Troubled Asset Relief Program: June 2009 Status of Efforts to Address Transparency and Accountability Issues
Published: 2009-06-17T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: GAO's fifth report on the Troubled Asset Relief Program (TARP) follows up on prior recommendations. It also reviews (1) activities that had been initiated or completed under TARP as of June 12, 2009; (2) the Department of the Treasury's Office of Financial Stability's (OFS) hiring efforts and use of contractors; and (3) TARP performance indicators. To do this, GAO reviewed signed agreements and other relevant documentation and met with officials from OFS, contractors, and financial regulators.
section_title: What GAO Found
paragraphs: Treasury continued to operationalize its more recent programs, including the Capital Assistance Program (CAP). As part of this program, the Federal Reserve led the stress tests of the largest 19 U.S. bank holding companies, which revealed that about half needed to raise additional capital to keep them strongly capitalized and lending even if economic conditions worsen. Whether any of the institutions will have to participate in CAP has yet to be determined. While the Federal Reserve disclosed the stress test results, it has no plans to disclose information about the 19 institutions going forward. What information, if any, is disclosed will be left to the discretion of the affected institutions raising a number of concerns including potentially inconsistent or only selected information being disclosed. Moreover, the Federal Reserve had not developed a mechanism to share information with OFS about the ongoing condition of the 19 bank holding companies that continue to participate in TARP programs. According to Treasury, its Financial Stability Plan has provided a basis for its communication strategy. Treasury plans to more regularly communicate with congressional committees of jurisdiction about TARP. However, until this strategy is fully implemented, all congressional stakeholders will not be receiving information in a consistent or timely manner. A key component of the communication strategy is the new www.financialstability.gov Web site. While a goal of the new site is to provide the public with a more user friendly format, Treasury has not yet measured the public's satisfaction with the site. OFS has made progress in establishing its management infrastructure. Continued attention to hiring remains important because some offices within OFS, including the Office of the Chief Risk and Compliance Officer, continue to have a number of vacancies that will need to be filled as TARP programs are fully implemented. Treasury has also continued to build a network of contractors and financial agents to support TARP administration and operations. These contracts and agreements are key tools OFS has used to help develop and administer its TARP programs. Treasury has provided information to the public on procurement contracts and financial agency agreements, but has not included a breakdown of cost data by each entity. As a result, Treasury is missing an opportunity to provide additional transparency about TARP operations.

section_title: Letter
paragraphs: On October 3, 2008, the Emergency Economic Stabilization Act of 2008  (the act) was signed into law. The act established the Office of Financial  Stability (OFS) within the Department of the Treasury (Treasury) and  authorized the Troubled Asset Relief Program (TARP). Among other  things, the act, as amended, provides Treasury with broad, flexible  authorities to buy or guarantee billions in troubled assets, which include  mortgages and mortgage-related instruments, and any other financial  instrument whose purchase Treasury determines is needed to stabilize the  financial markets.
The act also created oversight mechanisms to oversee the implementation  and operations of TARP. These include a requirement that the U.S.  Comptroller General report at least every 60 days on (1) findings resulting  from oversight of TARP’s performance in meeting the purposes of the act;  (2) the financial condition and internal controls of TARP, its  representatives, and agents; (3) the characteristics of both asset purchases  and the disposition of assets acquired, including any related commitments  that are entered into; (4) TARP’s efficiency in using the funds appropriated  for the program’s operation; (5) TARP’s compliance with applicable laws  and regulations; efforts to prevent, identify, and minimize conflicts of  interest of those involved in TARP’s operations; and (6) the efficacy of  contracting procedures. In order to eliminate unnecessary duplication of  effort, we have continued to coordinate our work with entities created  under the act who also were assigned oversight responsibilities for TARP,  including the Congressional Oversight Panel, the Financial Stability  Oversight Board (FinSOB), and the Special Inspector General for TARP  (SIGTARP).
This report follows up on the status of recommendations from our  previous reports and addresses (1) the nature and purpose of activities  that have been initiated or completed under TARP from March 27, through  June 12, 2009, unless otherwise noted; (2) OFS’s progress in hiring staff  and use of contractors; and (3) outcomes measured by indicators of  TARP’s performance.
subsections: section_title: Scope and Methodology
paragraphs: To determine the nature and purpose of TARP activities from March 27,  2009, through June 12, 2009, unless noted otherwise, and the status of  actions taken in response to our recommendations from our March 2009  report, we reviewed documents from OFS that described the amounts,  types, and terms of Treasury’s purchases of senior preferred stocks,  subordinated debt, and warrants under the Capital Purchase Program  (CPP). We also reviewed documentation and interviewed officials from  OFS who were responsible for approving financial institutions to  participate in CPP and overseeing the repurchase process for CPP  preferred stock and warrants. Additionally, we contacted officials from  the four federal banking regulators—the Federal Deposit Insurance  Corporation (FDIC), the Office of the Comptroller of the Currency (OCC),  the Board of Governors of the Federal Reserve System (Federal Reserve),  and the Office of Thrift Supervision (OTS)—to obtain information on their  process for reviewing CPP applications, the status of pending applications,  their process for reviewing preferred stock and warrant repurchase  requests, and their examination process for reviewing recipients’ lending  activities and compliance with TARP requirements.
To update the status of the Targeted Investment Program (TIP), the  Systemically Significant Failing Institutions Program (SSFI), and the  Automotive Industry Financing Program (AIFP), we reviewed relevant  documents and interviewed OFS officials about these programs. We also  met with Federal Reserve officials to discuss the stress test methodology  and results for the 19 largest U.S. bank holding companies and reviewed  related documents relevant to the Capital Assistance Program (CAP).
To provide an update on the Federal Reserve’s Term Asset-Backed  Securities Loan Facility (TALF) and its efforts related to small business  securitizations—and in consideration of GAO’s statutory limitations on  auditing certain functions of the Federal Reserve—we reviewed publicly  available information on the Web sites of the Federal Reserve and the  Federal Reserve Bank of New York that had been made available since our  March 2009 report. We also interviewed officials in OFS for updates to  TALF. For updates to Public Private Investment Program (PPIP) and  small business efforts related to its Consumer and Business Lending  Initiative, we reviewed agency documentation and interviewed Treasury  and FDIC officials. For updates on the Small Business Administration  (SBA) efforts related to improving credit and securitization markets for  small businesses, we relied on previously issued GAO work.
To determine Treasury’s progress in developing an overall  communications strategy for TARP, we assessed Treasury’s activities  based on GAO reports on effective communications. We also accessed  www.financialstability.gov—Treasury’s new Web site for communication  of TARP-related strategies—through June 4, 2009. Further, we interviewed  officials from OFS and Treasury’s Office of Public Affairs to determine  what steps Treasury had taken to coordinate communications with the  public and Congress.
To determine the status of OFS’s efforts to hire staff to administer TARP  duties, we reviewed OFS’s organizational chart, documents on staff  composition and workforce planning, Treasury’s most recent budget  proposal submission to the Office of Management and Budget (OMB), and  OFS vacancy announcements posted on www.financialstability.gov and  www.USAjobs.gov from March 31, 2009, to June 8, 2009. We also reviewed  our prior work on human capital flexibilities and strategic workforce  planning to assess OFS’s performance in these areas. In addition, we met  with a variety of Treasury and OFS officials to discuss the staffing levels of  OFS offices including vacancies, their processes for recruiting employees  with the skill sets and competencies needed to administer TARP, steps  taken to find permanent replacements to fill key leadership positions, and  the extent of pay comparability challenges. We also met with officials from  the Office of Personnel Management to discuss their coordination with  Treasury in establishing hiring flexibilities and other tools to staff OFS.
To assess OFS’s process for vetting employees’ potential conflicts of  interest, we reviewed information from Treasury’s databases used to track  submission and reviews of Treasury employees’ confidential and public  financial disclosure reports. Specifically, we reviewed information in the  databases for 64 OFS employees hired as of April 23, 2009. Of these, 56  were permanent employees required to submit confidential financial  disclosure reports and 8 were senior-level officials required to submit  public disclosure reports. In order to determine the reliability of the  information provided in the databases, we interviewed Treasury officials  and performed basic tests on the data. We determined that the information  provided for these 64 employees was sufficiently reliable for our purposes.  We also reviewed standard operating procedures that Treasury developed  to manage the submissions and reviews of its employees’ financial  disclosure reports and new internal operating procedures developed  specifically for reviewing OFS employees’ confidential financial disclosure  reports. In coordination with GAO experts on federal ethics laws and  regulations, we reviewed information provided by 15 senior-level OFS  officials in public financial disclosure reports and identified any potential  conflicts meriting additional discussion with Treasury ethics counsel. In  addition, we met with Treasury and OFS officials to discuss their reviews  of financial disclosure reports and the training provided to OFS staff on  the laws and regulations pertaining to ethical conduct in the federal  workplace, including those related to conflicts of interest. We met with  officials from the Office of Government Ethics (OGE) to discuss pertinent  ethics regulations that applied to Treasury and reviewed their guidance on  ethical standards of conduct for employees. We also reviewed reports  published by Treasury’s Office of the Inspector General describing  conflicts of interest incidents and their resolution.
To assess OFS’s use of contractors and financial agents to support TARP  administration and operations for the period of March 14 through June 1,  2009, we reviewed information from Treasury for (1) new financial agency  agreements, contracts, blanket purchase agreements, and interagency  agreements; and (2) task orders, modifications, and amendments involving  ongoing contracts and agreements. We analyzed this information, in part,  to identify small or minority- and women-owned prime contractors and  subcontractors providing TARP services and supplies. To report OFS  expenses for contracts and agreements, we obtained information from the  OFS Chief Financial Officer. To identify the extent to which federal  banking regulators use contractors to support their TARP activities, we  obtained information from FDIC, Federal Reserve, OCC, and OTS. To  assess the status of OFS progress in developing a final TARP conflicts-of- interest rule and responding to our prior recommendations to   (1) complete reviews of vendor conflicts-of-interest mitigation plans to  conform with the interim rule and to (2) issue guidance requiring key  communications and decisions be documented, we interviewed officials  from Treasury and reviewed applicable documents.
To assess the status of internal controls related to TARP activities and the  status of TARP’s consideration of accounting and reporting topics, we  reviewed documents provided by OFS and conducted interviews and made  inquiries with officials from OFS, including the Chief Financial Officer,  Deputy Chief Financial Officer, Deputy Chief Risk Officer, Cash  Management Officer, Director of Internal Controls, and their  representatives. To evaluate selected internal control activities related to  the CPP, AIFP, and SSFI programs, we designed tests using OFS’s process  flows, narratives, risk matrices, and high-level operational procedures. As  part of our ongoing work, we completed the following additional activities:    For CPP, we tested certain internal control activities related to dividend  payments received through June 12, 2009, from institutions included in our  previous sample of 45 unique preferred stock purchase transactions for  the four months ended January 31, 2009. To make that selection, we used a  monetary unit sampling (probability proportionate to size) methodology.  We also tested dividends received through June 12, 2009, for TIP, Asset  Guarantee Program (AGP), and AIFP.
For SSFI, we tested selected control activities, including approvals,  reviews, and closing documentation, for the American International Group  Inc. (AIG) restructuring. The documentation that we reviewed included an  exchange agreement and purchase agreement executed on April 17, 2009.
For AIFP, we tested controls over the (1) authorization and execution of  the initial General Motors Corporation (GM) and Chrysler LLC (Chrysler)  agreements (executed on December 31, 2008, and January 2, 2009,  respectively), (2) funding process, (3) receipt of promissory notes and  securities, (4) disbursements made by Treasury under the agreements, and  (5) receipts of interest and principal. In addition, we verified that the loan  amounts disbursed to and interest received from GM and Chrysler were  consistent with the terms of the agreements.
Finally, in our initial report under the mandate, we identified a preliminary  set of indicators on the state of credit and financial markets that might be  suggestive of the performance and effectiveness of TARP. We consulted  Treasury officials and other experts and analyzed available data sources  and the academic literature. We selected a set of preliminary indicators  that offered perspectives on different facets of credit and financial  markets, including perceptions of risk, cost of credit, and flows of credit to  businesses and consumers. We assessed the reliability of the data upon  which the indicators were based and found that, despite certain  limitations, they were sufficiently reliable for our purposes. To update the  indicators in this report, we primarily used data from Thomson  Datastream—a financial statistics database. As these data are widely used,  we conducted only a limited review of the data but ensured that the trends  we found were consistent with other research. We also relied on data from  Inside Mortgage Finance, Treasury, the Federal Reserve, the Chicago  Board Options Exchange, and Global Insight. We have relied on data from  these sources for past reports and determined that, considered together,  these auxiliary data were sufficiently reliable for the purpose of presenting  and analyzing trends in financial markets. The data from Treasury’s survey  of lending to the top 21 CPP recipients (as of March 31, 2009) are based on  internal reporting from participating institutions, and the definitions of  loan categories may vary across banks. Because the data are unique, we  are not able to benchmark the origination levels against historical lending  or seasonal patterns at these institutions. Based on discussions with  Treasury and our review of the data, we found that the data were  sufficiently reliable for the purpose of documenting trends in lending. The  survey data will prove valuable for more thorough analyses of lending  activity in future reports. We also conducted an econometric analysis to  assess the impact of CPP on the TED spread. Although we used a standard  and widely used methodology, the model results should be interpreted  with caution because we did not attempt to capture all potential factors  that might explain movements in the TED spread. Moreover, in spite of the  empirical evidence, we cannot link improvements in the TED spread  exclusively to CPP (see app. III for more detail).
We conducted this performance audit from April 2009 through June 2009  in accordance with generally accepted government auditing standards.  Those standards require that we plan and perform the audit to obtain  sufficient, appropriate evidence to provide a reasonable basis for our  findings and conclusions based on our audit objectives. We believe that  the evidence obtained provides a reasonable basis for our findings and  conclusions based on our audit objectives.
section_title: Background
paragraphs: Since its creation, OFS has implemented numerous programs and  initiatives to carry out TARP. According to Treasury, the purpose of each  program is as follows:    CPP was created in October 2008 to stabilize the financial system by  providing capital to viable banks through the purchase of preferred shares  and subordinated debentures. In return for its investment, the Treasury  will receive dividend payments and warrants.
TIP was created in January 2009 to foster market stability and thereby  strengthen the economy by making case-by-case investments in  institutions that Treasury deems are critical to the functioning of the  financial system.
AGP was created in November 2008 to provide government assurances for  assets held by financial institutions that are viewed as critical to the  functioning of the nation’s financial system.
SSFI was created in November 2008 to provide stability in financial  markets and avoid disruptions to the markets from the failure of a  systemically significant institution. Treasury determines participation in  this program on a case-by-case basis.
AIFP was created in December 2008 to prevent a significant disruption of  the American automotive industry. Treasury has determined that such a  disruption would pose a systemic risk to financial market stability and  have a negative effect on the U.S. economy. The program requires  participating institutions to implement plans that will achieve long-term  viability.
Auto Supplier Support Program was created in March 2009 to help  stabilize the auto supply base, which designs and builds the components  for cars and trucks.
Making Home Affordable Program was created in March 2009 to offer  assistance to as many as 7 to 9 million homeowners. The program aims to  prevent the destructive impact of the housing crisis on families and  communities. According to Treasury, it will not provide money to  speculators, but will target support to the working homeowners who have  made every possible effort to stay current on their mortgage payments.
Consumer and Business Lending Initiative created in March 2009 is an  initiative under the Financial Stability Plan that includes the Federal  Reserve-run TALF. This initiative is intended to support consumer and  business credit markets by providing financing to private investors to issue  new securitizations to help unfreeze and lower interest rates for auto,  student, and small business loans; credit cards; commercial mortgages;  and other consumer and business credit. Subsequently, it subsumed the  Small Business and Community Lending Initiative, which was also created  in March 2009 to increase credit available to local businesses by reducing  fees and increasing guarantees for SBA loans and having Treasury  purchase securities backed by SBA loans.
CAP was created in February 2009 to restore confidence throughout the  financial system that the nation’s largest banking institutions have  sufficient capital to cushion themselves against larger-than-expected  future losses, and to support lending to creditworthy borrowers.
PPIP was established in March 2009 to address the challenge of “legacy  assets” as part of Treasury’s efforts to repair balance sheets throughout  the financial system and increase the availability of credit to households  and businesses. In conjunction with the FDIC, Treasury established the  Legacy Loans Programs component of PPIP.
Since our March 2009 report, a number of major TARP-related events have  occurred (see fig. 1).
section_title: Treasury Has Established Its Core Programs under TARP but Continues to Finalize Some Details
paragraphs: As of June 12, 2009, Treasury projected that it had used $643.1 billion of its  almost $700 billion limit for TARP. Highlights of the transactions and  activities under the various programs include the following:    CPP continues to be one of OFS’s most active programs with OFS  continuing to deploy funds and other participants beginning to repay  investments.
While OFS has hired asset mangers, it has yet to clearly identify what role  the asset managers will have in monitoring compliance.
The Federal Reserve announced the results of the stress test under CAP,  for which Treasury extended the deadline for applications through  November 9, 2009. As of June 8, 2009, no applications had been submitted.
The Federal Reserve announced a number of modifications to TALF and  has completed a number of fundings since March 2009.
OFS and FDIC took additional steps to implement the PPIP’s Legacy Loans  Program, but postponed a previously planned pilot sale of assets by open  banks.
