Some members of Congress who supported the government's massive bailout legislation last month are now concerned that banks might misuse the funds.
Barney Frank (D-MA), chairman of the House Financial Services Committee, threatened to pull funding for the second half of the government's $700 billion rescue plan if banks spend their money for anything other than making new loans.
The Treasury Department and Congress have already set aside $250 billion to buy stakes in banks. The purpose of the capital infusion was to encourage banks to start lending again. But banks have been vague about how the money would be used, and the law itself places few explicit restrictions on how the funds can be spent.
Frank said banks that spend government funds to pay dividends, executive bonuses or buy other banks would be in violation of the law.
"The justification for this extraordinary thing was that there's a credit crisis and the people in the rest of the economy can't get loans," Frank told NPR. "When you say that the money can only be used for one purpose that, in fact, restricts any other purpose."
Congress has to approve spending for the second half of the rescue plan. Frank said he would pull support if he felt the funds were misused.
The financial industry, meanwhile, says it plans to start lending, and it defends its use of other funds. Dividend payments are necessary for the banks to attract investors. That, in turn, helps fund additional loans, said Scott Talbott, senior vice president of the Financial Services Roundtable, which represents many banks. He also defended PNC Bank's plans to tap the government funds and buy troubled regional bank National City Corp.
"The merged institution is in a better position to lend than the two individual banks were prior to the merger," he said.
Talbott also said banks are just now starting to receive the first $125 billion in government funds, and that money will be used to make loans as Congress intended.
White House spokesman Tony Fratto said at a news conference that the current law contains appropriate restrictions, and that adding new ones could amount to a bait-and-switch on the lending institutions. Treasury Secretary Henry Paulson has urged banks to lend the money, but he has not publicly commented on Frank's concerns.
Rep. Henry Waxman (D-CA), chairman of the Committee on Oversight and Government Reform, said that in retrospect, he wishes the law had been written differently.
"I wish we would have made the language tighter. I was aware at the time that it wasn't as clear and direct as I would have liked it," says Waxman. "And to find now that it might be used for extravagant pensions or bonuses or dividends or any other purpose is inconsistent with what Congress intended."
Waxman's committee plans to hold two hearings in November looking at the bailout legislation.