Banking Law

Last year, Jamie Dimon called TARP a "Tarp Baby," which I assume enraged politically correct Uncle Remus haters everywhere. He was talking about the country's biggest banks at the time. In January of this year, we called it a "roach motel" when discussing how federal bank regulators were making it extremely difficult for community banks to pay back TARP capital. Yesterday, the American Banker (paid subscription required) ran a story that alleged that many community banks that took TARP have apparently been sucked into a black hole from which they may never emerge unless they get lucky and the known universe implodes, killing all life on Earth, at which point nobody will be sweating TARP.

Community banks are finding it extremely difficult to check out of the 18-month-old Troubled Asset Relief Program.

While all of the big banks have repurchased or converted preferred stock, and two-thirds of the regionals have followed suit, community banks are expected to hold the vast majority of unpaid Tarp funds on their balance sheets by the program's two-year anniversary.

There's some wailing and gnashing of teeth in the article by commentators (some of whom I actually respect) about how TARP hasn't fulfilled its intended purpose of spurring lending to small businesses. I think that misses the point that one of the original purposes of TARP was to shore up banks' balance sheets so that they didn't fail and drag the entire economy into a hopeless pit of despair. Like the hopeless pit of despair TARP takers now find themselves in. It's continuing to serve that purpose for a number of community banks.

"The initial reason was to promote lending," [Kirk] Bailey (CEO of Magna Bank of Memphis] said. "In hindsight, the Tarp money has become defensive capital ? and part of that is protection against something cataclysmic. Things are better, but we're not out of the woods yet."

No, we're not, not by a long shot. As other observers quoted in the article state, commercial real estate has severely punished community banks' balance sheets and will continue to do so in the near future. Thus, those with capital are hanging onto it for deal life and doing everything they can to grab more, which, for community banks, isn't easy.

Although the TARP program has been in existence for 18 months, the portion of the program for community banks has been around for less time than that. It's still in its early stages. The fact that politicians screwed it up after the fact caused banks that could afford to pay back the capital to do so as soon as possible. However, it was designed so that below-market dividend rates on the preferred stock purchased by the government would be payable for five years, so banks would have at least that period of time to work out of their problems and return to a position to raise additional capital and redeem the preferred stock (and warrants). The fact that all of the biggest banks, and two-thirds of the regional banks, have already paid back their TARP capital are events that were not initially expected to occur. The fact that smaller banks, who don't have the same kind of access to capital that the bigger banks do, are sticking with the program is right in line with what was expected to happen and is nothing that should concern, or even surprise, observers.

In that light, the pronouncement by UNC Professor Tony Plath's that "[a]ll we've done is created a bunch of zombie banks" appears to me to be a bit overheated. Not all of the banks who continue to hold TARP capital are "zombies" who won't ultimately survive. I'm sure there are a number of CEOs of such banks who would be pleased to let Tony know that fact, face-to-face (although I'd advise him to wear a catcher's mask). If he keeps spouting that line, he may find himself lumped into the same category with Elizabeth Warren and Nouriel Roubini, a category that engenders eye-rolling instead of rapt attention every time someone opens their mouth.

Another issue not discussed in the article is one we touched on in previous posts and in the opening paragraph of this post. In order to repay TARP capital, banks must receive their primary regulator's approval. Many are not receiving that approval, or are receiving approval only to make partial repayments. Regulators are being as cautious as they can so as not to turn allegedly "zombie" banks into completely inanimate corpses. Expect that caution to continue for near term, as well.