Henry Paulson on the Auto Bailouts and the Financial Crisis

By Peter Coy

I’m live-blogging tonight’s interchange between Treasury Secretary Henry Paulson and BusinessWeek Editor-in-Chief Steve Adler at the 92nd St. Y on Manhattan’s Upper East Side. Paulson’s one-hour appearance, which begins at about 8 p.m. Eastern time, is part of BusinessWeek’s Captains of Industry series. Thirty or 40 reporters are here covering the event. Interest is high because of Paulson’s critical role in fighting the economic crisis in the waning days of the Bush Administration. People will be especially interested in what Paulson has to say about aid from Washington for the Detroit automakers. Paulson recently said the auto industry is his top priority at the moment. I’ll try to file a couple of times during the event, assuming the weak WiFi connection here lets me. Then I’ll write a story afterward summarizing what happens.


The interview begins:

Paulson said the TARP program was not set up to deal with the likes of the auto giants, and that government should exhaust all other options before allowing troubled U.S. automakers to fall into bankruptcy. But he said bankruptcy might end up being the right solution if other measures fail. He said he agrees with President Bush that it would be imprudent to allow a disorderly failure of the automakers. Said Paulson: “This is a time when it makes sense to be prudent.”

On the process of getting TARP through Congress, he said Congress asked him to send a rough outline and then he got criticized when he sent up a three-page outline of his request. “This is theater also.” On Lehman Brothers: “People I think partly because we were as successful as we have been at responding quickly and collaboratively and cobbling things together … and partly because it’s the United States of America and it’s hard for people to believe that the authorities a president has….there are certain things that are just plain illegal.” “We were very fortunate that in the case of Bear Stearns there was a committed buyer” and the assistance was doable.

“Assets have to be worth more than liabilites to do that” (rescue a firm like Lehman) “The other thing that is totally misunderstood is looking at Lehman as a cause rather than as a symptom.” Back when they were dealing with Fannie Mae and Freddie Mac, AIG, “there were other investment banks that were right there on the edge.” “This was something that was building a force” … “we had had great stress on the financial markets globally.”

“I look at it as very regrettable, how could I not, coming from this city, and just the tragedy … it still is in my judgment a symptom, not a cause.”

Adler asks if he changed his mind on regulation of hedge funds: "You have to say what does regulation entail. Our first focus had been on understanding the transparency.... “Many, many months ago began to look at regulatory reform. There should be regulation by function: one for safety and soundness; one for investor/consumer protection. We need one that is a macro/stability regulator -- one that looks at institutions or products or markets that could jeopardize the whole system.

"We think the Fed should play that role." Adler points out that's an evolution in his thinking from before he got to Washington. "I just saw how totally outmoded, outdated" regulations were."

On TARP, Adler asks why the banks aren't being required to lend. "Our first priority was always, and we were clear from the day we went to Congress, is to prevent the collapse of the financial system. "There was literally a wave just a string of financial institution failures or near failures.” It’s true, he says, "they need to lend more. we don't want them hoarding we want them lending." But Paulson adds, "it is not in my judgment practical or prudent to have government .... saying ‘make this loan, don't make this loan.’ "I guarantee you there's more lending than there would have been." On oversight panels for TARP: “Treasury's own oversight panel meets more than required, does lots of disclosure.” He says Treasury has spent lots of time with the GAO, the inspector general. “Congressional oversight committee would like us to tell more. We will." "We have been moving with lightning speed. … We're building this organization as we're going." He adds that more needs to be done on foreclosures: "The No.1 thing we need to do is stem the housing correction." Here, the most important remedy is interest rates: “Stabilizing Fannie and Freddie, plus working with the Fed to drive rates down..... lower rates are very important.” Now Adler is opening up to audience questions: One audience member asks if Paulson ever considers the U.S. may be viewed later as a failed 21st Century empire. Paulson says no. "What I strongly believe is that as significant as our problems are, I can't find another nation around the world that doesn't have more significant issues." He thinks his team has made mostly the right decisions. "With 20/20 hindsight" he thinks he mostly did the right things: Stabilizing banks, saving AIG, working to stabilize Citi, recent activity where they used just $5 billion from TARP, to guarantee $300 billion in illiquid assets. "The things we've done have been right things. I worked very hard to be willing to make changes." Another question is if he can explain the difference between how the Citi and AIG deals were structured; as a taxpayer, the audience member feels undercompensated in the Citi deal. On AIG, Paulson says it was a deal structured by the Fed before there was a TARP: "It was an institution that was grossly mismanaged and the federal government had a couple days warning that there was a $15 billion shortfall." Fed could see that there were good assets in the regulated insurance companies.....it was understood that loan would be repaid through liquidation.

“If they had the tarp at the time they might have been able to buy preferred stock right up front.” Citi was "a totally different situation. … It's an ongoing financial institution with a new management team.”

On China: Paulson says that China and the U.S. should be good partners. "We won't always have the same view, but engagement in my view is exceptionally important." He's optimistic that the countries will understand each other enough to be good partners. "This relationship has weathered some very difficult economic times." The two countries have avoided trade wars, protectionist currency legislation, worked through product and food safety concerns.

A member of the audience asked about the risk of inflation: Paulson says he'll leave that question to Bernanke and others but says, "that'll be a high-class problem when we can start worrying about growth and inflation again." For now he's dealing with trying to get stability, then recovery, then repair. "I think the bigger risk is to the downside." Does he worry about the U.S. deficit's growth?

"Everyone's got to be concerned about the deficit." But he says "when the economy is growing, there's a lot that can be done to deal with the deficit." "The real cost would be to not do enough and then have the economy go into a freefall." Regarding President Bush: "He is very current and he's on top of everything we've done... I know that's not conventional wisdom among some people but it's absolutely true." On TARP, Paulson notes that he doesn't call its funding "bailout money." The money being invested in bank equity "is money that we can and will get back." A question about what he does to relax: "One of the things I enjoy the most is fishing." In the fall he had 2-3 weekends where he was able to go saltwater fly fishing. "That's so engaging that I forget about other things." Adler, also an avid fisherman, asks if Paulson is a catch-and-release man (meaning, does he let the fish go that he catches). He says he usually releases what he catches, but does sauté the occasional catch. (Also is a bike rider.) Someone asks about the future of economic ethics: "In just about every area of society there's nothing more important than ethics" and that there is more opportunity than ever for soul-searching. "We've had crooks from the beginning of time... it's always very interesting and troubling why good people do bad things." He credits President Bush with changing the debate on pollution in developing countries. Paulson says that before Bush, it was often thought that developing countries didn't bear much responsibility. He says European countries have grudgingly come to accept that developing countries do need to play an important role. In addition he says, "I've seen the developing world, China in particular, change the tone of their comments." Asks what's his best advice for Geithner: "I've got too high a regard for Tim Geithner to give advice." He says he's gotten lots of advice from retired public officials and "I don't want to fall into that trap." On Geithner: "He's a very wise guy in terms of his wisdom, his judgment. He doesn't need a lot of advice."

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