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On The Hook?

Paddy Hirsch who does the great Whiteboard explainer videos for Marketplace wrote in with a helpful critique of our toxic asset theater on the podcast last night. He writes:

"The taxpayer is NOT on the hook for the loan that comes from the "government." That loan is guaranteed by the FDIC, which is funded with dues from member companies, not by the taxpayer."

Paddy is right, we blurred a line we shouldn't have in the podcast. The plan that Treasury released yesterday has two parts. One, the Legacy Loan Program, is aimed at buying pools of troubled loans from banks. In the example we gave, a loan sells for $84. To buy it a private investor might put in $6, the government might put in $6, and a loan (yes, a loan to buy a loan) of $72 would cover the rest. Under the plan, that $72 loan would be guaranteed by the FDIC. So for the Legacy Loan program, Paddy is right, the taxpayer should not be on the hook as far as that supporting loan goes.

However, the second part of the plan (called the Legacy Securities Program) does put taxpayers on the hook in this way. It is aimed at buying what we've more typically thought of as toxic assets - mortgage backed securities. And in this case, the plan calls for supporting loans from the Treasury Department, with possible assistance from the Federal Reserve through its TALF program. So in this case, the taxpayer could be on the hook if the toxic assets purchased went downhill and the loan could not be fully repaid.

Also, I should not have said that the taxpayer could be on the hook for 93 cents of a dollar spent to buy these toxic assets. For the Legacy Loan program, it is clearly much less than that. For the Legacy Asset program, we just don't know. It could be more, it could be less, depending on how much the Fed ends up helping out through its TALF program. Those details haven't been determined.