Treasury Announces $68 Billion in Expected CPP Repayments

A loyal reader of this blog sent me today's press release from the Treasury Department, the introduction of which is below.

"WASHINGTON – The U.S. Department of the Treasury announced today that 10 of the largest U.S. financial institutions participating in the Capital Purchase Program (CPP) have met the requirements for repayment established by the primary federal banking supervisors. Following consultation with the primary banking supervisor of each institution, Treasury has notified the institutions that they are now eligible to complete the repayment process. If these firms choose to do so, Treasury will receive $68 billion in repayment proceeds."

The reader posed two good questions to me:

1. Too much repayment, too fast?
2. Was this money really ever needed?

Answer 1

Given the scarcity of capital in current markets, the general nervousness that surrounds the economy, the fact that we are seeing only a very few positive economic indicators, and the economic "upturn" could be a false signal, I would not have given the government back their money yet. Having to go back and ask the Treasury for a second capital injection in the future should definitely be a CEO career ending event.

Answer 2

The money was never really needed, except by Bear Stearns, Lehman Brothers and AIG. Only the later group had real cash flow problems. Almost everybody else had to take the money in order to increase confidence in the financial system. 

As I have said before, a financial crisis is in large part a crisis of confidence. A crisis is of such consequence that most people immediately overreact, especially when it is the first financial crisis of their lifetime, government tenure or banking career. When the government gets involved significantly in the "turnaround" and all its aspects, we can be confident that the government will overspend, over regulate and generally focus on issues of no economic consequence. This is true regardless of political party.

The best thing the Obama administration could do would be to stop spending stimulus money and recognize that more normal market forces are now at work and will gradually right the U.S. economy. Maybe even in time for the 2012 presidential elections.

If the government continues stimulus spending and running huge deficits, government borrowing will crowd the private sector out of the capital markets and we will see interest rates not seen since 1980, when the Fed Funds rate was above 10 percent for almost the entire year and peaked at 19.44 percent. In the early 1980s government borrowing was to finally pay for the Vietnam War. (As an aside, someday the U.S. has to pay for the wars in Iraq and Afghanistan.)

The current Fed Funds rate is at an extremely low historical rate of approximately 19 basis points, .0019, in large part to provide economic stimulus. However, the U.S. Government can not borrow forever before bondholders demand higher returns to match the enormous supply of new bonds coming on the market each month. Then interest rates will move upward dramatically. Will they reach 1980 levels--hopefully not, but interest rates have to move much higher.