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EMERGENCY CAPITAL INJECTIONS
PROVIDED TO SUPPORT THE VIABILITY
OF BANK OF AMERICA, OTHER MAJOR
BANKS, AND THE U.S. FINANCIAL
SYSTEM

SIGTARP-10-001
OCTOBER 5, 2009

SIGTARP
Office of the Special Inspector General
for the Troubled Asset Relief Program

October 5, 2009
Emergency Capital Injections Provided To Support the
Viability of Bank of America, Other Major Banks, and the U.S.
Financial System

Summary of Report: SIGTARP-10-001

Why SIGTARP Did This Study

What SIGTARP Found

From about July 2007 through August 2008,
financial markets were hit with news of large losses
at major institutions resulting from, among other
things, issues related to subprime loans. However,
September 2008 became a month of historic
turmoil in the financial markets, creating fear of a
collapse of these markets. The Troubled Asset
Relief Program (“TARP”) was created by the
Emergency Economic Stabilization Act (“EESA”)
on October 3, 2008. EESA provided the Secretary
of the Treasury with authorities to restore the
liquidity and stability of the financial system. On
October 13, 2008, Treasury made its first use of
this authority by providing capital injections into
nine financial institutions, including Bank of
America Corporation (“Bank of America”), under
the TARP’s Capital Purchase Program (“CPP”).
Merrill Lynch & Co., Inc. (“Merrill Lynch”), which
was facing severe financial problems and was in
the process of being acquired by Bank of America,
was included in the initial nine banks. Following
the completion of the acquisition of Merrill Lynch
in January 2009, Bank of America received
additional assistance under TARP’s Targeted
Investment Program (“TIP”) and announced loss
protections under the Asset Guarantee Program
(“AGP”).

In September 2008, a rapid-fire set of destabilizing financial events occurred,
including the federal bailout of the Federal National Mortgage Association and
the Federal Home Loan Mortgage Corporation, the failure of Lehman Brothers,
and the bailout of American International Group, among others. These events
and other failures caused runs on some financial institutions and the freezing of
interbank short-term lending that is critical to the liquidity of financial
institutions. Because federal regulators concluded that numerous attempts over
the previous year to minimize damages to the financial system had proved
insufficient, the Secretary of the Treasury and the Chairman of the Board of
Governors of the Federal Reserve System determined that, without
extraordinary measures, there was a significant risk of financial market
collapse. Believing that time was of the essence, federal officials decided that a
dramatic infusion of capital into major banks would demonstrate U.S. support
for financial markets, hoping that this would help unfreeze the credit markets.

Numerous questions have arisen over the initial
CPP investment, Bank of America’s effort to
terminate the merger in December 2008, efforts by
federal officials to dissuade Bank of America from
terminating, and the subsequent investment under
TIP and loss protection under AGP.
This report examines the basis for the selection of
Bank of America and eight other financial
institutions for TARP funds. Specifically, this
report addresses (1) the significant economic
events in September 2008 that led Treasury to
inject capital into the financial system; (2) the
rationale and criteria used to select these
institutions compared to those used to select
subsequent institutions for CPP participation; and
(3) the basis for the decision by Treasury and
federal regulators to provide Bank of America with
additional assistance following the acquisition of
Merrill Lynch, and federal efforts to forestall Bank
of America from terminating the planned
acquisition.

What SIGTARP Recommends
This report makes no recommendation, but it does
identify an important lesson learned. As discussed
in the report, federal officials should take more care
in publicly characterizing the nature and objectives
of their initiatives, since accuracy and transparency
will enhance the credibility of Government
programs like TARP.

After deciding that some TARP funds would be used to inject capital directly
into the financial system, the government selected nine financial institutions to
receive the initial $125 billion on an emergency basis as a dramatic show of
U.S. government support to the financial system. The first nine institutions
were selected because they represented a cross-section of the U.S. financial
activities, but their systemic importance to the financial system and economy
was a more significant consideration. Although announced as a program for
healthy banks, senior Treasury and Federal Reserve officials had serious
concerns about the health of some of the first nine institutions selected. Among
these nine were Bank of America and Merrill Lynch, which together, received
$25 billion in CPP funding. By providing CPP funds to the nine institutions,
Treasury, the Federal Reserve, and federal regulators sought to promote
investor confidence. Financial institutions that later wanted to participate in the
CPP, a program for “healthy” banks, were required to submit applications for
CPP funding through their primary federal regulators. These applications were
subjected to a more formal review process before funding approval by
Treasury.
Citing substantial losses incurred by Merrill Lynch in the fourth quarter, Bank
of America’s Chief Executive Officer, Kenneth Lewis, informed Treasury and
Federal Reserve officials that he was considering terminating the planned
acquisition of Merrill Lynch. Federal officials believed that this action was ill
advised, would likely be unsuccessful, and could potentially destabilize Merrill
Lynch, Bank of America, and the broader financial markets. Bank of America
subsequently agreed with this view and completed the acquisition; Treasury
then provided Bank of America with an additional $20 billion TARP
investment and announced asset guarantees related to $118 billion of troubled
assets.
Questions have emerged about the potential acquisition termination and
whether federal officials had put pressure on Bank of America to complete the
transaction without disclosing Merrill Lynch losses. This report addresses these
issues from the perspective of the principals involved and ultimately concludes
that federal officials acted based on their concerns for the financial markets as a
whole and provided additional government assistance to ensure that Bank of
America remained a viable financial institution after the acquisition.

Special Inspector General for the Troubled Asset Relief Program

Table of Contents
Introduction

1

Rapidly Deteriorating Economic Conditions Led to the Capital
Purchase Program

7

Initial CPP Funds Provided as an Emergency Measure To Stabilize
the Markets

14

Officials Believed that Terminating the Merger with Merrill Lynch
Could Undermine the Viability of Bank of America
and Destabilize the Financial System

23

Conclusions and Lesson Learned

30

Management Comments and Audit Response

32

Appendices
A. Scope and Methodology

33

B. Measures To Stabilize Financial Markets before EESA Passage

35

C. Net Income Gains and Losses from 2007 to 2009 of Seven U.S.
Financial Institutions Receiving CPP Funds

37

D. Selected U.S. Incorporated Bank Holding Companies by Total Assets

39

E. Key Events in the Bank of America and Merrill Lynch Merger

40

F. Definitions of Acronyms

41

G. Audit Team Members

42

H. Management Comments from the Federal Reserve Board

43

I. Management Comments from Treasury

45

Emergency Capital Injections Provided To Support
Bank of America, Other Major Banks, and the U.S.
Financial System
SIGTARP REPORT 10-001

October 5, 2009

Introduction
From about July 2007 through August 2008, financial markets were hit with news of large losses
at major financial institutions resulting from subprime lending and the derivatives markets.1 The
situation worsened in September 2008 when multiple failures and deepening concerns about
other institutions resulted in historic turmoil in financial markets. The Emergency Economic
Stabilization Act of 2008 (“EESA”) provided the Secretary of the Treasury with the authority
and facilities necessary to restore the liquidity and stability of the U.S. financial system. EESA
authorized up to $700 billion to stabilize the financial system under the Troubled Asset Relief
Program (“TARP”).
•

One of the first uses of TARP funds was providing capital to nine major financial
institutions as part of the Capital Purchase Program (“CPP”), a program designed to
infuse capital into “healthy” banks. The development of the program was based on the
belief that the federal government needed to make a significant show of support to the
troubled financial markets.

•

These nine institutions, which held more than $11 trillion in banking assets
(approximately 75 percent of all assets held by U.S-owned banks as of June 30, 2008),
received $125 billion, or about 61 percent of the total CPP funds that Treasury has
provided to participating banks. Through September 11, 2009, over 670 banks have
received a total of $204.55 billion under the CPP.

•

One of the first nine institutions to receive CPP funds was Bank of America Corporation
(“Bank of America”), which prior to the CPP infusion, had agreed to purchase Merrill
Lynch & Co., Inc. (“Merrill Lynch”), a company in serious financial difficulty.

