which is much more, much more quickly than coming out the last two recessions which were much milder recessions. So we’re making progress but we have a lot of challenges. We have very high levels of unemployment still and we’ve got these very large, unsustainable long-term deficits. What the president did [at the State of the Union] was to lay out a very optimistic, very confident vision for how we meet those challenges and what we need to do in the United States to make sure that we’re making more progress, creating a stronger economy and going back to living within our means.

In the State of the Union, the president discussed making investments in innovation, education and rebuilding infrastructure. Given the deficit, how can you pay for that?

The things we need to do to make sure that we are creating more things in the United States, that we’re rebuilding infrastructure and we’re educating our children, those are things that we can afford as a country. Of course, we have to make sure we can demonstrate to the American people we can spend less on less important things [and] spend their taxpayer resources much more wisely. If we do that we can afford to make those targeted investments, and those investments have a very high return. They have huge returns to the American economy in terms of higher growth rates, more opportunities for Americans, more income growth for Americans, you’ll see more jobs. That’s why it’s so important to do.

How will the president’s plan impact the current unemployment situation?

The best thing we can do for the unemployment rate today and the next two years is to make sure the economy is growing more rapidly. That’s the most powerful way to get people back to work. It’s important for people to understand that growth has to come before you see job creation at a much more rapid pace. So what the president is trying to do is make sure we’re investing today in things that are going help strengthen not just short-term growth but long-term growth. I’m very confident that’s the best strategy for the country.

You’ve put out the financial fire, corporate earnings are rising, the Dow just crossed 12,000 [last week]. Why does the corporate sector still have a lack of confidence when it comes to hiring?

The economy went through the worst crisis we had seen since the Great Depression. It was a shattering blow to the basic confidence of Americans and American business. It’s going to take some time for people to be more confident that it is definitively behind them and make them believe that they can take a risk again on the strength of the American economy but that’s happening now. If you look at how businesses are spending their resources now, private investment grew at a roughly 10% annual rate last year, a little faster than that. That’s pretty rapid growth, much more rapid growth than the overall economy as a whole.  So you’re seeing businesses start to put their money to work again, start to take a risk again and in doing that they’ve added back 1 million jobs in the last 12 months.  I think you’re going to see the pace of job creation now start to accelerate as growth gets stronger.

What is your jobs forecast for 2011?

I don’t do forecasting but if you look at what the best private forecasters say about the American economy they think the economy is going to be growing roughly somewhere between 3% to 4% this year and that will translate into a substantial, meaningful increase in the rate in which we’re getting people back to work.

Click here to continue reading on page 2

Geithner is all smiles, while in the hot seat (Image: Kevin Allen)

Even though the administration initiated measures like targeted tax incentives, increased SBA loan guarantees  and developed a $30 billion fund for community banks to lend to small business, most institutions are still not providing such financing.  What can be to be done to get small banks to boost their lending?

The president did put in place a sweeping, very creative comprehensive set of measures and a bunch of tax incentives for small businesses, too. They are starting to help now. You’re starting to see for the first time the rate of growth of lending by banks to small businesses starting to strengthen. If you talk to banks across the country, they’re starting to see more demand from small businesses for lending which is good. That’s a sign that they think there’s going to be more demand for their products. They want to be able to put more resources to work, bring people back to the job and will need to borrow to do that. And you’re going to start to see that happen on a greater scale.

Are there any other measures to shore up small businesses?

We have a program in place that gives states substantial resources for them to put more ammunition into their lending program for small businesses. We want to make sure that if someone has an idea [and] want to create a new business, they can get funding. If someone has an existing business and want to expand, we make sure they can find the financing to do that.

There’s still a high incidence of home foreclosures. What is the administration doing to curb that trend?

The principle thing that’s driving the rate of foreclosures across the country, and it’s not surprising, is the high levels of unemployment. If someone loses [his or her] job or your spouse loses his or her job, you’re going to find it hard to meet your monthly payments on your house until you get back to work. Until we get the economy to grow more rapidly and until we get the unemployment rate down more definitively, it is going to be hard to get the housing market back on its feet more quickly.  The president is doing everything he can to try to do that. Now as we do that, we’re trying to make sure we reach as many Americans as we can and give them a chance to save their house. We can’t reach everybody.

