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.Second, when the federal gov-ernment balked at providing financial guarantees, CIT was able to workout a deal in the private sector.Third, the federal policy toward CITwas inconsistent.Why pump $2.3 billion into CIT in late 2008 if, withthat extra capital, it was still not worthy of a federal debt guarantee?The Case for Bailing Out Life Insurers Is WeakThe federal government bailed out AIG, the global insurer, because itwas the largest seller of credit default swaps (CDS), which offered pro-tection against the default of MBS and corporate bonds.Because therewas no clearinghouse for CDS at the time, federal offi cials feared thatAIG s failure would lead to the failure of an indeterminate number ofcounterparties.(The bailout of AIG is described in detail in Chapter 4.)More generally, the Treasury has said that other life insurers willbe eligible for capital infusions if they own a federally regulated bankor thrift.24 Several insurance companies such as Genworth and LincolnNational have announced acquisitions of small thrifts to become sav-ings and loan holding companies; other life insurers, such as Allstate andPrudential, already owned thrifts, and did apply to the Treasury to getcapital infusions.25In May, 2009, the Treasury agreed in principle to inject $22 billioninto at least seven life insurers that own savings and loan associations.26 Why and How Treasury Recapitalized So Many Banks 215The life insurers argued for a federal capital infusion because they aresignificant investors in corporate bonds, real estate, and commer-cial MBS.They also provide unique long-term products insurancepromises to pay death benefits and annuity promises to pay retirementbenefits.But the most articulate opponent of federal subsidies for theinsurance industry is Evan Greenberg, CEO of an insurer called ACELimited, who wrote:There is no evidence that insurers inhibit the availability ofcredit, or possess counterparty credit exposure, that threatensthe financial system.Yes, insurers have been buffeted by thecurrent financial market turmoil.But this is not a crisis, nordoes it threaten a run on the bank. Insurers are not gener-ally lenders, and the availability of credit is not meaningfullyaffected by insurers financial issues.Nor will delivering capitalto insurers unfreeze any credit markets.27Some of the largest life insurers such as New York Life andNorthwestern Mutual, are not asking for assistance because they arefinancially sound.28 Several insurers, including Prudential, that wereapproved for a federal capital infusion have decided to reject the gov-ernment s offer.29 When the Treasury provides cheap capital totroubled life insurers, they obtain an unfair advantage overtheir healthy competitors that were more prudent managers offi nancial risk.Therefore, the Treasury should not have recapital-ized life insurers.If they need short-term liquidity, they shouldbe allowed to take advantage of the Fed s lending program andthe FDIC s debt guarantees.(See Chapter 7.)How the U.S.Treasury Recapitalized the BanksShortly after the passage of the Bailout Act, Treasury Secretary Paulsonbrought to his office the CEOs of the eight largest U.S.financial insti-tutions and pressured all of them into accepting substantial capital con-tributions from the Treasury in the form of preferred stock.30 Althoughthe CEOs of some of these banks said they did not need the govern-ment s capital, this was an offer they could not refuse.Paulson wanted 216 t oo bi g t o s a ve ?all eight banks to accept the government s preferred stock to avoid anystigma being attached to the few banks, such as Citigroup, which reallyneeded the capital infusion.According to documents obtained underthe Freedom of Information Act, Paulson said: We don t believe it istenable to opt out because doing so would leave you vulnerable andexposed.If a capital infusion is not appealing, you should be aware thatyour regulator will require it in any circumstances. 31The Treasury had already decided on the amounts of capital to bereceived by each bank (see Table 9.1), and the uniform terms for the32preferred stock.Its preferred stock pays an annual dividend of 5 per-cent for 5 years, which then increases to 9 percent if not redeemed bythe bank.The preferred stock carries warrants (similar to call options)for the Treasury to purchase a certain amount of the bank s commonshares at a specified price.The bank may redeem the preferred stock atits face value, without penalty after three years, with a significant por-tion of the cash derived from a public or private offering.At any time,the Treasury may sell the preferred stock to a third party.Table 9.1 Summary of Estimated Value Conclusions (Largest Eight Banks)Purchase Program Validation Face SubsidyParticipant Date Value Value % $Capital Purchase ProgramBank of America 10/14/08 $ 15.0 $12.5 17% $ 2.6CorporationCitigroup Inc.10/14/08 25.0 15.5 38% 9.5JPMorgan Chase & Co 10/14/08 25.0 20.6 18% 4.4Morgan Stanley 10/14/08 10.0 5.3 42% 4.2The Goldman Sachs 10/14/08 10.0 7.5 25% 2.5Group Inc.The PNC Financial 10/24/08 7.6 5.5 27% 2.1Services GroupU.S.Bancorp 11/3/08 6.6 6.3 5% 0.3Wells Fargo & Company 10/14/08 25.0 23.2 7% 1.8Total $124.2 $96.9 22% $27.3Source: Congressional Oversight Panel. Why and How Treasury Recapitalized So Many Banks 217If the Treasury holds only preferred stock of a participating bank,the Treasury has limited rights to nominate directors or vote for them.Its preferred stock is nonvoting with three exceptions.If the participat-ing bank falls behind on its preferred dividend payments to the Treasuryfor six successive quarters, the Treasury may nominate two preferreddirectors to the bank s board.The Treasury also has the standard rightto vote on any matters that could adversely affect the rights of itspreferred stock.Finally, the Treasury retains the right to vote on anymerger, as well as on any exchange or new issuance of bank shares.The Terms of the Initial Preferred Omitted Key ConditionsThe standard terms of the preferred stock are notable for what theydo not contain.A participating bank may continue to pay dividendson its other shares at current levels, unless it misses dividend payments onthe Treasury s preferred stock
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