Last June,
with a financial hurricane gathering force, Treasury Secretary Henry M.
Paulson Jr. convened the nation’s economic stewards for a brainstorming
session. What emergency powers might the government want at its disposal
to confront the crisis? he asked.
Timothy F.
Geithner, who as president of the New York Federal Reserve Bank oversaw
many of the nation’s most powerful financial institutions, stunned
the group with the audacity of his answer. He proposed asking Congress
to give the president broad power to guarantee all the debt in the banking
system...
The proposal
quickly died amid protests that it was politically untenable because it
could put taxpayers on the hook for trillions of dollars.
“People
thought, ‘Wow, that’s kind of out there,’ ” said John
C. Dugan, the comptroller of the currency, who heard about the idea afterward.
Mr. Geithner says, “I don’t remember a serious discussion on that
proposal then.”
But in the
10 months since then, the government has in many ways embraced his blue-sky
prescription. Step by step, through an array of new programs, the Federal
Reserve and Treasury have assumed an unprecedented role in the banking system,
using unprecedented amounts of taxpayer money, to try to save the nation’s
financiers from their own mistakes.
And more often
than not, Mr. Geithner has been a leading architect of those bailouts, the
activist at the head of the pack. He was the federal regulator most willing
to “push the envelope,” said H. Rodgin Cohen, a prominent Wall
Street lawyer who spoke frequently with Mr. Geithner.
Today, Mr.
Geithner is Treasury secretary, and as he seeks to rebuild the nation’s
fractured financial system with more taxpayer assistance and a regulatory
overhaul, he finds himself a locus of discontent.
Even as banks
complain that the government has attached too many intrusive strings to
its financial assistance, a range of critics — lawmakers, economists
and even former Federal Reserve colleagues — say that the bailout
Mr. Geithner has played such a central role in fashioning is overly generous
to the financial industry at taxpayer expense.
An examination
of Mr. Geithner’s five years as president of the New York Fed, an
era of unbridled and ultimately disastrous risk-taking by the financial
industry, shows that he forged unusually close relationships with executives
of Wall Street’s giant financial institutions.
His actions,
as a regulator and later a bailout king, often aligned with the industry’s
interests and desires, according to interviews with financiers, regulators
and analysts and a review of Federal Reserve records. ...
The New York
Fed is, by custom and design, clubby and opaque. It is charged with curbing
banks’ risky impulses, yet its president is selected by and reports
to a board dominated by the chief executives of some of those same banks.
Traditionally, the New York Fed president’s intelligence-gathering
role has involved routine consultation with financiers, though Mr. Geithner’s
recent predecessors generally did not meet with them unless senior aides
were also present, according to the bank’s former general counsel.
By those standards,
Mr. Geithner’s reliance on bankers, hedge fund managers and others
to assess the market’s health — and provide guidance once it faltered
— stood out.
His calendars
from 2007 and 2008 show that those interactions were a mix of the professional
and the private.
He ate lunch
with senior executives from Citigroup, Goldman Sachs and Morgan Stanley
at the Four Seasons restaurant or in their corporate dining rooms. He attended
casual dinners at the homes of executives like Jamie Dimon, a member of
the New York Fed board and the chief of JPMorgan Chase.
Mr. Geithner
was particularly close to executives of Citigroup, the largest bank under
his supervision. Robert E. Rubin, a senior Citi executive and a former Treasury
secretary, was Mr. Geithner’s mentor from his years in the Clinton
administration, and the two kept in close touch in New York.
Mr. Geithner
met frequently with Sanford I. Weill, one of Citi’s largest individual
shareholders and its former chairman, serving on the board of a charity
Mr. Weill led. As the bank was entering a financial tailspin, Mr. Weill
approached Mr. Geithner about taking over as Citi’s chief executive.
But for all
his ties to Citi, Mr. Geithner repeatedly missed or overlooked signs
that the bank — along with the rest of the financial system —
was falling apart. When he did spot trouble, analysts say, his responses
were too measured, or too late.
In 2005, for
instance, Mr. Geithner raised questions about how well Wall Street was tracking
its trading of complex financial products known as derivatives, yet he pressed
reforms only at the margins. Problems with the risky and opaque derivatives
market later amplified the economic crisis.
As late as
2007, Mr. Geithner advocated measures that government studies said would
have allowed banks to lower their reserves. When the crisis hit, banks
were vulnerable because their financial cushion was too thin to protect
against large losses.