So you’re trying to help those who were responsible and found themselves in a tough situation due to no fault of their own.

Exactly. Not only that, you had people who were taken advantage of and we need to help them out.  You have people who were completely innocent victims, who were responsible in how they borrowed, bought a modest home but who saw all their neighbors lose their homes, saw house prices in their neighborhoods fall very, very sharply. That hurt them a lot, too. That’s why it’s so important that we do what we can to get the economy growing again, get house prices start rising again and try to reach people who really deserve to be helped stay in their homes.

The Center for American Progress recently released a report that communities of color have been the most devastated by the Great Recession and the Obama administration should develop targeted programs to help them. Is the administration developing such programs?

The Center is absolutely right. This is what always happens in a recession. The impact falls much more brutally, much more severely on African American communities [and] urban areas. That’s the tragic thing of recessions and financial crisis. The programs that we designed are designed to go to where the needs are greatest. One thing we’ve done is to make sure that the states that were hardest hit in the housing crisis or have cities and communities that were suffering the most damage receive more assistance.  So we have a program in the housing market which gives 18 states which are at the center of the crisis still a substantial amount of resources that they can use to help people who are unemployed and risk losing their home or give people greater principal reduction on their mortgages. We think that’s a good strategy. We’ve also tried to put more substantially more resources into the community development financing program and into our New Markets Tax Credit Program. So we are directing resources where they’re needed most and where over in the past we’ve seen they have huge benefits in helping communities get back on their feet more quickly.

For more of this interview with Secretary Geithner, view Black Enterprise Business Report, which airs on Saturday, Feb. 5, and Sunday, Feb. 6; upcoming video clips on blackenterprise.com; and the April issue of Black Enterprise magazine.

• For more of our political coverage, see:
• Obama’s plan to win the future
• Rescuing communities of color
• What you can learn from…the Obama White House Shake-Up

Woods has traditionally turned to major banks for his lending needs. But after last week’s announcement that the Treasury Department will provide up to $1 billion in Troubled Asset Relief Program Funds to spur lending by Community Development Financial Institutions to businesses in the areas hardest hit by the economy, he’ll be taking a closer look at some of the participating CDFIs that may well be the key to restarting his construction project.

“These institutions operate in parts of the country where unemployment is way above the national average and where there’s been a huge amount of damage to people’s faith and confidence in the system,” Treasury Secretary Tim Geithner told a group of reporters following the announcement. “This program is a very powerful way to try to make sure that we’re starting to open up some of the credit channels for businesses in parts of the country where it’s most needed, and we think there’s going to be a very high return.”

The terms of the program, first announced last October, have been enhanced based on input from members of the CDFI community.

The amount of capital available to participating institutions has been increased from 2% to 5% of their risk-weighted assets or loans, and credit unions can apply for an equivalent amount of total assets. CDFIs that previously received TARP funding will be allowed to transfer that capital to the new program. Participants will pay a dividend rate of 2%, compared to the 5% rate applied under the Capital Purchase Program. That rate will increase to 9% after eight years. The Treasury will begin accepting applications for funds by the end of February.

According to Dorothy Bridges, CEO of Washington, D.C.-based City First Bank, she and several other community bankers had several extensive discussions with Geithner, members of Treasury’s CDFI staff and, on occasion, President Barack Obama himself about how the program could be improved.

(Continued on next page)

“They needed to hear from us what we thought would work for our communities and what would work for our financial institutions with regard to the terms and condition,” said Bridges. “They listened, and where they could make some changes, they did.”

CDFIs that do not receive regulator approval will be allowed to participate in the program if they can raise enough private capital investment that, when combined with matching funds from Treasury, they’ll meet the viability standard.

“The big banks go to the public markets to raise capital any time there’s a shortfall, and regardless of how much money they’ve lost, they’ve still been able to raise capital,” said Joe Haskins, CEO of Harbor Bank of Maryland (No. 10 on the BE Banks list with $285 million in assets). “We don’t have that luxury. This gives us an opportunity to enhance our capital base.”

Bridges believes that the new terms will have “a very definite and significant” impact on black businesses and hopes that learning about the program will give them a more positive outlook on the lending landscape.