•

Three months later, after the banking industry experienced one of the most financially
devastating earnings quarters in recent history, including dramatic losses to Merrill
Lynch, which was being acquired by Bank of America. This precipitated an additional
$20 billion in assistance to Bank of America as part of the Targeted Investment
Program (“TIP”). This program allows Treasury to make targeted additional
investments in financial institutions beyond what was provided under the CPP if a loss of
confidence would threaten other similar institutions, the broader financial markets, or the
economy as a whole.

1

A derivative is a financial instrument whose value is based on (“derived from”) a different underlying asset,
indicator, or financial instrument.

1

•

At the same time that TIP funds were provided, Treasury, the Federal Deposit Insurance
Corporation (“FDIC”), and the Federal Reserve had also agreed to share losses with Bank
of America on a designated pool of assets valued at approximately $118 billion through
the Asset Guarantee Program (“AGP”). This program provides guarantees for assets
held by systemically significant financial institutions that face a high risk of losing
market confidence due in large part to a portfolio of distressed or illiquid assets.2 (As
discussed later in the report, Bank of America has withdrawn its request for AGP
assistance.)

Together, this assistance to Bank of America totaled $45 billion,3 making Bank of America one
of the largest recipients of TARP funds.

Background
In recent years, the dramatic downturn in the U.S. housing market led to an abrupt decline in the
price of financial assets associated with housing. The value of mortgage-backed securities,
particularly those based on subprime loans,4 declined precipitously as the financial crisis
unfolded and the housing boom ended. As loan delinquencies increased and housing prices
decreased, mortgage-backed securities (bundles of individual mortgages) began losing value, and
the associated losses at financial institutions resulted in serious financial difficulties. Some
financial institutions—ranging from government-sponsored enterprises, such as the Federal
National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage
Corporation (“Freddie Mac”), to the largest of the Wall Street firms—were left holding “toxic”
mortgages and/or securities that were increasingly difficult to value, illiquid, and potentially had
little worth. Some institutions found themselves so exposed that they were threatened with
failure, and some failed, because they were unable to raise needed capital as the value of their
portfolios declined.
The declining value of mortgage-backed securities undermined the confidence of investors;
many sought to cut ties with struggling financial institutions holding these securities. As 2008
progressed, this led to an escalating crisis in the financial markets. By late summer 2008, the
ramifications of the financial crisis included the failure of several significant financial
institutions, increased losses of individual savings, diminished corporate investments, and further
tightening of credit. All of this combined to exacerbate the emerging global economic
slowdown.

2

Illiquid assets cannot be quickly converted to cash.
This figure excludes the $7.5 billion loan guarantee that would have been available from Treasury, if required,
under the AGP.
4
Subprime loans are designed for borrowers who do not qualify for prime mortgages, such as borrowers who have
one or more of the following characteristics: weakened credit histories typically characterized by payment
delinquencies, previous charge-offs, judgments, or bankruptcies; low credit scores; high debt-burden ratios; or high
loan-to-value ratios. These loans were often not supported by full documentation and carried less favorable terms to
the borrower, such as higher interest rates. Many of these loans were bundled into securities that were sold to
investors, including banks, hedge funds, insurance companies, and retirement fund systems.
3

2

Financial Failures from July 2007 to July 2008
One of the first major failures of a financial institution caused by the rapid deterioration in the
performance of subprime mortgages was the large investment bank5 Bear Stearns Companies
(“Bear Stearns”). On July 31, 2007, Bear Stearns placed into bankruptcy two funds6 that had
heavily invested in mortgage-backed securities. The securities in these two funds were estimated
to have lost 28 percent of their value since the beginning of that year.
Although the funds held only about $600 million in investor capital around that time, their
liquidation caused alarm for at least two reasons. First, the mortgage-backed securities had been
originally rated as safe and low-risk by the rating agencies, and their substantial loss in value
over a very short period raised doubts about the ratings of all similar securities. The liquidation
suggested that other holders of similar subprime mortgage-backed securities might also
experience similar losses. Thus, investors became less willing to invest with any fund or
financial institution that held subprime mortgage-backed securities. Second, Bear Stearns funds
had borrowed heavily to invest in these funds; this meant that losses in the funds posed problems
for their investors, creditors, and counterparties.7 Moreover, because these funds do not disclose
their sources of funding, there was uncertainty about which institutions were exposed to credit
risk from funds tied to subprime mortgages in the market. On August 9, 2007, soon after Bear
Stearns liquidated its two funds, BNP Paribas (France’s largest bank) halted redemptions8 on
three of its funds that held mortgage-backed securities.
From mid-2007 to early 2008, the increased financial strains led to a liquidity crisis9 at Bear
Stearns: in the fourth quarter of 2007, Bear Stearns reported the first quarterly loss in its history.
By March 2008, other large financial institutions had stopped doing business with Bear Stearns,
and it became evident that absent some form of assistance, Bear Stearns would fail. In a deal
brokered by the Federal Reserve Bank of New York (“FRBNY”), JPMorgan Chase & Co.
(“JPMorgan Chase”) purchased Bear Stearns on March 16, 2008, for a fraction of what the bank
was worth a year earlier.
The liquidity crisis had also affected other financial institutions. Countrywide Mortgage (the
nation’s largest mortgage lender at the end of 2006) had also experienced liquidity problems
caused by the decline of the secondary market for mortgage-backed securities. The company
was later acquired by Bank of America. Following the acquisition of Countrywide Mortgage,
IndyMac Bank (the nation’s ninth-largest mortgage servicer at the time) failed as a result of
tighter credit, decreasing home prices, and rising foreclosures. The bank had relied heavily on
5

An investment bank performs a variety of services, including underwriting (purchasing and distributing securities),
acting as the intermediary between an issuer of securities and the investing public, facilitating mergers and other
corporate reorganizations, and acting as brokers for institutional clients.
6
These funds were subsequently liquidated. On July18, 2007, Bear Stearns had circulated a letter to shareholders of
these funds, which was promptly obtained and widely distributed by the press, indicating that the value of their
shares in these funds had been essentially wiped out. Thus, the bankruptcy filing was widely expected.
7
A counterparty is the other party that participates in a financial transaction. Every transaction must have a
counterparty for the transaction to go through. More specifically, every buyer of an asset must be paired with a
seller who is willing to sell and vice versa.
8
A redemption is the act of an investor reclaiming his or her money.
9
A liquidity crisis occurs when an institution lacks the cash required to pay for day-to-day operations, or meet its
debt obligations when they are due, causing it to default.

3

risky loans made to home buyers with little or no evidence of income or assets. While home
prices climbed, these loans posed few problems for IndyMac. However, when the housing
bubble burst and prices began to fall, losses at IndyMac began to rise. When the FDIC seized the
company on July 11, 2008, IndyMac had experienced a run on its deposits. IndyMac’s failure
was the fourth-largest bank failure in U.S. history and the largest since 1988.

Initial Steps Taken To Address the Financial Crisis Proved
Insufficient
As the financial market strains continued, the Federal Reserve, Treasury, and other government
entities took significant steps to address the liquidity crisis and other underlying causes of the
financial crisis. However, these actions proved insufficient to stem the economic deterioration.
Some key measures taken prior to the EESA legislation are discussed below. For a more
comprehensive list of measures taken by Treasury and federal regulators, see Appendix B.
In the period leading up to EESA, the Federal Reserve implemented several measures to increase
the liquidity in the financial system, including:
1. Lowering the target level of the federal funds rate—the interest rate at which banks
lend their balances held at the Federal Reserve, usually overnight, to other depository
institutions—seven times from August 2007 to April 2008, including two cuts of 1.25
percentage points in January 2008. The federal funds target rate decreased from 5.25
percent in August 2007 to 2.0 percent in April 2008. More recently, as of July 31, 2009,
the target rate was 0 to .25 percent.
2. Lowering the primary credit rate—the rate at which eligible institutions can borrow
money from the Federal Reserve, usually on a short-term basis—from 6.25 percent in
August 2007 to 2.25 percent in April 2008. It was at .50 percent as of August 20, 2009.
In addition, the Federal Reserve increased the maximum maturity of such loans.
3. Introducing the Term Auction Facility on December 12, 2007, as a means of offering
short-term liquidity to depository institutions. The Term Auction Facility permitted
depository institutions to anonymously bid to receive funds secured by a wide variety of
collateral for a term of 28 days. The maximum term of such funding was later extended
to 84 days.
4. Announcing the Term Securities Lending Facility on March 11, 2008, under which the
Federal Reserve lends Treasury securities to primary dealers10 secured by a range of
collateral, initially for a term of 28 days. The maximum term was later extended to 84
days.
5. Facilitating the orderly acquisition of Bear Stearns by providing financing to
JPMorgan Chase to help buy the investment bank and limit the downside risks of a
portfolio of Bear Stearns assets.

