The Emergency Economic Stabilization Act of 2008, also known as the "bank bailout of 2008" or the "Wall Street bailout", was a United States federal law enacted during the Great Recession, which created federal programs to "bail out" failing financial institutions and banks. The bill was proposed by Treasury Secretary Henry Paulson, passed by the 110th United States Congress, and was signed into law by President George W. Bush. It became law as part of Public Law 110-343 on October 3, 2008. It created the $700 billion Troubled Asset Relief Program (TARP) whose funds would purchase toxic assets from failing banks. The funds were mostly directed to inject capital into banks and other financial institutions as the Treasury continued to review the effectiveness of targeted asset-purchases.
The 2008 financial crisis developed partly due to the subprime mortgage crisis, causing the failure or near-failure of major financial institutions like Lehman Brothers and American International Group. Seeking to prevent the collapse of the financial system, Secretary of the Treasury Paulson called for the U.S. government to purchase several hundred billion dollars in distressed assets from financial institutions. His proposal was initially rejected by Congress, but the bankruptcy of Lehman Brothers and lobbying by President Bush ultimately convinced Congress to enact the proposal as part of Public Law 110-343.
Early estimates for the bailout's risk cost were as much as $700 billion; however, TARP recovered $441.7 billion from $426.4 billion invested, earning a $15.3 billion profit (an annualized rate of return of 0.6%), which may have been a loss when adjusted for inflation.
History
After the freeing up of world capital markets in the 1970s and the repeal of the Glass–Steagall Act in 1999, banking practices (mostly Greenspan-inspired "self-regulation") and monetized subprime mortgages sold as low risk investments reached a critical stage during September 2008, characterized by severely contracted liquidity in the global credit markets"Banks in Miser Mode" and insolvency threats to investment banks and other institutions. In response, the U.S. government announced a series of comprehensive steps to address the problems, following a series of "one-off" or "case-by-case" decisions to intervene or not, such as the $85 billion liquidity facility for American International Group on September 16, the federal takeover of Fannie Mae and Freddie Mac, and the bankruptcy of Lehman Brothers.
The legislation had its origin in early 2008 when Secretary of the Treasury Henry Paulson directed two of his aides, Neel Kashkari and Phillip Swagel, to write a plan to recapitalize the U.S. financial system in case of total collapse. The plan, which was also presented to Federal Reserve Chairman Ben Bernanke, called for the U.S. government to purchase about $500 billion in distressed assets from financial institutions.Andrew Ross Sorkin. Too Big to Fail. Penguin Books, 2009, 2010. pp. 83–93.
The original proposal was submitted to the United States House of Representatives, with the purpose of purchasing bad assets, reducing uncertainty regarding the worth of the remaining assets, and restoring confidence in the credit markets. The bill was then expanded and put forth as an amendment to . The amendment was rejected via a vote of the House of Representatives on September 29, 2008, voting 205–228.
Supporters of the plan argued that the market intervention called for by the plan was vital to prevent further erosion of confidence in the U.S. credit markets and that failure to act could lead to an economic depression. Opponents objected to the plan's cost and rapidity, pointing to polls that showed little support among the public for "bailing out" Wall Street investment banks, claimed that better alternatives were not considered, and claimed that the Senate forced passage of the unpopular version through the opposing house by "sweetening" the bailout package.
On October 1, 2008, the Senate debated and voted on an amendment to H.R. 1424, which substituted a newly revised version of the Emergency Economic Stabilization Act of 2008 for the language of H.R. 1424.Amendment to HR 1424 (the amendment being the text of the Emergency Economic Stabilization Act of 2008 along with the Energy Improvement and Extension Act of 2008, and Tax Extenders and Alternative Minimum Tax Relief Act of 2008.) Senate Committee on Banking, Housing and Urban Affairs (October 1, 2008) ( Retrieved October 1, 2008) See also the Senate Committee on Banking page: Emergency Economic Stabilization Act of 2008 The Senate accepted the amendment and passed the entire amended bill, voting 74–25.Final Roll Call for Senate vote: On Passage of the Bill (H. R. 1424 As Amended). Additional unrelated provisions added an estimated $150 billion to the cost of the package and increased the length of the bill to 451 pages. (See Public Law 110-343 for details on the added provisions.) The amended version of H.R. 1424 was sent to the House for consideration, and on October 3, the House voted 263–171 to enact the bill into law. President George W. Bush signed the bill into law within hours of its congressional enactment, creating the $700 billion Troubled Asset Relief Program (TARP) to purchase failing bank assets.Temple-Raston, Dina (October 3, 2008). "Bush signs $700 billion bailout bill" . NPR.