“They listen to the same media that we do and because they’re hearing that—for a number of reasons—banks aren’t lending, many of them didn’t approach banks like ours to inquire about loans,” she said. “I hope this will ease their uncertainty and make them feel like the administration is very serious about its efforts, and that community banks and CDFIs are serious about lending again. Something like this will jump-start their desire to get back in business.”

Deborah Wright, CEO of Carver Federal Savings Bank (No. 1 on the BE Banks list with $789.9 million in assets), said the community bankers who met with Geithner this week explained to Treasury officials that the economy has had a more debilitating effect on the financials at black businesses.

“Part of the capital will be used to make loans to companies that may not look as pristine as they did a couple of years ago. But when you have a cushion, you can take more risks as a bank,” said Wright. “There was a lot of pressure from our regulators to preserve capital, so this will be a shot in the arm for our industry. We have to let people know that we’re back in business.”
The news has been very satisfying for black lawmakers on Capitol Hill who had begun grumbling that the Obama administration had turned a blind eye to the devastation taking place in their districts, and its domino effect on local black businesses.

“The administration is finally realizing that yes, there is such a thing as targeting—just as we targeted those big banks on Wall Street—and focusing help where the need is greatest,” said Rep. David Scott (D-Georgia), who sits on the House financial services committee. “That need is greatest in minority communities.”

Flanked by thousands of boxes of paper records stored by Metropolitan Archives, a Maryland-based business that used an Small Business Administration loan last year to buy its building, Obama said, “There’s still too little credit flowing to our small businesses,” that need financing to stay open or to grow.

Under the administration’s plan, banks with less than $1 billion in assets will be able to borrow at a 3% dividend rate, which is lower than the five-percent rate banks participating in TARP’s Capital Purchase Program currently pay. The rate will increase to 9% after five years to encourage timely repayment.

Community Development Financial Institutions (CDFIs) that lend to small businesses in low-income neighborhoods will be able to borrow capital at a 2% rate for eight years.

No date has been set for when the program will begin, but each bank’s participation is subject to the approval of its federal regulator. In addition banks must submit a plan that explains how the capital would allow them to increase small business lending and includes lending goals based on how much they want to borrow. If approved, they must submit quarterly progress reports.

In a conference call with reporters last week, Gene Sperling, counselor to Treasury Secretary Tim Geithner, said that 56% of the business loans made by the more than 7500 financial institutions that have assets under $1 billion go to small businesses, compared to 21% by those with assets over $1 billion. Treasury has not yet determined how much of an increase the program will yield.

“If you want to help small businesses get more credit you’ve got to make sure that smaller banks that are so often the source of their lending have more capital,” he said. “It’s the community banks that are lending not from Wall Street but from down the street that are the source of credit for so many of the entrepreneurs and small business owners in our country.”

Louis Prezeau, CEO of the City National Bank of New Jersey (No. 3 on the BE Banks List with $495 million in assets), is elated.

“This will help us to do more of what we do, which is help an underserved community. It will be business as usual-plus, with some incentive for us to do more,” he said.

Prezeau, believes institutions like his have been caught in a catch-22 situation in which banking regulators are requiring them to maintain higher capital ratios while encouraging them to do more lending.

“You can’t grow the bank as fast because of restrictions on your ability to leverage capital,” he said, so Obama’s plan is particularly appealing. However, he and other CDFIs, believe that the business plan requirement is a redundant step that will slow the actual lending process and that their annual certification should be sufficient.

“We don’t mind reporting every quarter, but should not be required to provide additional data on [small business lending goals]. That’s what we do, so why are they asking us to file that information again?” he said.

Prezeau believes the administration could instead sweeten the plan by forgiving part of a bank’s previous TARP loans based on its rate of increase small business lending as a result of the new program.

Obama also called on Congress to increase SBA loan limits. Under his recommendation, the agency’s microloan program would be increased from $35,000 to $50,000; 504 loans would go from $2 million to $5 million for standard borrowers and to $5.5 million from $4 million for manufacturers; and 7(a) loans would go from $2 million to $5 million. Congressional approval would be required but there is bipartisan support such changes in both the House and Senate.