10

Primary dealers are a group of securities broker-dealers that trade in U.S. Government securities with the Federal
Reserve Bank of New York for the purpose of carrying out open market operations. As of July 27, 2009, there were
18 primary dealers.

4

Along with Treasury and the Federal Reserve, other government agencies adopted measures
designed to stabilize the financial markets prior to the enactment of EESA.11 In October 2007,
for example, Treasury and the Department of Housing and Urban Development announced the
HOPE NOW initiative to stem the rising number of home foreclosures. HOPE NOW is an
alliance between counselors, mortgage companies, investors, and other mortgage-market
participants that works with at-risk homeowners to help prevent foreclosures.12 In July 2008, the
Securities and Exchange Commission (“SEC”) issued an emergency order limiting the short
selling of the securities of Fannie Mae, Freddie Mac, and primary dealers at commercial and
investment banks. The SEC temporarily extended for one month the ban to include the short sale
of all stocks in the financial sector in September 2008.
In response to the continuing and growing economic crisis, the U.S. and other governments
sought to implement even more aggressive plans to address the stresses on their financial
institutions and the turmoil in the global financial markets. The governments of the United
Kingdom, Germany, France, Canada, Ireland, and Sweden either provided liquidity and capital
injections to their institutions or prohibited the short selling of financial stocks of several
institutions.
On September 20, 2008, then-Secretary of the Treasury Henry Paulson submitted to Congress a
three-page proposal, “Legislative Proposal for Treasury Authority To Purchase MortgageRelated Assets.” The proposal would have authorized Treasury to purchase, manage, and sell
certain mortgage-related assets. Although this initial proposal was not accepted by Congress, it
prompted legislative action that resulted in EESA, which was enacted on October 3, 2008.
However, as discussed further in this report, continued economic deterioration shortly after
EESA was enacted led to a change in strategy over the use of TARP funds.

Objectives
Overall, this report completed by SIGTARP’s Audit Division, examines the basis for selecting
Bank of America and the other eight financial institutions to receive TARP capital investments.
Specifically, it addresses:
•

the significant economic events in September 2008 that led Treasury to inject capital into
the financial system,

•

the rationale and criteria used to select Bank of America and the other eight financial
institutions to receive CPP funds as compared to those used to select subsequent banks
for CPP participation, and

•

the basis for the decision by Treasury and federal regulators to provide Bank of America
with additional financial assistance following the acquisition of Merrill Lynch, and
federal efforts to forestall Bank of America from terminating the planned Merrill Lynch
acquisition.

11

Approximately 50 initiatives or programs have been created by various federal agencies since 2007.
By November 2008, the alliance claimed that the mortgage industry had prevented nearly 2.7 million foreclosures
since July 2007.

12

5

For a discussion of the audit scope and methodology, see Appendix A. For a list of key
measures taken by the government to stabilize the financial markets before the EESA legislation,
see Appendix B. For data on assets of the top U.S. financial institutions, see Appendix C. For a
summary of the net gains and losses of major financial institutions from 2007 to 2009, see
Appendix D. For a list of key events related to the merger of Bank of America and Merrill
Lynch, see Appendix E. For definitions of the acronyms used in this report, see Appendix F.
For a list of team members who contributed to the audit, see Appendix G. For copies of
management comments, see Appendices H and I.
Numerous issues have arisen in the aftermath of the merger of Bank of America and Merrill
Lynch. Some of these issues are the focus of ongoing investigations, including by SIGTARP’s
Investigations Division, and are, therefore, not discussed in this report.

6

Rapidly Deteriorating Economic Conditions Led
to the Capital Purchase Program
This section addresses the significant destabilizing events that occurred in September 2008 that
led federal officials to realize that their attempts to minimize damages to the financial system had
not worked and that the system needed extraordinary government support. For example, in the
first week of September, the mortgage firms Fannie Mae and Freddie Mac were put into
conservatorship; by the second week of September, three major Wall Street financial institutions
were bankrupt or near bankruptcy. These events and other September failures caused the
freezing of interbank short-term lending that is critical to the liquidity of financial institutions.
Believing that time was of the essence, the Secretary of the Treasury, the Chairman of the Board
of Governors of the Federal Reserve System (“Federal Reserve”), and other federal officials
decided that a dramatic infusion of capital into major banks, rather than the purchase of illiquid
mortgage-related assets, would best demonstrate the U.S. government’s support for the financial
markets and restore confidence to the system. They hoped this would free credit and improve
the condition of national and international financial systems.

Major U.S. Financial Strains in September 2008
In September 2008, a succession of major U.S. financial institutions either failed or experienced
intense pressure that would require federal assistance to save them from collapse. These events
are depicted in Figure 1 and include:
•

The Federal Housing Finance Agency, which was created two months earlier, placed
under conservatorship Fannie Mae and Freddie Mac, the two government-sponsored
enterprises that are primary participants in the secondary mortgage market.13

•

Lehman Brothers filed for bankruptcy.

•

The FRBNY provided an $85 billion credit facility to American International Group
(“AIG”) to prevent its failure.

In that same month, Merrill Lynch, which also was experiencing large financial losses, agreed to
merge with Bank of America; the FDIC took over Washington Mutual Inc. (“WaMu”) in what
was to be the largest depository institution failure in U.S. history; and Citigroup announced its
purchase of Wachovia Corp (“Wachovia”) although it was subsequently purchased by Wells
Fargo & Company (“Wells Fargo”). Although they did not fail, the large investment firms of
Goldman Sachs Group, Inc. (“Goldman Sachs”) and Morgan Stanley reportedly also came under
pressure as a result of the credit crisis and converted to bank holding companies in September
2008. The conversions could allow them greater access to more stable sources of funding—
namely, deposits from ordinary people and businesses, and made them eligible for certain
government programs designed to address the liquidity crisis.

13

In the secondary mortgage market, mortgage loans and servicing rights are bought and sold between mortgage
originators, mortgage aggregators (including the housing-related government-sponsored enterprises), and investors.