Treasury, in conjunction with the Federal Reserve and SBA, has also  announced additional efforts to provide more accessible and affordable  credit to small businesses.
Citigroup, Inc. (Citigroup) expanded its request to convert preferred  securities and trust preferred securities for common stock from $27.5  billion to $33 billion and finalized the exchange agreement on Jun 9, 2009,  but the conversion had not been completed as of June 12, 2009.
OFS finalized a $30 billion equity facility with AIG under SSFI and  restructured AIG’s existing preferred stock from cumulative to  noncumulative shares but did not require additional concessions from AIG  counterparties.
OFS provided an additional $44 billion in assistance to Chrysler and GM  under AIFP.
Finally, consistent with our recommendations, Treasury has continued to  take steps to develop an integrated communication strategy for TARP, but  we continue to identify areas that warrant ongoing attention and  consideration.
subsections: section_title: Treasury Has Disbursed Almost Half the TARP Limit
paragraphs: As of June 12, 2009, Treasury had disbursed about $330 billion in TARP  funds, approximately $200 billion of them for CPP (table 1).
Officers and employees of Treasury may not obligate or expend  appropriated funds in excess of the amount apportioned by OMB on behalf  of the President. Treasury stated that as of June 12, 2009, OMB had  apportioned about $479.2 billion of the funding levels announced for  TARP. Given this information, it appears that Treasury has not exceeded  the troubled asset purchase limit or obligated funds in excess of those  OMB has apportioned. We are continuing to obtain additional information  from Treasury and review the controls that Treasury has in place to help  ensure compliance with the funding restrictions.
In addition, beginning in April 2009, the budgetary costs of TARP asset  purchases, loans, and loan guarantees since the inception of the program  represent the net present value of estimated cash flows to and from the  government, excluding administrative costs. OFS is continuing to  develop and enhance its methodology and documentation surroun estimated cash flows. We will review TARP’s estimated cash flows and  resulting program costs as part of our ongoing work.
section_title: Treasury Has Received Approximately $6.2 Billion in Dividend Payments
paragraphs: From TARP’s inception through June 12, 2009, Treasury had received  approximately $6.2 billion in dividend payments on shares of preferred  stock acquired through CPP, TIP, AIFP, and AGP (table 2). Treasury’s  agreements under these programs entitled it to receive dividend payments  on varying terms and at varying rates. The dividend payments to Treasury  are contingent on each institution declaring dividends.
From March 21, 2009, through June 12, 2009, 17 CPP participants had not  declared or paid dividends of approximately $6.6 million. Specifically, 7  institutions did not declare and pay their cumulative dividends of  approximately $6 million and 10 institutions did not declare and pay their  noncumulative dividends of approximately $666,000. OFS said it received  notification from the 17 institutions that they did not intend to declare or  pay their May 15, 2009, quarterly dividends. According to OFS officials, of  the 17 institutions, 13 informed Treasury that state or federal banking  regulations or policies restricted them from declaring dividends, 1  indicated concern about its profitability, and 3 did not provide an  explanation as to why they did not declare dividends. According to the  standard terms of CPP, after six nonpayments by a CPP institution— whether or not consecutive—Treasury and other holders of preferred  securities equivalent to Treasury’s can exercise their right to appoint two  members to the board of directors for that institution at the institution’s  first annual meeting of stockholders subsequent to the sixth nonpayment.
Five of these participants were also among the original eight participants  that did not declare or pay approximately $150,000 in noncumulative  dividends as reported in our March 2009 report. Two of the eight paid their  most recent dividend payments for the May 15, 2009, quarterly dividend  payment date. The other participant subsequently declared and paid the  approximately $14,000 in noncumulative dividends previously not paid and  its most recent May 15, 2009, quarterly dividend.
section_title: Treasury Continues to Deploy Funds through CPP While Some Participants Repay Investments
paragraphs: Treasury has continued to use CPP as a primary vehicle under TARP as it  attempts to stabilize financial markets. As of June 12, 2009, Treasury had  disbursed about 92 percent of the $218 billion (revised from the original  $250 billion) it had allocated for the purchase of almost $199.5 billion in  preferred shares and subordinated debt from 623 qualified financial  institutions (table 3). These purchases ranged from about $301,000 to   $25 billion per institution. As of June 12, 2009, about $712 million in  preferred stock shares and subordinated debt from 91 financial  institutions had been purchased since our March 2009 report.
As of June 12, 2009, a variety of types of institutions had received CPP  capital investments under TARP, including 278 publicly held institutions,  307 privately held institutions, 22 S-corporations, 16 community  development financial institutions (CDFI), and no mutual institutions.  These purchases represented investments in state-chartered and national  banks and U.S. bank holding companies located in 48 states, the District of  Columbia, and Puerto Rico. For a detailed listing of financial institutions  that received CPP funds as of May 29, 2009, see GAO-09-707SP.
Treasury and the federal regulators continued to review applications for  CPP. According to Treasury, it has received over 1,300 CPP applications  from the regulators as of June 12, 2009, fewer than 100 were awaiting  decision by the Investment Committee. For many applications in this  category, Treasury is awaiting updated information from the regulators  before taking the application to the Investment Committee for a vote. The  bank regulators also reported that they were reviewing applications from  more than 220 institutions that had not yet been forwarded to Treasury.  Qualified financial institutions generally have 30 calendar days after  Treasury notifies them of preliminary approval for CPP funding to submit  investment agreements and related documentation. OFS officials stated  that about 400 financial institutions that received preliminary approval had  withdrawn their CPP applications as of June 12, 2009. Many of these  institutions withdrew their applications because of the uncertainty  surrounding future program requirements.
Some financial institutions have continued to raise concerns about the  length of time it is taking the bank regulators and Treasury to process their  CPP applications. Bank regulatory officials noted that many factors could  affect the time it took to process a particular bank’s CPP application. For  example,  the necessary term sheet for a particular ownership structure might not  have been available when the bank filed its application and the application  could not be processed, the bank regulators’ interagency CPP Council needed to review the  application, regulators needed to perform on-site visitations or conduct new bank  examinations if the existing examination was dated, regulators needed to consider enforcement actions, or regulators had to request additional information (e.g., related to credit  quality) from the bank before processing its application.
Data provided by the bank regulators showed that, as of May 15, 2009, the  average processing time for CPP applications—from the date the regulator  received the institution’s application to the date it was forwarded to  Treasury—varied from 28 days to 57 days depending on the regulator  (table 4). OFS officials noted that some of the reasons for delays in the  final processing of CPP applications once they had been received, were  the need to obtain shareholder approval to issue preferred stock to  Treasury, obtain executive compensation certification waivers, or  schedule board of directors meetings. According to data provided by OFS,  as of May 15, 2009, the average processing time from the receipt of CPP  application package from the regulators to preliminary funding approval  was about 12 days, and from preliminary funding approval to  disbursement of funds was about 34 days. We are verifying this  information as part of our ongoing review of the CPP process.
section_title: Treasury Extended the Deadline for Small Banks to Apply for CPP Funding and Increased the Funding Limit
paragraphs: The Treasury Secretary announced in a May 13, 2009, speech that Treasury  had taken additional actions under CPP to ensure that small community  banks and holding companies (qualifying financial institutions with total  assets less than $500 million) would have the capital they needed to lend  to creditworthy borrowers. Small banks now have until November 21,  2009, to apply to CPP under all term sheets. All current CPP participants  that qualify as a small bank under these new program terms will be  allowed to reapply and note on their applications that they are making a  supplemental request for CPP funding. These applications will be  evaluated via an expedited approval process that Treasury is currently  working with the four primary federal banking regulators to establish.  New CPP participants will continue to have their applications processed  under the original CPP applications process. Treasury also increased the  maximum amount of CPP funding a small financial institution may receive  from the current 3 percent of risk-weighted assets to 5 percent of risk- weighted assets. The new deadline for small banks to apply to their  regulator to form holding companies and apply for CPP funding is also  November 21, 2009.
section_title: Treasury Finalized CPP Standard Term Sheets for Mutual Institutions
paragraphs: On April 7, and 14, 2009, Treasury issued standardized term sheets for four  types of mutual institutions: mutual holding companies with publicly held  subsidiary holding companies, mutual holding companies with privately  held subsidiary holding companies, top-tier mutual holding companies  without subsidiary holding companies, and mutual banks or savings  associations not controlled by holding companies. The terms for the four  types of mutual institutions are generally similar to those for the  corresponding publicly held institutions, privately held institutions and   S-corporations, with some exceptions. The application deadline for mutual  holding companies was May 7, 2009; for mutual banks or savings  associations not controlled by holding companies the deadline was May  14, 2009.
Like the terms for publicly held institutions, those for publicly held mutual  subsidiary holding companies stipulate that  the preferred shares pay dividends at a rate of 5 percent annually for the  first 5 years and 9 percent annually thereafter; the shares are nonvoting, except with respect to protecting investors’  rights;   a warrant must be issued for common stock with an aggregate value equal  to 15 percent of the Treasury’s CPP investment; financial institutions may repurchase their shares at their face value;   preferred stock will count as tier 1 regulatory capital; and    Treasury generally may transfer the preferred shares to a third party at any  time.
In addition, the number of shares of common stock underlying the warrant  held by Treasury will be reduced by 50 percent if the institution completes  a qualified equity offering for 100 percent of the amount of the preferred  stock during 2009.
The terms for privately held subsidiary holding companies are generally  similar, except for the warrant for preferred stock. For these companies,  as for privately-held institutions, warrants for preferred stock may have an  aggregate value equal to 5 percent of the Treasury’s CPP investment.  Treasury intends to immediately exercise such warrants for warrant  preferred shares with a 9 percent dividend rate.
The terms for top-tier mutual holding companies without subsidiary  holding companies and mutual banks or savings associations without  holding companies are similar to those for S-corporations. Those terms are  generally similar to those for publicly held institutions, with the exception  that debt—senior notes—is issued instead of preferred stock. In addition,  the senior notes count as tier 1 capital when held at the holding company  level and tier 2 capital when held by a mutual bank or savings association.  The senior notes pay interest at a rate of 7.7 percent annually for 5 years  and 13.8 percent thereafter, and warrants for additional debt must equal 5  percent of the Treasury’s initial investment. Treasury exercises the  warrants at the time of the initial capital investment. Holding companies  may defer interest on the senior notes for up to 20 quarters, but any unpaid  interest will accumulate and compound at the then-applicable interest rate  in effect. In addition, these companies cannot pay dividends on shares of  equity, mutual capital certificates, other capital instruments, or trust  preferred securities as long as any interest is deferred. Treasury has  indicated that, while the term sheets for privately held mutual institutions  allow institutions to reduce the warrants held by Treasury if they complete  a qualified equity offering during 2009, this provision was included in the  term sheets in error. In each case, Treasury intends to exercise the  warrants immediately and there is no need for the reduction provision.
section_title: Financial Institutions Have Begun to Repurchase Their CPP Preferred Stock and Warrants from Treasury but the Process Lacks Adequate Transparency
paragraphs: As permitted by the act—as amended by American Recovery and  Reinvestment Act of 2009 (ARRA)—and the CPP agreements, participants  may repurchase or buy back their preferred stock and warrants issued to  Treasury under CPP at any time, subject to consultation with the primary  federal banking regulator. However, the regulators have yet to disclose to  Treasury or the public a generally consistent set of criteria that they are  using to make decisions concerning repayment other than that they follow  existing applicable supervisory procedures. According to Treasury  officials, ARRA severely limits Treasury’s authority to decide whether  banks may purchase their stock. After all the preferred shares are  repurchased, the financial institution may repurchase all or part of the  warrants held by Treasury. Under the original terms of CPP, financial  institutions were prohibited from repurchasing within the first 3 years  unless they completed a qualified equity offering. ARRA amended this  requirement by allowing institutions to repurchase their shares with the  approval of their primary federal regulator. See appendix IV for a  description of the repurchase process.
While Treasury has some information about the preferred stock  repurchase process on the www.financialstability.gov Web site, the federal  financial regulators have yet to disclose the specific criteria for approving  repurchases for certain TARP recipients. In order to help ensure  consistency, agencies are expected to develop adequate internal controls  to ensure consistent decision making. Unless the Treasury, in  consultation with the primary federal regulators, take steps to ensure that  the regulators have and apply generally consistent criteria and clearly  articulate the basis they have used or plan to use to approve or deny  repurchase requests, Treasury will face an increased risk that TARP  participants may not be treated equitably.
As of June 12, 2009, 22 institutions had repurchased their preferred stock  from Treasury for a total of about $1.9 billion (see table 5 for additional  repurchase information). Also, as of June 12, 2009, 5 financial institutions  had repurchased their warrants and 3 institutions had repurchased  warrant preferred stock from Treasury at an aggregate cost of about   $13.3 million. In addition, 3 financial institutions had informed Treasury  that they did not plan to repurchase their warrants. For those institutions  that informed Treasury that they did not intend to repurchase their  warrants, Treasury may attempt to sell the warrants in the financial  markets. According to a Treasury official, as of June 12, 2009, Treasury has  not yet liquidated any CPP warrants in the financial markets.
On June 9, 2009, Treasury announced that 10 of the largest U.S. financial  institutions participating in CPP had met the requirements for repayment  established by their primary federal regulator and that, following  consultation with the regulators, Treasury had notified the institutions that  they were eligible to complete the repurchase process. Collectively, the  Treasury-held preferred shares in these 10 institutions have a liquidation  preference of approximately $68 billion. Upon completion of the preferred  stock repurchase process, each institution will have the right to  repurchase the warrants held by Treasury.
As mentioned previously, as of June 12, 2009, 5 institutions had  repurchased their warrants from Treasury. We found that Treasury  followed a consistent process in these instances; however, according to  Treasury, there is no readily available market for the warrants that had  been repurchased to date. The value of those warrants depends on the  valuation process and the underlying assumptions. In one instance,  Treasury received multiple offers from the institution to repurchase its  warrants but rejected the first two offers. The final offer that Treasury  accepted was slightly lower than Treasury’s own determination of the  market value of the institution’s warrants but more than twice the initial  offer and slightly more than its second. According to documents we  reviewed, in accordance with its process for determining whether to  accept an offer from the institution, Treasury considered 1) warrant price  indications from certain market participants, 2) certain warrant pricing  models, 3) a warrant price calculation from a third-party contractor, and 4)  Treasury’s own financial analysis of the institution. According to Treasury,  the final warrant price was deemed to be reasonable given that the  institution’s stock price had declined during negotiations, reducing the  warrant’s value and that Treasury’s market value determination for the  warrant was based on a number of factors that involve judgment such as  liquidity discounts. If Treasury and the issuing institutions cannot agree on  a price, either can invoke an appraisal procedure whereby each chooses  an independent appraiser to determine the estimated fair market value  (FMV) and if the two cannot agree on a FMV, they will appoint a third  appraiser. If an institution decides not to repurchase its warrants under  the negotiation and appraisal procedure, Treasury may sell the warrants  through an auction process—another mechanism that Treasury could use  to sell shares—when it deems appropriate.
Treasury describes the warrant repurchase process broadly on the  www.financialstability.gov Web site. Additional details about the process  are contained in the individual securities purchase agreements that are  also posted on the Web site. Further, the final warrant prices are disclosed  on the Web site. However, Treasury has provided limited information  about the valuation process it has used to date. Specifically, it has not  disclosed the details—such as the institution’s initial offer or how the final  price compares to Treasury’s valuation. For less liquid securities, prices  can vary widely depending on the assumptions underlying the valuation  models leading some market observers to question whether Treasury had  received a fair market value for the warrants that have been repurchased  to date. By not being more transparent about the valuation process and the  negotiations that were undertaken to establish the accepted warrant price,  Treasury increases the likelihood that questions will remain about whether  Treasury has best served taxpayers’ interests. Given the broad ranging  risks inherent in TARP, Treasury must take steps to help ensure that its  decisions are not only fair and equitable but also that they result in  maximum value. Unless Treasury takes this type of broad-based approach,  it may not ensure that taxpayers’ interests are fully protected.
In our March 2009 report, we recommended that Treasury update  guidance available to the public on determining warrant exercise prices to  be consistent with actual practices applied by OFS. Treasury has since  updated its frequently asked questions on its Web site to clarify the  process it follows for determining the prices. However, there continues to  be inconsistent guidance available on the Web site for calculating the  exercise prices. Treasury told us that because any new CPP applicants  would most likely be nonpublic institutions, the existing guidance  documents would not apply. Therefore, Treasury does not believe the  inconsistent guidance is a significant issue and therefore does not plan on  further addressing the inconsistency.
section_title: OFS Continues to Collect Information on Participants’ Lending Activity and Recently Hired Asset Managers to Help Ensure Compliance with Securities Purchase Agreements
paragraphs: OFS continues to take important steps toward better reporting on and  monitoring of CPP. These steps are consistent with our prior  recommendations that Treasury bolster its ability to determine whether all  institutions’ activities are generally consistent with the act’s purposes. On  May 15, 2009, Treasury published the fourth monthly bank lending and  intermediation snapshot and survey. In April 2009, Treasury started  collecting basic information from the 21 largest CPP recipients on their  lending to small businesses in the monthly lending surveys. According to  Treasury, these data will be published in June 2009. These monthly  surveys are a step toward greater transparency and accountability for  institutions of all sizes. Survey results will allow Treasury’s newly created  team of analysts to understand the lending practices of CPP participants  and will help in measuring the program’s effectiveness in achieving its goal  of stabilizing the financial system by enabling the institutions to continue  lending during the financial crisis. We will continue to monitor Treasury’s  oversight efforts, including implementation of its new survey of all other  CPP recipients.
