So, we all remember the government’s implementation of TARP last October. The concern after that, however, was how the government was specifically going to handle the relief of these bad assets rather than simply pumping money into financial institutions. I remembered wondering and being concerned with this as well, and just this past Monday, Treasury Secretary Geithner gave the world (and me) a preliminary answer: the Public-Private Investment Program (PPIP).
Even though this plan was just released on Monday, I could already find 35,000 Google search results for the exact title of the program. Let’s see if I can figure out on a high level how this is going to work.
The first source I found on this program was directly from an op-ed piece that Geithner wrote himself for the WSJ on Monday. He states that the main point of creating the program is to expand the liquidity of banks and also increase their capabilities to extend credit through the purchasing of legacy loans and assets through a mixture of both private and public backed financing, which will in turn rid these “toxic” assets from the bank’s financial sheets and create a market for these assets. Now, on to my questions and feeble attempts to answer them.
First, what are legacy assets and why are they a problem?
According to the Treasury Department’s PPIP Fact Sheet ,
… 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.
Ok, so it seems to me that this makes sense that banks wouldn’t want these assets hanging around on their balance sheets because they are extremely risky and difficult to value, therefore giving investors an unclear glimpse of their financial stability.
I think that helped a bit. I’m still very much in the dark though – so why would this plan involve the creation of an entirely new market (with the need for even more regulation and potential problems in the future) that is funded by a mixture of public and private investors?
In Geithner’s article, he states that the logic for creating a new market for these assets will essentially increase their value, and therefore reduce the uncertainty associated with the losses banks realized on their balance sheet. Additionally, this will then allow for banks to increase their lending because they are free of the already bad lending decisions they made in the past. Geithner said this a bit more tactfully but that’s ok. Next, why is this fund comprised of both private and public investors? It seems that the main strategy behind this is to share the risk (and potential gains) of these investments between both private entities and the taxpayer, rather than simply calling upon the government to buy these assets.
The question now is…will this work? Although I’m in no position to evaluate this, I’ll try to stay hopeful that these people know what they’re doing and finally we can begin to see a light at the end of the tunnel.