7

Figure 1: Major Financial Events in September 2008

7-Sep
Fannie Mae &
Freddie Mac
placed under
federal
conservatorship

Sep 2

4

6

10-Sep
Lehman
Brothers
announces
$3.9 billion
losses in
third quarter

8

10

15-Sep
Lehman Brothers
files for
bankruptcy
12-Sep
Moody’s and
Standard &
Poor’s threaten
to downgrade
Lehman
Brothers

12

15-Sep
AIG debt
downgraded by
three major ratings
agencies

16-Sep
AIG receives
$85billion
government
loan

15-Sep
Bank of America
announces plans to
buy Merrill Lynch

16-Sep
a major
money
market fund
“breaks the
buck”

14

18

16

20

21-Sep
Goldman
Sachs and
Morgan
Stanley
approved
to become
bank
holding
companies

22

25-Sep
WaMu
closed by
regulator

24

29-Sep
Citigroup
announces plans
to buy
Wachovia, but it
was eventually
sold to Wells
Fargo

26

Source: SIGTARP analysis of data from the FRBNY

Prior to being placed under federal conservatorship on September 7, 2008, Fannie Mae and
Freddie Mac had lost a combined total of more than $5.46 billion as a result of the turmoil in the
housing and credit markets in the first six months of 2008. These two government-sponsored
enterprises play a central role in mortgage finance: they purchased about 80 percent of all new
home mortgages in the United States in 2008, and their combined investment portfolios held
mortgage assets (loans and mortgage-backed securities) valued at $1.5 trillion as of June 30,
2008. Amid worries that the capital of Fannie Mae and Freddie Mac would be insufficient to
absorb mounting losses on their mortgage portfolios, their stock prices began to decline
significantly in July 2008, and the possibility emerged that investors would not extend credit to
the two entities. From the end of 2007 to August 1, 2008, Fannie Mae’s stock lost 72 percent of
its value, and the value of Freddie Mac’s stock fell by 77 percent. In July 2008, the Federal
Reserve authorized lending to Fannie Mae and Freddie Mac at the primary credit rate, and
Treasury temporarily increased its lines of credit to both entities. Nevertheless, losses continued
to mount over the summer, and the Federal Housing Finance Authority14 subsequently placed
them under conservatorship.
On September 10, 2008, Lehman Brothers announced that it had lost $3.9 billion in the third
quarter. Two days later, rating agencies Moody’s Investors Service and Standard & Poor’s
threatened to downgrade the firm unless it could find a merger partner. At that time, Lehman
Brothers executives were in talks with Bank of America and Barclays PLC regarding a possible
sale of the company, but both banks eventually declined to purchase the firm. On Friday,
September 12, 2008, then-FRBNY President Timothy Geithner and then-Secretary of the
Treasury Henry Paulson summoned executives from major financial firms to the FRBNY to
discuss a rescue plan for Lehman Brothers. One executive at the meeting told SIGTARP15 that
14

The Federal Housing Finance Agency is an independent federal agency created in July 2008 as the successor
regulatory agency resulting from the statutory merger of the Federal Housing Finance Board and the Office of
Federal Housing Enterprise Oversight. The new agency absorbed the powers and regulatory authority of both
entities, with expanded legal and regulatory authority—including the ability to place Fannie Mae and Freddie Mac
under conservatorship.
15
For this report, federal officials and bank executives were interviewed by SIGTARP Audit Division.

8

28

President Geithner and Secretary Paulson stated that any plan must be “an industry solution” and
that the government would not use taxpayer funds to help Lehman Brothers. The executive told
SIGTARP that the group determined that sufficient funds could not be raised to rescue Lehman
Brothers. Absent the funding, the group determined that Lehman Brothers would have to file for
bankruptcy. Lehman Brothers, which had operated for 158 years, filed for bankruptcy on
September 15, 2008, because it was unable to find a merger partner or obtain government
assistance. Secretary Paulson, Federal Reserve Chairman Bernanke and other senior federal
officials informed SIGTARP that, because Lehman Brothers did not meet minimum collateral
and equity criteria, the Federal Reserve was unable to assist the institution in the manner in
which it facilitated the sale of Bear Stearns to JPMorgan Chase. To many market observers, the
failure of Lehman Brothers was particularly detrimental to market confidence because it
demonstrated that the government might not be willing to rescue large financial institutions.
Largely as a result of its exposure to Lehman Brothers, the Reserve Primary Fund dipped below
$1.00 per share, thereby “breaking the buck,” 16 which further aggravated the credit crisis.
Money market funds are considered among the safest investments; it is a rare and significant
event when their per share value drops below $1.00. When Lehman Brothers filed for
bankruptcy, the Reserve Primary Fund was forced to write off approximately $785 million in
Lehman Brothers debt that it held. The resulting market anxiety contributed to a run on the
fund,17 with many investors attempting to withdraw their money. In addition, large-scale
redemptions caused other money market mutual fund companies to hoard cash so that they could
be able to pay investors back, rather than investing in term funding markets, such as those for
commercial paper18 and certificates of deposit. Consequently, banks and corporations that sell
these securities were cut off from a fundamental source of short-term funding and subsequently
faced their own difficulties meeting operating expenses.
On September 16, 2008, one day after Lehman Brothers filed for bankruptcy, the Federal
Reserve authorized FRBNY to establish an $85 billion secured line of credit to ensure that AIG
could meet its obligations. The FRBNY loan was secured by the stock of AIG-owned
subsidiaries and required AIG to provide warrants that, if exercised, would give the government
a 79.9 percent equity stake in the company, making it the largest government bailout of a private
company in U.S. history.19 The Federal Reserve was concerned that a bankruptcy of AIG would
have significant consequences for the broader economy because it was a central player in the
financial markets. Among other things, AIG sold credit protection, or “insurance,” in the form
of credit default swaps, 20 to other financial institutions that held asset-backed securities (which
include mortgage-backed securities). Absent government support, AIG did not have enough

16

The Reserve Primary Fund was the oldest money market fund in the United States. When the fund falls below
$1.00 per share, it is known as “breaking the buck.”
17
Approximately 50 percent of all funds were withdrawn from the Primary Fund between September 15 and
October 30, 2008, or about $26 billion.
18
Commercial paper is a type of note issued to cover short-term obligations, such as operating and payroll expenses.
19
Fannie Mae and Freddie Mac are government-sponsored enterprises. They are privately owned, but publicly
chartered.
20
A credit default swap is a derivative contract between two counterparties. The buyer makes periodic payments to
the seller and, in return, receives a payoff if the underlying financial instrument defaults.

9

resources to meet its obligations to other financial institutions under transactions in these
instruments.21

Cost of Interbank Borrowing Sharply Increases
The cumulative effects of the failures of these major financial institutions caused general
uncertainty about the financial condition, the solvency of some financial entities, and the likely
liquidity needs of other firms going forward. The result was that lending in the interbank
markets22 ceased to function effectively and the cost of term borrowing sharply increased in
September 2008. Access to loans through the interbank market, usually on a short-term basis, is
essential for financial institutions to fund their positions and manage their liquidity.
A key measure of financial stress and the availability of credit is the difference (or “spread”)
between two short-term interest rates—the London Interbank Offered Rate (“LIBOR”) and the
Overnight Index Swap (“OIS”) rate. The difference reflects what banks believe is the risk of
default associated with lending to other banks and the uncertainties associated with the supply
and demand for funding.23 Prior to the start of the financial crisis, in April 2007, the one-month
LIBOR-OIS spread was between six and seven basis points. According to the then-Acting
Assistant Secretary of Financial Stability, Treasury was watching closely this measure. As
shown in Figure 2, the spread increased in August 2007 after Bear Stearns liquidated and BNP
Paribas froze funds that were tied to subprime mortgages. It increased again in response to the
strains at Countrywide Mortgage and the failure of Bear Stearns. The spread spiked dramatically
in the middle of September 2008 when the series of destabilizing economic events occurred; it
increased from 54 to 142 basis points after Lehman Brothers filed for bankruptcy and AIG
received $85 billion from the FRBNY. The spread reached a historical high of 341 basis points
on October 13, 2008, signaling a severe disruption to the interbank market. Since reaching this
high in mid-October, the LIBOR-OIS spread has fallen sharply, indicating that the credit
markets, although still not at normal levels, are now working better than before the government
capital injections.

21

SIGTARP is completing a separate review that examines AIG’s payments to its counterparties. That report is
expected to be released in within the next 30 days.
22
Banks borrow and lend money in the interbank lending market to manage liquidity and to meet requirements
placed on them. (Banks are required to hold specific amounts of reserve balance against some types of deposit
accounts). A bank that wishes to augment its reserves can borrow money in the interbank market to do so. Banks
that have a higher level of reserves than they desire can lend money in the interbank market, receiving interest on the
loan. Without the ability to borrow funds readily, banks are more concerned about retaining cash, and so are more
reluctant to lend.
23
The difference between these two rates is an indicator of counterparty credit risk and liquidity pressures, with a
lower spread suggesting diminished concerns about credit risk. The spread is measured in basis points—a unit equal
to 1/100th of a percentage point.