José Mantilla, president of Legacy Bank in Milwaukee (No. 13 on the BE Banks list with $224.5 million in assets and BE Financial Services Institution of the Year), said it would be a “tremendous help” to banks like his because it mitigates the risk and creates liquidity.

“We have been very active as lenders this year and this will help us even further once the legislation is passed,” Mantilla said. “For community banks, raising capital is tough today. Having access to more at a lower cost will allow us to leverage and lend out more funds.”

* Efforts to Improve Affordability for Responsible Homeowners: Treasury has implemented programs to allow families to save on their mortgage payments by refinancing, assist responsible homeowners in avoiding foreclosure through a loan modification plan, and, alongside the Federal Reserve, help bring mortgage interest rates down to near historic lows. This past month, the 30% increase in mortgage refinancing demonstrated that working families are benefiting from the savings due to these lower rates.

* Consumer and Business Lending Initiative to Unlock Frozen Credit Markets: Treasury and the Federal Reserve are expanding the TALF in conjunction with the Federal Reserve to jumpstart the secondary markets that support consumer and business lending. Last week, Treasury announced its plans to purchase up to $15 billion in securities backed by Small Business Administration loans.

* Capital Assistance Program: Treasury has also launched a new capital program, including a forward-looking capital assessment undertaken by bank supervisors to ensure that banks have the capital they need in the event of a worse-than-expected recession. If banks are confident that they will have sufficient capital to weather a severe economic storm, they are more likely to lend now – making it less likely that a more serious downturn will occur.

The Challenge of Legacy Assets: Despite these efforts, the financial system is still working against economic recovery. One major reason is the problem of “legacy assets” – both real estate loans held directly on the books of banks (“legacy loans”) and securities backed by loan portfolios (“legacy securities”). These assets create uncertainty around the balance sheets of these financial institutions, compromising their ability to raise capital and their willingness to increase lending.

* Origins of the Problem: The challenge posed by these legacy assets began with an initial shock due to the bursting of the housing bubble in 2007, which generated losses for investors and banks. Losses were compounded by the lax underwriting standards that had been used by some lenders and by the proliferation of complex securitization products, some of whose risks were not fully understood. The resulting need by investors and banks to reduce risk triggered a wide-scale deleveraging in these markets and led to fire sales. As prices declined, many traditional investors exited these markets, causing declines in market liquidity.

* Creation of a Negative Economic Cycle: As a result, a negative cycle has developed where declining asset prices have triggered further deleveraging, which has in turn led to further price declines. The excessive discounts embedded in some legacy asset prices are now straining the capital of U.S. financial institutions, limiting their ability to lend and increasing the cost of credit throughout the financial system. The lack of clarity about the value of these legacy assets has also made it difficult for some financial institutions to raise new private capital on their own.

The Public-Private Investment Program for Legacy Assets

To address the challenge of legacy assets, Treasury – in conjunction with the Federal Deposit Insurance Corporation and the Federal Reserve – is announcing the Public-Private Investment Program as part of its efforts to repair balance sheets throughout our financial system and ensure that credit is available to the households and businesses, large and small, that will help drive us toward recovery.

Three Basic Principles: Using $75 to $100 billion in TARP capital and capital from private investors, the Public-Private Investment Program will generate $500 billion in purchasing power to buy legacy assets – with the potential to expand to $1 trillion over time. The Public-Private Investment Program will be designed around three basic principles:

* Maximizing the Impact of Each Taxpayer Dollar: First, by using government financing in partnership with the FDIC and Federal Reserve and co-investment with private sector investors, substantial purchasing power will be created, making the most of taxpayer resources.

* Shared Risk and Profits With Private Sector Participants: Second, the Public-Private Investment Program ensures that private sector participants invest alongside the taxpayer, with the private sector investors standing to lose their entire investment in a downside scenario and the taxpayer sharing in profitable returns.

* Private Sector Price Discovery: Third, to reduce the likelihood that the government will overpay for these assets, private sector investors competing with one another will establish the price of the loans and securities purchased under the program.

The Merits of This Approach: This approach is superior to the alternatives of either hoping for banks to gradually work these assets off their books or of the government purchasing the assets directly. Simply hoping for banks to work legacy assets off over time risks prolonging a financial crisis, as in the case of the Japanese experience. But if the government acts alone in directly purchasing legacy assets, taxpayers will take on all the risk of such purchases – along with the additional risk that taxpayers will overpay if government employees are setting the price for those assets.

