Bailout retooled to boost lending
A wider range of financing firms may get US funds
Treasury Secretary Henry Paulson yesterday backed away from the original strategy behind the $700 billion US plan for propping up the limping economy, opening the door to pump government cash into credit card companies, auto financing firms, and other consumer lenders in addition to banks.
The initial concept behind the bailout plan called for buying troubled mortgage-backed securities from banks and investment firms, an approach Paulson had forcefully advocated just last month. But yesterday, he suggested the government would continue to buy stock in banks and extend its investments to include nonbank lenders. Another option he raised is to require firms that receive taxpayer funds to raise money from private investors.
"Insuring the financial system has sufficient capital is essential to getting credit flowing to consumers and businesses," Paulson said.
Markets fell after Paulson's disclosure, which disappointed investors who were waiting to hear details of a potential government stimulus package with direct aid to automakers or spending on roads and bridges. The benchmark Dow Jones industrial average slid 411.30 points, finishing the day down 4.7 percent at 8,282.66.
One goal of Paulson's new strategy, making it easier for consumers to borrow and spend, also has become a recent focus of lawmakers from both parties.
US Representative Barney Frank, the Newton Democrat who chairs the House Financial Services Committee, said Paulson's decision leaves room for the incoming administration of President-elect Barack Obama to allocate funds to aid homeowners who can't make mortgage payments, a tactic Frank said he'd support as a way to reduce foreclosures.
Frank said the government should compel financial firms receiving public funds to use the money to increase lending rather than to pay for acquisitions or executive salaries. "We have to put more pressure on the banks to re-lend what they've got," he said.
Economists and analysts identified a plethora of firms likely to sell shares to the government under Paulson's revised strategy, some of which have already put out their hands. Candidates would include the financing arms of General Motors Corp. and Ford Motor Co., and student lenders like Sallie Mae, said Scott Talbott, senior vice president for the Financial Services Roundtable, a Washington, D.C., industry group whose members include such large institutions as Citigroup and Bank of America Corp., both of which have received government funds.
Toni Simonetti, a vice president at GM's financing unit, GMAC, said her division already is in discussions with regulatory authorities about how to access government capital. GMAC had previously filed to convert to a bank holding company in order to qualify for federal aid.
Throughout the credit-starved economy, the makers and sellers of big-ticket items like cars and boats are looking to the new rescue plan to revive business by injecting federal money into financing companies, making it easier for dealerships to get products into their pipelines.
"Small marine lenders have gone under, dealerships have closed, and boat builders have laid off thousands of people," said Ellen Hopkins, director of marketing communications at the National Marine Manufacturers Association in Chicago, which lobbied to extend the bailout to nonbank financial institutions. "We're hoping this will help the boat dealerships get financing so they can fill their showrooms."
Talbott said his group supports the new strategy as a faster and more effective way to infuse funds directly into the economy. The original plan was to rescue financial firms by buying their troubled investments in securities backed by mortgages, which had lost their value or were impossible to price, freeing up their cash so the firms wouldn't fail.
The government already has spent up to $250 billion buying stock in big banks, including Boston's State Street Corp. Extending this strategy to other companies, Paulson indicated, would make it easier for consumers to get loans for things like homes, cars, and college tuition.
"Although the financial system has stabilized, both banks and nonbanks may well need more capital given their troubled asset holdings, projections for continued high rates of foreclosures, and stagnant US and world economic conditions," Paulson said.
The US economy shrank three-10ths of 1 percent in the third quarter, largely because consumer spending declined at an annual rate of 3 percent, the sharpest fall in 30 years.
Yesterday's negative market reaction may be because traders viewed the move as "a backward-looking footnote" to financial rescue efforts, said Bill Cheney, chief economist at John Hancock Financial in Boston. He said many investors have shifted focus from the credit crisis to the problems in the broader economy.
"There's no new big boost on offer here," Cheney said. "The markets have gone on to looking at what we're going to do for the auto industry and when we're going to get an economic stimulus."
Several market-watchers said Paulson's shift seemed designed to address consumer confidence, which is emerging as the largest economic challenge as the holiday shopping season approaches.
"There's no question that the next thing that's going to affect the economy is going to be credit cards and small loans, whether they're for cars or home equity," said Edward M. Mazze, professor of business administration at the University of Rhode Island. "If people can't get auto loans or small loans to tide them over on home improvement projects, it's only going to create more panic and slow down the recovery."
Jason O'Donnell, senior research analyst at Boenning & Scattergood, a brokerage firm in West Conshohocken, Pa., said one result of yesterday's move may be government aid to struggling US automakers that stops short of a full-scale bailout. Despite pleas from Obama and other Democrats to help the auto industry, the Bush administration wants to keep the focus of rescue efforts on financial institutions.
"The hope is this will support automakers without resorting to direct capital investment in nonfinancial institutions," he said. "This isn't anything close to an announcement that the government is stepping in to provide equity capital for General Motors."
Whatever emerges, the new plan will force financial institutions to share the risk and makes it more likely that US taxpayers ultimately will be reimbursed, suggested Nigel Gault, chief US economist for research firm IHS Global Insight in Lexington.
"You've got to give them credit for not just sticking to something to save face if they felt it wasn't going to work," said Gault.
Ross Kerber can be reached at kerber@globe.com, Robert Weisman at weisman@globe.com. 