10

Figure 2: Significant Economic Events and Corresponding LIBOR-OIS Spread
400

16 Sep
Reserve Primary Fund
Lehman Brothers files “breaks the buck”
for bankruptcy

350
9 Aug
BNP Paribas
freezes 3 funds
after inability
to value
subprime
mortgagebased assets

300

Basis points

16 Sep
AIG receives loan
from Federal Reserve

15 Sep
Bank of America
announces plans to
buy Merrill Lynch

250
200

11 Jan
Bank of America
announces plans to
buy Countrywide

7 Sep
Fannie Mae and
Freddie Mac placed
under conservatorship

25 Sep
WaMu fails

11 Jul
IndyMac Bank fails
16 Mar
JPMorgan
buys Bear

150
31 Jul
Bear Stearns
liquidates 2
funds tied to
subprime
mortgages

100

3 Oct
Wells Fargo
announces
plans to buy
Wachovia

50

Apr‐09

Mar‐09

Feb‐09

Jan‐09

Dec‐08

Nov‐08

Oct‐08

Sep‐08

Aug‐08

Jul‐08

Jun‐08

May‐08

Apr‐08

Mar‐08

Feb‐08

Jan‐08

Dec‐07

Nov‐07

Oct‐07

Sep‐07

Aug‐07

Jul‐07

Jun‐07

May‐07

Apr‐07

0

Source: SIGTARP analysis of data from the Federal Reserve System and SEC

Initial Plan for the Use of TARP Changes in Response to Severe
Stress in the Financial Markets
Following a week of severe stress in financial markets that saw the failure of Lehman Brothers,
the government bailout of AIG, and the virtual freezing of the credit markets, Treasury and the
Federal Reserve determined that a more significant, broadly based, and systemic approach was
needed to promote stability, prevent additional disruption to the financial markets and banking
system, and avoid the risk of a financial market collapse. On September 20, 2008, thenSecretary Paulson submitted to Congress a proposal that would have authorized Treasury to
purchase up to $700 billion in mortgage-related securities, among other things. Congress did not
enact this initial proposal, but a series of counterproposals that evolved into EESA followed over
the next two weeks, as noted in Figure 3. On October 3, 2008, EESA was signed into law as P.L.
110-343.

11

Figure 3: Legislative Process Leading to the Passage of EESA

Source: SIGTARP

The original legislative proposal would have limited the Secretary’s ability to use TARP funds to
the purchase of mortgage-related assets, but EESA gave the Secretary of the Treasury broad
latitude to determine both the type of financial instrument purchased and the institution from
which it would be bought. As the financial and credit markets continued to rapidly deteriorate,
Treasury’s initial strategy evolved from purchasing toxic troubled assets to injecting capital
directly into financial institutions to encourage them to build capital, increase the flow of
financing to businesses and consumers, and support the economy. In explaining the change in
strategy, which was implemented within two weeks of EESA’s enactment, former Secretary
Paulson said that, when market conditions had worsened considerably, it was clear that Treasury
needed to act quickly and forcefully, and that purchasing troubled assets—the initial focus—
would take time to implement and would not be sufficient given the severity of the problem. In
consultation with the Federal Reserve, he believed that the most timely and effective step to
improve credit market conditions was to strengthen bank balance sheets quickly through direct
purchases of equity in banks. Two bank executives whom SIGTARP interviewed similarly
concluded that Treasury may not have had time to value properly the troubled assets and that the
$700 billion provided by EESA was not, in any event, sufficient to buy the troubled assets on the
financial institutions’ balance sheets. Chairman Bernanke also stated to SIGTARP that a fire
sale of these assets pursuant to such an asset purchase would have reduced their value.24
Although he believed that the plan to buy troubled assets was appropriate, Chairman Bernanke
noted that the time factor prevented the plan from being implemented, stating that it could be a
months-long process, if not longer. As a result, Treasury announced the CPP on October 14,
2008, to infuse capital directly into banks.
In addition to Treasury’s CPP, the FDIC and Federal Reserve also announced new programs on
October 14, 2008 to strengthen market stability, improve the strength of financial institutions,
and enhance market liquidity. The FDIC created the Temporary Liquidity Guarantee Program in
which it guaranteed newly issued senior unsecured debt of all FDIC-insured institutions and their
24

In a fire sale, an asset holder must sell the asset very quickly, potentially depressing the price of the asset
significantly in the process.

12

holding companies, and provided full coverage of none-interest bearing deposit transaction
accounts, regardless of the dollar amount. Under the plan, certain newly issued unsecured debt
issued on or before June 30, 2009, would be fully protected in the event the issuing institution
subsequently fails, or its holding company files for bankruptcy. Coverage would be limited to
June 30, 2012, even if the maturity exceeds that date. The Federal Reserve announced further
details on its Commercial Paper Funding Facility, created a week earlier, that would provide a
liquidity backstop to U.S. issuers of commercial paper by purchasing commercial paper of three
month maturity from high-quality issuers.

13

Initial CPP Funds Provided as an Emergency
Measure To Stabilize the Markets
This section discusses the rationale and criteria used to select the initial nine institutions
compared to those used to select subsequent institutions. Because of their perceived importance
to the market and financial system, the U.S. government provided $125 billion to Bank of
America and eight other financial institutions—half of the TARP funds available at that time—in
hopes of expanding the flow of credit and promoting economic growth. Government officials
strongly urged the nine institutions to accept these monies as a group, irrespective of whether
individual institutions felt that they required assistance, in the belief that it was crucial to restore
public confidence in the banking system. The amount of funding each financial institution
received was largely formula-driven and based on risk-weighted assets. Treasury required later
CPP applicants to apply through a review and approval process for the remaining funds that
placed an emphasis on the strength and viability of each applicant and not on its potential use of
funds. Although CPP is designed to invest capital in “healthy” viable institutions, the strength of
the initial nine participants varied: two of them later required additional government assistance,
and one was in the process of being acquired by another.

Initial Institutions Selected Based on Their Market Activities
and Collective Importance to the Financial System
To demonstrate federal government support to the financial system and promote consumer and
investor confidence, Bank of America, Citigroup, Wells Fargo, JPMorgan Chase, Goldman
Sachs, Morgan Stanley, Merrill Lynch, State Street Corporation (“State Street”), and the Bank of
New York Mellon were selected to receive the first government capital injections based on the
types of services they provide to the consumers and businesses and their collective importance to
the financial system, according to Treasury officials and federal regulators. FRBNY staffdeveloped briefing documents obtained by SIGTARP indicate that FRBNY officials played a
key role in developing the capital injections program and selecting the nine initial institutions to
receive CPP funds. These briefings laid out the rationale for the need to inject quickly a large
amount of capital into the U.S. banking system, the different components of the plan, and the
selection of the participating banks including the initial nine. Former Secretary Paulson told
SIGTARP that he relied on then-FRBNY President Geithner to help develop the plan because he
was viewed as the most skilled person to provide options and develop processes to help stabilize
the financial markets. Other federal regulators agreed that the institutional selections were
logical and viewed them as “systemically important”25 because of the types of services they
provide, their size, and their interdependence with each other and the broader economy. As

25

The term “systemically significant institutions,” as used by Treasury and federal regulators, generally refers to
those institutions whose failure would impose significant losses on creditors and counterparties, call into question
the financial strength of other similarly situated financial institutions, disrupt financial markets, raise borrowing
costs for households and businesses, reduce household wealth, and have an adverse effect on the economy as a
whole.

14

such, their participation in the CPP was considered central to the government’s solution to
stabilize the financial markets.
According to Treasury officials and federal regulators, the nine institutions represented the
nation’s leaders in the commercial and investment banking sector, as well as the U.S. custodial
and securities processing system. These institutions include four large commercial banks, three
investment banks, and two custodial and processing institutions:
•

The four large commercial banks—Bank of America, Citigroup, JPMorgan Chase, and
Wells Fargo—are “traditional” banks. They accept deposits, make commercial and
industrial loans, and perform other banking services for the public.

