The Bankwatch

Tracking the consumer evolution of financial services

Treasury PPPIP plan is directionally sound albeit potentially too small

Tim Geithner (link to WSJ Op/ed piece today) has introduced the long awaited US Treasury solution for toxic assets, with the terrible title of Public Private Partnership Investment Program (PPPIP) – that’s a lot of P’s and on top of so many new acronyms lately.

While it seems like a long time coming the breadth and thought that must have gone into this suggest at least some cautious support is deserved.  The current climate in US banking is toxic, let alone the assets, and some sense of strategy and direction is desperately required.

The plan is framed on three basic principles.

Treasury Department Releases Details on Public Private Partnership Investment Program | US Treasury

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 report outlines the merits of the approach and summarises the opposing concerns of two approaches – purchasing assets with no conditions attached, versus simply doing nothing and hoping the banks can work it out.  Neither of those approaches is sustainable in light of the enormity of the banks’ toxic debt problem.  That toxic debt problem grows daily in the absence of action, because the future becomes more and more uncertain.

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.

To summarise, the approach is to introduce private investment desire and criteria alongside government funding.  In essence this approach is designed to improve the opportunity for taxpayer money to be better deployed, and in fact participate on any future upside.

The final piece of the puzzle is the amount, and here I am a little surprised at the relatively small size of $500bn, with government money of $75 – $100bn in that allotment.  Given that US projected losses are valued at between $900bn and $1,800bn, the PPPIP plan seems small. [update: Geithner piece in WSJ indicates the amount can be raised to $1,000bn]

projected-losses-summary

However its a start, particularly compared to UK so far, and sends a clear signal to the system.

Relevance to Bankwatch:

The use of private investment expertise is interesting and potentially the most controversial aspect of the plan, given they were the same folks who failed to note the systemic risk that got us here in the first place.  Nonetheless they are better placed to have learned from recent experience than a government department will make investment decisions – government motivation will always lean to political, and be relatively more expensive.

I would just like to see some clear direction that allows us to see that the crisis is being addressed as a debt crisis, and this satisfies that requirement.  Only then can we begin to consider looking and planning forward.

Written by Colin Henderson

March 23, 2009 at 11:25

Posted in Uncategorized

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