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Primer: The Financial Stability Plan

Introduction

The U.S. Treasury and other government agencies have joined forces with the Federal Reserve in a sweeping attempt to stabilize beleaguered U.S. banks and facilitate credit flows to companies and individuals.The Treasury calls its framework for dealing with these problems the "Financial Stability Plan." The plan includes programs from an array of government agencies using taxpayer funds to create incentives that will jumpstart lending and other economic activity. Legislatively, much of the funding for the plan stems from the Emergency Economic Stabilization Act of 2008--the law which established the Troubled Assets Relief Program, or TARP, among other economic rescue programs. Treasury Secretary Timothy Geithner has promoted the plan (WSJ), saying it will allow free markets to set prices for mortgage-backed securities and other distressed assets, and that U.S. taxpayers potentially stand to profit from the investments the government will make. Critics have alternately criticized the plan as too small to matter or too willing to expose taxpayers to new losses.

Here is a short synopsis of the plan, with selected commentary from financial experts.

 

Stabilizing Banks (Stress Testing and CAP)

The plan mandates all U.S. banks with assets over $100 billion--including banks not specifically seeking government aid--to undergo a comprehensive "stress test" in coordination with all relevant U.S. government regulators. The goal of this test is to provide an objective diagnosis of problem areas on the banks' balance sheets, to determine whether they have the capital necessary to continue lending. In the event that banks are deemed not to have enough capital, they will become eligible for government assistance through the Capital Assistance Program, or CAP. The goal of this program, according to the Treasury, is to provide a "capital buffer"...

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