In addition, on June 1, 2009, Treasury published the results of its first  monthly survey of lending at all CPP institutions. These data include loans  outstanding to consumers, commercial entities and total loans  outstanding. This survey will continue on a monthly basis going forward.  The survey and the results can be found at www.financialstability.gov.
Also, and consistent with our prior recommendations, Treasury has  continued to take steps to increase its oversight of compliance with terms  of the CPP agreements, including limitations on executive compensation,  dividends, and stock repurchases. Participating institutions are required to  comply with the terms of these agreements, and we recommended that  Treasury develop a process to monitor and enforce them. According to  Treasury, it relied on its custodian bank—Bank of New York Mellon—to  collect relevant information from a variety of informal sources, such as  Securities and Exchange Commission filings and press releases and  information provided by CPP participants. According to Treasury, if OFS  becomes aware of any instances of noncompliance with requirements,  they are to refer the instances to its Chief Risk and Compliance Office,  which would work with the CPP office, to determine if further action is  needed. On April 22, 2009, Treasury hired three asset management firms  that will play a role in this process. According to Treasury officials, the  asset managers’ primary role will be to provide Treasury with market  advice about its portfolio of investments in financial institutions and  corporations participating in various TARP programs. The managers will  also help OFS monitor compliance with limitations on compensation,  dividend payments, and stock repurchases. Treasury said that it is also  exploring software solutions and other data resources to improve  compliance monitoring. We plan to continue monitoring this area.
As we have noted previously, without a more structured mechanism in  place, and with a growing number of institutions participating in TARP,  ensuring compliance with these important requirements will become  increasingly challenging. While the institutions are obligated to comply  with the terms of the agreement, Treasury has not yet developed a process  to help ensure compliance and to verify that any required certifications are  accurate.
section_title: Treasury Issued New Interim Final Rules on Executive Compensation
paragraphs: On June 10, 2009, Treasury adopted an interim final rule to implement the  executive compensation and corporate governance provisions of the act,  as amended by ARRA, as well as to adopt certain additional standards  deemed necessary by the Secretary to carry out the purposes of the act.    The interim final rule requires that recipients of TARP financial assistance  meet standards for executive compensation and corporate governance.   The requirements generally include   limits on compensation that exclude incentives for senior executive  officers to take unnecessary and excessive risks that threaten the value of  TARP recipients;    provision for the recovery of any bonus, retention award, or incentive  compensation paid to a senior executive officer or the next 20 most highly  compensated employees based on materially inaccurate statements of  earnings, revenues, gains, or other criteria;   prohibition on making any golden parachute payment to a senior  executive officer or any of the next 5 most highly compensated employees;   prohibition on the payment or accrual of bonus, retention awards, or  incentive compensation to senior executive officers or certain highly  compensated employees, subject to certain exceptions for payments made  in the form of restricted stock; and    prohibition on employee compensation plans that would encourage  manipulation of earnings reported by TARP recipients to enhance  employees’ compensation.
The new rule also requires the (1) establishment of a compensation  committee of independent directors to meet semiannually to review  employee compensation plans and the risks posed by these plans to TARP  recipients; (2) adoption of an excessive or luxury expenditures policy;   (3) disclosure of perquisites offered to senior executive officers and  certain highly compensated employees; (4) disclosure related to  compensation consultant engagement; (5) prohibition on tax gross-ups  (payments to cover taxes due on compensation) to senior executive  officers and certain highly compensated employees; and (6) compliance  with federal securities rules and regulations regarding the submission of a  nonbinding resolution on senior executive officer compensation to  shareholders.
The new interim regulations also require the establishment of the Office of  the Special Master for TARP Executive Compensation (Special Master) to  address the application of the rules to TARP recipients and their  employees. Among the duties and responsibilities of the Special Master,  with respect to TARP recipients of exceptional assistance, is to review and  approve compensation payments and compensation structures applicable  to the senior executive officers and certain highly compensated  employees, and to review and approve compensation structures applicable  to certain additional highly compensated employees. Companies receiving  exceptional assistance include those receiving assistance under the SSFI,  TIP, and AIFP and currently include AIG, Bank of America, Citigroup,  Chrysler, Chrysler Financial, GM, and GMAC.  TARP recipients not  receiving exceptional assistance may apply to the Special Master for an  advisory opinion with respect to compensation payments and structures.   The Special Master will also have responsibility for administering the  review of bonuses, retention awards, and other compensation paid to  employees of TARP recipients before February 17, 2009, and the  negotiation of appropriate reimbursements to the federal government.  Finally, the interim final rule also establishes compliance reporting and  record-keeping requirements regarding the rule’s executive compensation  and corporate governance standards.
section_title: While No Funds Have Been Disbursed under CAP, the Regulators Announced the Results of the Stress Tests of the 19 Largest U.S. Bank Holding Companies
paragraphs: While no funds had been disbursed under CAP as of June 12, 2009,  regulators have announced the results of stress tests that were a key  component of the program. Moreover, Treasury announced that  institutions interested in CAP funding are required to submit CAP  applications to their primary banking regulators by November 9, 2009.  According to Treasury, no CAP applications have been received. In a  process similar to the one used for CPP, the regulators are to submit  recommendations to Treasury regarding an applicant’s viability. A key  component of the program is the Supervisory Capital Assessment Program  (SCAP) or stress test of the 19 largest U.S. bank holding companies—those  with risk-weighted assets of at least $100 billion—that together account  for approximately two-thirds of the assets in the aggregate U.S banking  industry. The federal banking regulators designed the assessment as a  forward-looking exercise intended to help them gauge the extent of the  additional capital buffer necessary to keep the institutions strongly  capitalized and lending even if economic conditions are worse than had  been expected between December 2008 and December 2010. On Thursday  May 7, 2009, the Federal Reserve released the stress test results. Bank  regulators found that 10 of the institutions needed to raise additional  capital (via the private sector or CAP) to meet capital standards that  would allow them to continue lending to creditworthy borrowers and  absorb potential losses.
The stress tests involved two economic scenarios, one representing the  baseline expectation and the other a more adverse outlook involving a  deeper and more protracted downturn. According to the Federal Reserve,  the more adverse outlook was not intended to be a worst-case scenario  but rather a deliberately stringent test designed to account for highly  uncertain financial and economic conditions by identifying the extent to  which a bank holding company is vulnerable today to a weaker than  expected economy in the future. The required capital buffer was sized  based on the more adverse scenario. While the forecast for the three  economic indicators—GDP growth, unemployment rates, and home price  changes—were considered quite severe at the time they were formulated  in February, subsequent data indicated that the probability of the more  adverse scenario was likely higher than previously thought, particularly  with respect to the unemployment rate. According to Federal Reserve  officials, house prices are at least as important as the unemployment rate  in determining estimated losses at banks over the next 2 years because  many of the estimated losses are related to real estate values. The  specified trend in house prices under the more adverse scenario still  represents a very severe outcome. These are areas that we plan to  continue to monitor.
subsections: section_title: Stress Tests Estimated Losses for 2009 and 2010 of $600 Billion and Projected Capital Requirements
paragraphs: Based on data as of December 31, 2008, the Federal Reserve estimated that  total losses for the 19 companies during the 2009 to 2010 period would be  approximately $600 billion, in addition to any losses prior to 2009 (table 6).  As a result, the total losses for the top 19 U.S. bank holding companies  since the beginning of the financial crisis in the second quarter of 2007  would be nearly $950 billion. The $600 billion represents a 7.7 percent loss  of total risk-weighted assets for the 19 companies.
The U.S. bank holding companies were asked to list available resources  that they could use to absorb losses without impacting capital. Primary  among these was the allowance for loan and lease losses as of year end of  2008 and preprovision net revenue, or the expected recurring income from  ongoing business lines before any credit costs. The SCAP buffer for each  bank holding company is defined as the incremental capital that must be  provided to ensure that the bank would be able to meet two capital ratio  tests at December 31, 2010, assuming losses under the more adverse  scenario. First, tier 1 common capital to risk-weighted assets must be at  least 4 percent, and second, tier 1 capital to risk-weighted assets must be  at least 6 percent at December 31, 2010. While some market observers  have been critical of the process by which regulators shared preliminary  results with the bank holding companies and made subsequent  adjustments based on feedback from the bank holding companies, Federal  Reserve officials noted that such discussions are a normal part of the  examination process. Further, Federal Reserve officials explained that the  adjustments to the capital shortfall or “SCAP Buffer” largely reflected  addressing data errors, double counts, and other technical issues, rather  than to present any substantive arguments made by the U.S. bank holding  companies. We will be evaluating this process and will report on our  results in a future report.
While the data used was as of December 31, 2008, some banks reported  significant earnings and capital increases in the first quarter of 2009 from  asset sales, announced common equity issuances, and in one case the  announced, but not yet completed, conversion of preferred shares to  common shares. The regulators incorporated these changes into their  analysis. The results showed that 10 of the 19 institutions needed to raise a  total of almost $75 billion in equity capital (table 7). As required, the  institutions submitted capital plans to the Federal Reserve on June 8, 2009,  on how they plan to raise the needed capital and will have a total of 6  months in which to raise the capital from private markets (common equity  offerings, assets sales, and the conversion of other forms of capital into  common equity) or additional government assistance through CAP. As of  June 12, 2009, eight of the 19 U.S. bank holding companies have  announced or raised a total of $59.2 billion toward the required $75 billion.
Both Treasury and Federal Reserve officials emphasized the  unprecedented nature of the detailed bank-level disclosure of both losses  and revenue forecasts in the stress tests. However, Federal Reserve  officials told us that they had no plans to provide periodic updates of  actual performance of the U.S. bank holding companies in the stress tests  relative to loss or revenue estimates under the more adverse scenario.  Federal Reserve officials said they view this information as part of the  supervisory process. While the Federal Reserve shared preliminary results  of the stress test with senior Treasury officials, it neither shared the  results of the stress tests with CPP officials prior to the public release nor  does it plan to provide any additional routine information going forward.  However, federal Reserve officials said that supervisory information can  be provided to Treasury on a confidential basis when Treasury has a  significant program need for the information. Moreover, whether and to  what extent the bank holding companies will disclose additional  information is unclear. These decisions raise a number of potential  concerns. First, to the extent that information is disclosed by the  institutions, it may be disclosed selectively and may not be consistent  across institutions and could lead to increased market uncertainty.  Second, because the stress tests were conducted as part of CAP, not  making the results available to OFS officials for ongoing participants could  adversely impact Treasury’s ability to monitor the program. Finally, such  information would be useful in the measurement of the effectiveness of  SCAP and CAP. Without it, the public will not have reliable information  that can be used to gauge the accuracy of the stress test projections on a  more detailed basis than what has been disclosed in the SCAP papers.
section_title: The Federal Reserve Announced Criteria for Large Banks to Repay Capital Investments
paragraphs: With respect to the 19 U.S. bank holding companies that participated in  SCAP, on June 1, 2009, the Federal Reserve released the criteria it plans to  use to evaluate applications to repurchase Treasury’s capital investments.  The items published are similar to those already in use to evaluate  repurchase requests that had been received from smaller bank holding  companies, and include the following considerations   the bank holding company’s ability to continue to act as an intermediary  and spur lending to creditworthy households and businesses,   whether the bank holding company’s post-repurchase capital position is  consistent with the Federal Reserve’s supervisory expectations,   whether the bank holding company will maintain its financial and  management support for its subsidiary banks subsequent to repurchase,  and   whether the bank holding company and subsidiaries are in a position to  meet all of their funding and counterparty obligations without government  capital or utilization of the FDIC’s Temporary Liquidity Guarantee  Program.
Finally, the Federal Reserve stated that the U.S. bank holding companies  that participated in the SCAP process seeking to repurchase CPP would be  subject to the following additional criteria:    A demonstrated ability to raise long-term debt without any FDIC guarantee  or equity in the public equity market.
Progress towards a robust longer-term capital assessment and  management process geared toward achieving and maintaining a prudent  level and composition of capital commensurate with their business  activities and firm-wide risk profile.
The Federal Reserve in consultation with the U.S. banking holding  companies’ primary bank regulator and FDIC informed Treasury on June  9, 2009, that it had no objection to the repurchase of preferred shares by 9  of the SCAP bank holding companies. Also on June 9, 2009, Treasury  announced that these 9 U.S. bank holding companies, and one other large  institution, met the requirements for repayment and would be eligible to  repay $68 billion to Treasury.
section_title: The Federal Reserve Announced Modifications to the Term Asset-Backed Securities Loan Facility
paragraphs: In May 2009, the Federal Reserve announced some modifications to TALF,  a program administered by the Federal Reserve but part of the President’s  broader strategy to restart lending. As we have previously reported, the  Federal Reserve originally designed TALF to make nonrecourse loans to  fund purchases of asset-backed securities (ABS) that are secured by  eligible consumer and small business loans. The modifications to TALF  include the addition of two asset classes, an extension of certain TALF  loan terms, and additions to the credit rating agencies approved for rating  TALF-eligible collateral.
The additional asset classes accepted for collateral are commercial  mortgage-backed securities (CMBS) and securities backed by insurance  premium finance loans. CMBS are securities backed by mortgages for  commercial real estate, such as office buildings or shopping centers. The  Federal Reserve noted that it had extended the range of eligible collateral  to include CMBS to help prevent defaults on viable commercial properties,  encourage further lending for commercial properties, and encourage the  sale of distressed properties. CMBS issued on or after January 1, 2009, and  “legacy” CMBS issued prior to January 1, 2009, will be accepted. The  Federal Reserve Bank of New York has specified a number of  requirements that must be met before it will accept this collateral—for  example, CMBS must have the highest long-term investment grade credit  rating available from certain credit rating agencies.  The Federal Reserve  will include nonlegacy CMBS in its June subscriptions for TALF loans and  legacy CMBS in its July subscriptions. The Federal Reserve also  announced that it would accept securities backed by insurance premium  finance loans. These securities will be included to encourage the flow of  credit to small businesses, one of the goals of TALF under the Consumer  and Business Lending Initiative.
Furthermore, the Federal Reserve extended the available terms for certain  TALF loans from 3 years to 5 years to finance purchases of CMBS and ABS  backed by student loans and SBA-guaranteed loans. The Federal Reserve  will limit financing to $100 billion for loans with 5-year maturities. The  volume of loans requested for TALF collateral increased significantly in  May and June 2009, compared with the previous 2 months (table 8).  Additionally, loans requested in March and April 2009 were provided only  on collateral for auto and credit card securitizations, whereas May 2009  subscriptions extended to student loan, small business, and equipment  securitizations for the first time. June 2009 subscriptions included the first  loans requested for securities based on insurance premium finance loans  and servicing advances. The total amount of loans requested on TALF- eligible collateral since the program’s first activity is $28.5 billion.
On May 19, 2009, the Federal Reserve expanded the number of credit  rating agencies approved for rating TALF-eligible collateral from three to  five. All collateral accepted under TALF, with the exception of ABS  backed by SBA-guaranteed small business loans and related debt  instruments, must receive the highest investment-grade rating from at least  two TALF-eligible rating agencies. Fitch Ratings, Moody’s Investors  Service, and Standard & Poor’s are eligible rating agencies for all ABS.  DBRS, Inc. and Realpoint LLC are two additional TALF-eligible rating  agencies for CMBS collateral.
section_title: Treasury and FDIC Are Taking Steps to Implement the Public-Private Investment Program, but Progress Has Been Slow
paragraphs: As we previously reported, PPIP consists of the Legacy Loans Program  and the Legacy Securities Program. Treasury and FDIC have been  finalizing the terms of the Legacy Loans program. On March 26, 2009, FDIC  announced that it was seeking public comments on a number of elements  of the program. FDIC officials at the time stated that the implementation  date for the program would depend on the nature of the comments  received and the time required to consider them for the design of the  program. FDIC officials with whom we spoke said that the implementation  date of the program remained unclear because of changes to accounting  rules, potential participants’ concerns about having to write-down assets,  and TARP-related restrictions. More recently, on June 3, 2009, FDIC  announced that a previously planned pilot sale of assets by open banks  will be postponed. In making that announcement, the Chairman stated that  banks have been able to raise capital without selling bad assets but that  FDIC will continue to work on the Legacy Loans Program and will be  prepared to offer it in the future. Further, FDIC announced that it intended  to test the Legacy Loans Program funding mechanism in a receivership  assets sale with bids to begin in July. For the Legacy Securities Program,  Treasury is currently reviewing fund manager applications. Treasury  extended the application deadline for these fund managers from April 10,  2009, to April 24, 2009, in part to give small businesses and businesses  owned by veterans, minorities, and women the ability to partner with  larger fund managers in the program. Treasury initially announced that it  anticipated prequalifying about 5 fund managers from about 100  applications; however, it later clarified that more than five fund managers  may be prequalified depending on the number of applications deemed to  be qualified. A public announcement of the selections will be made in June  2009. Treasury officials estimated that it could take the fund managers as  long as 12 weeks to raise capital for the funds and it is difficult to  determine how soon Treasury would be contributing matching capital and  financing to the funds.
section_title: The Administration Has Announced Small Business Lending Efforts That Are in Various Stages of Implementation
paragraphs: As we previously reported, Treasury, Federal Reserve, and SBA have plans  in place to contribute to the administration’s efforts to improve the  accessibility and affordability of credit to small businesses. Treasury  announced on March 16, 2009, that it would set aside $15 billion of TARP  funds to directly purchase securities based on 7(a) and 504 small business  loans guaranteed by SBA. TALF, managed by the Federal Reserve Bank  of New York, is also a part of the efforts to increase access to credit for  small businesses. Under TALF, securities consisting of SBA-guaranteed  7(a) and 504 small business loans are provided as collateral to the Federal  Reserve, and in return TALF provides loans, with the goal of encouraging  securitizations for SBA-guaranteed debt. For its part, SBA has been  directed under ARRA to implement administrative provisions to help  facilitate small business lending and enhance liquidity in the secondary  markets. These administrative provisions include (1) temporarily requiring  SBA to reduce or eliminate certain fees on 7(a) and 504 loans;   (2) temporarily increasing the maximum 7(a) guarantee from 85 percent to   90 percent; and (3) implementing provisions designed specifically to  facilitate secondary markets, such as extending existing guarantees in the  504 program and making loans to systemically important broker-dealers  that operate in the 7(a) secondary market.
