From CPN’s Morning Newsletter–Paulson Tells Banks They Must Spend It

As CPN reported exclusively in our Daily News REport Morning Edition(subscribe here), banks receiving funds from the Treasury Department under the financial bailout plan must turn around and re-deploy that money in order for the strategy to be effective in preventing a collapse of the financial system, Treasury Secretary Henry Paulson told them when he handed them their new deal yesterday. More details of the rescue plan’s first stages are emerging this morning, from a number of news sources. For $250 billion the Treasury gets preferred stock paying a 5 percent dividend for five years. After that the rate goes to 9 percent. For three years, dividends can’t be raised and the firms can’t unload the investment or buy back their stock without Treasury approval. The government has also got warrants to buy common stock up to 15 percent of its total investment, and it can sell them at a profit.Senior executive pay is also controlled–no incentives can encourage excessive risk and no golden parachutes, among other restrictions. Nor can the banks issue debt senior to the taxpayer’s position. This morning, from our undisclosed location, we caught Paulson jawboning his monster play on ABC’s “Good Morning America.” Acknowledging that, “this will take time. There will be challenges.” He also confessed that he really hated to bail out the “free” market. Unfortunately the facts on the ground, he noted, had changed in the last few days. These would probably include the giant market dive, climb, and struggle to hold the bottom–and the socialistic moves by our sisters in Europe, which would have made a giant sucking sound of capital fleeing here to go there had he not matched their recapitalization efforts. And really, these days who isn’t a free-market recapitalist?That said, the move is smarter than buying bad assets. “There’s no doubt that the way to get the maximum bang for the taxpayers here was to invest in banks,” Paulson told the television audience this morning. Owning a piece of the bank, after all, puts the government on the right side of the table. The bank always wins, as they say.Meanwhile over in Fed land, the jawboning is less than exuberant. Janet Yellen, president of the San Francisco Fed, said directly to the Financial Executives International’s Silicon Valley chapter in Palo Alto, Calif., according to Reuters, that “the outlook for the U.S. economy has weakened noticeably…Virtually every major sector of the economy has been hit by the financial shock…Rate cuts are by no means a panacea, but they do at least partially offset the tightening of financial conditions due to higher spreads, reflecting heightened credit and liquidity risk and a marked increase in general risk aversion.” She also added that, “some prominent forecasters at this stage are concerned that inflation in future years could decline to levels below what is consistent with price stability.”In Fed-speak that appears to be a warning of recession risk. Rumors of a quarter-point cut to 1.5 percent later this month, like the first hint of winter, is already in the air.Then this morning more trouble for prices. The Producer Price Index fell 0.4 percent in September, after a 0.9 percent decline in August. Estimates were for a dip of 0.4 percent. Worse, less food and energy the wholesale inflation measure came in at 0.4 percent, higher than the 0.2 percent forecast. On the retail side, sales dropped 1.2 percent last month, and 0.3 in August. the estimate was for 0.7. So far this morning, Mr. Market is not taking this at all well. But the day is young and wild market gyrations are becoming the norm.CPN will continue its ongoing reporting on the markets and the bailout efforts around the globe later today. If you would like to partake of our Upcoming News digest with your morning coffee, please subscribe to ourDaily News REport Morning Edition.