In fashioning
the bailout, his drive to use taxpayer money to backstop faltering firms
overrode concerns that such a strategy would encourage more risk-taking
in the future. In one bailout instance, Mr. Geithner fought a proposal to
levy fees on banks that would help protect taxpayers against losses.
The bailout
has left the Fed holding a vast portfolio of troubled securities. To manage
them, Mr. Geithner gave three no-bid contracts to BlackRock, an asset-management
firm with deep ties to the New York Fed. ...
Sitting like
a fortress in the heart of Manhattan’s financial district, the New
York Fed is, by dint of the city’s position as a world financial center,
the most powerful of the 12 regional banks that make up the Federal Reserve
system.
The Federal
Reserve was created after a banking crisis nearly a century ago to manage
the money supply through interest-rate policy, oversee the safety and soundness
of the banking system and act as lender of last resort in times of trouble.
The Fed relies on its regional banks, like the New York Fed (of which Geithner
was president before becoming Treasury Secretary), to carry out its policies
and monitor certain banks in their areas.
The regional
reserve banks are unusual entities. They are private and their shares
are owned by financial institutions the bank oversees. Their net income
is paid to the Treasury.
At the New
York Fed, top executives of global financial giants fill many seats on the
board. In recent years, board members have included the chief executives
of Citigroup and JPMorgan Chase, as well as top officials of Lehman Brothers
and industrial companies like General Electric.
In theory,
having financiers on the New York Fed’s board should help the president
be Washington’s eyes and ears on Wall Street. But critics, including
some current and former Federal Reserve officials, say the New York Fed
is often more of a Wall Street mouthpiece than a cop.
Willem H.
Buiter, a professor at the London School of Economics and Political Science
who caused a stir at a Fed retreat last year with a paper concluding that
the Federal Reserve had been co-opted by the financial industry, said the
structure ensured that “Wall Street gets what it wants” in its
New York president: “A safe pair of hands, someone who is bright,
intelligent, hard-working, but not someone who intends to reform the system
root and branch.”
Mr. Geithner
took office (as head of the New York Fed) during one of the headiest bull
markets ever. Yet his most important task, he said in an interview, was
to prepare banks for “the storm that we thought was going to come.”
In his first
speech as president in March 2004, he advised bankers to “build a sufficient
cushion against adversity.” Early on, he also spoke frequently about
the risk posed by the explosion of derivatives, unregulated insurancelike
products that many companies use to hedge their bets.
But Mr. Geithner
acknowledges that “even with all the things that we took the initiative
to do, I didn’t think we achieved enough.” ...
Even as Mr.
Geithner was counseling banks to take precautions against adversity, some
economists were arguing that easy credit was feeding a more obvious problem:
a housing bubble.
Despite those
warnings, a report released by the New York Fed in 2004 called predictions
of gloom “flawed” and “unpersuasive.” And as lending
standards evaporated and the housing boom reached full throttle, banks plunged
ever deeper into risky mortgage-backed securities and derivatives. ...
The ultimate
tool at Mr. Geithner’s disposal for reining in unsafe practices was
to recommend that the Board of Governors of the Fed publicly rebuke a bank
with penalties or cease and desist orders. Under his watch, only three such
actions were taken against big domestic banks; none came after 2006, when
banks’ lending practices were at their worst.
Perhaps the
central regulatory challenge for Mr. Geithner was Citigroup.
Cobbled together
by Mr. Weill through a series of pell-mell acquisitions into the world’s
largest bank, Citigroup reached into every corner of the financial world:
credit cards, auto loans, trading, investment banking, as well as mortgage
securities and derivatives. But it was plagued by mismanagement and wayward
banking practices.
In 2004, the
New York Fed levied a $70 million penalty against Citigroup over the bank’s
lending practices. The next year, the New York Fed barred Citigroup from
further acquisitions after the bank was involved in trading irregularities
and questions about its operations. The New York Fed lifted that restriction
in 2006, citing the company’s “significant progress” in carrying
out risk-control measures.
In fact, risk
was rising to dangerous levels at Citigroup as the bank dove deeper into
mortgage-backed securities.
Throughout
the spring and summer of 2007, as subprime lenders began to fail and government
officials reassured the public that the problems were contained, Mr. Geithner
met repeatedly with members of Citigroup’s management, records show.
From mid-May
to mid-June alone, he met over breakfast with Charles O. Prince, the company’s
chief executive at the time, traveled to Citigroup headquarters in Midtown
Manhattan to meet with Lewis B. Kaden, the company’s vice chairman,
and had coffee with Thomas G. Maheras, who ran some of the bank’s biggest
trading operations.
