Fed Backs Obama's Bailout Request
Officials Detail Plan To Overhaul Rescue

By Neil Irwin and David Cho
Washington Post Staff Writers
Wednesday, January 14, 2009

Top officials of the Federal Reserve yesterday offered the most detailed proposals yet for overhauling the rescue of the financial system, urging Congress to release the next batch of bailout money and arguing that a stimulus program alone is not enough to keep the economy from plunging further into recession.

The Fed leaders spoke as President-elect Barack Obama worked Capitol Hill, trying to persuade Democratic senators not to block a request for the last $350 billion of the bailout funds and assuring them that he is willing to use his veto power if they do so, according to participants in his lunchtime meeting with lawmakers.

Obama added that he would prefer to avoid making a politically awkward veto against a Democratic Congress one of his first official acts as president.

In laying out their ideas on how to disburse funds from the second half of the $700 billion financial rescue program, Fed leaders offered a more detailed vision than have aides to Obama. Lawmakers on both sides of the aisle have voiced consternation and even anger that they have not been given more specifics on how the money would be used.

Among other steps, Federal Reserve Chairman Ben S. Bernanke and vice chairman Donald L. Kohn suggested taking troubled assets off the books of banks -- a strategy that Fed officials backed before it was abandoned months ago -- and also using some of the money to help homeowners at risk of foreclosure.

Bernanke, in a speech in London, argued that "fiscal actions are unlikely to promote a lasting recovery unless they are accompanied by strong measures to further stabilize and strengthen the financial system."

His speech, along with separate congressional testimony yesterday by Kohn, amounted to an aggressive new pitch to Congress for more money for the financial rescue, known as the Troubled Asset Relief Program. Although it's an independent agency, the Fed has a consultative role in deploying the money, and Kohn has represented the Fed in conversations with the Obama transition team on how to use the cash.

One idea Bernanke and Kohn described is a throwback to the original vision of the rescue package that Bernanke and Treasury Secretary Henry M. Paulson Jr. pitched in September. They said the government could buy up bad assets that banks hold or otherwise protect them from further losses.

Paulson sold Congress on that strategy during the original debate over the rescue, then abruptly changed direction after it passed. Paulson concluded that asset purchases would be too slow to implement to end the October tailspin of the financial system.

Bernanke, speaking yesterday at the London School of Economics, said the government could buy troubled assets at auction, as the program was initially conceived. He also spelled out alternative approaches he had not aired before: insuring banks against further losses on those assets in exchange for stock or creating a "bad bank" that would hold the bad assets.

"The presence of these assets significantly increases uncertainty about the underlying value of these institutions and may inhibit both new private investment and new lending," Bernanke said.

Kohn, in written testimony to the House Financial Services Committee, said that the Fed could expand a program it is already creating in which Fed loans and TARP rescue money are combined to support lending through credit cards, auto loans, student lending and small-business loans.

In particular, he said that the program, which was announced in November and is to begin operating in February, could be expanded to include lending for office buildings, shopping centers, hotels and such by supporting "commercial mortgage-backed securities."

Moreover, "the bulk" of the remaining TARP rescue funds would be used to invest in banks and other financial institutions, perhaps with government aid offered to match investments from the private sector -- a "market test," as Kohn put it, helping to ensure that the institutions getting money are sound. Bernanke has been interested in some sort of private-sector matching scheme for months.

Both Bernanke and Kohn said some of the rescue would go to help prevent home foreclosures, a particular concern of congressional Democrats. One way to do that would be similar to a strategy designed by the Federal Deposit Insurance Corp. to pay mortgage servicers to modify loans and offer to share in losses if the loans default. Another would be for the Treasury to buy loans in default, then modify the mortgages to fit existing government housing programs.

The Fed leaders each made a vigorous plea for the rescue money. "The rationale for public investment in the financial industry is not any special regard for managers, workers or investors in that industry over others," Kohn said, "but rather the need to prevent a further deterioration in financial conditions that would destroy jobs and incomes in all industries and regions."

Many Senate Republicans, meanwhile, continued to insist that Obama's team has provided too few details about how they would use the money. Many said they are seeking a written statement detailing Obama's intentions that goes beyond the three-page letter submitted to congressional leaders Monday by Obama economic adviser Lawrence H. Summers.

Summers's letter laid out five principles for how the Obama administration would use the funds, such as "Use Our Full Arsenal of Tools to Get Credit Flowing Again to Families and Business." Sen. John Cornyn (R-Tex.), a member of the Senate GOP leadership, described the Summers letter as "full of generalities and vagaries."

"Members need to know how the Obama administration is going to carry out this bill -- and we need to know not just statements of principle, but what they are willing to bind themselves morally to do," said Brad Sherman (D-Calif.).

Obama is making personal calls to Democrats and Republicans to urge them to release the money, and Democratic leaders were confident that he would prevail on a matter he told them he considers the "first vote" of his administration.

Sen. Joseph I. Lieberman (I-Conn.), a supporter of Sen. John McCain's GOP presidential campaign, said after yesterday's lunch with Obama that he fully supports the president-elect's request for the money.

As he put it: "What's the basis for voting against it? Because you're mad at Hank Paulson? That doesn't make any sense."

Staff writers Lori Montgomery and Paul Kane contributed to this report.

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