The primary goal of the effort announced Tuesday would be to ease the psychological crisis that has gripped the financial world.
NEW YORK — Will the government’s plan to pump billions of dollars into banks — in exchange for an ownership stake — help resolve the financial crisis?
Think about the potential effect in terms of cash and confidence.
The primary goal of the effort announced Tuesday would be to ease the psychological crisis that has gripped the financial world. There’s a positive message that comes from the U.S. government throwing its support behind the ailing banking system.
At the same time, the new flow of capital is intended to bolster banks’ willingness to lend again — to each other, to consumers and to businesses. That would thaw out credit markets from their current deep freeze.
Most Read Business Stories
- 1 house, 45 offers: Homebuyers in Western Washington hard-pressed as supply remains scarce
- 55,000 in Washington state may have to pay back thousands in jobless benefits
- Boeing made an entire fake neighborhood to hide its bombers from potential WWII airstrikes
- Seattle artists worry potential sale of historic INS building could spell the end for their studios
- Washington state lawmakers advance eviction protections as end of moratorium approaches
Here are some questions and answers about government’s stock ownership plans:
Q: How will the plan work?
A: The government plans to use $250 billion of the $700 billion financial rescue package to buy stock in financial institutions.
This would allow any bank to issue preferred stock — the type of shares that get top priority when dividends are paid to stockholders — to the Treasury Department. The government will receive dividends at an annual rate of 5 percent for five years, and 9 percent after that, in exchange for its investment.
In addition, the government will have the right to purchase the banks’ common shares — stock that has lower priority when dividends are paid out.
Q: What banks can participate in this program?
A: Nine major banks, including all of the country’s largest institutions, will participate initially. Most of those banks didn’t need capital from the government, but they were pressured to participate by Treasury Secretary Henry Paulson in an effort to remove any stigma that might be associated with banks getting bailouts.
The first taker was Bank of New York Mellon, which announced Tuesday that it would sell $3 billion in preferred shares to the Treasury.
In total, the program will be available to U.S. banks, savings associations, and certain bank and savings-and-loan holding companies that are engaged only in financial activities. Those interested must elect to participate before 5 p.m. EST on Nov. 14.
Q: The government has tossed the banks other life preservers in recent months. What’s the advantage of this one?
A: Through this action, the government is backing the banks and infusing them with the money they need to lend. Those that participate can’t hoard the proceeds from the stock sale, but must put it to work through lending or other transactions, Paulson said in announcing the plan on Tuesday.
Carl Weinberg, chief economist at High Frequency Economics in Valhalla, N.Y., said that by putting “real money on the table, then the government loses if the banks lose.”
“This guarantees with real teeth that the full faith of the government stands behind these financial institutions,” Weinberg said. “This gives a real sense of security that tools are in place and they are being used.”
Q: So now taxpayers are becoming shareholders in the nation’s banks. What’s the upside — or downside?
A: Americans will gain initially if this action helps stabilize financial markets. That would help make loans available, which ultimately can help companies buy inventory and make payroll — and possibly avoid layoffs.
Over the long term, if the markets ultimately recover, the banks are expected to buy the stock back, which might mean a profit for the government.
But there are risks. Given the fragile state of the financial system, there is no guarantee that the government will ever recoup all of its money.