The US government's $700 billion financial rescue effort is only a few weeks old – but it's already morphed into something far broader and more ambitious than its designers originally intended.
The speed and severity of the nation's economic problems simply may have forced it to change. First, the Treasury added direct investment in banks to its plan to buy up troubled mortgage-based assets. Second, it now seems primed to partially guarantee some home mortgages in an effort to stem a rush of foreclosures sweeping through US neighborhoods.
Further modifications could be coming. Insurance and auto companies want some bailout money, too. Other industries may clamor to be included, particularly if Congress holds a postelection, lame-duck session to consider additional moves.
The federal government in fact may still be able to set limits on who or what needs to be rescued. But in any case, given the financial turmoil that has swept through the globe this October, a $700 billion commitment that seemed large at the beginning of the month appears smaller at the end.
At a Senate Banking Committee hearing on Oct. 23, Neel Kashkari, the interim assistant Treasury secretary overseeing the bailout, said the US remains committed to the plan's first intention – the purchase of bad mortgage-based securities that are cluttering the books of financial institutions.
The Troubled Asset Rescue Program, or TARP, has begun hiring key staff. But the Treasury hasn't actually bought any bad loans yet and is still figuring out the process for doing so. Meanwhile, it has moved ahead with a shotgun infusion of cash into the nation's nine largest banks.
Twenty-two smaller regional banks now are also slated to receive government money. On Oct. 24, Treasury officials backed off a plan to publicize the list of these banks, as some institutions felt it would brand them as unhealthy.
Treasury secretary Henry Paulson once said that direct government purchase of financial institution stock would represent "failure." But capital markets deteriorated much faster than the Treasury had anticipated in mid-August, and the US needed to do something – anything – fast.
"Buying equity was a faster way to put capital in the system," Mr. Kashkari told the Senate Banking panel.
Going forward, the Treasury can't predict how much of its effort will be devoted to purchasing bad assets and how much to directly injecting equity, he said.
Not all lawmakers are happy about the metamorphosis of the bailout effort. It's true that Mr. Paulson has wide latitude to do as he sees fit under the terms of the rescue legislation signed into law by the president on Oct. 3. But the use of government cash for acquisitions of other banks – as was the case with PNC – or for pay ment of dividends to investors may raise questions in Congress.
Such uses are allowable under rescue bill provisions. They don't necessarily help jump-start lending to cash-starved US businesses, however.
The next tool the Treasury acquires may deal directly with mortgages. The Bush administration is now working on a plan under which the US would share the risk on refinanced home loans, and Democrats in Congress are pushing hard for such a move. Plus, the foreclosure trend is getting worse.
The US would also set standards for banks to follow in reworking mortgages to make them more affordable. These could be modeled after an existing Federal Deposit Insurance Corp. (FDIC) program for troubled homeowners at the now-federalized IndyMac bank, which failed in July. About 4,000 IndyMac borrowers have benefited from this program so far, saving an average of $430 per month.
Moreover, homeowners might not be the end of it, as far as TARP is concerned. The insurance industry has lobbied for inclusion in the rescue effort, as well. While insurance firms appear to own fewer of the bad mortgage-based assets at the heart of the financial meltdown, several reportedly are now struggling to raise enough capital to keep credit ratings and meet regulatory requirements.
Auto firms want in, too. They argue that their credit arms are vital financial institutions now suffering from a cash-flow crisis.
On Oct. 24, the Financial Services Roundtable, a trade association, sent the Treasury a letter arguing that the government needs to consider investments in a broader range of companies, including broker-dealers, auto companies, insurance firms, and foreign banks.
It's unsurprising that the bailout effort has expanded, because the US financial system is a complicated network of many different kinds of institutions, say some economists.
But the pressure to load more and more into the system may increase pressure to raise the ceiling on the number of tax dollars at risk.
"I bet they double it before they're through," to $1.4 trillion, says Mr. O'Driscoll of the Cato Institute.