Two Components for Two Types of Assets: The Public-Private Investment Program has two parts, addressing both the legacy loans and legacy securities clogging the balance sheets of financial firms:

* Legacy Loans: The overhang of troubled legacy loans stuck on bank balance sheets has made it difficult for banks to access private markets for new capital and limited their ability to lend.

* Legacy Securities: Secondary markets have become highly illiquid, and are trading at prices below where they would be in normally functioning markets. These securities are held by banks as well as insurance companies, pension funds, mutual funds, and funds held in individual retirement accounts.

The Legacy Loans Program: To cleanse bank balance sheets of troubled legacy loans and reduce the overhang of uncertainty associated with these assets, the Federal Deposit Insurance Corporation and Treasury are launching a program to attract private capital to purchase eligible legacy loans from participating banks through the provision of FDIC debt guarantees and Treasury equity co-investment. Treasury currently anticipates that approximately half of the TARP resources for legacy assets will be devoted to the Legacy Loans Program, but our approach will allow for flexibility to allocate resources where we see the greatest impact.

* Involving Private Investors to Set Prices: A broad array of investors are expected to participate in the Legacy Loans Program. The participation of individual investors, pension plans, insurance companies and other long-term investors is particularly encouraged. The Legacy Loans Program will facilitate the creation of individual Public-Private Investment Funds which will purchase asset pools on a discrete basis. The program will boost private demand for distressed assets that are currently held by banks and facilitate market-priced sales of troubled assets.

* Using FDIC Expertise to Provide Oversight: The FDIC will provide oversight for the formation, funding, and operation of these new funds that will purchase assets from banks.

* Joint Financing from Treasury, Private Capital and FDIC: Treasury and private capital will provide equity financing and the FDIC will provide a guarantee for debt financing issued by the Public-Private Investment Funds to fund asset purchases. The Treasury will manage its investment on behalf of taxpayers to ensure the public interest is protected. The Treasury intends to provide 50 percent of the equity capital for each fund, but private managers will retain control of asset management subject to rigorous oversight from the FDIC.

* The Process for Purchasing Assets Through The Legacy Loans Program: Purchasing assets in the Legacy Loans Program will occur through the following process:

o Banks Identify the Assets They Wish to Sell: To start the process, banks will decide which assets – usually a pool of loans – they would like to sell. The FDIC will conduct an analysis to determine the amount of funding it is willing to guarantee. Leverage will not exceed a 6-to-1 debt-to-equity ratio. Assets eligible for purchase will be determined by the participating banks, their primary regulators, the FDIC and Treasury. Financial institutions of all sizes will be eligible to sell assets.

o Pools Are Auctioned Off to the Highest Bidder: The FDIC will conduct an auction for these pools of loans. The highest bidder will have access to the Public-Private Investment Program to fund 50 percent of the equity requirement of their purchase.

o Financing Is Provided Through FDIC Guarantee: If the seller accepts the purchase price, the buyer would receive financing by issuing debt guaranteed by the FDIC. The FDIC-guaranteed debt would be collateralized by the purchased assets and the FDIC would receive a fee in return for its guarantee.

o Private Sector Partners Manage the Assets: Once the assets have been sold, private fund managers will control and manage the assets until final liquidation, subject to strict FDIC oversight.

Sample Investment Under the Legacy Loans Program

Step 1: If a bank has a pool of residential mortgages with $100 face value that it is seeking to divest, the bank would approach the FDIC.

Step 2: The FDIC would determine, according to the above process, that they would be willing to leverage the pool at a 6-to-1 debt-to-equity ratio.

Step 3: The pool would then be auctioned by the FDIC, with several private sector bidders submitting bids. The highest bid from the private sector – in this example, $84 – would be the winner and would form a Public-Private Investment Fund to purchase the pool of mortgages.

Step 4: Of this $84 purchase price, the FDIC would provide guarantees for $72 of financing, leaving $12 of equity.

Step 5: The Treasury would then provide 50% of the equity funding required on a side-by-side basis with the investor. In this example, Treasury would invest approximately $6, with the private investor contributing $6.

