Citigroup Bailed Out
| Sun Nov. 23, 2008 10:21 PM PST
CITIGROUP BAILED OUT....The feds have finally agreed on a plan to bail out Citigroup. The Wall Street Journal has the details:
Under the plan, Citigroup and the government have identified a pool of about $306 billion in troubled assets. Citigroup will absorb the first $29 billion in losses in that portfolio. After that, three government agencies — the Treasury Department, the Federal Reserve and the Federal Deposit Insurance Corp. — will take on any additional losses, though Citigroup could have to share a small portion of additional losses.
....In exchange for that protection, Citigroup will give the government warrants to buy shares in the company. In addition, the Treasury Department also will inject $20 billion of fresh capital into Citigroup. That comes on top of the $25 billion infusion that Citigroup recently received as part of the the broader U.S. banking-industry bailout.
....The government didn't require Citigroup to make changes to its executive ranks or its board in return for government assistance. However, Citigroup agreed to "comply with enhanced executive compensation restrictions," the government said Sunday, and also will implement a government-backed plan to modify distressed mortgages that is designed to curb foreclosures.
First take: this appears to be a pretty sweet deal for Citi: $20 billion in new capital and a potentially huge asset guarantee, all at what looks to be a pretty small price. My guess is that the distressed mortgage stuff and the "enhanced executive compensation restrictions" are little more than window dressing, and considering that the feds are handing over $20 billion to a company whose entire market cap at the moment is around $20 billion, the preferred shares they're giving up in return are a good deal for Citi unless they pretty much wipe out the equity of its current shareholders. And since the New York Times reports only that the shares "will slightly erode the value of shares held by investors," it looks like Uncle Sam isn't getting anywere near enough to do that.
What else? The government is guaranteeing 90% of all losses above $29 billion out of a $306 billion pool, which means that Citigroup now has about $250 billion in government-guaranteed assets in that pool. Presumably this can be turned into cash at a very favorable rate indeed, which should do wonders for Citi's liquidity.
So that's that. But I guess I have one more question. Up until a couple of days ago, Citigroup was insisting that they were very adequately capitalized, thankyouverymuch. But tonight they accepted $20 billion in fresh capital. So either (a) their position deteriorated a lot in the past 48 hours, (b) the government's terms were so spectacularly generous that they figured they'd be stupid to turn it down, (c) Paulson insisted they take it even though they didn't want it, or (d) they've been lying. Which do you think it is?
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Comments
According to DeLong, the main thing that has affected Citi's fortunes has been changes in the discount factor (which includes a risk premium) that is used to value its assets. Since this is a present value of future cash flows computation, small changes in this discount factor can have huge effects on the bottom line. In his example, going from a 6% to a 10% discount factor, the value of the company goes from $200B to $20B.
Falling stock price and government takeover of equity are among the factors that can make the risk premium go up.
The relevance of this would be that the discount factor, already a somewhat vague number, could easily have gone up a lot since "a couple of days ago". And "adequately capitalized" has a different meaning for a bank from what it has for most other types of business.
Say it with me Kevin.
Why did we rescue it?
Because it was too big to fail.
What should be done with corporations too big to fail?
THEY MUST BE BROKEN UP.
Kevin, aren't you at all curious as to what pouring more money into a company too big to fail will do to us in the future?
e) Mid range management hid the problems to secure their jobs, horribly incompetent chiefs only noticed the day before yesterday that there are huge losses.
Read the NYT story, it shows that there wasn't a risk management worth its name in that pigsty, but the upper management didn't seem to care. And those idiots are still believed to "earn" their decadent salaries? Nonsense. You and I could have done the same lousy job for less money.
Let's do the math.
We already put in $25 billion. Citibank is valued at $21 billion. The taxpayer is now putting in another $20 billion.
Why doesn't the taxpayer outright own Citibank? Not warrants. Own! Why are all the management that created this mess still there and drawing salary.
Some reference to "executive compensation restrictions" doesn't cut it. The metaphorical tumbrels should have been rattling down Wall St. a long time ago.
Our government is guilty of sloppy law-making and oversight, pushed along by faulty and over-ideological radicalism in the Congressional majority and the executive. So for that the Republicans can take the major part of the blame. The bad financial actors are guilty of greed, disregarding their responsibilities to their employees and shareholders, greed, bringing the whole country low, and more greed.
