Why Banks Want to Return TARP Money

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Includes: BAC, C, GS, JPM, MS, PNC, USB, WFC, XLF
by: Balance Sheet Future

The government's financial system bailout/rescue plan focuses on the lack of lending to consumers and businesses as banks in the country preserve cash to repair their balance sheets. The TARP's Capital Assistance Program designed under former Treasury Secretary Hank Paulson provided (and perhaps forced) capital to banks of all sizes, beginning with eight institutions in late October 2008.

Recently, JPMorgan (NYSE:JPM), Goldman Sachs (NYSE:GS), Bank of America (NYSE:BAC) and other TARP recipients expressed their intention to promptly return the taxpayer capital and remove government influence and scrutiny over their businesses. If these institutions are drowning in loan losses and desperately need capital to improve their balance sheets how can they afford to repay the TARP money?

A review of last week's updated FDIC Quarterly Banking Profile (QBP) for the fourth quarter of 2008 provides several reasons why the banks can afford to repay the TARP capital. Despite posting an industry-wide quarterly loss of $32.1 billion and continued deterioration in asset qualify, the industry's cash flow position improved during the crisis:

Total deposits increased by $307.9 billion (3.5 percent) in the fourth quarter, the largest percentage increase in a quarter in ten years. Banks' balances at Federal Reserve Banks increased by $342 billion in the quarter. While 1,069 banks (out of 8,305) reported increases in reserve balances during the quarter, five banks accounted for more than half of the entire industry increase.

So banks flush with cash due to the surge in deposits are parking the money at the Fed instead of making loans. Got it, that explains the government's frustration with banks for not lending. Wait a second, reading further into the QBP shows that most institutions actually increased their loans:

Three large banks accounted for all of the decline in the industry’s loans during the fourth quarter; most institutions grew their loan balances in the quarter. Almost two-thirds of all institutions (64.7 percent) reported increases in their loans and leases, while only about half as many institutions (2,865 institutions, or 34.5 percent of all reporters) had declines in their loan portfolios.

Most banks increased their loan portfolios? Three large, over-leveraged banks restructured their loan portfolios while 64.7% of banks increased lending. Banks simply do not need additional capital to meet demand for loans to qualified borrowers. Furthermore, TARP capital costs banks 5% annually and comes with incredible intrusion into their business decisions. With strong deposit growth most institutions have sufficient cash to meet their funding needs and it should come as no surprise that many want to return the TARP funds promptly. Perhaps the Fed and Treasury, in the face of declining credit growth, have lost sight on the real reason for the lack of bank lending: a lack of demand by businesses and consumers. No bailout or new Fed lending acronym will spur demand, only time will heal these wounds.

Note: Please do not take this post as an endorsement to invest in financial stocks as many significant risks remain.

Disclosure: no positions