Step 6: The private investor would then manage the servicing of the asset pool and the timing of its disposition on an ongoing basis – using asset managers approved and subject to oversight by the FDIC.

The Legacy Securities Program: The goal of this program is to restart the market for legacy securities, allowing banks and other financial institutions to free up capital and stimulate the extension of new credit. The resulting process of price discovery will also reduce the uncertainty surrounding the financial institutions holding these securities, potentially enabling them to raise new private capital. The Legacy Securities Program consists of two related parts designed to draw private capital into these markets by providing debt financing from the Federal Reserve under the Term Asset-Backed Securities Loan Facility (TALF) and through matching private capital raised for dedicated funds targeting legacy securities.

1. Expanding TALF to Legacy Securities to Bring Private Investors Back into the Market: The Treasury and the Federal Reserve are today announcing their plans to create a lending program that will address the broken markets for securities tied to residential and commercial real estate and consumer credit. The intention is to incorporate this program into the previously announced Term Asset-Backed Securities Facility (TALF).

o Providing Investors Greater Confidence to Purchase Legacy Assets: As with securitizations backed by new originations of consumer and business credit already included in the TALF, we expect that the provision of leverage through this program will give investors greater confidence to purchase these assets, thus increasing market liquidity.

o Funding Purchase of Legacy Securities: Through this new program, non-recourse loans will be made available to investors to fund purchases of legacy securitization assets. Eligible assets are expected to include certain non-agency residential mortgage backed securities (RMBS) that were originally rated AAA and outstanding commercial mortgage-backed securities (CMBS) and asset-backed securities (ABS) that are rated AAA.

o Working with Market Participants: Borrowers will need to meet eligibility criteria. Haircuts will be determined at a later date and will reflect the riskiness of the assets provided as collateral. Lending rates, minimum loan sizes, and loan durations have not been determined. These and other terms of the programs will be informed by discussions with market participants. However, the Federal Reserve is working to ensure that the duration of these loans takes into account the duration of the underlying assets.

2. Partnering Side-by-Side with Private Investors in Legacy Securities Investment Funds: Treasury will make co-investment/leverage available to partner with private capital providers to immediately support the market for legacy mortgage- and asset-backed securities originated prior to 2009 with a rating of AAA at origination.

o Side-by-Side Investment with Qualified Fund Managers: Treasury will approve up to five asset managers with a demonstrated track record of purchasing legacy assets though we may consider adding more depending on the quality of applications received. Managers whose proposals have been approved will have a period of time to raise private capital to target the designated asset classes and will receive matching Treasury funds under the Public-Private Investment Program. Treasury funds will be invested one-for-one on a fully side-by-side basis with these investors.

o Offer of Senior Debt to Leverage More Financing: Asset managers will have the ability, if their investment fund structures meet certain guidelines, to subscribe for senior debt for the Public-Private Investment Fund from the Treasury Department in the amount of 50% of total equity capital of the fund. The Treasury Department will consider requests for senior debt for the fund in the amount of 100% of its total equity capital subject to further restrictions.

Sample Investment Under the Legacy Securities Program

Step 1: Treasury will launch the application process for managers interested in the Legacy Securities Program.

Step 2: A fund manager submits a proposal and is pre-qualified to raise private capital to participate in joint investment programs with Treasury.

Step 3: The Government agrees to provide a one-for-one match for every dollar of private capital that the fund manager raises and to provide fund-level leverage for the proposed Public-Private Investment Fund.

Step 4: The fund manager commences the sales process for the investment fund and is able to raise $100 of private capital for the fund. Treasury provides $100 equity co-investment on a side-by-side basis with private capital and will provide a $100 loan to the Public-Private Investment Fund. Treasury will also consider requests from the fund manager for an additional loan of up to $100 to the fund.

Step 5: As a result, the fund manager has $300 (or, in some cases, up to $400) in total capital and commences a purchase program for targeted securities.

Step 6: The fund manager has full discretion in investment decisions, although it will predominately follow a long-term buy-and-hold strategy. The Public-Private Investment Fund, if the fund manager so determines, would also be eligible to take advantage of the expanded TALF program for legacy securities when it is launched.

(Source: Treasury Department)