How much will it take? Treasury throws Citigroup another lifeline

WASHINGTON — The Treasury Department hopes the third time holds a charm, confirming Friday that Citigroup will convert $25 billion of prior taxpayer bailout money into active shares in the troubled banking firm.

That means taxpayers could soon have a 36 percent ownership stake and perhaps even more down the road.

The complex deal announced shortly before financial markets opened Friday marks the third try by the federal government to stave off collapse at New York-based Citi, a lion of the financial sector.

White House spokesman Robert Gibbs acknowledged Friday that previous efforts to raise investor confidence in Citi had failed.

"The amount that we have invested in Citi hasn't changed. But . . . we're changing the way this program works in order to ensure a different result," Gibbs said.

The goal of the deal is to allow Citi to bolster its reserves through a complex stock conversion, and hopefully convince investors that it has enough capital to cover its potential losses.

More than $50 billion in taxpayer money has been pumped into the banking giant and Friday's action puts it on a path potentially to get even more.

Although the Citi deal does not technically involve new taxpayer contributions, it could lead to more bailout money because federal regulators on Wednesday began industry-wide "stress tests" of the 19 biggest banks.

The tests are the financial equivalent of a swarming swat team, and after taking detailed looks at bank books, the regulators will determine whether the banks need more capital to guard against an even deeper economic downturn.

Banks that need more of a buffer will be given time to raise private capital, or they could immediately ask for more government money. Many analysts believe that Citi will need even more taxpayer support later this year.

"This is another step toward creeping nationalization," Arthur Levitt, the former chairman of the Securities and Exchange Commission, told Bloomberg Radio on Friday, when asked about the new Citi deal. "This country is going through no less than an economic revolution."

Treasury's third run at Citi comes right as the Federal Deposit Insurance Corp. announced Thursday that 252 banks are now designated as "problem" banks, putting them on a watch list.

That number was punctuated by this sobering fact — banks lost a combined $26 billion in the last three months of 2008, and the industry's full-year profitability last year was the lowest since 1987.

Speaking to the National Economists Club in Washington, Richard Brown, the chief economist for the FDIC said Friday that four institutions accounted for about half the losses last year. He declined to name the four banks, but Citibank is widely viewed as one of them. It said on Friday that it had booked another $10 billion in write-downs during the final three months of 2008.

Citi and other banks set aside a whopping $174 billion for potential losses from bad loans last year, the FDIC said.

Troubling bank losses are an ominous sign that banks may need more taxpayer money. As bad as they were, the numbers are expected to get worse because of the economy's downward spiral. As the economic crisis deepens, more loans go bad, thus more losses are expected for banks and more taxpayer rescue money will be needed.

The Commerce Department reported Friday that the economy contracted at a 6.2 percent annual rate from October to December, not 3.8 percent as earlier reported. That's the latest evidence suggesting that the economic downturn in accelerating.

Banks face another problem beyond bad loans — people and businesses can't or don't want to borrow amid the current crisis.

In the final three months of 2008, unused loan commitments — credit lines that were available but not tapped — increased to $707.5 billion. And credit card loan commitments fell by $484 billion as consumers paid down debt or put their money into savings. Deposit growth at banks nearly doubled to $308 billion from October to December.

It all points to a massive retrenchment among businesses and consumers, and banks have swung from record earnings to record losses in just six business quarters.

"We knew it couldn't last, we didn't know it would lead to this," Brown said during his candid speech, acknowledging that regulators, like investors, are stunned at the sector's rapid swing from glory to gore.

Given the deteriorating environment, regulators are trying to help banks repair their balance sheets with the goal of preserving the stability of the global financial system. That's certainly been the point of propping up Citigroup, which has been deemed too big to fail given its international presence and exposure to complex investments that could make global problems worse if the firm collapsed.

Under Friday's Citigroup rescue plan, the banking giant will convert into common stock about $27.5 billion in preferred stock held by private investors and as much as $25 billion in preferred stock held by the federal government as part of earlier bailout efforts.

By converting this $52.5 billion into common stock, Citi's equity rises, making it better funded to weather hard times. In converting their preferred shares to common stock, however, investors are being asked to assume greater risks, because common stockholders take the first losses.

Existing common shareholders in Citigroup would see three-quarters of their existing stake in the company wiped out.

Citi has posted losses for five consecutive quarters and pledged Friday to make changes to its board of directors. The bank's relatively new management team will stay put, however, including chief executive Vikram Pandit.

"This transaction — which requires no additional investment from U.S. taxpayers, does not change Citi's strategy, operations or governance," Pandit said in a statement.


Treasury Announcement

Citigroup Announcement


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