Fund falsely claims bill funds future bailouts

Fund: Legislation “sets up a $50 billion fund for future bailouts” During the April 19 edition of Fox News' America's Newsroom, Wall Street Journal columnist John Fund discussed financial regulatory reform legislation and stated, “They are still revising it, but I still think there are lots of troubling things here. It's not just that it sets up a $50 billion fund for future bailouts, which can be renewed, but it also grants the federal government unprecedented power to come in and seize any financial institution it thinks is failing.”

Bill calls for orderly “liquidation” of failing financial companies, not bailout, funded by industry, not gov't. Senate Finance Committee chairman Chris Dodd's bill calls for the government to have the “necessary authority to liquidate failing financial companies that pose a significant risk to the financial stability of the United States in a manner that mitigates such risk and minimizes moral hazard,” including a $50 billion liquidation fund, paid for by industry assessments, to finance the orderly liquidation of large financial services firms. It further states that this authority:

[S]hall be exercised in the manner that best fulfills such purpose, with the strong presumption that -

(1) creditors and shareholders will bear the losses of the financial company;

(2) management responsible for the condition of the financial company will not be retained; and

(3) the Corporation and other appropriate agencies will take all steps necessary and appropriate to assure that all parties, including management and third parties, having responsibility for the condition of the financial company bear losses consistent with their responsibility, including actions for damages, restitution, and recoupment of compensation and other gains not compatible with such responsibility.

Politifact.com: "[T]he bill makes it clear that the money must be used to liquidate -- not keep alive -- failing firms." In an analysis of Republican claims that the legislation establishes a $50 billion fund for future bailouts, Politifact called the claim false and stated, “The legislative language is pretty clear that the money must be used to dissolve -- meaning completely shut down -- failing firms.” Politifact further stated, “The fund cannot be used to keep faltering institutions alive.” From Politifact.com's analysis of the false GOP talking point that financial regulatory reform would establish a $50 bailout fund:

On March 22, 2010, the Senate Banking Committee, chaired by Sens. Christopher Dodd and Shelby, approved the overhaul by a party-line vote of 13-10. Highlights include new government authority to regulate over-the-counter derivatives and hedge funds, a new consumer financial product regulator within the Federal Reserve, and a process for dissolving institutions that are teetering on collapse.

The “Orderly Liquidation Fund” is the technical term for the $50 billion pot of money Shelby is concerned about. Only the largest firms would be required to pay into the fund. If a “systematically significant” firm is teetering on collapse, the Treasury, the Federal Deposit Insurance Corp. and the Federal Reserve would have to agree to use the fund to liquidate the firm. A panel of three bankruptcy judges would have to convene and agree within 24 hours that the company is insolvent. The fund is not meant to replace the bankruptcy process, but rather to provide a sort of emergency mechanism for the government to deal with very large, economically significant institutions.

So, the bill provides quite a bit of structure around how the government would decide which firms should be dissolved.

[...]

The legislative language is pretty clear that the money must be used to dissolve -- meaning completely shut down -- failing firms. Here's what Sec. 206 of the bill says:

“In taking action under this title, the (FDIC) shall determine that such action is necessary for purposes of the financial stability of the United States, and not for the purpose of preserving the covered financial company; ensure that the shareholders of a covered financial company do not receive payment until after all other claims and the Fund are fully paid; ensure that unsecured creditors bear losses in accordance with the priority of claim provisions in section 210; ensure that management responsible for the failed condition of the covered financial company is removed (if such management has not already been removed at the time at which the FDIC is appointed receiver); and not take an equity interest in or become a shareholder of any covered financial company or any covered subsidiary.”

The fund cannot be used to keep faltering institutions alive.

[...]

Shelby also implies that the fund comes at a cost to taxpayers, saying the fund “can only reinforce the expectation that the government stands ready to intervene on behalf of large and politically connected financial institutions at the expense of Main Street and the American taxpayer.” But remember, the businesses would pay into the liquidation fund, not taxpayers. The bill is very specific about that. So his underlying point here is incorrect. [Politifact.com, 4/16/2010]

Wash. Post's Klein: “The Dodd bill makes bailouts less likely.” Addressing “the Republican attack” that the financial regulation bill creates a “permanent bailout,” The Washington Post's Klein wrote:

The Dodd bill makes bailouts less likely by empowering regulators and increasing transparency, raises a $50 billion fund from banks to pay for future too-big-to-fail bankruptcies, and then makes the outcome a predictable punishment rather than a chaotic rescue. That last is known as “resolution authority” -- as bloodless a word as one could possibly imagine -- and it wipes out both shareholders and management. It's all there in Section 206 of the bill: “Mandatory Terms and Conditions for All Orderly Liquidation Actions.” What we call “resolution” would better be described as “execution.”

Sen. Warner: Companies taken over under bill's “resolution” authority would be “gone.” In an interview with Klein, Sen. Mark Warner (D-VA) stated:

Resolution ... will be so painful for any company. No rational management team would ever choose resolution. It means shareholders wiped out. Management wiped out. Your firm is going away. At least in bankruptcy, there was some chance that some of your equity would've been retained and you could come out in some form on the other side of the process. The resolution that Corker and I have tried to create means the death of the company. The institution is gone.

NY Times: Provision doesn't provide bailouts, resembles FDIC's power to “take over failing banks.” In an April 18 editorial, The New York Times wrote:

Of course, they are not saying that. Instead, they are criticizing the banking committee's plan for its so-called resolution authority - in which regulators would be able to seize and dismantle too-big-to-fail firms at imminent risk of destabilizing the system. They denounce it as “bailout” authority.

It is not. It is akin to the authority of the Federal Deposit Insurance Corporation to take over failing banks. It would wisely prohibit regulators from providing support to keep failing institutions open, which - if done the right way - should prevent bailouts à la American International Group. This provision, too, needs improvement, but it also would be better than the status quo.