For that some heads should roll.
A few months ago, Citi, knowing that it was going broke, attempted to purchase another bank, Wachovia, that was also going broke. When will these criminals be brought to justice? They have bankrupt this country and do not know when to stop. This is unreal.
What would have happened if $500 billion had be spread out to the 8,000 local banks in the U.S. that are not failures. They can and do handle loans to the businesses in their communities. Then the Fed could handle the cases like GM who need bigger loans to be able to go bankrupt. The huge banks that are causing all the trouble could be left put out their own fires or burn.
Sadly, these sweetheart deals at taxpayer expense for the upper management and shareholders of these lousy financial institutions continue because most American citizens have absolutely no understanding of what is going on.
I bet most voters couldn't even tell you what a stock or a dividend is.
So they have no idea how outrageous these deals are.
But most Americans get all huffy about aid to the automakers because they have a better grasp of that business. The irony is that the automakers are asking for a fraction of what is now routinely doled out to the banks and insurers.
In addition, CEO compensation in the auto industry is way too high, but it is small compared to that earned on Wall St. by a slew of people.
Why doesn't the Treasury simply buy the shares at going market rates? The government, being a patient long-term investor, then holds these shares (or maybe all the shares) for some time and re-IPOs the company, making a profit for a taxpayer. Imagine the sort of deal a Warren Buffett with several trillion dollars would demand. Why are the taxpayers getting less of a deal?
As for the "too big to fail", maybe we need new regulations specifically for the oversize entities. The very biggest financial institutions have to submit to much more detailed regulation and analysis. Don't like it? Then stay under the size limits. Stay out of certain lines of business.
This will not play well here in Michigan. Whatever the merits of the econonmic argument, this raises fundamental questions of fairness when the "big 3" were turned away while financial institutions are put on the dole. I don't recall Citigroup Execs getting lectured for 2 straight days by senators/representatives.
VOR: Why doesn't the Treasury simply buy the shares at going market rates?
Even better, just take Citi into receivership. That's what they did, quite correctly, with WaMu and Wachovia. Shareholders are wiped out, which is what we hard hearted pinko capitalists think ought to happen when you make lousy investments. It avoids something called moral hazard. Oh no, wait, moral hazard only applies to middle class homeowners and auto workers. It's completely inapplicable to Wall Street geniuses.
But rather than flipping Citi as they did with WaMu and Wachovia, Citi can continue to be run while under receivership. Government injects money as needed to keep it running, then in the future re-privatizes it at a profit. Worked for Sweden, but of course Treasury insists on taking the failed Japanese approach of propping up failed institutions at taxpayer expense.
Alex, I agree with all your points except the one about the Japanese approach.
After hesitating, the Japanese finally did end up nationalizaing some banks and taking big stakes in others. It worked, Japanese banks are now stronger than their U.S. and European rivals. Shareholders took big hits in the arrangements and taxpayers ended up making a profit.
Re: "they've been lying" - that is such a harsh word in a world where perception drives reality. If they say they are fine and people believe them, then they are fine - no lying involved.
If people don't believe them, well, its on to Plan B. Or C. Or whatever. But I question the notion that they, or the markets, are describing an objective reality. This is not Newtonian physics here.
g. powell: After hesitating, the Japanese finally did end up nationalizaing some banks and taking big stakes in others.
Good point. I understand though that the hesitation is blamed for making things worse. I'm not sure how long they waited, years?
I also understand that one of the most important aspects of the Swedish bailout is that the government insisted that the state of each bank be evaluated and made public - no hiding problems. Seems like Paulson and Bernanke are taking the opposite approach.
Submitted by patrick (not verified) on Mon Nov. 24, 2008 8:05 PM PST.
my initial thought upon hearing about Citibank's potential bankrupcy was, Yipee! this will cancel out the small fortune's worth of debt I have stored up on my trusty Citi-card... right?
I continue to wonder if the Feds demanded that Citi NOT pay $400 MILLION for "naming rights" to the Mets' new stadium, and deducted that amount from the bail-out check.
I mean, really: how many auto workers could we help for $400 Million?
I hope there's some screaming about this outrage.
