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Project on Government Oversight

POGO Letter to Congress Questioning FDIC's Role in Legacy Loans Program

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April 14, 2009

Letter sent to the Chair and Ranking Member of:

U.S. Senate Committee on Banking, Housing, and Urban Affairs
U.S. Senate Committee on Finance
U.S. Senate Committee on Homeland Security and Governmental Affairs
U.S. House Committee on Financial Services
U.S. House Committee on Oversight and Government Reform

Dear Chair and Ranking Member:

The Project On Government Oversight (POGO) is writing to you today to ask that your Committee review the legality of the Federal Deposit Insurance Corporation's (FDIC) proposed role in the Legacy Loans Program (LLP). We are concerned that the FDIC is overstepping its authority and circumventing Congress by placing billions of taxpayer dollars at risk in the program.

POGO is an independent nonprofit that investigates and exposes corruption and other misconduct in order to achieve a more effective, accountable, open, and ethical federal government. Although POGO takes no position on the strategic merits of the government's efforts to stabilize the financial system, we believe it is essential that the ongoing expenditure of billions of taxpayer dollars be subjected to extraordinary scrutiny.

On Friday POGO submitted a public comment to the FDIC questioning its involvement in the LLP. The FDIC was originally set up to insure deposits, examine banks, and manage receiverships for failed banks, but it is invoking an emergency authority in order to participate in the LLP. Under the proposed terms of the LLP, the FDIC could potentially finance up to $1 trillion for the purchases of distressed loans from banks and other financial institutions, despite the fact that a provision in the FDIC charter would prohibit it from incurring financial obligations in excess of $50 billion.

In order to get around its statutory restriction, FDIC officials are apparently treating these guarantees as "contingent liabilities," and FDIC accountants have "signed off on no net losses" for the program. However, many commentators have observed that the whole point of the program is to subsidize the purchase of toxic loans at inflated prices, meaning that the FDIC is likely to incur significant losses. In addition, according to its own statute, it seems inaccurate for the FDIC to classify its obligations as "contingent liabilities."

Our letter also raises concerns that the FDIC is invoking an emergency authority and potentially placing billions of taxpayer dollars at risk without any consideration by, or oversight from, the Congress. Regardless of whether or not the LLP will achieve its stated goal of cleansing distressed assets from the balance sheets of banks, POGO believes that the FDIC should not implement such a risky plan without Congressional sanction to take on these significant liabilities.

The lack of Congressional oversight is particularly troubling given that the FDIC has not clearly articulated a strategy for protecting taxpayers against waste, fraud, and abuse in the LLP. Ever since the program was announced, numerous reports have circulated showing that there are ample opportunities for savvy investors to "game the system." For instance, one recent report indicated that TARP recipients such as Citigroup and Goldman Sachs are already considering buying toxic assets from their rivals, using government money to drive up prices. Another report imagined a scenario in which private investors could overbid for loans held by banks in which they own significant stockholdings, thereby driving up the banks' shares. In addition, the FDIC has not explained how it will identify and prevent conflicts of interest among the third party firms that will be assisting in the valuation of the toxic assets.

When you return from recess, we urge you to take a much closer look at the FDIC's role in the LLP. Although a portion of the financing for the public-private investment funds will come from the Troubled Asset Relief Program, the FDIC is likely to place more taxpayer dollars at risk, without any Congressional oversight or approval.

We call on your Committee to hold hearings to consider whether the FDIC should be allowed to take on such substantial risks through its involvement in the LLP. If you decide that the LLP is an appropriate strategy for dealing with toxic loans, we urge you to clarify and expand the FDIC's authority before allowing them to move forward.

Thank you for your leadership on this important matter. If you have any questions or need additional information, please contact me at (202) 347-1122.

Sincerely,

Danielle Brian
Executive Director

cc:   Special Inspector General for the TARP Neil Barofsky
FDIC Inspector General Jon T. Ryme
Congressional Oversight Panel (COP) Chair Elizabeth Warren and COP Members

Response from Rep. Barney Frank, Chair of the House Committee on Financial Services