These initiatives are in various stages of implementation. Treasury has not  yet purchased securities related to the Small Business and Community  Lending Initiative, though it had stated that it expected to purchase 7(a)- related securities by the end of March 2009 and 504-related securities by  the end of May 2009. A Treasury official said that Treasury has faced  challenges implementing the program because of sellers’ concerns about  warrants and executive compensation, as stipulated under the act, as  amended by ARRA. Treasury is reaching out to these sellers and  anticipates completing term sheets in June 2009. Federal Reserve efforts  related to small businesses have also started. As shown in table 8, in May  2009, TALF received collateral for and offered loans based on 7(a) and  504-related small business securities for the first time. Loans requested  since May related to these small business securities total about   $169 million. SBA, as we reported to congressional committees, issued  policy notices to temporarily reduce or eliminate certain fees for 7(a) and  504 loans and temporarily increase the maximum 7(a) guarantee, effective  as of March 16, 2009. SBA formalized its implementation of these  provisions in Federal Register notices on June 8, 2009. However, the SBA  has not yet implemented provisions intended to enhance secondary  markets.
section_title: Citigroup Finalized Its Previously Announced Securities Exchange Agreement on June 9, 2009
paragraphs: On May 7, 2009, Citigroup announced that it would expand its planned  exchange of preferred securities and trust preferred securities for  common stock from $27.5 billon to $33 billion. The stress test found that  Citigroup would need an additional $5.5 billion in tier 1 common capital,  for a total of $58.1 billion, to ensure adequate capital for the more adverse  economic scenario. On June 9, 2009, Treasury and Citigroup finalized their  exchange agreement and Treasury agreed to convert up to $25 billion of its  Treasury CPP senior preferred shares for interim securities and warrants  and its remaining preferred securities for trust preferred securities so that  the institution could strengthen its capital structure by increasing tangible  common equity. As part of the agreement, Citigroup agreed to offer to  convert both privately placed and publicly issued preferred stock held by  other preferred shareholders. To increase the exchange by $5.5 billion,  Citigroup decided to offer to exchange more publicly held preferred stock  and trust preferred securities for common stock. Treasury and Citigroup  finalized the exchange agreement on June 9, 2009. According to OFS  officials, the conversion of the government preferred shares to common  stock will not be finalized until the exchange of $33 billion of preferred  securities and trust preferred securities has been completed. In addition,  Citigroup has taken a number of other actions designed to improve  Citigroup’s capital and financial position including the sale of Nikko  Cordial Securities and a joint venture with Morgan Stanley relating to its  brokerage subsidiary, Smith Barney. See appendix V for additional  information about the condition of Citigroup.
Citigroup issued its first 2009 quarterly TARP progress report on May 12,  2009. Citigroup reported that it had authorized initiatives to deploy   $44.75 billion in TARP capital. According to the report, $8.25 billion of new  funding initiatives were approved during the first quarter of 2009 to  expand the flow of credit to consumers, businesses, and communities. For  example, Citigroup lent $1 billion to qualified borrowers to help  homeowners refinance their primary residence. According to Treasury  officials, Citigroup issued this report voluntarily and Treasury had not  verified the information it contained.
section_title: Treasury Completed Transactions with AIG under the Systemically Significant Failing Institutions Program
paragraphs: Treasury completed the previously announced restructuring of its support  for AIG by exchanging $40 billion of cumulative Series D preferred shares  for $41.6 billion of noncumulative Series E preferred shares. The amount  of Series E preferred shares is equal to the original $40 billion plus  approximately $733 million in dividends undeclared on February 1, 2009;  $15 million in dividends compounded on the undeclared dividends; and an  additional $855 million in dividends accrued from February 1, 2009, but  not paid as of April 17, 2009. Our tests of selected control activities found  that Treasury had applied adequate financial reporting controls over the  restructuring transaction.
AIG’s restructured agreement kept the quarterly dividend payment dates  of every May 1, August 1, November 1, and February 1 that were  established in the original November 25, 2008, agreement. However, the  restructured agreement also specified that dividends are not payable  within 20 calendar days of the restructuring date and that the dividends for  a period of fewer than 20 days would be payable in the subsequent  dividend period. Accordingly, in compliance with these dividend payment  terms, the dividends for the period from April 17 through May 1, 2009,  which amounted to approximately $150.2 million, are to be included in the  August 1, 2009, scheduled dividend payment.
Treasury also finalized its approximately $30 billion Series F preferred  stock capital facility with AIG on April 17, 2009. In our March report, we  recommended that Treasury require that AIG seek concessions from  stakeholders—such as management, employees, and counterparties— including seeking to renegotiate existing contracts, as appropriate, as it  finalized this agreement. While Treasury extended negotiations several  weeks, the negotiations did not result in material changes to the final  agreement. According to Treasury, AIG had been consulting with Treasury  on any substantial compensation payments until interim final executive  compensation rules were issued on June 10, 2009.
section_title: Government Investment and Involvement in the Auto Industry Grows as Chrysler and GM Continue to Take Steps toward Restructuring
paragraphs: Since we last reported on the Automotive Industry Financing Progarm  (AIFP), Treasury has provided additional funding to the auto industry,  including amounts to assist GM and Chrysler, which have filed voluntary  petitions for reorganization under Chapter 11 of the U.S. Bankruptcy Code,  bringing Treasury’s total commitments under this program to  approximately $82.6 billion. Treasury committed to providing additional  funding to support the companies both during and after their respective  reorganizations, in the amounts of $8.5 billion for Chrysler and $30.1  billion for GM. In exchange for providing this funding, Treasury is to be  repaid over a period of years for a portion of the amounts provided and  will receive equity ownership in Chrysler and GM. Table 9 shows the  amounts Treasury has provided or committed to providing under AIFP and  its plans for being repaid for or otherwise recovering this funding.
In the case of Chrysler, on April 30, 2009, the White House announced that  Treasury would provide more than $8 billion in additional funding to help  finance Chrysler’s operations through bankruptcy and that Chrysler would  attempt to arrange an alliance with the Italian automaker Fiat as part of its  restructuring. On June 1, 2009, a bankruptcy judge approved Chrysler’s  restructuring proposal, including the alliance with Fiat, the sale of its  assets to the new Chrysler, and the additional funding from Treasury.
On June 9, 2009, the asset sale was finalized, and Treasury executed a loan  agreement with the restructured Chrysler under which the company will  be required to repay Treasury $7.1 billion, secured by a senior lien on all of  the new Chrysler’s assets. This new loan includes $500 million of the  prebankruptcy loan that was secured by a senior lien on Mopar— Chrysler’s parts business. Although Chrysler signed a loan agreement with  Treasury for the entire $4.0 billion of the prebankruptcy loan, Treasury  officials said that the U.S. government will likely recover little of this  amount because other debt holders have seniority for being repaid.  However, in further consideration of the funding to the restructuring of  Chrysler, Treasury is initially receiving a 10 percent equity stake in the  new company.
In the case of GM, on June 1, 2009, Treasury announced that it would  make $30.1 billion of financing available to support an expedited  bankruptcy proceeding and to transition the new GM through its  restructuring plan. If GM’s restructuring proposal is approved by the  bankruptcy court—in exchange for the $30.1 billion in bankruptcy funding,  as well as the $19.4 billion in prebankruptcy funding—the U.S. government  would receive about $6.7 billion of debt, $2.1 billion in preferred stock,  and approximately 61 percent of the equity in the new GM. At the present  time, Treasury said it does not plan to provide additional assistance to GM  beyond this commitment.
As part of the companies’ reorganization, they have also reached  agreements with other stakeholders to resolve outstanding obligations,  including by offering these stakeholders equity shares in the companies.  The agreements with each stakeholder group are discussed in more detail  in the following paragraphs, and the companies’ equity ownership  following restructuring is shown in figure 2.
Auto workers and retirees: The International Union, United  Automobile, Aerospace and Agricultural Implement Workers of America  reached agreements separately with Chrysler and GM on modifications to  the existing labor contract, as specified by the terms of Treasury’s  prebankruptcy loans to the companies. The agreements will be applicable  to the reorganized companies. Chrysler and GM also developed plans to  meet their obligations for funding their retiree healthcare funds, also  known as voluntary employee beneficiary associations (VEBA). In the  case of Chrysler, the VEBA will be funded by a note of $4.6 billion and will  receive 55 percent of the new company’s fully-diluted equity. In the case of  GM, the company will fund its VEBA trust with a $2.5 billion note,   $6.5 billion in preferred stock, 17.5 percent of the equity in the new GM,  and warrants to purchase an additional 2.5 percent of the company. Both  GM and Chrysler VEBAs will have the right to select one independent  director for their respective company’s board, but will have no other  governance rights. Regarding the companies’ pension plans, as we have  previously reported, the termination of either company’s plans would  result in a substantial liability to the federal Pension Benefit Guaranty  Corporation (PBGC), which insures private-sector defined benefit pension  plans. However, at this time, the companies do not intend to terminate  their plans, which will be transferred to the new companies as part of the  reorganization.
Canadian government: The Canadian government will provide  restructuring funding to and become a shareholder of both companies. In  total, the Canadian government has provided $3 billion to Chrysler and  will hold $1.9 billion in debt and a 2.5 percent equity stake in the  reorganized company. For GM, the Canadian government will fund   $9.5 billion in exchange for $1.7 billion in debt and preferred stock and  approximately a 12 percent equity stake in the new GM. As a shareholder  the Canadian government will have the right to select members of  Chrysler’s and GM’s boards of directors.
Former shareholders and creditors: In the case of Chrysler, Daimler  AG and Cerberus Capital, which together held 100 percent of Chrysler’s  prebankruptcy equity and $4 billion of Chrysler’s debt, will relinquish their  equity stakes and waive their share of debt holdings. Chrysler’s largest  secured creditors agreed to exchange their portion of the $6.9 billion  secured claim for a proportional share of $2 billion in cash. In the case of  GM, bondholders representing more than half of GM’s $27.1 billion in  unsecured bonds have agreed to exchange their portion of bonds for   10 percent equity and warrants for an additional 15 percent in the  restructured company. About $6 billion in debt held by GM’s secured bank   lenders will be repaid from proceeds of the loan GM received from  Treasury and the Canadian government after it filed for bankruptcy.
Fiat: As part of the alliance, Fiat has contributed intellectual property and  “know how” to the new Chrysler in exchange for a 20 percent equity share  in the reorganized company. Fiat also has the right to select three  directors for the reorganized company and the right to increase its  ownership incrementally up to a total of 35 percent.
As a shareholder of the reorganized companies, as well as a lender,  Treasury will continue to have a monitoring and oversight role. For  instance, Treasury will have the right to appoint four independent  directors to Chrysler’s board and five directors to GM’s board. However,  Treasury officials told us they do not plan to play a role in the  management of the companies following the selection of these directors.  In addition, the companies are to meet the following requirements:    Establish internal controls to provide reasonable assurance that they are  complying with the conditions of the loan agreements relating to executive  compensation, expense policy reporting, asset divestiture, and compliance  with the Employ American Workers Act, and report to Treasury each  quarter on these controls.
Collect and maintain records to account for their use of government funds  and their compliance with the terms and conditions under the Auto  Supplier Support Program and other federal support programs.
Provide Treasury with periodic financial reports.
Treasury officials said that they plan to require Chrysler and GM to submit  monthly reporting packages containing the above items and to meet with  the companies quarterly. They said that Treasury’s involvement in the  companies will be on a commercial basis and that their interest is in  ensuring the companies are in a position to repay the loans.
We have previously reported that in a market economy, the federal role in  aiding industrial sectors should generally be of limited duration and have  noted the importance of setting clear limits on the extent of government  involvement. Regarding assistance provided to the auto industry,  Treasury should have a plan for ending its financial involvement with  Chrysler and GM that indicates how it will both divest itself of its equity  shares—and the attendant responsibilities for appointing directors to the  companies’ boards—and ensure that it is adequately repaid for the  financial assistance it has provided. In developing and implementing such  a plan, it should weigh the objective of expeditiously ending the  government’s financial involvement in the companies with the objective of  recovering an acceptable amount of the funding provided to these  companies. Treasury has taken steps in this direction, including  establishing repayment terms for the loan provided to the new Chrysler as  part of its reorganization and developing plans to sell its equity in the  companies over a period of years in a manner calculated to maximize its  value. We plan to monitor Treasury’s efforts to develop and implement a  plan for ending the government’s financial involvement with the  automakers and will report our findings in future reports as appropriate.
subsections: section_title: Treasury Provides Funding to GMAC LLC to Assist in Auto Financing to Chrysler Dealers and Customers and to Address Capital Needs Identified under SCAP
paragraphs: In April 2009, Chrysler filed for bankruptcy. On May 20, 2009, the  bankruptcy court approved GMAC LLC (GMAC) as the preferred provider  of new credit to Chrysler’s dealers and customers. Also in May 2009, the  Federal Reserve through SCAP identified the need for GMAC to raise  additional capital to be in compliance with SCAP results.
The federal government indicated that it would provide additional  assistance to GMAC to support GMAC’s ability to originate new loans to  Chrysler dealers and consumers and help address GMAC’s capital needs as  identified under SCAP. On May 21, 2009, Treasury purchased $7.5 billion  of mandatorily convertible preferred membership interests from GMAC  with an annual 9 percent dividend, payable quarterly. Treasury’s   $7.5 billion investment included $4 billion to support GMAC and address  its capital needs as identified through SCAP, which identified a need of  $9.1 billion of new capital. After 7 years, the interests must be converted to  GMAC common interests. Prior to that time, they may be converted at  Treasury’s option upon specified corporate events (including public  offerings). The shares may also be converted at GMAC’s option with the  approval of the Federal Reserve, though any conversion at GMAC’s option  must not result in Treasury owning in excess of 49 percent of GMAC’s  common membership interests, except (1) with prior written consent of  Treasury, (2) pursuant to GMAC’s capital plan, as agreed upon by the  Federal Reserve, or (3) pursuant to an order of the Federal Reserve  compelling such a conversion. On June 8, 2009, GMAC submitted a  detailed capital plan to the Federal Reserve describing specific actions it  has taken and plans to take to increase capital to meet its total SCAP  capital needs.
Under the agreement, GMAC also issued warrants to Treasury to purchase  additional mandatorily convertible preferred membership interests in an  amount equal to 5 percent of the preferred purchased membership  interests. The warrant preferred shares provide an annual 9 percent  dividend payable quarterly. According to Treasury, because the exercise  price for the warrants is nominal and there were no downside risks to  exercising the warrants immediately, Treasury exercised the warrants at  closing and received an additional $375 million of mandatorily convertible  preferred membership interests. Under the funding agreement, GMAC  must comply with all executive compensation and corporate governance  requirements of Section 111 of the act applicable to qualifying financial  institutions under CPP.
Treasury noted that the May 21, 2009, $7.5 billion capital investment would  not immediately result in it holding any common membership interests in  GMAC at that time. However, on May 29, 2009, Treasury exercised its  option to exchange the $884 million loan it made to GM in December 2008  to acquire about 35 percent of the common membership interests in  GMAC.
section_title: Treasury Has Continued to Take Steps to Develop an Integrated Communication Strategy for TARP, but Additional Actions Could Help Ensure the Strategy Is Effective
paragraphs: In our March 2009 report, we noted that while Treasury had taken a  number of steps to address the ongoing crisis, it had been hampered with  questions about TARP decision making and activities, raising questions  about the effectiveness of its existing communication strategy. As a  result, we recommended that Treasury continue to develop an integrated  communication strategy that may include, among other things, building  understanding and support through the program, integrating  communications and operations, and increasing the impact of  communication tools such as print and video. Moreover, we emphasized  the need for the communication strategy to establish a means to engage in  regular and routine communication with Congress. Since our March 2009  report, Treasury said that it established a working group to address  communications both within OFS and to external stakeholders. Treasury  has stated that the working group is responsible for monitoring, reporting  on, and addressing all OFS communication efforts, and has been  developing a communications plan to build support for the various  programs it has established under the act. Treasury also noted that its  Financial Stability Plan provided the basis for its improved communication  strategy.
