Paulson: Financial Rescue Is Working

Paulson Remains Reluctant on Auto Maker, Homeowner Aid.
WALL STREET JOURNAL ONLINE
Rescue Is Working, Treasury Secretary Says; 'Turned the Corner' on Stabilization Efforts.

The Treasury secretary said the U.S. has "turned the corner" in preventing a financial collapse, but expressed reservations about aiding auto makers.

Treasury Secretary Henry Paulson expressed fresh reservations Tuesday about tapping a $700 billion bailout pool to aid auto makers and provide mortgage guarantees to help stem soaring home foreclosures.

Mr. Paulson and Federal Reserve Chairman Ben Bernanke defended their management of the bailout program on Capitol Hill, just one week after the administration officially abandoned its original rescue strategy of buying assets from financial institutions.

The U.S. has "turned a corner" in averting a financial collapse, but more work needs to be done to get things back to normal, Mr. Paulson told the House Financial Services Committee.

He also cautioned against using some of the bailout money to provide guarantees for mortgages at risk of falling into foreclosure, but said the administration will look for ways to provide foreclosure relief.

In a break with the administration, Federal Deposit Insurance Corp. Chairman Sheila Bair, also testifying before the panel, pressed anew for using $24 billion of the bailout money to help some American households avoid foreclosure. As foreclosures mount, the government is "clearly falling behind the curve," she warned.

Mr. Paulson also said that although having a U.S. auto company fail during such a fragile time for the economy would not be a "good thing," he remains opposed to diverting $25 billion of the bailout money to aid Detroit as the panel's chairman Rep. Barney Frank, and other Democrats want.

There are "other ways" to help battered auto makers, Mr. Paulson said. "I don't see this as the purpose" of the bailout program, which is intended to stabilize jittery financial markets and get lending flowing more freely again, which eventually should help revive the ailing economy, he said. (See the full text of Paulson's prepared remarks.)

Focusing the bailout program on infusing billions into banks - and possibly other types of companies - to pump up their capital and bolster lending to customers was deemed a faster and more effective approach to stabilizing the financial system than the original centerpiece of the plan, Mr. Paulson said.

Buying financial institutions' toxic debts would have required a "massive commitment" of the bailout money, Mr. Paulson told the panel. As economic and financial conditions quickly worsened, it became clear that the first installment of the money - $350 billion - for that purpose "simply isn't enough firepower," he said.

It's crucial that the administration be nimble in assessing changing conditions and adapt the bailout strategy accordingly, the Treasury chief said. "If we have learned anything throughout this year, we have learned that this financial crisis is unpredictable and difficult to counteract," Mr. Paulson said.

Stemming Foreclosures
Ms. Bair, meanwhile, stressed the government needs to do more to prevent the record cascade of foreclosures.

"Much more aggressive intervention is needed if we are to curb the damage to our neighborhoods and broaden economic health," Ms. Bair said in prepared remarks before the House committee.

The FDIC and the Bush administration for weeks have battled over a Bair-favored plan to more aggressively address the foreclosure issue. Last week, the administration joined with Fannie Mae and Freddie Mac to announce a much more limited plan to address troubled mortgages that has already been panned by many lawmakers who say it doesn't do enough to deal with the crisis.

More broadly, Ms. Bair said the banking industry continues to have a liquidity problem.

"This problem originally arose from uncertainty about the value of mortgage-related assets, but credit concerns have broadened over time, making banks reluctant to lend to each other or lend to consumers and businesses," Ms. Bair said in her remarks.

Ms. Bair said the FDIC, when it supervises the banks it regulates, plans to assess whether firms are using the capital they receive from the federal government to lend back into the economy.

"These considerations are consistent with the precept that the highest and best use of bank capital in the present crisis is to support lending activity," she said.

Ms. Bair also said the FDIC is considering changes to its temporary program to guarantee the senior unsecured debt issued by banks, which it will consider at a board meeting on Friday. "For example, we are considering suggestions with regard to whether the debt guarantee program should cover very short-term funding or whether we should have a tiered fee structure based upon the maturity of the debt guaranteed," Ms. Bair said.

Confusing Signals
Last week, Mr. Paulson changed course and said the government wouldn't use any of the $700 billion to buy bad assets from banks. That had been the focus of the plan Messrs. Paulson and Bernanke originally pitched to lawmakers.

"There is no playbook for responding to turmoil we have never faced," Mr. Paulson said. "We adjusted our strategy to reflect the facts of a severe market crisis."

But lawmakers worried the administration was sending confusing signals to taxpayers and Wall Street investors.

"We all understand that when conditions on the ground change, policy makers must be agile enough to adjust to those changed circumstances," said Rep. Spencer Bachus. "But changing too quickly, without adequately explaining why you've changed or what you're going to do next, risks sending mixed signals to a marketplace that is in dire need of certainty and a sense of direction."

Going forward, the ability of Treasury to use the bailout program for capital injections and to take other steps to stabilize the financial system - including any actions needed to prevent the disorderly failure of a major financial institution - "will be critical for restoring confidence and promoting the return of credit markets to more normal functioning," Mr. Bernanke told the panel.

Mr. Paulson said the department will focus on rolling out a capital injection program to pour $250 billion into banks in return for partial ownership stakes in them.

Treasury also will search for new ways to boost the availability of auto loans, student loans and credit cards, which have been become harder to get due to the credit crisis.

Specifically, the department along with the Federal Reserve, is exploring using some of the bailout money to bankroll a new loan facility designed to help companies that issue credit cards, make student loans and finance car purchases. Mr. Paulson said he expected putting up only a "relatively modest share" of the bailout money for this facility.

Mr. Bernanke said there are "some signs that credit markets, while still quite strained, are improving." Overall credit conditions, he warned, "are still far from normal, with risk spreads remaining very elevated and banks reporting that they continued to tighten lending standards through October."

"There has been little or no bond issuance by lower-rated corporations or securitization of consumer loans in recent weeks," Mr. Bernanke said.

So far, the Treasury Department has pledged $250 billion for banks and has agreed to devote $40 billion to troubled insurer American International Group -- its first slice of funds going to a company other than a bank. That leaves just $60 billion available from Congress' first bailout installment of $350 billion.

Mr. Paulson said he is not planning to initiate another capital injection program beyond those already announced. Thus he's unlikely to tap the remaining $350 billion before the Bush administration leaves office on Jan. 20. That would mean the incoming administration of President-elect Barack Obama would decide whether and how the money should be spent.

The idea behind the capital injection program is for banks to use the money to rebuild reserves and lend more freely to customers. However, banks do have the leeway to use the money for other things, such as buying other banks, paying dividends to investors or bonuses to executives. That has touched a nerve with some lawmakers.

Locked-up lending is a prime reason why the U.S. is suffering through the worst financial crisis since the 1930s. All the fallout from the housing, credit and financial crises have badly hurt the economy, which is almost certainly in recession, analysts say.

—Michael Crittenden, Brian Blackstone and the Associated Press contributed to this article.