Bailout Refund Is All About Pay, Pay, Pay

Strike up the band!

Bank of America is paying back $45 billion in taxpayer-provided bailout money, and the government now says it expects to get back $200 billion in those funds faster than it imagined. The banks are getting back on their feet, the markets have stabilized, even unemployment isn't as bad as many feared.

Great news, right?

Sorry for a little rain on this parade, but take a moment to consider why Bank of America was really in such a rush to pay back the money it borrowed from the Troubled Asset Relief Program, or TARP.

Sure, its business had improved, somewhat. But there was another reason why the bank locked horns with Sheila C. Bair, chairwoman of the Federal Deposit Insurance Corporation, who was against the plan because she did not think the firm was healthy enough, according to people briefed on the conversations.

Bank of America was simply desperate to get out from under the thumb of government, and rid itself of the scarlet letter tainting its public image.

With Bank of America trying to recruit a new chief executive to replace retiring Ken Lewis, the firm needed to repay the bailout money to offer a competitive compensation package.

Indeed, people inside the Treasury told me that the No. 1 reason offered by the firm during weeks of back-and-forth -- even when it was discussed indirectly -- was compensation. Bank of America was so desperate, in fact, that it diluted its own shareholders by selling new shares worth $18.8 billion to replace some of the funds it is returning.

Just read the notes from research analysts the day that Bank of America announced the $45 billion payment.

Virtually none of them focused on the idea that there was a sign of strength at the firm; instead they focused, as Morgan Stanley did, on how "it eliminates the competitive disadvantage relative to peers who had already repaid TARP." External candidates may be "more likely to talk" now that the bank is no longer restricted by the pay czar.

That may be all well and good, but what about the health of the bank -- and any continuing risks to the system? Wasn't the purpose of the bailout program to put the financial system on a much steadier foundation? And wasn't repayment supposed to be based, at least in part, on banks beginning to lend again?

Joseph Tibman, author of "The Murder of Lehman Brothers" noted on his blog that at Bank of America, its loans fell from $942 billion to $914 billion from the second to the third quarter. It also lost $1 billion in its third quarter. That's not to say it isn't healthier than it used to be -- it's all relative.

The rules for repayment seem to be squishy, and worse, are likely to create a two-tier system. While most of the biggest banks have been able to repay their bailout money -- with the notable exceptions of Citigroup and Wells Fargo -- many community banks, holding bad commercial real estate loans, are still carrying the taint of being obligated to the government.

They will likely now press to return the money as quickly as possible too, perhaps too quickly.

"Financial markets demand clarity and certainty," said David Nason, a former Treasury staff member who created the Troubled Asset Relief Program under President George W. Bush, and who is now a managing director at Promontory Financial Group. "Until they have that, there will be a drumbeat of questions as to what TARP repayments mean for the strength of particular institutions and of the banking system in general."

Just seven months ago, Treasury officials would have probably laughed if you told them banks would be rushing to repay. Remember those stress tests that had all of Wall Street stressed out for months about whether they'd pass and what it would all mean? By the way, what do all these repayments say about Treasury's ability to make reliable forecasts? Just asking.

Standard & Poor's, the ratings agency that didn't exactly cover itself with glory with its prognostications, recently wrote a remarkably candid research note that suggested the $45 billion repayment didn't really matter, because if the bank got in trouble again, taxpayers would be there with another bailout.

"We consider BofA to be highly systemically important and therefore continue to believe that BofA would receive extraordinary government support if necessary," it said. But, it added, "we do not believe such support will be needed."

Let's hope S.& P. is right this time around.