The current communication strategy for TARP utilizes and builds on  existing resources, such as Treasury’s Office of Public Affairs and Office of  Legislative Affairs. Officials from Treasury’s Office of Public Affairs and  Office of Legislative Affairs told us that the Financial Stability Plan  announced in February 2009 provided a base for the new administration  launching its current communication strategy. To ensure that Treasury can  communicate with the public and Congress in a timely manner, officials  from Treasury’s Office of Public Affairs and Office of Legislative Affairs  are included in regular policy meetings with OFS officials and officials  from other offices in Treasury. As major changes occur, Treasury’s Office  of Public Affairs—in conjunction with OFS, the Office of the Secretary,  and the Office of Legislative Affairs—has established a routine approach  to more fully communicate activities to the public. Specifically, the Office  of Public Affairs has a process that involves timely issuance of press  releases and white papers, holding media briefings, and conducting  outreach to the academic and investor community. According to Treasury,  policy officials from OFS and Domestic Finance are involved in this  process. Moreover, the Office of Public Affairs told us that Treasury had  dedicated a media and public affairs employee that works on TARP and in  coordination with other senior members of the Public Affairs office.
Staff from the Office of Legislative Affairs told us that they routinely  communicate with congressional leadership and staff from key  committees with jurisdiction over TARP activities, specifically noting the  Senate Committee on Banking, Housing, and Urban Affairs and the House  Committee on Financial Services. They also respond to a variety of  questions and requests made to them by individual members’ and  congressional staff on an ongoing basis. In addition, Treasury noted that  on April 15, 2009, the Secretary transmitted written letters to  congressional committees to provide a broad update on TARP-related  activities, and on May 15, 2009, OFS staff provided background briefings to  Congressional staff on TARP programs and recent developments. OFS told  us they plan to provide additional briefings to congressional staff on a  monthly basis. They also said that they are in the process of hiring a  communications officer to work with the Office of Public Affairs and the  Office of Legislative Affairs, who have two staff members dedicated to  TARP, among other duties, to implement a coordinated communications  strategy. Though these efforts may improve communication with  congressional stakeholders, Treasury has yet to implement an approach  that ensures all relevant stakeholders are routinely reached. For example,  the act creating TARP includes several other committees of jurisdiction  besides Senate Banking, Housing, and Urban Affairs and House Financial  Services—the House and Senate Committees on Appropriations, the  House and Senate Committees on Budget, the Senate Committee on  Finance, and the House Committee on Ways and Means. However,  according to Treasury officials, while they have more recently begun to  outreach to others, their efforts have primarily been targeted to House  Financial Services and Senate Banking. Treasury’s communication  strategy, once finalized, should help ensure regular and proactive outreach  to all of the committees of jurisdiction and Congress in general. Until the  plans for regular outreach to Congress on TARP matters are implemented,  Treasury risks that some congressional committees or staff may not be  receiving consistent and timely information, increasing the likelihood of  misunderstanding by Congress and according to Treasury officials, will  continue to be inundated with ad hoc TARP-related inquires.
Since our March 2009 report, Treasury has made operational its new Web  site, www.financialstability.gov, to report TARP-related matters and has  taken steps to improve the site’s effectiveness through the use of various  communication tools. Treasury said that this effort is part of a refocused  public communications initiative to enhance communications on how  TARP strategies will stabilize the financial system and restore credit  markets. According to Treasury, there are several key differences between  the new site and the older Web page used to communicate TARP  strategies, which was a part of the Treasury’s Web site. Specifically,  Treasury officials told us that the new site is less technical than the former  Web page and the intention was to provide details on TARP activities in a  more user-friendly, simplified manner that is easier for the general public  to understand. For example, the site features a “decoder” tool that  translates frequently-used financial language and TARP program names,  such as “asset-backed security,” to reach a wider audience. In addition, the  site has provided information on all of the investments Treasury has made  and the contractual terms of and participants in those investment  programs. Treasury also posts a detailed monthly lending and  intermediation survey on the Web site. Moreover, Treasury has provided  links to program-related content provided on other federal agencies’ sites,  such as frequently asked questions on the TALF posted by the Federal  Reserve. Treasury has also tried to provide information to better address  constituent interests. For example, the Web site has included an  interactive map illustrating state-by-state bank and financial institution  funding provided under TARP. According to Treasury, the site provided  some information on warrant sales and repayments of principal  investments made to various institutions under CPP. Consistent with our  recommendation aimed at better disclosure of monies paid to Treasury, it  now includes dividends and interest received in its periodic reports to  Congress that are also posted to the Web site, and according to Treasury,  it is in the process of creating a mechanism to report dividends received  under the various TARP programs on the Web site.
Treasury also created a separate Web site— www.makinghomeaffordable.gov—in order to communicate about the  homeownership preservation program established under TARP. Treasury  said that it has coordinated closely with the White House, HUD, FHFA,  Fannie Mae, and Freddie Mac in developing a means to communicate  information on the Making Home Affordable program to stakeholders  across the country. The Web site includes information targeted to  homeowners on refinancing and loan modifications and, according to  Treasury, as of May 29, 2009, the site has received more than 19.5 million  hits.
In other work, we have noted that best practices useful for improving the  quality of federal public Web sites include conducting usability testing of  Web sites and developing performance measures or other means to gauge  customer satisfaction, such as conducting surveys and convening focus  groups. Treasury is in the process of entering into an agreement with a  vendor to conduct usability testing of the Web site. According to a  Treasury official, small surveys of site visitors will be conducted and every  six months the vendor will suggest changes to improve the Web site. While  Treasury said that the new Web site was designed to make information  less technical and accessible to a wider audience, until Treasury gauges  whether the new www.financiastability.gov Web site provides more useful  and easily found information to the general public than the old Web page,  Treasury lacks a meaningful measure of the effectiveness of its  communication strategy.
The lack of ready access to key information on some recent TARP  developments on the new www.financialstability.gov Web site  underscores the need to seek input from others in making continuous  improvements in TARP-related communications. For example, users from  the general public, unfamiliar with the TARP terminology, would have  difficulty finding basic descriptive information on the stress test initiative  announced February 2009 under the administration’s Financial Stability  Plan. Among other things, we found that the Web site lacked readily-found  information on the components of the test and test results. Further, while  Treasury officials said that the decoder tool intends to translate more  technical program information, as of June 4, 2009, we found no  information in the decoder tool or elsewhere on the Web site to let users  know that the stress test is now formally referred to in Treasury press  releases as SCAP.
section_title: Treasury Has Made Progress in Developing OFS’s Management Infrastructure
paragraphs: Since our March 2009 report, Treasury has continued to take steps to hire  permanent OFS staff and detailees to fill short- and long-term  organizational needs. First, Treasury has continued to seek qualified  successors for various permanent leadership positions, including the Chief  Investment and Chief Homeownership Preservation officers. Until  permanent successors are identified, Treasury has appointed an Acting  Chief Investment Officer and appointed an interim Chief Homeownership  Preservation Officer to head these areas of OFS. In addition, Treasury has  created a new senior position within OFS—a senior restructuring  official—to oversee major investments that have been made under TARP.  The administration has also nominated an individual to become the  Assistant Secretary of Financial Stability. This appointment, which is  subject to Senate confirmation, would fill the vacancy created by the  departure of the Interim Assistant Secretary of Financial Stability, who  had served in this capacity since TARP was created in October 2008.
Second, Treasury has increased the number of permanent OFS staff. As of  June 8, 2009, OFS had 166 total staff, with the number of permanent staff  rising from 77 to 137 since our March 2009 report and the number of  detailees decreasing to 29 (see fig. 3). In its latest budget request to OMB,  Treasury anticipated that OFS would need 225 full-time employees to  operate at full capacity in fiscal year 2010, an increase of 29 from its March  2009 estimate of 196. Having both detailees and long-term staff helps OFS  meet its short- and long-term needs. Treasury continues to anticipate that  permanent staff will support long-term responsibilities, while detailees will  continue to play an important role by supporting the flexibility of OFS  operations.
Currently, some offices are more fully staffed than others. OFS provided  information on 2 types of vacancies—ones the agency is currently in the  process of hiring for (current vacancies)—and ones that the agency  anticipates based on the projected size of each office over time  (anticipated vacancies). While the offices of the Chief Financial Officer  and Chief Investment Officer have identified only a few current vacancies,  the offices of the Chief Risk and Compliance Officer and Chief  Homeownership Preservation Officer have identified several current  vacancies (table 10). Current vacancies that Treasury has identified within  OFS include senior positions for program compliance within the office of  the Chief Risk and Compliance Officer and leadership positions for data  analysis and communications and marketing within the office of the Chief  Homeownership Preservation Officer. In some instances, OFS has filled  important personnel gaps. For example, since our March 2009 report, OFS  has filled two new staff positions for program and data management  analysts to support its oversight of financial agents.
Treasury has made progress in developing a more routine process for  hiring OFS staff. During the transition from the previous administration,  with new TARP responsibilities still emerging and OFS functional areas  still developing, Treasury employed an informal approach to hiring staff in  order to bring employees on board expeditiously and meet immediate  mission needs. As TARP activities have solidified and become more stable,  Treasury and OFS staff have been better able to identify the skills and  abilities OFS needs and develop a more structured process for hiring.  Currently, Treasury routinely updates its Web site,  www.financialstability.gov, to inform potential candidates of new OFS  vacancies. These vacancy announcements are linked to job  announcements posted on the USAJOBS Web site. Additionally, Treasury  has developed more systematic approaches to reviewing applications and  interviewing candidates. For example, Treasury recently updated its  standard operating procedures for hiring staff to OFS. This includes a  procedure describing how to bring on board federal employees to serve as  detailees in OFS. While Treasury has developed more formal processes for  assessing candidates seeking employment with OFS, the department still  uses flexible hiring strategies in order to ensure that it is recruiting  candidates with the right skill sets and abilities to meet OFS mission  needs. For example, Treasury still utilizes the flexibilities provided under  direct hire authority to select candidates for employment who do not  submit formal applications via www.usajobs.gov. Nonetheless, Treasury  officials said that they encourage all candidates expressing interest in OFS  employment to apply via announcements posted on www.usajobs.gov  whenever feasible. In addition, to retain critical skills learned on the job,  Treasury has established a process to ensure knowledge transfer between  outgoing and incoming OFS detailees.
Treasury continues to experience challenges in hiring qualified employees,  however, in part due to pay disparities with federal financial regulatory  agencies. In the past, Treasury told us that it had identified candidates  with the right skills and abilities to fill various OFS positions, but these  candidates often worked for financial regulators that could offer more  competitive salaries than OFS. To mitigate the effects of pay differences,  Treasury has employed some strategies that are available to all federal  agencies. In particular, Treasury has utilized maximum payable rates and  offered promotions to mid-level career employees. According to  Treasury, these incentives have been helpful in hiring some employees  who had previously worked at financial regulatory agencies. Nonetheless,  Treasury noted that while these tools have been useful in attracting lower-  and mid-level career employees, they do not always address substantial  differences between the compensation OFS can offer senior executives  and the rates offered by financial regulators. In addition, while the  department has the ability to use recruitment bonuses, use of this  incentive has been limited to employees who are not currently government  employees and therefore has not been used to recruit employees from  financial regulatory agencies. Moreover, while Treasury may use  relocation bonuses, its use of these for recruiting employees from financial  regulatory agencies has been limited because most candidates currently  working for financial regulatory agencies would not have to relocate to  accept a position in OFS.
subsections: section_title: Treasury Has Taken Various Steps to Manage Potential Conflicts of Interest among TARP Employees
paragraphs: As mentioned in our prior work, Treasury has told us that vetting OFS  candidates’ potential conflicts of interest has added time to the hiring  process. In particular, there has been heightened concern about  employees’ financial interests creating potential conflicts because TARP  decision-making activities often involve providing funds to various  financial institutions and targeting assistance to certain types of  investments (such as mortgage-backed securities) that new employees  might hold.
Treasury officials told us they had taken a number of steps to manage  potential conflicts of interest. First, Treasury officials have been obtaining  information on candidates’ potential conflicts earlier in the hiring process,  through preliminary reviews of information provided on financial  disclosure reports. OFS employees are subject to the same laws and  regulations covering ethical codes of conduct as employees of other  executive branch agencies. Accordingly, OFS employees are prohibited  from participating personally and substantially in a particular matter that  will affect their financial interests or those of (1) a spouse or minor child;  (2) a general partner; (3) an organization for which they serve as an  officer, director, trustee, general partner or employee; or (4) a person with  whom they are negotiating for employment or have an arrangement  concerning prospective employment.
In accordance with the Ethics in Government Act, Senate-confirmed  appointees, members of the Senior Executive Service, and other senior- level executive branch employees must disclose assets and other interests  that are attributable to them when beginning federal service and annually  thereafter in a public financial disclosure report. Other OFS employees  whose duties involve the exercise of significant discretion are required by  regulation to report their financial interests on a confidential financial  disclosure report (see table 11). Employees required to file a financial  disclosure report must do so within 30 days of appointment, unless  granted an extension. Treasury said it had obtained and retained a copy of  the financial disclosure reports filed by detailees with their home  agencies.
Treasury has used databases to track reviews of Treasury employee  financial disclosure reports. These databases provide sufficient evidence  to demonstrate that, in general, OFS employees have filed financial  disclosure reports within 30 days of their appointment. We found that in  all but two cases, individuals required to complete these reports filed them  within 30 days of their appointment to OFS. In one case, the employee  was granted an extension to file and filed before the expiration of the  extension period. In the other case, the employee appears to have  submitted the report on time, but it was not officially marked as received  by Treasury ethics counsel until 1 business day after the expiration of the  30-day time-to-file period.
Our analysis also supports Treasury’s statement that it usually vets  conflicts of interest earlier in the hiring process for OFS staff than for  employees in other areas of Treasury. We found that, on average,  permanent OFS employees required to submit confidential financial  disclosure reports filed them about 21 days before their appointment.  Moreover, we found that the majority of OFS employees coming from  outside the federal government who were required to submit public  financial disclosure reports filed the reports in advance of their  appointment to OFS.
To address the unique aspects of TARP operations in its reviews of OFS  employees’ financial disclosure reports, Treasury established new internal  operating procedures on February 17, 2009, concerning the submission  and review of OFS employees’ confidential financial disclosure reports. To  facilitate a preliminary identification and communication of obvious  potential conflicts, the new procedures set out as a goal to have OFS  candidates submit for initial review confidential financial disclosure  reports with Treasury ethics counsel before their formal appointment to  OFS. Generally, Treasury has followed this new procedure. In our review,  we found that of the 31 employees filing confidential financial disclosure  reports who were appointed to OFS on or after February 17, 2009,  Treasury ethics counsel received copies of such reports in advance of the  candidate’s appointment to OFS in all but three cases. The new  procedures outlined plans for Treasury ethics counsel to better coordinate  with OFS supervisors during their reviews of confidential financial  disclosure reports submitted by OFS candidates. Treasury officials said  that the new coordination effort was helpful because OFS mission staff  were often more familiar with the day-to-day roles and responsibilities of  employees directly under their supervision. One of the tracking databases  provides some evidence to support Treasury’s assertion that it routinely  coordinates reviews of employees’ financial interests with OFS mission  staff. Specifically, the database includes a field that tracks the dates of  supervisory OFS staff reviews of confidential disclosure reports. In  reviewing the database, we identified several instances in which OFS  supervisors had reviewed confidential financial disclosure reports within a  few days of the Treasury ethics counsel’s initial review. We found that for  42 permanent employees, OFS supervisors reviewed confidential financial  disclosure reports, on average, 5 days after Treasury’s ethics counsel first  received the reports. However, the supporting information is somewhat  limited because the supervisory review field was incomplete for 14 of the  56 database pages we reviewed. Treasury’s ethics counsel told us that this  information was absent most often because of a lag in data entry.  Specifically, Treasury said that dates might be entered into the database  some time after the reviews were complete because supervisory mission  staff might retain the reports for extended periods to, among other things,  track potential conflicts identified in the reports and help ensure that  employees recuse themselves from matters in which they had a financial  interest.
Treasury provides various types of training to employees to help them  understand conflicts of interest and ensure compliance with ethical  standards of conduct. According to Treasury, this training is more rigorous  for employees whose jobs have higher potential to involve financial or  other conflicts. Treasury officials said that all employees receive group  training at orientation and certain employees whose positions are of a  more sensitive nature are provided one-on-one training with an ethics  officer. The databases also support Treasury’s statement that it provided  both individual and group-based ethics training to OFS staff. Specifically,  we found that as of April 23, 2009, all OFS staff who completed financial  disclosure reports had received at least one ethics training session and  almost half had received two or more types of ethics training sessions.  While one database lacked some information on specific training dates, it  did provide some information on types of training provided to these  individuals (such as one-on-one training with ethics officers, makeup  training sessions, or group training conducted at orientation).