(Mr. Maheras’s
unit would later be roundly criticized for taking many of the risks that
led Citigroup aground.)
His calendar
shows that during that period he also had breakfast with Mr. Rubin. But
in his conversations with Mr. Rubin, Mr. Geithner said, he did not discuss
bank matters. “I did not do supervision with Bob Rubin,” he said.
Any intelligence
Mr. Geithner gathered in his meetings does not appear to have prepared him
for the severity of the problems at Citigroup and beyond.
In a May 15,
2007, speech to the Federal Reserve Bank of Atlanta, Mr. Geithner praised
the strength of the nation’s top financial institutions, saying
that innovations like derivatives had “improved the capacity to measure
and manage risk” and declaring that “the larger global financial
institutions are generally stronger in terms of capital relative to risk.”
Two days later,
interviews and records show, he lobbied behind the scenes for a plan
that a government study said could lead banks to reduce the amount of capital
they kept on hand. ...
At the Federal
Deposit Insurance Corporation, which insures bank deposits, the chairwoman,
Sheila C. Bair, argued that the new standards were tantamount to letting
the banks set their own capital levels. Taxpayers, she warned, could
be left “holding the bag” in a downturn. But Mr. Geithner
believed that the standards would make the banks more sensitive to risk,
Mr. Dugan recalled. The standards were adopted but have yet to go into effect.
Callum McCarthy,
a former top British financial regulator, said regulators worldwide should
have focused instead on how undercapitalized banks already were. “The
problem is that people in banks overestimated their ability to manage risk,
and we believed them.”
By the fall
of 2007, that was becoming clear. Citigroup alone would eventually require
$45 billion in direct taxpayer assistance to stay afloat.
On Nov. 5,
2007, Mr. Prince stepped down as Citigroup’s chief in the wake of multibillion-dollar
mortgage write-downs. Mr. Rubin was named chairman, and the search for a
new chief executive began. Mr. Weill had a perfect candidate: Mr. Geithner.
...
Mr. Geithner
acknowledged in an interview that Mr. Weill had spoken with him about the
Citigroup job. But he immediately rejected the idea, he said, because he
did not think he was right for the job.
“I told
him I was not the right choice,” Mr. Geithner said, adding that he
then spoke to “one other board member to confirm after the fact that
it did not make sense.”
According
to New York Fed officials, Mr. Geithner informed the reserve bank’s
lawyers about the exchange with Mr. Weill, and they told him to recuse himself
from Citigroup business until the matter was resolved.
Mr. Geithner
said he “would never put myself in a position where my actions were
influenced by a personal relationship.”
Other chief
financial regulators at the Federal Deposit Insurance Company and the Securities
and Exchange Commission say they keep officials from institutions they supervise
at arm’s length, to avoid even the appearance of a conflict. While
the New York Fed’s rules do not prevent its president from holding
such one-on-one meetings, that was not the general practice of Mr. Geithner’s
recent predecessors, said Ernest T. Patrikis, a former general counsel and
chief operating officer at the New York Fed.
“Typically,
there would be senior staff there to protect against disputes in the future
as to the nature of the conversations,” he said.
As Mr. Geithner
sees it, most of the institutions hit hardest by the crisis were not under
his jurisdiction — some foreign banks, mortgage companies and brokerage
firms. But he acknowledges that “the thing I feel somewhat burdened
by is that I didn’t attempt to try to change the rules of the game
on capital requirements early on,” which could have left banks in better
shape to weather the storm.
By last fall,
it was too late. The government, with Mr. Geithner playing a lead role alongside
Mr. Bernanke and Mr. Paulson, scurried to rescue the financial system from
collapse. As the Fed became the biggest vehicle for the bailout, its
balance sheet more than doubled, from $900 billion in October 2007 to more
than $2 trillion today. ...
“I couldn’t
have cared less about Wall Street, but we faced a crisis that was going
to cause enormous damage to the economy,” Mr. Geithner said.
The first
to fall was Bear Stearns, which had bet heavily on mortgages and by mid-March
was tottering. Mr. Geithner and Mr. Paulson persuaded JPMorgan Chase to
take over Bear. But to complete the deal, JPMorgan insisted that the government
buy $29 billion in risky securities owned by Bear.
