Paulson's original three-page bailout proposal, made last month, made no mention of purchasing large minority stakes in U.S. financial institutions. The proposal only sought $700 billion to buy mortgage-backed securities. Treasury still plans to buy mortgage securities, though it is seeking approval from the White House -- which is expected to give it -- so it can use an additional $100 billion of the $700 billion to buy the illiquid mortgage securities.
During the months before Congress and the White House approved a bailout package on Oct. 3, a bipartisan group of lawmakers including House Financial Services Committee Chairman Barney Frank, D-Mass., pressed to give Treasury the statutory authority to make equity infusions. The British government took steps to make major equity injections into British banks, pushing the U.S. to do the same. But the U.S. government would not have been in a position to take these equity stakes without lawmakers adding that authority in the first place.
In fact, Paulson fought unsuccessfully to block Congress from inserting a provision requiring Treasury to take warrants convertible to equity from financial institutions that sell mortgage securities to the government. Paulson argued that a warrant provision would discourage healthy banks from participating, all of which would limit the revitalization of the credit and equity markets. Congress wanted warrants as part of its protections for taxpayers.
A number of House Republicans opposed any financial injections or mortgage securities purchases. A last-minute and ultimately unsuccessful plan launched by House Financial Services Committee ranking member Spencer Bachus, R-Ala., would only have allocated $250 billion to Treasury. Had that plan passed, Treasury would not have been in a position today to allocate $250 billion to equity infusions and still carry on a $100 billion MBS purchase plan. Should the markets continue to collapse, expect Treasury to use a significant part of its remaining $350 billion to make further equity injections.
Whether you agree with the equity infusion strategy or not, Congress played a major role in Treasury's latest approach. - Ron Orol
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Ron Orol is a Washington-based reporter for The Deal and author of Extreme Value Hedging: How Activist Hedge Fund Managers Are Taking on the World.