OFS uses a variety of other measures to manage potential conflicts of  interest. Federal law permits Treasury to authorize a waiver permitting an  employee to hold certain financial interests if Treasury determines that  holding such interests does not substantially interfere with the integrity of  the individual’s performance. According to Treasury, to date, two waivers  have been issued to OFS employees. One of these waivers gave a new OFS  employee 90 days to divest assets held in pooled investment funds that  could have presented a conflict into nonconflicting assets. In the other  case, after determining that a senior OFS official’s deposits in a banking  institution could present a conflict of interest to the extent that these   deposits exceeded the FDIC-insured limit of $250,000, as a precautionary  measure, Treasury issued a waiver to permit the individual to retain these  deposit accounts. In both cases, Treasury determined that the investments  involved were not likely to affect the integrity of the individual’s federal  service.
In addition, when reviewing financial disclosure reports, Treasury ethics  counsel consulted with OFS employees on what activities they should  recuse themselves from participating in during their employment with OFS  because such activities could have potentially interfered with the  independent and objective performance of their jobs. According to  Treasury, during reviews of financial disclosure reports, OFS employees  have agreed to divest themselves of certain financial assets to mitigate  potential conflicts. Although Treasury does not routinely track  divestments, Treasury provided some documentation demonstrating that  multiple OFS employees divested assets that might have caused a conflict  with their official duties.
Treasury has appropriately identified potential conflicts of interests among  senior-level OFS officials and has taken appropriate steps to address such  issues. We reviewed 15 public financial disclosure reports submitted by  OFS officials as of April 23, 2009. Seven of the reports reviewed had  already been submitted to the detailees’ federal agencies during the past  fiscal year, but Treasury’s ethics counsel reviewed the reports again to  assess potential conflicts in the context of the employee’s OFS duties. In  our review of the reports, we identified financial interests that could have  conflicted with the independent and objective performance of some  duties. During our consultation with Treasury’s ethics counsel, however,  we found that the same interests had already been identified, and we  obtained information showing that the ethics counsel had taken the  appropriate steps to address them. For example, in some cases, Treasury’s  ethics counsel instructed individuals to divest themselves of certain  investments. In other cases, Treasury’s ethics counsel directed individuals  to recuse themselves from matters involving former employers or firms  that compensated them for consulting services.
section_title: Treasury Has Continued to Engage Contractors and Financial Agents
paragraphs: Since our March 2009 report, Treasury has awarded 11 new contracts and  entered into four new financial agency agreements, bringing to 40 the total  number of TARP financial agency agreements, contracts, and blanket  purchase agreements as of June 1, 2009. Of the 11 new contracts,    4 are in support of services related to the automotive industry,    2 are for legal services related to PPIP,    1 is for legal services related to small business loans and securities,    1 is to perform credit reform modeling analysis, and    3 are for OFS facilities services.
Of the 4 new financial agency agreements,    1 is for asset management services in support of the small business    3 are for asset management services in support of CPP.
Since March 2009, Treasury used expedited procedures to award seven  contracts using other than full and open competition based on unusual and  compelling urgency. Treasury also used the General Services  Administration’s Federal Supply Schedule in three instances.  In most  cases, Treasury solicited and received offers from multiple firms. While  competition requirements do not apply to Treasury’s authority to  designate financial agents, Treasury issued a general solicitation for asset  manager proposals in support of CPP and received more than 200  submissions, from which it made its current three selections. Treasury has  yet to decide on the extent to which it will need additional asset managers.  For detailed status information on new, ongoing, and completed Treasury  contracts and agreements as of June 1, 2009, see GAO-09-707SP.
Treasury encourages small businesses, including minority- and women- owned businesses, to pursue procurement opportunities on TARP  contracts and financial agency agreements. OFS has considered potential  vendors’ efforts to utilize small businesses as part of its selection criteria  on most contracts and some financial agency agreements. As of June 1,  2009, Treasury has awarded nine of its 40 prime contracts or financial  agency agreements (23 percent) to small or minority- and women-owned  businesses. Two of the new prime contracts awarded since our March  2009 report were awarded to small businesses for credit reform analysis  and OFS facilities services, one was awarded to a small minority/women- owned business for legal support to PPIP, and two of the new financial  agency agreements are with minority- and women-owned businesses for  asset management services. To date, however, the majority of small or  minority- and women-owned businesses participating in TARP are  subcontractors with TARP prime contractors. According to OFS officials,  as of June 1, 2009, 30 of 42 TARP subcontractors (71 percent) represented  small or minority- and women-owned business categories, as shown in  table 12.
As of June 1, 2009, legal services contracts and financial agency  agreements continue to account for the majority (67 percent) of services  used to directly support OFS’s administration of TARP, as shown in   figure 4. As of the same date, Treasury had expended $48,894,415 for  actions related to contracts and agreements—a $37 million increase in  contract and financial agency agreement expenses in the last 2 months  alone. The largest share of the total (38 percent) was for legal services,  and the second-largest share (24 percent) was for services provided by  financial agents.
Since our March 2009 report, Treasury has increased its fiscal year 2009  budget estimate from $175 million to $263 million to cover higher  anticipated costs for OFS’s use of contractors and financial agents,  interagency agreement obligations, information technology services, office  rental, and other facilities costs. According to OFS budget officials, the  estimated $88 million budget increase is due primarily to financial agency  agreement costs for Fannie Mae and Freddie Mac, the addition of new  TARP programs, and the realignment of some budget categories.
Treasury provides a basic descriptive listing of information on its  contracts and financial agency agreements through its TARP Web site and  its monthly report to Congress pursuant to section 105(a) of the act.  However, this reporting lacks the detail Congress and other interested  stakeholders need to track the progress of individual contracts and  agreements—such as a breakdown of obligations and/or expenses, in  dollars, by each entity. As OFS’s capacity to manage and monitor TARP  contracts and other agreements continues to grow, making this type of  information public on a regular basis would be useful, in addition to the  information Treasury already reports.
Some of the principal federal banking regulators involved in activities  related to TARP (Federal Reserve, FDIC, OCC, and OTS) currently use or  plan to use contractors in support of activities related to the program.  Officials reported that, as of June 1, 2009, the Federal Reserve was  contracting with four firms to provide support for AGP, including financial  evaluation and accounting services related to Federal Reserve loans made  to Citigroup and Bank of America. In addition, FDIC plans to obtain  future contractor support to assist with activities related to PPIP’s Legacy  Loans Program. Though this program is still in development, FDIC  anticipates that contractor services in support of the program may include  financial advisory services, asset valuation, oversight and compliance  monitoring, title assignment, trustee services, and master servicer  responsibilities.
subsections: section_title: OFS Has Continued to Make Progress in Managing and Monitoring Conflicts of Interest among Contractors and Financial Agents
paragraphs: OFS continues to implement its system of compliance to manage and  monitor potential conflicts of interest that may arise with contractors and  financial agents seeking or performing work under TARP. In response to  the January 2009 TARP conflicts-of-interest interim rule, OFS received  nine comments before the public comment period ended March 23, 2009.  OFS anticipates that the process of developing a final rule on conflicts of  interest may take several months to complete.
We continue to track the actions OFS has taken to address two prior  recommendations: (1) to complete the review of, and as necessary  renegotiate, the four vendor conflicts-of-interest mitigation plans that  predated Treasury’s interim rule to enhance specificity and conformity  with the interim rule and (2) to issue guidance requiring that key  communications and decisions concerning potential or actual vendor- related conflicts of interest be documented.
Since March, OFS has made progress toward completing the review, and  as necessary renegotiation, of four pre-existing vendor conflicts-of-interest  mitigation plans. In addition, Treasury extended the period of performance  for two existing legal services contracts in March 2009. Of these six  required reviews, two were completed as of May 2009, resulting in updated  contract language and revised mitigation plans. OFS anticipates  completing all remaining reviews and any necessary renegotiations by the  end of July 2009.
The two contracts OFS revised now include specific language mirroring  the interim rule and provide more details regarding required disclosures  and certifications. The revised language also added provisions such as  requirements for conflicts-of-interest training for staff working under the  agreement,   prohibitions on offers of future employment or gifts to Treasury  requirements that conflicts-of-interest rules apply to subcontractors and  consultants.
One of the two contracts was revised to include more specificity in the  conflicts-of-interest mitigation plan regarding steps to mitigate potential  organizational and personal conflicts, codes of ethics, and gift policies.  Based on our review, the revised requirements in these contracts match  those in new contracts that were awarded after the interim rule was  issued.
OFS concurred with, and has taken initial steps to implement, the second  recommendation that it issue guidance requiring that key communications  and decisions concerning vendor-related conflicts of interest be  documented, but it has yet to complete this task. OFS has drafted the  process flows for the formal inquiry process, illustrating how OFS tracks  and documents decisions concerning vendor-related conflicts of interest.  OFS plans to discuss implementation of this process at an internal training  of its contracting officer’s technical representatives and financial agent  relationship managers on June 23, 2009.
section_title: Indicators Generally Suggest Positive Developments in Credit Markets, but Isolating the Impact of TARP Continues to Present Challenges
paragraphs: While isolating and estimating the effect of TARP programs continues to  present a number of challenges, indicators of perceptions of risk in credit  markets generally suggest improvement since our March 2009 report,  although the cost of credit has risen in some markets. As we have noted in  prior reports, if TARP is having its intended effect, a number of  developments might be observed in credit and other markets over time,  such as reduced risk spreads, declining borrowing costs, and more lending  activity than there would have been in the absence of TARP. However, a  slow recovery does not necessarily mean that TARP is failing, because it is  not clear what would have happened without the programs. In particular,  several market factors helping to explain slow growth in lending include  weaknesses in securitization markets and the balance sheets of financial  intermediaries, a decline in the demand for credit, and the reduced  creditworthiness among borrowers. Nevertheless, credit market indicators  we have been monitoring suggest that while some rates have increased  since our March 2009 report, there has been broad improvement in  interbank, mortgage, and corporate debt markets in terms of perceptions  of risk (as measured by premiums over Treasury securities). In addition,  empirical analysis of the interbank market, which showed signs of  significant stress in 2008, suggests that CPP and other programs outside  TARP that were announced in October of 2008 have resulted in a  statistically significant improvement in risk spreads even when other  important factors were considered. Although foreclosures continue to  highlight the challenges facing the U.S. economy, total mortgage  originations rose roughly 70 percent over the fourth quarter of 2008.  Similarly, while the Federal Reserve data show that lending standards  remain tight, our analysis of Treasury’s new loan survey indicate that the  largest 21 CPP recipients extended roughly $260 billion, on average, each  month in new loans to consumers and businesses in the first quarter of  2009.
subsections: section_title: TARP Programs Could Have a Number of Effects on Credit Markets and the Economy
paragraphs: In our previous reports, we highlighted the rationale for CPP, CAP, TALF,  and the Home Affordability Mortgage Program (HAMP) and the intended  effects of these programs. Among other improvements, the TARP  programs, if effective, should jointly result in the following:  improvement in credit market conditions, including declining risk  premiums (the difference between risky and risk-free interest rates, such  as rates on U.S. Treasury securities) for interbank lending and bank debt  and lower borrowing costs for business and consumers. improvement in banks’ balance sheets, enhancing lenders’ ability to  borrow, raise capital, and lend to creditworthy borrowers; however, as we  have discussed in previous reports, tension exists between promoting  lending and improving banks’ capital position.  fewer foreclosures and delinquencies than would otherwise occur in  absence of TARP. improvements in asset-backed securities markets, a development that  should increase the availability of new credit to consumers and  businesses, lowering rates on credit card, automobile, small business,  student, and other types of loans traditionally facilitated by securitization.
While TARP’s activities could improve market confidence in participating  banks and have other beneficial effects on credit markets, we have also  noted in our previous reports that several factors will complicate efforts to  measure any impact. For example, any changes attributed to TARP may  well be changes that (1) would have occurred anyway; (2) can be  attributed to other policy interventions, such as the actions of FDIC, the  Federal Reserve, or other financial regulators; or (3) have been enhanced  or counteracted by other market forces, such as the correction in housing  markets and revaluation of mortgage-related assets. Consideration of  market forces is particularly important when using bank lending as a  measure of CPP’s and CAP’s success because it is not clear what would  have happened in absence of TARP. Weaknesses in the balance sheets of  financial intermediaries, a decline in the demand for credit, reduced  creditworthiness among borrowers, and other market fundamentals  suggest lower lending activity relative to the expansion phase of the  business cycle. Similarly, nonbank financial institutions, which have  accounted for a significant portion of lending activity over the past two  decades, have been constrained due to weak securitization markets.  Because it is unlikely that any increase in loans originated by banks would  completely offset the decline in nonbank activity, the weakness in  securitization markets suggests that growth in aggregate lending will be  slow. Success in supporting nonbank financial institutions and revitalizing  the securitization market will depend in part on the success of TALF.  Lastly, because the extension of credit to less-than-creditworthy  borrowers appears to have been an important factor in the current  financial crisis, it is not clear that lending should return to precrisis levels.
As discussed in our March 2009 report, Treasury has introduced PPIP to  facilitate the purchase of legacy loans and securities. The program aims  not only to reduce uncertainty about the solvency of holders of these  assets but also to encourage price discovery in markets for these assets,  assuming current market prices are below what they would otherwise be  in a normally functioning market. The impact of PPIP will depend in  particular on the pricing of the purchased assets. Sufficiently high prices  will allow financial institutions to sell assets, deleverage, and improve  their capital adequacy. To the extent that markets are underpricing such  assets or prices are suppressed due to illiquidity, higher prices may be  more reflective of the underlying value or cash flows associated with the  assets (and therefore aid in price discovery). However, all other things  being equal, higher prices impose certain risks on Treasury, FDIC, and the  Federal Reserve if prices paid are too high, as these agencies will absorb  losses beyond the equity supplied by investors. The contribution of  private-sector equity capital reduces incentives to overpay for assets,  depending on the proportion of equity supplied, because greater equity  contributions entail greater downside risk for buyers. In addition to  providing more transparent pricing to these assets, PPIP, if it is effective,  should have effects broadly similar to the intended effects of CPP and  CAP: improved solvency at participating institutions, reduced uncertainty  about their balance sheets, and improved investor confidence, allowing  these institutions to borrow and lend at lower rates and raise additional  capital from the private sector.
section_title: Changes in Selected Indicators Suggest General Improvement in Credit Market Conditions, but These Changes Cannot Be Attributed Exclusively to TARP
paragraphs: We continue to consider a number of indicators that, although imperfect,  may be suggestive of TARP’s impact on credit and other markets.  Improvements in these measures would indicate improving conditions,  even though those changes may be influenced by general market forces  and cannot be exclusively linked to any one program or action being  undertaken to stabilize and improve the economy. Table 13 lists the  indicators we have reported on in previous reports, as well as the changes  since the March 2009 report and the changes since the announcement of  CPP, the first TARP program. In general, the indicators illustrate that the  cost of credit and perceptions of risk have declined in corporate debt,  mortgage, and interbank markets since mid-October 2008 although the  cost of credit has risen in some markets since our March 2009 report. For  example, the cost of interbank credit (LIBOR) has declined by 38 basis  points since our March 2009 report, and the TED spread, which captures  the risk perceived in interbank markets, has declined by 57 basis points.  Since the announcement of CPP, the LIBOR and TED spreads have fallen  by approximately 400 basis points. Since the announcement of CPP,  corporate bond spreads have declined, and there have been significant  decreases of 101 and 207 basis points for high-quality (Aaa) and moderate- quality (Baa) corporate spreads, respectively, since our March 2009 report,  indicating reduced risk perceptions. Although the Aaa bond market rate  has increased somewhat since our March 2009 report, both Aaa and Baa  bond rates have declined since the announcement of CPP, indicating an  decrease in the cost of credit for businesses. Similarly, the improvement in  the mortgage market is consistent across rates and spreads although rates  have been rising dramatically recently. Mortgage rates were up 61 basis  points since our March 2009 report largely due to significant increases  over the last two weeks. However, the mortgage spread is down 53 basis  points. Since the announcement of CPP the improvement in the mortgage  market was consistent across rates and spreads—down 87 basis points  and 74 basis points, respectively. (See our December and January reports  for a more detailed description and motivation for the indicators.) Recent  trends in these metrics are consistent with indicators monitored by GAO  but not reported and those tracked by other researchers. For example,  although not reported, the credit default swap index for the banking sector  has declined significantly since March 2009. As discussed above, changes  in credit market conditions may not provide conclusive evidence of  TARP’s effectiveness, as other important policies, interventions, and  changes in underlying economic conditions can influence these markets.
To examine further whether the decline in the TED spread could be  attributed in part to CPP, we conducted additional analysis using a simple  econometric model to address one of the most obvious threats to validity.  Because the TED spread reached extreme values leading up to the CPP  announcement (over 450 basis points), it is possible there would have  been declines from these peaks even in the absence of CPP simply  because extreme values have a tendency to return to normal levels.  However, even when we accounted for this possibility and the general  state of the economy using variables such as stock market performance  and the spread between long- and short-term Treasuries, we found that  CPP, announced on October 14, 2008, had a statistically significant  negative impact on changes in the TED spread. Even so, the associated  improvement in the TED spread (or LIBOR) cannot be attributed solely to  TARP because the October 14 announcement was a joint announcement  that introduced other Federal Reserve and FDIC programs in addition to  CPP. Moreover, the model we used is relatively simple and did not attempt  to account for all of the important factors that might influence the TED  spread. Omitting such variables could bias the results in unpredictable  ways. (See appendix III for additional information and limitations.)
