TAP the TARP

Treasury Secretary Henry Paulson was seen as the US government’s front man as the credit crisis escalated. But then the whole debate on the rescue bill tainted his image as the financial wonder-boy from Goldman Sachs. As investors stared into the abyss and contemplated the “Second Great Depression” a new hero emerged—it was Federal Reserve Chairman and Depression-expert Ben Bernanke.

Yesterday, it was Ben’s turn to explain the government’s new plan to the world. He penned an opinion piece for the Wall Street Journal called “We're Laying the Groundwork for Recovery -- The necessary policy tools are in place.” (With all due respect to Bernanke, he is an economist, not a tabloid headline writer!) The article was published a day after the US announced a sweeping plan to stabilize the banking system.

Following the lead of the UK and other countries in Europe, the government said that it would TAP the TARP this week to bolster the banking industry. Uncle Sam will invest $250 billion into the nation’s banks in exchange for preferred stock. Half of the lump sum was directed towards large banks- Bank of America, Citigroup, JP Morgan Chase and Wells Fargo and all will get $25 billion, Goldman Sachs and Morgan Stanley, the country’s newest bank holding companies, will pocket $10 billion, Bank of New York and State Street are due to receive $2-3 billion. The government will also guarantee all senior debt issued by banks over the next three years and will provide unlimited FDIC insurance to all noninterest-nearing accounts, which are used primarily by businesses.

Mr. Bernanke assures us that these actions, combines with all of the previous efforts, will be able to meet the challenges in the
markets and in the economy. “We will not stand down until we have achieved our goals of repairing and reforming our financial system, and thereby restoring prosperity to our economy.” Time will tell if he is right, but as we entered last weekend, it was clear that the government’s previous efforts were not working fast enough, as interbank lending was under increasing strain, equity market volatility was reaching all-time highs and credit markets were making new lows. In Bernanke’s words, “clearly the time had come for a more comprehensive and broad-based solution.”

The global action was needed to reduce systemic risk and to restore the functioning of global financial markets. Indeed the plan may eventually accomplish this lofty goal, but it will be a long process. Mr. Bernanke himself acknowledged that “at the root of the problem is a loss of confidence by investors and the public in the strength of key financial institutions and markets.” Confidence is a funny thing—it takes a lifetime to establish and a moment to evaporate. The coordinated global effort was necessary to stabilize the financial system, but it will now take time for investors and citizens to trust that we are on the road to recovery.