Drama - and conflict - behind the $250 billion banking deal

If you weren't already aware of Paulson's shady backroom antics, you're likely to find this next article unbelievable.

Dictator Paulson gave these nine major bank chief executives absolutely no choice but to accept his plan - a plan that may ultimately cost the American Taxpayer $2.25 trillion - triple the size of the original $700 billion rescue package:


International Herald Tribune: Drama - and conflict - behind the $250 billion banking deal

The chief executives of the nine largest banks in the United States trooped into a gilded conference room at the Treasury Department at 3 p.m. Monday. To their astonishment, each was handed a one-page document that said they agreed to sell shares to the government. Then Treasury Secretary Henry Paulson Jr. said they had to sign it before leaving.

The chairman of JPMorgan Chase, James Dimon, was receptive, saying he thought the deal looked good, once he had run the numbers through his head. The chairman of Wells Fargo, Richard Kovacevich, protested strongly that, unlike his New York rivals, his bank was not in trouble because of investments in exotic mortgages and did not need a bailout, according to people briefed on the meeting.

But by 6:30, all nine chief executives had signed, setting in motion the largest government intervention in the American banking system since the Great Depression of the 1930s and retreating from the rescue plan that Paulson had fought so hard to get through the U.S. Congress only two weeks earlier.

What happened during those three and a half hours is a story of high drama and brief conflict, followed by acquiescence by the bankers, who felt they had little choice but to go along with the Treasury plan to inject $250 billion of capital into thousands of banks, starting with theirs.

Paulson announced the plan Tuesday, saying "we regret having to take these actions." Pouring billions in public money into the banks, he said, was "objectionable," but unavoidable to restore confidence in the markets and persuade the banks to start lending again.

In addition to the capital infusions, which will be made this week, the government said it would temporarily guarantee $1.5 trillion worth of new senior debt issued by banks, as well as insuring $500 billion in deposits in non-interest-bearing accounts, mainly used by businesses.

All told, the potential cost to the government of the latest bailout package comes to $2.25 trillion, triple the size of the original $700 billion rescue package, which centered on buying distressed assets from banks. The latest massive show of government firepower is an abrupt about-face for Paulson, who just days earlier was discouraging the idea of capital injections for banks. Analysts say the United States was forced to shift policy in part because Britain and other European countries had announced plans to recapitalize their banks and backstop bank lending. But unlike the British authorities, the Treasury secretary presented his plan as an offer the banks could not refuse.

"It was a take it or take it offer," said a person who was briefed on the meeting, speaking on condition of anonymity because the discussions had been private. "Everyone knew there was only one answer."

Getting to that point, however, necessitated sometimes tense exchanges between Paulson, a former chairman of Goldman Sachs, and his former colleagues and competitors, who sat across a dark-wood table from him, sipping coffee and cola under a soaring rose and sage-colored ceiling. This account is based on interviews with government officials and bank executives who attended the meeting or were briefed on it.

Paulson began calling the bankers personally on Sunday afternoon.

Some were already in Washington for a meeting of the International Monetary Fund. The executives did not have an inkling of Paulson's plans. Some speculated he would brief them about the government's latest bailout program, or perhaps sound them out about a voluntary initiative. No one expected him to present his plan as an ultimatum.

Paulson, according to his own account, presented his case in blunt terms. The largest U.S. banks needed to begin lending to each other for the good of the financial system, he said during an interview by telephone, recalling his remarks. To do that, they needed to be better capitalized.

"I don't think there was any banker in that room who was going to look us in the eye and say they had too much capital," Paulson said. "In a relatively short period of time, people came on board."

Indeed, several of the banks represented in the room are in need of capital. And analysts said the terms of the government's investment were attractive for the banks, certainly compared with the terms that Warren Buffett extracted from Goldman Sachs for his $5 billion investment.

The Treasury will receive preferred shares that pay a 5 percent dividend, rising to 9 percent after five years. It will get warrants to purchase common shares, equivalent to 15 percent of its initial investment. But the Treasury said it would not exercise its right to vote those common shares.


The terms, officials said, were designed not to be punitive. The rising dividend and the warrants are meant to give banks an incentive to raise private capital and buy out the government after a few years.

Still, it took some cajoling. Kovacevich of Wells Fargo objected that his bank, based in San Francisco, had avoided the mortgage-related woes of its Wall Street rivals. He said the investment could come at the expense of his other shareholders.

Kovacevich is also said to have expressed concern about restrictions on executive compensation at banks that receive capital injections. If he steps down from Wells Fargo after completing the Wachovia takeover, he will be entitled to retirement benefits worth about $43 million and $140 million in accumulated stock and options, according to James Reda & Associates, a firm that consults on executive pay. Pay experts say the new Treasury limits would probably not affect Kovacevich's exit package. Kovacevich declined to be interviewed about the meeting.

Kenneth Lewis, the chairman of Bank of America, also pushed back, saying that his bank had just raised $10 billion on its own. Later, Lewis urged his colleagues not to quibble with the plan's restrictions on executive compensation for the top executives. These include a ban on the payment of golden parachutes, repayment of any bonus based on earnings that prove to be inaccurate, and a limit of $500,000 on the tax deductibility of salaries.

If the bankers let executive compensation block this, "we are out of our minds," he said, according to a person briefed on the meeting.

In an interview Monday, before the meeting, John Mack said that his bank, Morgan Stanley, did not need capital from the Treasury. It had just sealed a $9 billion deal with a large Japanese bank. During the meeting, however, Mack said little, according to participants.

Paulson, however, was peppered with questions about the terms of the investment by other chief executives with experience in deal-making: Lloyd Blankfein of Goldman Sachs, Vikram Pandit of Citigroup, John Thain of Merrill Lynch and Dimon. Among their concerns: How would the government's stake affect other preferred shareholders? Would the Treasury demand control over management in return for the capital? How would the warrants work?

With the discussion becoming heated, the chairman of the Federal Reserve, Ben Bernanke, who was seated next to Paulson, interceded.

He told the bankers that the session need not be combative, because both the banks and the broader economy stood to benefit from the program.

Without such measures, he added, even the situation of healthy banks could deteriorate.

The president of the Federal Reserve Bank of New York, Timothy Geithner, then proceeded to outline the details of the investment program. When the bankers heard the amount of money the government planned to invest, they were stunned by the size, according to several people.

As they heard more of the details, some of the bankers began to realize how attractive it was for them.

Even as they insisted they did not need the money, bankers recognized the extra capital could be helpful if the economy got shakier. Many of these banks' biggest businesses are tied to the stock and credit markets; the quicker they improve, the better their results.

Later, Pandit told colleagues that the investment would give Citigroup more flexibility to borrow and lend. Dimon told colleagues he believed the relatively cheap capital was a fair deal for his bank. Lewis said he recognized the prospects of his bank are closely aligned with the American economy.

Thain was intrigued by the terms of the guarantee by the Federal Deposit Insurance Corp. on new senior debt issued by banks, participants said. He mentally calculated the maturities on debt issued by Merrill Lynch, to determine how the program could benefit his bank.

For Paulson, selling the bankers on capital injections may not have been as difficult as overhauling a rescue program that had originally focused on asset purchases from banks. Paulson said the worsening conditions made a change in focus imperative.

"I've always said to everyone that ever worked for me, if you get too dug in on a position, the facts change, and you don't change to adapt to the facts, you will never be successful," he said.

Paulson insisted that purchases of distressed assets would remain a big part of the program. But having allocated $250 billion to direct investments, the Treasury has only $100 billion left from its initial allotment of $350 billion from Congress to spend on those purchases.

Eric Dash, Louise Story and Ben White reported from New York.