We continue to monitor mortgage originations and foreclosures as  potential measures of TARP’s effectiveness. As table 13 indicates,  mortgage originations increased over 70 percent, from $260 billion in the  fourth quarter of 2008 to $445 billion in the first quarter of 2009 (see also  fig. 5). We noted in previous reports that if TARP worked as intended, we  expected mortgage originations to stop declining and eventually rise.  While the volume of new mortgage lending may reflect the availability of  credit, it may also indicate changes in credit risk or the demand for credit.  As figure 5 illustrates, mortgage applications also increased in the first  quarter, principally due to refinancing. Although originations were still  below the level in the first quarter of 2008, it is not clear that originations  would or should return to the level seen in the period leading up to the  credit market turmoil. Similarly, foreclosure data, although also influenced  by general market forces like falling housing prices and job loss, should  provide an indication of the effectiveness of HAMP and CPP to the extent  that improved market conditions enhance the ability of creditworthy  borrowers to refinance mortgages. However, it is too soon to expect  material changes in this area given that HAMP was only recently  implemented. As table 13 shows, the percentage of loans in foreclosure  reached an unprecedented high of 3.9 percent at the end of the first  quarter of 2009, up from 3.3 percent the previous quarter. The foreclosure  rate on subprime loans rose to 14.3 percent from 13.7 percent (the rate for  adjustable-rate subprime loans is now over 23 percent). We will provide  additional information on foreclosures and general conditions in mortgage  markets in future TARP-related and other reports to Congress.
Our analysis of Treasury’s loan survey showed that the largest CPP  recipients continued to extend loans to consumers and businesses,  roughly $260 billion on average each month in 2009. Because these data  are unique, we were not able to benchmark the origination levels against  historical lending or seasonal patterns at these institutions. As illustrated   in figure 6, new lending at the 21 largest institutions participating in CPP  fell 6 percent in February and rose 27 percent in March, month over  month.
Although lending normally drops during a recession and lending standards  for consumer and business credit remained tight, our analysis of the April  2009 release of the Federal Reserve’s loan officer survey found that  aggregate new lending by these institutions in March amounted to roughly  $295 billion (see table 14), or 41 percent higher than the low recorded in  November 2008. Consistent with the trends in aggregate mortgage  originations discussed above, total mortgage originations for the largest  CPP banks rose 15 percent to roughly $117 billion. The reporting  institutions generally received CPP funds on October 28, 2008, or  November 14, 2008, with a few institutions receiving funds on December  31, 2008, or January 9, 2009.
As we discussed in the March report, TALF support to securitization  markets should, if effective, result in lower rates and increased availability  of credit for the businesses and households that receive the underlying  loans. The primary consumer ABS markets include ABS backed by auto  loans, credit card receivables, and student loans. Although TALF is in its  beginning stages, we have begun monitoring lending activity at the  institutions most likely to be impacted by conditions in securitization  markets. For example, because stand-alone auto finance companies are  more heavily reliant on securitization than commercial banks, we noted  that changes in the trends in their automobile loan rates could partially  reflect the issues in securitization markets that TALF is intended to  address. As figure 7 shows, the average finance company auto rate has  been consistently below commercial bank auto rates. However, from  August to November 2008 the average finance company rate increased  significantly, rising by 132 basis points, while the average bank rate  increased just slightly (13 basis points). In contrast, from November  2008 to February 2009, the finance company rate declined significantly  (326 basis points) to 3.2—well below the bank rate, which fell only 13  basis points. The average rate for new automobile loans at finance  companies declined another 43 basis points to 2.74 percent during  March. While these declines correlate with the launching of TALF, the  finance rate could also reflect the attempt by auto finance companies to  attract buyers in a weak market, as well as other forces. We will continue to monitor these trends as well as data on credit card debt and othe  consumer and business loan markets. Moreover, because TALF has beenexpanded to other assets, including commercial MBS, other measure s of  lending activity and loan rates may become more appropriate indicators as  time progresses.
section_title: Conclusions
paragraphs: Treasury has continued to take steps to refine some TARP programs and  finalize others. In doing so, it has taken steps to address our previous  recommendations. Some areas, however, require ongoing attention. For  example, Treasury has hired the asset managers that will have a role in  monitoring compliance with the terms of CPP and other programs, but it is  continuing to develop a comprehensive oversight program for all TARP  program recipients. Consistent with our recommendation for greater  disclosure of monies paid to Treasury by TARP participants, Treasury now  includes dividends and interest received in its periodic reports to Congress  that are also posted to the www.financialstaility.gov Web site and plans to  provide dividend information by institution on the Web site. OFS has also  made progress in filling key positions in most areas but some vacancies  continue to be more challenging to fill. Finally, Treasury has made  additional progress in improving its communication strategy, including  hiring an individual who will be responsible for managing OFS’s  relationships with Congress, among other duties, but continued progress  in this area would further improve the transparency of the program.  Appendix II provides our assessment of Treasury’s implementation of our  previous recommendations.
Since our March 2009 report, Treasury has hired its first asset managers to  help manage its investment portfolio and help monitor compliance with  limitations on dividend payments and stock repurchases. However,  Treasury has yet to clearly identify the role that asset managers will have  in monitoring compliance; it has only noted that the asset managers will  have a limited role in the area of executive compensation oversight. While  hiring these managers is an important step, Treasury has yet to develop a  structured process to oversee compliance with program requirements and  the act. As noted in prior reports, we will continue to monitor  developments in this area, which is critical to ensuring the accountability  and integrity of the program.
The Federal Reserve’s completion of the stress tests for the 19 largest  bank holding companies was a significant milestone for CAP. While stress  test results revealed that about half of the banks needed to raise additional  capital to ensure their ability to continue lending to creditworthy  borrowers and maintain sufficient capital against losses, it remains unclear  whether any of the institutions will have to use CAP to raise additional  capital. The results of the stress test provided a rare glimpse into the  condition of these institutions, but questions have been raised about the  stress test assumptions, given the ongoing challenges in financial markets.  Moreover, the Federal Reserve does not plan to provide any additional  information on the condition of the banks over the next 18 months that  could show whether the banks had met their projected performance and  loss levels. The extent to which the institutions will disclose additional  information is unclear. As a result, the information provided could be  selective and difficult to compare across institutions, raising questions not  only about transparency of SCAP but also CAP. Moreover, the Federal  Reserve did not provide OFS staff with information about SCAP prior to  its public release and has no plans to share ongoing information about any  of the SCAP institutions that continue to be CPP or CAP participants.  Without such information, OFS lacks information needed to adequately  monitor these programs.
Although several banks have repurchased or announced plans to  repurchase their preferred shares and warrants, the regulators’ repurchase  approval criteria have lacked adequate transparency. The Federal Reserve  has provided criteria for the 19 largest bank holding companies, but the  other regulators have not consistently provided details about how they  have made repurchase determinations and how they will make future  determinations. Clearly articulated and consistently applied criteria are  indicative of a robust decision-making process, and without them,  Treasury’s ability to help ensure consistent treatment of institutions  requesting repurchase of their shares is limited.
Similarly, Treasury has provided limited information about the warrant  repurchase process on its www.financialstability.gov Web site. We  recognize the challenges associated with valuing warrants in the absence  of readily available markets for these instruments. For this reason, and  because the valuation process can be assumption driven, a well-designed,  fully vetted transparent process becomes critical to defusing questions  about the warrant valuation process and whether the resulting prices paid  by the institutions reflect the taxpayers’ best interests. While Treasury has  provided some limited information about the valuation process, it has yet  to provide the level of transparency at the transaction level that would  begin to address such questions. Additional information, such as the  institution’s initial offer and Treasury’s final valuation, would begin to  address some of these issues.
Treasury has taken steps toward implementing a communication strategy,  such as developing a new Web site and developing a media relations  position dedicated to TARP. Treasury has also included its public affairs  and legislative affairs staff in regular meetings with OFS to ensure that  communication and operations are better integrated. However, Treasury’s  current communication strategy may not be as effective as it could be.  Treasury has recognized the importance of reaching out to congressional  stakeholders on a regular and proactive basis and planned to do more to  ensure that all committees of jurisdiction receive regular communication  about TARP. However, until this strategy is fully implemented,  congressional stakeholders may not receive information in a consistent or  timely manner. In addition, although Treasury has said that the new  www.financialstability.gov Web site is a key component of its efforts to  improve communication on TARP, it has not yet taken steps to determine  whether the site is user-friendly or whether visitors to the site are finding  the information they seek. Usability testing and customer satisfaction  surveys are recognized best practices for improving the usefulness of Web  sites. While Treasury is in the process of exploring the use of such tools,  these efforts should be implemented as quickly as possible to gauge the  effectiveness of its communication efforts.
Treasury has continued to make progress in establishing its management  infrastructure and has responded to our two most recent contracting  recommendations and continued to respond to the others.
In the hiring area, Treasury has continued to establish its management  infrastructure, including hiring more staff. In accordance with our prior  recommendation that it expeditiously hire personnel to OFS, Treasury  continued to use direct-hire and various other appointments to bring a  number of career staff on board quickly. Since our March 2009 report,  Treasury has continued to increase the total number of OFS staff overall,  including the number of permanent staff. However, continued attention to  hiring remains important because some offices within OFS, such as the  offices of Homeownership and Risk and Compliance, continue to have a  number of vacancies that need to be filled as TARP programs become fully  implemented.
In the internal controls area, consistent with our previous report  recommendation that Treasury update guidance available to the public on  determining warrant exercise prices to be consistent with actual practices  applied by OFS, Treasury updated its frequently asked questions on its  Web site to clarify the process it follows for determining the prices.   However, there continues to be inconsistent guidance available on the  Web site for calculating the exercise prices. Treasury told us that any new  CPP applicants would most likely be non-public institutions for which  these guidance documents would not apply.  As such, Treasury does not  believe the inconsistent guidance is a significant issue and therefore does  not plan on further addressing the inconsistency.  If this warrant exercise  price guidance is no longer needed, then we believe that Treasury should  remove these guidance documents from its Web site to alleviate any  inconsistent descriptions of its process pertaining to warrant exercise  price calculations for public institutions. If Treasury chooses to leave the  documents on its Web site, then, as we previously recommended, Treasury  should make these documents consistent with respect to the warrant  exercise price calculations.
Treasury has continued to build a network of contractors and financial  agents to support TARP administration and operations and has an  opportunity to enhance transparency through its existing reporting  mechanisms. Treasury issues a number of reports and uses other  mechanisms, such as public announcements and its Web site, to provide  information to the public. Useful details are still lacking, however, on the  costs of procurement contracts and financial agency agreements, such as a  breakdown obligated and expenses for each entity. These contracts and  agreements are key tools OFS has used to help develop and administer its  TARP programs. By not providing this information, Treasury is missing an  opportunity to provide additional transparency about the cost of TARP  operations.
Finally, while again noting the difficulty of measuring the effect of TARP’s  activities, some indicators suggest general improvements in various  markets since our March 2009 report although the cost of credit has risen  in some cases. Specifically, the Baa corporate bond rate and LIBOR have  declined but mortgage and Aaa bond rates have risen. However,  perceptions of risk in credit markets (as measured by premiums over  Treasury securities) have decreased in interbank, mortgage, and corporate  bond markets, while total mortgage originations have increased. Empirical  analysis of the interbank market, which showed signs of significant stress  in 2008, suggests that CPP and other programs outside of TARP that were  announced in October 2008 resulted in a statistically significant  improvement in risk spreads, even when other important factors were  considered. In addition, although Federal Reserve survey data suggest that  lending standards remained tight, collectively the largest CPP recipients  extended roughly $260 billion on average each month in new loans to  consumers and businesses in the first quarter of 2009, according to the  Treasury’s loan survey. However, attributing any of these changes directly  to TARP continues to be problematic because of the range of actions that  have been and are being taken to address the current crisis. While these  indicators may be suggestive of TARP’s ongoing impact, no single  indicator or set of indicators can provide a definitive determination of the  program’s impact.
section_title: Recommendations for Executive Action
paragraphs: While the Department of the Treasury has taken actions to address our  previous recommendations, we continue to identify areas that warrant  ongoing attention and focus. Therefore, we recommend that Treasury take  the following five actions as it continues to improve TARP and make it  more accountable and transparent:    Ensure that the warrant valuation process maximizes benefits to taxpayers  and consider publicly disclosing additional details regarding the warrant  repurchase process, such as the initial price offered by the issuing entity  and Treasury’s independent valuations, to demonstrate Treasury’s  attempts to maximize the benefit received for the warrants on behalf of  the taxpayer.
In consultation with the Chairmen of the Federal Deposit Insurance  Corporation and the Federal Reserve, the Comptroller of the Currency,  and the Acting Director of the Office of Thrift Supervision, ensure  consideration of generally consistent criteria by the primary federal  regulators when considering repurchase decisions under TARP.
Fully implement a communication strategy that ensures that all key  congressional stakeholders are adequately informed and kept up to date  about TARP.
Expedite efforts to conduct usability testing to measure the quality of  users’ experiences with the financial stability Web site and measure  customer satisfaction with the site, using appropriate tools such as online  surveys, focus groups, and e-mail feedback forms.
Explore options for providing to the public more detailed information on  the costs of TARP contracts and agreements, such as a dollar breakdown  of obligations and/or expenses.
Finally, to help improve the transparency of CAP—in particular the stress  tests results—we recommend that the Director of Supervision and  Regulation of the Federal Reserve consider periodically disclosing to the  public the aggregate performance of the 19 bank holding companies  against the more adverse scenario forecast numbers for the duration of the  2-year forecast period and whether or not the scenario needs to be revised.  At a minimum, the Federal Reserve should provide the aggregate  performance data to OFS program staff for any of the 19 institutions  participating in CAP or CPP.
section_title: Agency Comments and Our Evaluation
paragraphs: We provided a draft of this report to Treasury for review and comment. We  also provided excerpts of the draft to the FDIC, Federal Reserve, OCC, and  OTS. We received written comments from Treasury that are reprinted in  Appendix I. The Federal Reserve provided oral comments, which we  discuss later. We also received technical comments from Treasury, the  Federal Reserve, and FDIC that we incorporated, as appropriate.
In its written comments, Treasury described steps it had taken in the last  60 days to address the extraordinary economic challenges, including the  Treasury financed restructurings of GM and Chrysler among others.   Treasury also noted the progress it has made in addressing our previous   recommendations. It also noted that the recommendations in this report  were constructive as it implements its programs and enhances OFS’s  performance. Moreover, they said several initiatives underway are  consistent with our recommendations. According to Treasury, among  other things, it is in the process of expanding its public disclosure about  the warrant repurchase process, implementing a communication strategy  that will provide all key congressional stakeholders more current  information about TARP, and planning a usability test to measure  satisfaction with its new Web site. We will continue to monitor Treasury’s  progress in implementing these and other planned initiatives in future  reports.
On June 12 and 15, 2009, we received oral comments from the Senior  Advisor to the Director of the Division of Banking Supervision and  Regulation on excerpts of the draft pertaining to the Federal Reserve. The  official expressed concern that our recommendation to consider  periodically disclosing aggregate information to the public on the  performance of the 19 U.S. bank holding companies against the more  adverse scenario would be operationally difficult and potentially  misleading. Specifically, the official said the SCAP loss estimates were  developed as aggregate 2-year estimates, without attempting to forecast  the quarter-to-quarter path of such losses over the 2009 to 2010 period.  Further, the official expressed concern that the size and character of the  bank holding companies’ on- and off-balance sheet exposures may change  materially over the 2-year period and that the Federal Reserve never  intended that the one-time SCAP estimates be used as a tool for measuring  U.S. bank holding company performance during the 2009 to 2010 period.
We understand that while this analysis would pose some operational  challenges for the Federal Reserve because the exercise was intended to  calculate a one-time capital buffer needed to withstand a more adverse  economic scenario and that the on-and off-balance sheet exposure of the  19 institutions may change materially over time. However, given the  dynamic economic environment, we see great value in periodically  measuring and reporting U.S. bank holding company performance against  the adverse scenario and whether the adverse scenario is more or less  adverse compared against changing economic conditions. Although this  would periodically require additional calculations, we believe this analysis  would provide useful trend information on the aggregate health of these  important institutions. As we previously stated, without such analysis, the  public will not have reliable information that can be used to gauge the  accuracy of the stress test projections on a more detailed basis than what  has been disclosed in the SCAP papers. Further, it could counter any  adverse affect of any selective reporting by individual institutions. Finally,  such periodic reporting would be useful in the measurement of the  effectiveness of SCAP and CAP.
We are sending copies of this report to the Congressional Oversight Panel,  Financial Stability Oversight Board, Special Inspector General for TARP,  interested congressional committees and members, Treasury, the federal  banking regulators, and others. The report also is available at no charge on  the GAO Web site at http://www.gao.gov.
If you or your staffs have any questions about this report, please contact  Richard J. Hillman at (202) 512-8678 or hillmanr@gao.gov, Thomas J.  McCool at (202) 512-2642 or mccoolt@gao.gov, or Orice Williams Brown at  (202) 512-8678 or williamso@gao.gov. Contact points for our Offices of  Congressional Relations and Public Affairs may be found on the last page  of this report. GAO staff who made major contributions to this report are  listed in appendix VI.
section_title: Appendix I: Comments from the Department of the Treasury
section_title: Appendix II: Status of Prior GAO Recommendations
subsections: section_title: Develop and implement a well-defined and disciplined risk-assessment process, as such a process is essential to monitoring program status and identifying any risks of potential inadequate funding of announced programs.
paragraphs: Review and renegotiate existing vendor conflict-of-interest mitigation plans, as necessary, to enhance  specificity and conformity with the new interim conflicts-of-interest regulation, and take continued steps to  manage and monitor conflicts of interest and enforce mitigation plans.