Some officials
at the Federal Reserve feared encouraging risky behavior by bailing out
an investment house that did not even fall under its umbrella. To Mr. Geithner’s
supporters, that he prevailed in the case of Bear and other bailout decisions
is testament to his leadership.
“He was
a leader in trying to come up with an aggressive set of policies so that
it wouldn’t get completely out of control,” said Philipp Hildebrand,
a top official at the Swiss National Bank who has worked with Mr. Geithner
to coordinate an international response to the worldwide financial crisis.
But others
are less enthusiastic. William Poole, president of the Federal Reserve Bank
of St. Louis until March 2008, said that the Fed, by effectively creating
money out of thin air, not only runs the risk of “massive inflation”
but has also done an end-run around Congressional power to control spending.
Many of the
programs “ought to be legislated and shouldn’t be in the Federal
Reserve at all,” he contended.
In making
the Bear deal, the New York Fed agreed to accept Bear’s own calculation
of the value of assets acquired with taxpayer money, even though those values
were almost certain to decline as the economy deteriorated. Although Fed
officials argue that they can hold onto those assets until they increase
in value, to date taxpayers have lost $3.4 billion. Even these losses
are probably understated, given how the Federal Reserve priced the holdings,
said Janet Tavakoli, president of Tavakoli Structured Finance, a consulting
firm in Chicago. “You can assume that it has used magical thinking
in valuing these assets,” she said.
Mr. Geithner
played a pivotal role in the next bailout, which was even bigger —
that of the American International Group, the insurance giant whose derivatives
business had brought it to the brink of collapse in September. He also went
to bat for Goldman Sachs, one of the insurer’s biggest trading partners.
As A.I.G.
bordered on bankruptcy, Mr. Geithner pressed first for a private sector
solution. A.I.G. needed $60 billion to meet payments on insurance contracts
it had written to protect customers against debt defaults.
A.I.G.’s
chief executive at the time, Robert B. Willumstad, said he had hired bankers
at JPMorgan to help it raise capital. Goldman Sachs had jockeyed for the
job as well, but because the investment bank was one of A.I.G.’s biggest
trading partners, Mr. Willumstad rejected the idea. The potential conflicts
of interest, he believed, were too great.
Nevertheless,
on Monday, Sept. 15, Mr. Geithner pushed A.I.G. to bring Goldman onto its
team to raise capital, Mr. Willumstad said.
Mr. Geithner
and Mr. Corrigan, a Goldman managing director, were close, speaking frequently
and sometimes lunching together at Goldman headquarters. On that day, the
company’s chief executive, Lloyd C. Blankfein, was at the New York
Fed.
A Goldman
spokesman said, “We don’t believe anyone at Goldman Sachs asked
Mr. Geithner to include the firm in the assignment.” Mr. Geithner said
he had suggested Goldman get involved because the situation was chaotic
and “time was running out.”
But A.I.G.’s
search for capital was fruitless. By late Tuesday afternoon, the government
would step in with an $85 billion loan, the first installment of a bailout
that now stands at $182 billion. As part of the bailout, A.I.G.’s
trading partners, including Goldman, were compensated fully for money owed
to them by A.I.G.
Analysts say
the New York Fed should have pressed A.I.G.’s trading partners to take
a deep discount on what they were owed. But Mr. Geithner said he had no
bargaining power because he was unwilling to threaten A.I.G.’s trading
partners with a bankruptcy by the insurer for fear of further destabilizing
the system.
A recent
report on the A.I.G. bailout by the Government Accountability Office found
that taxpayers may never get their money back.
Over Columbus
Day weekend last fall, with the market gripped by fear and banks refusing
to lend to one another, a somber group gathered in an ornate conference
room across from Mr. Paulson’s office at the Treasury.
Mr. Paulson,
Mr. Bernanke, Ms. Bair and others listened as Mr. Geithner made his pitch,
according to four participants. Mr. Geithner, in the words of one participant,
was “hell bent” on a plan to use the Federal Deposit Insurance
Corporation to guarantee debt issued by bank holding companies.
It was
a variation on Mr. Geithner’s once-unthinkable plan to have the government
guarantee all bank debt.
The idea of
putting the government behind debt issued by banking and investment companies
was a momentous shift, an assistant Treasury secretary, David G. Nason,
argued. Mr. Geithner wanted to give the banks the guarantee free,
saying in a recent interview that he felt that charging them would be “counterproductive.”
But Ms. Bair worried that her agency — and ultimately taxpayers —
would be left vulnerable in the event of a default.