•

The three investment banks—Goldman Sachs, Morgan Stanley, and Merrill Lynch—are
largely financial intermediaries. They perform a variety of services, including
underwriting (purchasing and distributing securities), acting as the intermediary between
an issuer of securities and the investing public, facilitating mergers and other corporate
reorganizations, and acting as brokers for institutional clients.

•

State Street and the Bank of New York Mellon are also central to the financial system
because they provide custodial services, such as securities processing and settlement
services for financial transactions.

Together, these nine institutions provide broad financial services and engage in key activities of
the U.S. financial system.
Another criterion considered in the selection was the size of the institutions. The nine selected
institutions together held more than $11 trillion dollars in banking assets—approximately 75
percent of all assets held by U.S-owned banks as of June 30, 2008. By September 30, 2008,
Bank of America was the third-largest bank holding company in the country, with nearly $1.84
trillion in consolidated assets (see Table 1). The nation’s first- and second-largest bank holding
companies by asset value as of September 30, 2008, were JPMorgan Chase ($2.25 trillion) and
Citigroup ($2.05 trillion). Although behind Goldman Sachs and Morgan Stanley in total assets,
Merrill Lynch was the nation’s sixth-largest financial institution at that time, with reported assets
of nearly $876 billion. Wachovia Corporation, which would be acquired by Wells Fargo,
reported about $761 billion in assets. With the acquisition of Merrill Lynch, Bank of America
became the nation’s largest bank holding company, with about $2.32 trillion in assets as of
March 31, 2009 (see Appendix D).

15

Table 1: Consolidated Assets of Top U.S. Financial Institutions for Quarter
Ending September 30, 2008 (in $ billion)
Asset Value Ending in 9/30/08b

Rank

Name

1

JPMorgan Chase & Co

2

Citigroup Inc.

3

Bank of America Corporation

1,836.45

4

a

Goldman Sachs Group, Inc.

1,081.77

5

Morgan Stanley*

987.40

6

Merrill Lynch & Company*

875.78

7

Wachovia Corporation

760.56

8

Wells Fargo & Company

622.36

9

State Street Corporation

286.71

10

The Bank of New York Mellon Corporation

267.64

$2,251.47
2,050.13

Total

$11,020.27

Source: The Federal Reserve and the SEC
Note: aData for Goldman Sachs is for the quarter ending August 29, 2008; data for Morgan Stanley is for the quarter ending
August 31, 2008; data for Merrill Lynch & Company is for the quarter ending September 29, 2008.
b

Numbers are affected by rounding

Various federal officials and bank executives noted that these nine systemically important
institutions are also highly interdependent and interconnected with each other. Some of the
institutions are counterparties to each other, such that a risk of one institution failing to live up to
its contractual obligations would cause financial problems, if not failure, for another. Bank of
America and Merrill Lynch had counterparty exposures with many financial institutions,
including several of the nine banks in the initial group that received CPP funds. In addition, two
bank executives SIGTARP interviewed explained that State Street and the Bank of New York
Mellon were included in the initial group of nine institutions because they were ‘infrastructure’
institutions that provided securities processing and settlement services for other financial
transactions. According to the executive, when the operations of then-Bank of New York were
temporarily disrupted as a result of the terrorist attacks on September 11, 2001, it had significant
effects on the functioning of other financial institutions.
According to government officials interviewed by SIGTARP, the relative health of the first nine
institutions selected to receive CPP funds was not a primary factor in the institutions selection,
though then-Secretary Paulson and Chairman Bernanke made several references to the health of
the nine institutions at the time. In an October 14, 2008, statement, for example, Secretary
Paulson stated that the nine “are healthy institutions, and they have taken this step for the good of
the U.S. economy. As these healthy institutions increase their capital base, they will be able to
increase their funding to U.S. consumers and businesses.” A joint statement released by
Secretary Paulson, Chairman Bernanke and Chairman Bair that same day similarly stated that
“these healthy institutions are taking these steps to strengthen their own positions and to enhance
the overall performance of the U.S. economy.”

16

Notwithstanding these statements that the nine institutions were healthy, contemporaneous
reports and officials’ statements to SIGTARP during this audit indicate that there were concerns
about the health of several of the nine institutions at that time and, as detailed in this report, that
their overall selection was far more a result of the officials’ belief in their importance to a system
that was viewed as being vulnerable to collapse than concerns about their individual health and
viability. Leading up to the October 13, 2008, meeting, for example, Merrill Lynch had suffered
several consecutive quarters of large losses and had agreed, in September 2008 (over the same
weekend during which Lehman collapsed), to be acquired by Bank of America. On October 9,
2008, just three days before the meeting, Moody’s Investors Services put the long term debt of
both Morgan Stanley and Goldman Sachs on watch for possible downgrade. During the course
of this audit, Chairman Bernanke told SIGTARP that there were differences in the nine banks in
terms of strengths and weakness, but that the selection was generalized in order to avoid
stigmatizing any one bank as being a weak bank and creating a panic. He stated that the
differences among the firms with regard to their health were less important than the fact that all
the banks were systemically important and interconnected. He recounted, for example, that a
few of the banks were under stress, but that they were included because they were key players in
the financial markets. Indeed, Chairman Bernanke said that the Federal Reserve believed that
each of the banks in the original nine faced certain risks given the economic environment that
preceded the announcement of the CPP and was concerned that the failure of a systemically
significant institution could rapidly cause the failure of others due to the high degree of
interconnectedness of the systemically significant institutions. For his part, although former
Secretary Paulson stated that each of the nine financial institutions was viewed as viable and
healthy, he also acknowledged that he was aware of no independent assessment of the conditions
of the nine institutions at the time. He further acknowledged that he was concerned during the
lead up to the CPP announcement that one of the nine institutions (which has since paid back its
CPP investment) was in danger of failing, and that, in retrospect, it was clear some of the nine
were healthier than others. Secretary Geithner, who was then President of the FRBNY told
SIGTARP that, in selecting the first nine institutions, size and importance were the key
characteristics that guided the process, and that no judgments were made as to their strength or
weakness.
Of course, two of the nine institutions—Citigroup and Bank of America—just months later
needed further support. Citigroup’s fourth quarter 2008 losses totaled $17.26 billion. After
taking $25 billion in capital injections under the CPP, Citigroup later accepted an additional $20
billion of government funds under TARP’s Targeted Investment Program (“TIP”). Citigroup also
required support from the Asset Guarantee Program (“AGP”), in which Treasury, the Federal
Reserve, and the FDIC agreed to provide guarantees on a pool of $301 billion of troubled assets.
Large fourth quarter losses at Merrill Lynch ($15.31 billion) would also later necessitate
additional government assistance to its acquirer, Bank of America, as further discussed later in
this report.