Develop a communication strategy that includes building an understanding and support for the various  components of the program. Specific actions could include hiring a communications officer, integrating  communications into TARP operations, scheduling regular and ongoing contact with congressional  committees and members, holding town hall meetings with the public across the country, establishing a  counsel of advisers, and leveraging available technology.
Require that AIG seek concessions from stakeholders, such as management, employees, and  counterparties, including seeking to renegotiate existing contracts, as appropriate, as it finalizes the  agreement for additional assistance.
Update OFS documentation of certain internal control procedures and the guidance available to the public  on determining warrant exercise prices, to be consistent with actual practices applied by OFS.
Improve transparency pertaining to TARP program activities by reporting publicly the monies, such as  dividends, paid to Treasury by TARP participants.
Complete the review of, and as necessary renegotiate, the four existing vendor conflicts-of-interest  mitigation plans to enhance specificity and conformity with the new interim conflicts-of-interest rule.
Issue guidance requiring that key communications and decisions concerning potential or actual vendor- related conflicts of interest be documented.
section_title: Appendix III: Econometric Analysis of TED Spread
paragraphs: We conducted an econometric analysis to assess the impact of Capital  Purchase Program (CPP) on the TED spread. Our multivariate  econometric model uses a standard interrupted time series design using  daily data on the TED spread. In lieu of relying on graphing and identifying  trends in the data before and after the announcement, the goal of this  exercise was to determine whether the large decline in the TED spread  could be associated with CPP in a statistically significant way when other  important variables were also considered, including a time trend and a  variable thought to control for the tendency of extreme values to revert to  more normal levels. To carry out the exercise as validly as possible, we  conducted tests to ensure the stationarity of the variables in the model,  used heteroskedasticity and autocorrelation-consistent (HAC) standard  errors and conducted sensitivity analysis.
The primary regressions model changes in the TED spread as a function of  lagged values of changes in the term structure (spread between short- and  long-term bonds), default spread (spread between lower quality and higher  quality bonds), target federal funds rate, and the S&P 500, as well as a  variable that indicates whether CPP was in place (starting with the  announcement date). We also include a time trend, an indicator variable  that indicates whether the TED spread was at an extreme value the day  before (defined as 200 basis points or greater) and a counter variable that  indicated the number of consecutive days, including the day in question,  that the TED spread had taken on an extreme value. The latter variable  was included to control for a potential “regression to the mean” effect. As  a robustness check, we also ran a variation of the model using a two-step  procedure where we (1) extract the predictable component from the TED  spread, term structure and default risk premium and (2) use the  unpredicted spreads in the regression. We also ran the model on various  time periods. In all cases, we found CPP to have a statistically significant  impact on the TED spread. However, it should be noted that we did not  attempt to capture all potential factors that might explain movements in  the TED spread, and, therefore, omitted variable bias remains a concern.  Moreover, since other programs were put in place from October 2008 to  February 2009, further analysis that attempts to control for these  interventions would provide more definitive results.
section_title: Appendix IV: Overview of Treasury’s CPP Repurchase Process
paragraphs: As participants have started to repay their assistance as permitted by the  Emergency Economic Stabilization Act of 2008 (the act), as amended by  the American Recovery and Reinvestment Act of 2009, the Department of  the Treasury (Treasury) has developed standard processes for each type of  security. The following provides an overview of the repurchase process for  preferred shares and subordinated debt and warrants.
subsections: section_title: Preferred Stock and Subordinated Debt Repurchase Process
paragraphs: In a repurchase, the financial institution buys back preferred stock or  subordinated debt from Treasury that was issued under Treasury’s Capital  Purchase Program (CPP) to stabilize the financial system. Under the  original terms of CPP, financial institutions were prohibited from  repurchasing such stock and debt within the first 3 years unless they  completed a qualified equity offering. Under the act, as amended,  Treasury must permit a financial institution to repurchase the preferred  stock or subordinated debt issued to Treasury at any time, subject to  Treasury’s consultation with the primary federal banking regulator. In  Treasury’s public guidance (FAQs) on repurchases, it states that financial  institutions should give notice of their intent to repurchase to their  primary banking regulator, which will apply existing supervisory  procedures to determine whether to approve the repurchase.
As shown in figure 8, the process begins when Treasury and the primary  federal regulator receive written notification (e-mail or letter) from the  financial institution of its intent to repurchase in full or in part its  preferred stock or other securities from Treasury. The primary federal  regulator performs an analysis using available supervisory information and  information provided by the institution to gauge its current financial  condition and prospects, such as whether there has been a significant  change in a financial institution’s financial condition and viability since it  received CPP funds. This analysis allows the regulator to determine if the  repurchase request should be approved or denied. In addition, the 19  largest U.S. bank holding companies that were subject to the stress test  must also be able to demonstrate access to common equity through public  issuance in the equity capital markets, and successfully issue senior  unsecured debt for a term greater than 5 years and not backed by Federal  Deposit Insurance Corporation (FDIC) guarantees, in amounts sufficient  to demonstrate a capacity to meet funding needs independent of FDIC  guarantees. According to Treasury, the consultation consists of the  primary federal regulator informing Treasury of its decision to approve or  deny the request via e-mail. If the federal regulator of the entity that issued  the preferred stock or other securities to the Treasury indicates it has no  objection to, or approves of, the repurchase, Treasury then notifies in  writing the financial institution that the repurchase is in process and  instructs the financial institution to contact its Treasury counsel to set up  dates for closing and settlement. If the repurchase is denied, Treasury  notifies the institution.
All four primary federal regulators noted that their role in the repurchase  process followed existing regulations and procedures for evaluating  requests by any financial institution regardless of whether they participate  in CPP. The Federal Reserve has established instructions for processing  capital repurchase requests for CPP and other government capital  programs by bank holding companies. For the 19 U.S. bank holding  companies that participated in the Supervisory Capital Assessment  Program, on June 1, 2009, the Federal Reserve released the criteria it  planned to use to evaluate applications to repurchase Treasury’s capital  investments. The Federal Reserve in consultation with the U.S. bank  holding companies’ primary bank regulator and FDIC informed Treasury  on June 9, 2009, that it had no objection to the repurchase of preferred  shares by 9 of the SCAP bank holding companies. Also on June 9, 2009,  Treasury announced that these 9 U.S. bank holding companies, and one  other large institution, met the requirements for repayment and would be  eligible to repay about $68 billion to Treasury. An Office of Financial  Stability official noted that Treasury plays a limited role in this  determination process.
section_title: Warrant Repurchase Process
paragraphs: If a financial institution repurchases all of its senior preferred shares, it  can repurchase some or all of its other equity securities held by Treasury.  The treatment of warrants differs in the standard securities purchase  agreements, depending on whether the firm that issues the warrants is  privately held or publicly traded. For privately held institutions, Treasury  immediately exercises the warrants at the time of the capital investment  and receives additional preferred shares. The financial institution  repurchases these warrant preferred shares after it repurchases the senior  preferred shares from Treasury. Publicly traded institutions have the  option to repurchase outstanding and unexercised warrants after the  senior preferred shares are repurchased. Although Treasury can sell the  warrants at any time, Treasury is required to notify the financial institution  30 days prior to a sale. Following a repurchase of the senior preferred  shares held by Treasury, an institution can repurchase the warrants at fair  market value (FMV), as defined in section 4.9 of the Securities Purchase  Agreement. If the financial institution chooses not to repurchase the  warrants, Treasury may liquidate the registered warrants.
According to the Securities Purchase Agreement, financial institutions  have 15 days from the date of a repurchase of preferred stock to give  notice to Treasury of the intent to repurchase the warrants that were  originally issued with the stock. If the financial institution does not wish to  repurchase the outstanding warrants, Treasury may proceed with  liquidating the warrants at the current market price. If the financial  institution decides to repurchase the warrants, the institution’s board of  directors determines the FMV, acting in good faith and relying on an  opinion of a nationally recognized independent investment banking firm  retained by the financial institution for such purpose and certified in a  resolution to Treasury. Through the use of market quotes from market  participants, financial modeling, fundamental research, and a third-party  consultation, Treasury makes an independent determination of the FMV of  the warrants. If Treasury does not agree with the financial institution’s  determination, it may object in writing within 10 days of receipt of the  financial institution’s FMV determination, and the two parties must work  together to resolve any issues and agree on an FMV. If they are unable to  agree on an FMV in 10 days, either party has 20 more days to invoke the  appraisal procedure by delivery of written notice.
Under the appraisal procedure, Treasury and the financial institution each  choose an independent appraiser to determine the estimated FMV and  notify each other of their choices within 10 days. If the two appraisers are  unable to agree upon an FMV for the warrants within 30 days of their  appointment, the appraisers have 10 additional days to select and appoint  a third independent appraiser. The third appraiser then has 30 days to  render its estimated FMV. The three estimated FMVs are to be averaged  unless the larger of the differences between the higher FMV and middle  valuations and the middle and lower valuations is more than 200 percent  of the smaller difference. If the larger difference exceeds 200 percent of  the smaller, the outlying valuation that triggers the exception is to be  excluded and the remaining two are to be averaged. The average will  become the binding FMV for Treasury and the financial institution; the  financial institution will be responsible for paying the costs of the  appraisal procedure.
section_title: Appendix V: Synopsis of Citigroup’s Financial Condition
paragraphs: Citigroup, Inc. (Citigroup) is one of the few institutions that has  participated in multiple Troubled Asset Relief Program (TARP) programs.  As of June 12, 2009, it is participating in the Capital Purchase Program  (CPP), the Targeted Investment Program (TIP), and the Asset Guarantee  Program (AGP). Its participation in multiple programs has raised a number  of questions about Citigroup’s financial condition. To analyze Citigroup’s  financial condition, we compared Citigroup with three similar institutions  that also received initial TARP funds through CPP in October 2008: Bank  of America Corporation, JPMorgan Chase, and Wells Fargo Company. As  of March 31, 2009, these four institutions were the largest U.S. bank  holding companies.
This appendix compares selected data on Citigroup’s financial condition  from 2007 through the first quarter 2009 with that of the other three bank  holding companies. Regarding net income, during all four quarters of  2008, Citigroup recorded growing losses, while the other three bank  holding companies continued to record profits. By the fourth quarter of  2008, Citigroup’s quarterly loss had increased to $27 billion (see fig. 9).
Since the beginning of 2007, all four of the bank holding companies  experienced a decline in the market value of their equity as a percentage  of their total assets (see fig. 10). However, since the beginning of 2008,  Citigroup’s ratio has been the lowest of the four.
We also reviewed the four bank holding companies’ debt-to-equity ratios  for the same period. We calculated the debt-to-equity ratio as the holding  company liabilities or debt divided by the equity shareholder funds. A  higher ratio generally indicates a higher amount of financing with debt.  Citigroup’s debt-to-equity ratio was significantly higher than the other  three holding companies’ ratios, as shown in figure 11. From the fourth  quarter 2008 through the first quarter 2009, Citigroup’s ratio increased  slightly from 9.4:1 to about 9.5:1.
One indicator of capital adequacy is the tier 1 risk-based capital ratio.  Using this measure, before TARP funding, Citigroup’s tier 1 capital ratio  was similar to that of the three other large bank holding companies (see  fig. 12). In the third quarter of 2008, the capital ratios of the four bank  holding companies ranged from 8.9 percent to 7.6 percent, with Citigroup  reporting a tier 1 risk-based capital ratio of 8.2 percent.
A different measure of capital adequacy is the tier 1 leverage ratio.  Using  this measure, Citigroup had the lowest ratio for the entire period  compared with the other three bank holding companies. Citigroup’s tier 1  leverage ratio ranged from a low of about 4 percent in the fourth quarter of  2007 to a high of just over 6.6 percent in the first quarter of 2009. In the  third quarter of 2008 and before TARP funding, Bank of America,  JPMorgan Chase, and Wells Fargo reported their tier 1 leverage ratio as 5.5  percent, 7.2 percent, and 7.5 percent, respectively, while Citigroup  reported a tier 1 leverage ratio of 4.7 percent as show in figure 13.
In addition to capital, a bank holding company has a cushion against  losses in its “allowance for loan and lease losses” (ALLL), which must be  maintained by the bank holding company to cover expected losses in its  loan and lease portfolio. For Citigroup and the other three companies, we  examined the data on assets that already reflected repayment problems  (“nonaccrual loans” plus “other real estate owned”) and compared this to  the companies’ tier 1 capital plus ALLL. The data for the first quarter 2007  through the first quarter  2009 are shown in figure 14. Throughout this  period, Citigroup’s assets with repayment problems as a percentage of this  cushion was consistently higher than that of the other three bank holding  companies.
section_title: Appendix VI: GAO Contacts and Staff Acknowledgments
subsections: section_title: Staff Acknowledgments
paragraphs: In addition to the contacts named above, Nikki Clowers, Gary Engel, and  William Woods (Lead Directors); Cheryl Clark, Lawrence Evans Jr.,  Barbara Keller, Carolyn Kirby, Kay Kuhlman, Karen Tremba, and Katherine  Trimble (Lead Assistant Directors); and Marianne Anderson, Noah  Bleicher, Benjamin Bolitzer, Angela Burriesci, Emily Chalmers, Michael  Derr, Rachel DeMarcus, M’Baye Diagne, Abe Dymond, Patrick Dynes,  Nima Edwards, Nancy Eibeck, Karin Fangman, Ryan Gottschall, Brenna  Guarneros, Heather Halliwell, Michael Hoffman, Joe Hunter, Tyrone  Hutchins, Elizabeth Jimenez, Jamila Jones Kennedy, Jason Kirwan,  Christopher Klisch, Steven Koons, Rick  Krashevski, John Krump, Jim  Lager, Rob Lee, John Lord, Matthew McDonald, Sarah McGrath, Susan  Michal-Smith, Marc Molino, Tim Mooney, Jill Namaane, Joseph O’Neill,  Ken Patton, Josephine Perez, Omyra Ramsingh, Mary Reich, Rebecca  Riklin, LaSonya Roberts, Susan Sawtelle, Chris Schmitt, Raymond  Sendejas, Jeremy Swartz, Maria Soriano, Cynthia Taylor, John Treanor,  and Jason Wildhagen made important contributions to this report.
section_title: Related GAO Products
paragraphs: Auto Industry: Summary of Government Efforts and Automakers’  Restructuring to Date. GAO-09-553. Washington, D.C.: April 23, 2009.
Small Business Administration’s Implementation of Administrative  Provisions in the American Recovery and Reinvesment Act.  GAO-09-507R. Washington, D.C.: April 16, 2009.
Troubled Asset Relief Program: March 2009 Status of Efforts to Address  Transparency and Accountability Issues. GAO-09-504. Washington, D.C.:  March 31, 2009.
Troubled Asset Relief Program: Capital Purchase Program Transactions  for the Period October 28, 2008 through March 20, 2009 and  Information on Financial Agency Agreements, Contracts, and Blanket  Purchase Agreements Awarded as of March 13, 2009. GAO-09-522SP.  Washington, D.C.: March 31, 2009.
Troubled Asset Relief Program: Status of Efforts to Address  Transparency and Accountability Issues. GAO-09-539T. Washington,  D.C.: March 31, 2009.
Troubled Asset Relief Program: Status of Efforts to Address  Transparency and Accountability Issues. GAO-09-484T. Washington,  D.C.: March 19, 2009.
Federal Financial Assistance: Preliminary Observations on Assistance  Provided to AIG. GAO-09-490T. Washington, D.C.: March 18, 2009.
Troubled Asset Relief Program: Status of Efforts to Address  Transparency and Accountability Issues. GAO-09-474T. Washington,  D.C.: March, 11, 2009.
Troubled Asset Relief Program: Status of Efforts to Address  Transparency and Accountability Issues. GAO-09-417T. Washington,  D.C.: February 24, 2009.
Troubled Asset Relief Program: Status of Efforts to Address  Transparency and Accountability Issues. GAO-09-359T. Washington,  D.C.: February 5, 2009.
Troubled Asset Relief Program: Status of Efforts to Address  Transparency and Accountability Issues. GAO-09-296. Washington, D.C.:  January 30, 2009.
High-Risk Series: An Update. GAO-09-271. Washington, D.C.: January 22,  2009.
Troubled Asset Relief Program: Additional Actions Needed to Better  Ensure Integrity, Accountability, and Transparency. GAO-09-266T.  Washington, D.C.: December 10, 2008.
Auto Industry: A Framework for Considering Federal Financial  Assistance. GAO-09-247T. Washington, D.C.: December, 5, 2008.
Auto Industry: A Framework for Considering Federal Financial  Assistance. GAO-09-242T. Washington, D.C.: December 4, 2008.
Troubled Asset Relief Program: Status of Efforts to Address Defaults and  Foreclosures on Home Mortgages. GAO-09-231T. Washington, D.C.:  December 4, 2008.
Troubled Asset Relief Program: Additional Actions Needed to Better  Ensure Integrity, Accountability, and Transparency. GAO-09-161.  Washington, D.C.: December 2, 2008.