The bailout: An owner's manual

October 04 12:05:01 PM, LA Times

A taxpayer's guide to the economic rescue package. Congratulations. If you're an American taxpayer, you've just become the owner of a brand-new $700 billion attempted bailout of the U.S. financial system. After a 263-171 vote by the U.S. House of Representatives Friday, President Bush signed the legislation, aimed at rescuing the freezing credit markets in an effort to shore up the failing economy.

Actually, it's a bit bigger than $700 billion. The version of the bill that passed Friday contains some expensive add-ons, including a provision that keeps the alternative minimum tax (AMT) from encroaching upon the middle class in 2008, clean-energy tax incentives, disaster relief and the extension of expiring tax cuts for businesses and individuals. It also expands government insurance on bank deposits from $100,000 to $250,000 through 2009.

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You probably have questions. So do we. A guide:

How does it work?

The bailout plan gives the Treasury extremely broad authority to buy up to $700 billion in troubled assets, like mortgage-backed securities, from firms that are having difficulty selling them. Uncle Sam can also insure these assets instead of buying them.

The idea is to get these securities off firms' books--or at least give them a government guarantee--so that these businesses can more easily lend and borrow again. Only assets that were originated on or before March 14, 2008, are eligible. The Treasury has through 2009 to use the funds.

Once the bill becomes law, the Treasury will hire a team of consultants and managers to help the government figure out what to buy. This group will also assist the Treasury in determining how to price the assets, which are now tough to value. The most likely scenario is an auction. The Treasury could sell the securities for a profit at a later date. If there is a net loss, in 2013, the president will have to come up with a report to recoup the shortfall--however, only an act of Congress can put that plan in place.

What about oversight?

The Treasury secretary would periodically submit to Congress a detailed report of the bailout's progress, including all financial transactions and the "types of parties involved." In addition, every quarter, a special inspector general would provide Congress with a report including all purchases made and income received from the bailout.

How much will it cost?

The initial addition to the federal debt would be $700 billion, although the Congressional Budget Office believes the net budget loss will be "substantially smaller" because the government can recoup some of its losses and perhaps sell the securities for a profit later. There are also administrative costs, which the CBO currently estimates at perhaps "a few billion dollars per year."

However, the newly added tax provisions of the bill alone will cost the government an additional $110.4 billion by 2018, according to a just-released study by Congress' Joint Committee on Taxation. Only $3.4 billion of that is related to the "bailout" portion of the bill. The AMT fix and the extension of certain tax incentives will cost $107 billion over the next 10 years. The energy provisions are completely paid for.

Is it big enough?

Probably. The administration asked Congress for $700 billion, thinking that was a large enough number to restore confidence to the markets, clean up the balance sheets of troubled companies and prevent it from asking for more. One thing that might help: Under the current version of the bill, banks issue the Treasury stock warrants, giving taxpayers a chance at making money once the crisis subsides.

That isn't going to be the only remedy, though. Already the Federal Deposit Insurance Corp. (FDIC) has stepped up its oversight of troubled banks, and the agency is taking a more aggressive view to recapitalizing banks or forcing mergers of strong banks with weak banks before they fail.

The Federal Reserve is also playing its part. It is pumping hundreds of billions into the banking system--nearly $1 trillion in actions announced this week--to help alleviate the pressure on balance sheets as banks reduce their leverage. The Fed will continue to flood the system with money through the next few months, with the year-end balance sheet preparation looming.

What happens to the companies who participate?

They will have to give the government the ability to acquire shares and executives at the companies will be subject to more restrictive compensation rules. There is the possible stigma of participating, since it may make them appear to be weak. But if everybody does it. ...

So who will use it and who won't?


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