Accepting CPP Funds for the “Good of the Country” and Restoring
Confidence in the Financial System
After the list of the nine institutions was established, Secretary Paulson made phone calls to the
bank executives on October 12, 2008, and requested that they come to Washington, D.C., for a
meeting the next day. At the meeting on October 13, 2008, senior government leaders led by
17

Secretary Paulson, Chairman Bernanke, FRBNY President Geithner, FDIC Chairman Sheila
Bair, and Comptroller of the Currency John Dugan, told them that providing capital to their
institutions as a group was designed to demonstrate clearly the government’s support for, and to
rebuild public confidence in, the U.S. financial sector, and that they needed to accept the capital
injections for the “good of the country.”26 In an analysis prepared by the FRBNY, staffers noted
that it was crucial to inject large amounts of capital into these nine institutions (and subsequently
to other participating banks) as quickly and as nearly simultaneously as possible “in order to give
the maximum amount of certainty to market participants that the banking system can withstand
any near term credit loss.”
Officials at Treasury, the Federal Reserve, and other federal regulators felt strongly that the nine
institutions should not be permitted to reject the government’s capital infusions. Documentation
obtained from Treasury suggests that if the banks had not accepted, their regulators would have
required them to accept the funds. For example, a draft “CEO talking points” prepared for
Secretary Paulson state that “if a capital infusion is not appealing, you should be aware that your
regulator will require it anyway.” Furthermore, former Secretary Paulson told SIGTARP that if
necessary, the government would make clear to the nine executives that they had no choice but
to take the money. Indeed, one bank executive told SIGTARP that the impression he received
from Secretary Paulson and other regulators was that the executives did not have a choice in the
matter. However, in describing the meeting, one federal regulator told SIGTARP that, although
the government strongly encouraged the bank executives to take the funds, it did not “force”
them to do so. Knowing that the nine executives needed approval from their board of directors
to participate in the capital injection program, but confident that the agreements would ultimately
be signed, Treasury staff pre-arranged for nine private offices in the Treasury building to allow
the executives to call their boards and senior personnel.
According to the bank executives interviewed by SIGTARP, there was limited debate among the
participants as to the government’s rationale for adopting the capital injection plan. These
executives told SIGTARP that all participants understood the severity of the situation, the
government’s strong belief that things were going to get worse, and that immediate action was
needed to address the rapidly deteriorating economic conditions. One of the executives
expressed concern about the amount of capital he was asked to take, but agreed with the
government’s rationale that swift and decisive actions were required to stem the crisis. This
executive recalled others in the group remarking that the CPP was a good idea, and that they took
the government’s funds because of the reasonable terms. Another executive also recalled that
some executives commented that the government’s funds were “cheap money.”
These six executives also told SIGTARP that government officials strongly urged them to accept
the capital injections as a group, irrespective of whether they believed that their institutions
required such substantial assistance. Federal Reserve officials later explained that acting as a
group would help avoid any stigma that might have been associated with accepting capital from
26

The nine executives were Vikram Pandit (Citigroup), Jamie Dimon (JPMorgan Chase), Richard Kovacevich
(Wells Fargo), John Thain (Merrill Lynch), John Mack (Morgan Stanley), Lloyd Blankfein (Goldman Sachs),
Robert Kelly (Bank of New York Mellon), and Ronald Logue (State Street), and Kenneth Lewis (Bank of America).
Key Federal officials included Secretary Paulson (Treasury), Chairman Bernanke (Federal Reserve), President
Geithner (FRBNY), Chairman Bair (FDIC), Comptroller Dugan (Comptroller of the Currency), and other senior
federal officials.

18

the government. If some of the institutions had accepted capital and others had not, the markets
may have viewed the decision to accept capital as a sign that the institution was experiencing
financial problems. Such an assessment by investors could have led to a further destabilization
of financial institutions and markets. By requiring that the institutions accept government capital
at the same time, the participating institutions would be less likely to suffer adverse market
consequences. Further, it was argued that those who opted out would be left vulnerable and
exposed if the economy further deteriorated.
The meeting began at 3:00 p.m. After remarks by Secretary Paulson, program details were
provided by FRBNY President Geithner and other federal officials, along with discussion among
the participants. The nine executives had limited time to discuss the capital injection plan with
their respective boards of directors before returning with signed agreements. One bank executive
stated that some executives immediately signed the term sheets placed before them and left
within an hour after the meeting. Another executive told his board of directors that they could
take all the time they needed, but it was not going to change the government’s expectation of a
signed agreement by the end of the day. By 6:25 p.m., all nine executives had signed the
agreements and agreed to accept the CPP funds.

Basis for Funding Amounts
In determining the amount of capital provided to Bank of America and the eight other financial
institutions, Treasury decided to use $125 billion—half of the $250 billion that was available to
Treasury at the time under Section 115 of EESA.27 The other half of the available funds were to
be injected into subsequent banks applying for funds under a formalized CPP approval process.
More specifically, Treasury determined that institutions receiving CPP funds should receive
between one percent and three percent of their risk-weighted assets,28 with a maximum of $25
billion. Based on their risk-weighted assets, six of the nine financial institutions in the initial
group—JPMorgan Chase, Citigroup, Goldman Sachs, Morgan Stanley, Bank of New York
Mellon Corp, and State Street Corporation—followed roughly the established formula and
received either close to the three percent or the maximum amount of capital allowed under the
program (see Table 2). However, the determination of capital injections for three other financial
institutions—Wells Fargo, Bank of America, and Merrill Lynch—was complicated by merger
agreements.

27

The $700 billion made available to Treasury came in three authorizations. The first authorization was for $250
billion; the second was for $100 billion; and the third was for $350 billion.
28
Risk-weighted assets are the amount of a bank’s total assets after applying an appropriate risk factor to each asset
and to selected off-balance sheet positions.

19

Table 2: Top U.S. Financial Institutions’ Risk-weighted Assets and CPP Funds
Received (in $ billion)

Financial Institution
JPMorgan Chase & Co.
Citigroup Inc.
Bank of America Corporation
Wells Fargo & Company
Wachovia Corporation
Goldman Sachsa
Morgan Stanleya
Merrill Lynch & Co., Inc.a
Bank of New York Mellon Corp
State Street Corporation

Risk-weighted
Assets as of
9/30/08
$1,377.06
1,175.71
1,328.01
525.69
585.06
379.17
296.59

3 percent of
Risk-weighted
Assets
$41.31
35.27
39.84
15.77
17.55
11.38
8.90

CPP Funds
Received
$25.00
25.00
15.00
25.00
N/A
10.00
10.00

304.02
125.12
75.03

9.12
3.75
2.25

10.00
3.00
2.00
$125.00b

Total
Source: Federal Reserve, Securities and Exchange Commission, and Treasury

Note: aData for Goldman Sachs is from August 29, 2008; data for Morgan Stanley is from August 31, 2008; data for Merrill
Lynch is from September 26, 2008.
b

All but Bank of America, Wells Fargo, and Citigroup have paid back their CPP funds, leaving $75 billion of the $125 billion
outstanding.

Table 2 shows that Wells Fargo was approved for $25 billion even though its risk-weighted
assets did not qualify it to receive the allowable maximum amount of CPP funds. At that time,
Wells Fargo was in the process of acquiring Wachovia, which was in danger of default. It had
received regulatory approval for the acquisition on October 12, 2008, and was cleared for
immediate consummation (which occurred on December 31, 2008). Thus, Treasury and federal
regulators viewed Wells Fargo and Wachovia as one entity at the October 13, 2008, meeting.
When Wachovia’s assets were considered, the combined institution was qualified to receive $25
billion in CPP funds. With the acquisition of Wachovia, Wells Fargo became the fourth-largest
bank holding company in the nation, as of March 2009 (see Appendix D).
Although Wells Fargo and Wachovia were considered one institution, Bank of America and
Merrill Lynch were not, even though they too were in the process of merging. In contrast to the
Wells Fargo and Wachovia merger, Bank of America had not received regulatory approval for
the merger at the time of the October 13, 2008, meeting. Therefore, based on interviews
SIGTARP held with Mr. Lewis and federal officials, Merrill Lynch was considered an
independent entity with its own Board of Directors separate from Bank of America.
Consequently, $10 billion was pledged to Merrill Lynch and $15 billion to Bank of America,
with the agreement that Bank of America would receive the full amount of both pledges on
consummation of the merger. However, as Table 2 also shows, the amount of Bank of
America’s risk-weighted assets would have qualified it to receive $25 billion on its own and

20

without consideration for the Merrill Lynch merger.29 According to Federal Reserve officials,
Bank of America was required to wait until the merger was completed to receive the additional
funds because the $10 billion was intended for Merrill Lynch—not Bank of America. Once the
merger was completed, Bank of America’s total amount received under the CPP would equal
$25 billion, on par with the other large commercial banks. The merger received regulatory
approval on November 26, 2008, and was completed on January 1, 2009.

