No Buffett recipe in Paulson bailout platter

New York: The US Treasury secretary, Henry Paulson, may be the most powerful manager of money in the world. Even so, his $700 billion (Dh2.57 trillion) bailout of American banks did not do for US taxpayers what Warren Buffett did for his shareholders by investing in Goldman Sachs Group Inc.

Paulson invested $10 billion in Goldman Sachs in October, twice as much as Buffett - the billionaire chairman of investment firm Berkshire Hathaway Inc - did the month before.

But in return, Paulson got warrants to buy stock worth a quarter as much as Buffett, according to data compiled by Bloomberg. And the terms of Paulson's investment in Goldman Sachs were repeated in most of more than 170 other bank bailouts.

The transactions are "just egregious," said Simon Johnson, former chief economist for the International Monetary Fund and a fellow at the Peterson Institute for International Economics in Washington. "You want to do it the way Warren does it."

Government agencies have committed more than $8.5 trillion to shoring up the financial system, including the $700 billion Troubled Asset Relief Programme (TARP) signed into law on October 3 by President George W. Bush.

TARP was originally sold to Congress as a way to buy securities that had fallen in market value. But Paulson shifted his emphasis to direct capital injections to banks to prevent the financial sector from foundering.

Treasury has done this by buying preferred shares in banks in exchange for warrants letting it buy stock in the companies at a later date at a specific price.

"With 20/20 hindsight," the bank-capital injections have achieved their objectives and the decisions on the TARP will "prove to be the right ones," the Treasury secretary said in an interview last Friday.

"We were not looking to replicate one-off private deals," Paulson said.

"The market was under great stress and the private sector was extracting very, very severe terms. What we were attempting to do, which I think we did successfully, was design a programme that would be accepted by a large group of healthy banks with terms that would replicate what you would get in normal market conditions."

Senator Judd Gregg, a New Hampshire Republican, estimated in a January 4 Wall Street Journal opinion article that TARP investments have earned about $8 billion while recapitalising the banking system.

The House Financial Services Committee and TARP Congressional Oversight Panel plan hearings on how federal bailout money will be used during the administration of President-elect Barack Obama.

The oversight panel contracted with an independent analyst to examine the terms of TARP investments and is scheduled to deliver a report by January 30, according to Elizabeth Warren, chairwoman of the oversight panel.

The question matters, Warren said, because shareholders are now being protected by taxpayers' dollars.

Paulson said "he had to make it attractive to banks, which is code for 'I'm going to give money away'," said Joseph Stiglitz, who won a Nobel Prize in 2001 for his work on the economic value of information.

"The worst aspect of this is that they were designed not to do what they were supposed to do," he said in a telephone interview from Paris on January 7. "If Paulson was still an employee of Goldman Sachs and he'd done this deal, he would have been fired."

While the government has pledged to recover its investments, Congress provided little guidance on how to accomplish that. Legislation mandated that the Treasury receive warrants in order to acquire shares in companies tapping the programme.

The law did not specify how many warrants or how they should be priced, factors that will determine how much money, if any, taxpayers get in exchange for their risk.

The government has received warrants valued at $13.8 billion in the 25 biggest capital injections from TARP. Under the terms Buffett negotiated for his $5 billion stake in Goldman Sachs, the TARP certificates would have been worth $130.8 billion.

Buffett received 43.5 million Goldman Sachs warrants valued at $82.18 apiece on the date of the transaction, or $3.6 billion, analysts show.

Paulson, who served as the New York-based bank's chief executive officer until 2006, injected twice as much taxpayer money into Goldman Sachs a month later and got 12.2 million warrants worth $72.33 each, or $882 million.

If the Treasury had received the same terms as Buffett, taxpayers would have become the biggest investors in most of the bailed-out banks and existing stakes would have been diluted, data show.

"I halfway believed that the taxpayers would make money in September, but I really don't believe it now," Brad Miller, a North Carolina Democrat on the House Financial Services committee, said in a telephone interview last month.

"We have to have confidence in the Treasury to run the programme in a way that protects taxpayers, and there's very little in the way they've run it that inspires confidence."

Congress left it to Paulson and his staff to decide how warrants would be priced and how many the US would receive under the TARP, according to Caleb Weaver, a spokesman for the programme's oversight board. Treasury imposed identical terms for 140 capital injections.

Jackie Wilson, a spokeswoman for Omaha, Nebraska-based Berkshire, did not respond to e-mail and telephone messages seeking comment. Michael DuVally, a spokesman for Goldman Sachs, declined to comment.

Paulson left money on the table in three ways, according to economist Johnson: accepting fewer warrants than Buffett did; setting the certificates' strike price - or price at which the shares can be bought - above market values; and receiving an annual yield on the preferred shares that is half of what Buffett will get for the first five years.

The government will forego almost $48 billion over the next five years in preferred stock dividend payments from the 25 biggest TARP infusions, as compared with Buffett, according to the terms of the deals.

None of the bank warrants for the biggest 25 capital injections from TARP funds can be exercised profitably now. Goldman Sachs closed in New York Stock Exchange composite trading at $83.92 last Friday, 32 per cent below its $122.90 strike price.

• $700b is the total relief package for banks in the US
• $8.5tr pledged by government to revive the financial system
• $5b is Buffett's stake in Goldman Sachs
• $48b the government will forego in dividend payments