On Monday, October 6, the Dow Jones Industrial Average dropped more than 700 points and fell below 10,000 for the first time in four years.Bel Bruno, Joe & Paradis, Tim (October 6, 2008). "Dow finishes below 10,000 for first time since '04". Retrieved October 7, 2008. The same day, CNN reported these worldwide stock market events: Britain's FTSE 100 Index was down 7.9%; Germany's DAX down 7.1%; France's CAC 40 dropping 9%; in Russia, trading in shares was suspended after the RTS stock index fell more than 20%; Iceland halted trading in six bank stocks while the government drafted a crisis plan."Asia, Pacific markets tumble in opening". CNN. October 6, 2008. Retrieved October 7, 2008.
On October 8, the British announced their bank rescue package consisting of funding, debt guarantees and infusing capital into banks via preferred stock. This model was closely followed by the rest of Europe, as well as the U.S government, who on October 14 announced a $250bn (£143bn) Capital Purchase Program to buy stakes in a wide variety of banks in an effort to restore confidence in the sector. The money came from the $700bn Troubled Asset Relief Program.
Over the next six months, TARP was dwarfed by other guarantees and lending limits; analysis by Bloomberg found the Federal Reserve had, by March 2009, committed $7.77 trillion (~$ in ) to rescuing the financial system, more than half the value of everything produced in the U.S. that year.
Paulson proposal U.S. treasury secretary Henry Paulson proposed a plan under which the U.S. Treasury would acquire up to $700 billion worth of mortgage-backed securities. The plan was immediately backed by President George W. Bush and negotiations began with leaders in the U.S. Congress to draft appropriate legislation. On Thursday, September 18, 2008, Paulson and Chair of the Federal Reserve Ben Bernanke had a dramatic meeting with Congressional leaders, to whom Bernanke reportedly said: "If we don't do this, we may not have an economy on Monday".
Consultations among Treasury Secretary Henry Paulson, Chairman of the Federal Reserve Ben Bernanke, U.S. Securities and Exchange Commission chairman Christopher Cox, congressional leaders, and President Bush, moved forward efforts to draft a proposal for a comprehensive solution to the problems created by illiquid assets. News of the coming plan resulted in some stock, bond, and currency markets stability on September 19, 2008.Bowley, Graham (September 19, 2008), "Stocks Surge as U.S. Acts to Shore Up Money Funds and Limits Short Selling", The New York TimesHerszenhorn, David M. (September 19, 2008), "Congressional Leaders Were Stunned by Warnings", The New York Times.
The proposal called for the federal government to buy up to US$700 billion of illiquid mortgage-backed securities with the intent to increase the liquidity of the secondary mortgage markets and reduce potential losses encountered by financial institutions owning the securities. The draft proposal was received favorably by investors in the stock market, but caused the U.S. dollar to fall against gold, the Euro, and petroleum. The plan was not immediately approved by Congress; debate and amendments were seen as likely before the plan was to receive legislative enactment.Andrews, Edmund L. (September 19, 2008), "Bush Officials Urge Swift Action on Rescue Powers", The New York Times."Rescue Plan Seeks $700 Billion to Buy Bad Mortgages", The New York Times, Associated Press, September 20, 2008.Herszenhorn, David M. (September 20, 2008), "Administration Is Seeking $700 Billion for Wall Street", The New York Times.
Throughout the week of September 20, 2008, there was contentious wrangling among members of Congress over the terms and scope of the bailout,Prins, Nomi (September 24, 2008), "Bailout plan not embraced", The Real News amplified by continued failures of institutions like Washington Mutual, and the upcoming November 4 national election.
On September 21, Paulson announced that the original proposal, which would have excluded foreign banks, had been revised to include foreign financial institutions with a presence in the United States. The U.S. administration pressured other countries to set up similar bailout plans. On September 23, the plan was presented by Paulson and Bernanke to the Senate Banking Committee, who rejected it as unacceptable. On September 24, President Bush addressed the nation on prime time television, describing how serious the 2008 financial crisis could become if action was not taken promptly by Congress."President's Address to the Nation", September 24, 2008. Also on September 24, 2008, Republican Party nominee for President, John McCain, and Democratic Party nominee for President, Barack Obama, issued a joint statement describing their shared view that "The effort to protect the American economy must not fail."
The plan was introduced on September 20, by Paulson. Named the Troubled Asset Relief Program, but also known as the Paulson Proposal or Paulson Plan, it should not be confused with Paulson's earlier 212-page plan, the Blueprint for a Modernized Financial Regulatory Reform,"Blueprint for a Modernized Financial Regulatory Structure", United States Department of the Treasury, March 31, 2008. that was released on March 31, 2008.
The proposal was only three pages long, intentionally short on details to facilitate quick passage by Congress.
Mortgage asset purchases
A key part of the proposal is the federal government's plan to buy up to $700 billion of illiquid mortgage-backed securities (MBS) with the intent to increase the liquidity of the secondary mortgage markets and reduce potential losses encountered by financial institutions owning the securities. The draft proposal of the plan was received favorably by investors in the stock market.