Mr. Geithner’s
program was enacted and to date has guaranteed $340 billion in loans to
banks. But Ms. Bair prevailed on taking fees for the guarantees, and the
government so far has collected $7 billion.
Mr. Geithner
has also faced scrutiny over how well taxpayers were served by his handling
of another aspect of the bailout: three no-bid contracts the New York
Fed awarded to BlackRock, a money management firm, to oversee troubled assets
acquired by the bank.
BlackRock
was well known to the Fed. Mr. Geithner socialized with Ralph L. Schlosstein,
who founded the company and remains a large shareholder, and has dined at
his Manhattan home. Peter R. Fisher, who was a senior official at the New
York Fed until 2001, is a managing director at BlackRock. ...
For months,
New York Fed officials declined to make public details of the contract,
which has become a flash point with some lawmakers who say the Fed’s
handling of the bailout is too secretive. New York Fed officials initially
said in interviews that they could not disclose the fees because they had
agreed with BlackRock to keep them confidential in exchange for a discount.
The contract
terms they subsequently disclosed to The New York Times show that the contract
is worth at least $71.3 million over three years. While that rate is largely
in keeping with comparable fees for such services, analysts say it is hardly
discounted.
Mr. Geithner
said he hired BlackRock because he needed its expertise during the Bear
Stearns-JPMorgan negotiations. He said most of the other likely candidates
had conflicts, and he had little time to shop around. Indeed, the deal was
cut so quickly that they worked out the fees only after the firm was hired.
But since
then, the New York Fed has given two more no-bid contracts to BlackRock
related to the A.I.G. bailout, angering a number of BlackRock’s competitors.
The fees on those contracts remain confidential.
Vincent Reinhart,
a former senior Federal Reserve official, said a more open process might
have yielded a better deal for the taxpayers. ...
As Mr. Geithner
runs the Treasury and administration officials signal more bailout money
may be needed, the specter of bailouts past haunts his efforts.
He recently
weathered a firestorm over retention payments to A.I.G. executives made
possible in part by language inserted in the administration’s stimulus
package at the Treasury Department’s insistence. And his new efforts
to restart the financial industry suggest the same philosophy that guided
Mr. Geithner’s Fed years.
According
to a recent report by the inspector general monitoring the bailout, Neil
M. Barofsky, Mr. Geithner’s plan to underwrite investors willing
to buy the risky mortgage-backed securities still weighing down banks’
books is a boon for private equity and hedge funds but exposes taxpayers
to “potential unfairness” by shifting the burden to them.
The top echelon
of the Treasury Department is a common destination for financiers, and Mr.
Geithner has also recruited aides from Wall Street, some from firms that
were at the heart of the crisis. For instance, his chief of staff, Mark
A. Patterson, is a former lobbyist for Goldman Sachs, and one of his top
counselors is Lewis S. Alexander, a former chief economist at Citigroup.
A bill sent
recently by the Treasury to Capitol Hill would give the Obama administration
extensive new powers to inject money into or seize systemically important
firms in danger of failure. It was drafted in large measure by Davis Polk
& Wardwell, a law firm that represents many banks and the financial
industry’s lobbying group. Mr. Geithner also hired Davis Polk to represent
the New York Fed during the A.I.G. bailout.
Treasury officials
say they inadvertently used a copy of Davis Polk’s draft sent to them
by the Federal Reserve as a template for their own bill, with the result
that the proposed legislation Treasury sent to Capitol Hill bore the law
firm’s computer footprints. And they point to several significant changes
to that draft that “better protect the taxpayer,” in the words
of Andrew Williams, a Treasury spokesman.
But others
say important provisions in the original industry bill remain. Most significant,
the bill does not require that any government rescue of a troubled firm
be done at the lowest possible cost, as is required by the F.D.I.C. when
it takes over a failed bank. Treasury officials said that is because they
would use the rescue powers only in rare and extreme cases that might require
flexibility. Karen Shaw Petrou, managing director of the Washington research
firm Federal Financial Analytics, said it essentially gives Treasury
“a blank check.”
One year and
two administrations into the bailout, Mr. Geithner is perhaps the single
person most identified with the enormous checks the government has written.
At every turn, he is being second-guessed about the rescues’ costs
and results. But he remains firm in his belief that failure to act would
have been much more costly.
“All
financial crises are a fight over how much losses the government ultimately
takes on,” he said. And every decision “requires we balance how
to achieve the most benefits in terms of improving confidence and the flow
of credit at the least risk to taxpayers.”
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