Subsequent CPP Approval Process Was Put in Place for
Viable Banks To Receive Government Capital
In contrast to the process for selecting the first nine financial institutions, Treasury required later
financial institutions to submit an application to be considered for capital investments under the
CPP. Each application was submitted through the institution’s primary federal regulator and
then sent through a tiered review and approval process. The primary federal regulator provides
an initial screening and prepares a case decision memorandum detailing quantitative and
qualitative aspects of the institution’s viability. It then determines whether to forward the
application for Treasury’s review based on its initial assessment. Prior to forwarding the
application to Treasury, however, the regulator may send the application to an interagency CPP
Council where a representative from each of the four primary federal regulators evaluates the
merit of the application and decides whether to forward the application to Treasury. At
Treasury, each application is considered by an Investment Committee comprising of three to five
senior Treasury officials. A majority of the Investment Committee members must recommend
approval of the application before the Assistant Secretary for Financial Stability officially
approves the investment of funds. Eligibility for CPP funds for the institutions that go through
this process is based on an assessment of the strength and viability of each applicant, as
measured primarily by examination ratings and performance ratios, without taking into account
the potential application of TARP funds. Final approval for CPP funding comes from the
Assistant Secretary for Financial Stability.30
Although the first nine financial institutions did not go through the formal CPP process, Treasury
officials retroactively applied part of the new CPP procedures to some of these institutions.
Specifically, primary federal regulators subsequently submitted the case decision memoranda,
and the Investment Committee ratified the prior approval of funding for JPMorgan Chase,
Citigroup, Bank of America, Wells Fargo, Morgan Stanley, Goldman Sachs, State Street, and the
Bank of New York Mellon during its first meeting on October 23, 2008. Also approved for
funding at the meeting were 24 other banks.31 The next day, the Investment Committee
29

The Bank of America Chief Executive Officer, Kenneth Lewis, speculated to SIGTARP that his institution had
recently raised $10 billion in capital that could have influenced Treasury’s decision to initially allocate only $15
billion to Bank of America.
30
SIGTARP conducted a separate review that examined the external influences on the CPP funding approval
process. See SIGTARP-09-002, “Opportunities To Strengthen Controls To Avoid Undue External Influence over
Capital Purchase Program Decision-Making,” August 6, 2009.
31
Other institutions and their subsidiaries included: Wachovia, Valley National Bancorp, Saigon National Bank, the
PNC Financial Services Group, Inc., Old National Bancorp, KeyCorp, Huntington Bancshares Inc., First Horizon
National Corporation, First Community Bancshares, Inc., City National Corporation, Centerstate Banks of Florida,
Inc., Capital One Financial Corporation, Regions Financial Corporation and Regions Bank, HF Financial
Corporation, Washington Federal Savings & Loan Association, First Niagara Financial Group, Inc, Crossroads

21

approved funding for Merrill Lynch and several other institutions. Treasury provided CPP funds
to all institutions, except for Merrill Lynch, on October 28, 2008. Once the acquisition was
completed, Bank of America received Merrill Lynch’s CPP investments on January 9, 2009.

Bank, SunTrust Banks, Inc. Broadway Federal Bank, Western Illinois Bancshares, Northern Trust Corporation,
UCBH Holdings, Inc. /United Commercial Bank, Mountain 1st Bank & Trust Company, and Bank of Commerce
Holdings.

22

Officials Believed that Terminating the Merger
with Merrill Lynch Could Undermine the
Viability of Bank of America and Destabilize the
Financial System
This section addresses the basis for the decision by Treasury and federal regulators to provide
Bank of America with additional assistance following the acquisition of Merrill Lynch, and
federal efforts to forestall Bank of America from terminating the planned acquisition. Citing
substantial and growing losses, the Bank of America Chief Executive Officer informed Treasury
and Federal Reserve officials that the Bank was considering terminating the planned acquisition
of Merrill Lynch. Because Treasury and Federal Reserve officials believed that the termination
of this acquisition could potentially weaken Bank of America and destabilize financial markets,
they pressured Bank of America to complete the acquisition and provided Bank of America, at
its request, $20 billion in additional TARP funds and asset guarantees worth up to $118 billion
against possible future losses. Since it was completed, however, numerous questions have
emerged about the acquisition and the extent to which government officials pressured Bank of
America to complete the merger without making public Bank of America and Merrill Lynch’s
losses. SIGTARP reviewed available documentation and interviewed key principals involved in
the discussions to address this issue.

Treasury and the Federal Reserve React Strongly to the
Possibility of a Failed Merger
On December 17, 2008, Bank of America’s Chief Executive Officer, Kenneth Lewis, called
Secretary Paulson and Chairman Bernanke and informed them that substantial losses at Merrill
Lynch could justify Bank of America’s invoking the merger agreement’s material adverse
change (or MAC) clause,32 which would allow the bank to either renegotiate with Merrill Lynch
on more favorable terms or completely back out of the acquisition agreement. During a meeting
held later that evening, Secretary Paulson, Chairman Bernanke, and other Treasury and Federal
Reserve officials discussed a number of issues with Mr. Lewis and two other Bank of America
senior executives, including:
•

the nature of Merrill Lynch’s losses

•

the risks of invoking the MAC to the financial system, Bank of America, and Merrill
Lynch

•

the availability of TARP funds

32

The MAC clause (also sometimes referred to as the material adverse event clause) is a legal provision often found
in mergers and acquisition contracts. MAC clauses typically allow the buyer to get out of an agreement if certain
conditions, such as the seller’s financial condition, have materially changed.

23

The meeting concluded with Secretary Paulson’s request that Bank of America executives take
no action relative to the MAC and give the government time to consider its options. A few days
later, on December 21, 2008, Mr. Lewis again contacted the Secretary of the Treasury, stating
that he still intended to invoke the MAC clause because of increasing losses at Merrill Lynch.
According to Chairman Bernanke and former Secretary Paulson, the view of Federal Reserve
lawyers was that it was highly unlikely that Bank of America would be successful in terminating
the contract by invoking the MAC clause. Furthermore, an attempt to invoke the MAC clause
would likely involve extended and costly litigation with Merrill Lynch that, with significant
probability, would result in Bank of America being required to pay substantial damages. The
merger agreement between Bank of America and Merrill Lynch states that when determining
whether a material adverse effect [MAC] has occurred, both parties will disregard the effects
resulting from, among other things, “changes in global, national or regional political conditions
including changes generally in prevailing interest rates, currency exchange rates, credit markets
and price levels or trading volumes in the United States […]generally affecting the industries in
which the relevant party or its subsidiaries operate and including changes to any previously
correctly applied asset marks resulting therefrom.” As such, Federal Reserve lawyers concluded
that exercising the MAC clause was not a legally reasonable option. Mr. Lewis also told
SIGTARP that it was unclear whether Bank of America could win a MAC clause case and that if
invoked, there would be hefty lawsuits against the company.
Federal Reserve and Treasury officials also feared that Bank of America’s invocation of the
MAC clause could lead to a destabilization of Bank of America, Merrill Lynch, and the broader
financial system. A failed acquisition could lead investors to speculate that Bank of America
was not strong enough to acquire Merrill Lynch. This could result in a loss of confidence in the
judgment of the bank’s management and additional downgrades by the credit-rating agencies,
which could make it more difficult to obtain funding. Both former Secretary Paulson and
Chairman Bernanke told SIGTARP that invoking the MAC would show poor judgment on the
part of Bank of America’s management and that the decision was ‘ill-advised.” For Merrill
Lynch, federal officials and industry executives believed that the institution would likely not
survive if the merger failed. According to Federal Reserve officials, a failed merger would:
•

limit Merrill Lynch’s ability to access the interbank funding markets as investors
perceived the firm being at risk

•

severely limit its ability to fund and transact with counterparties as other institutions lost
confidence in the firm

•

cause it to have difficulty in raising new capital and/or receive government support
because of the uncertainty about its prospects and possible future losses

For the broader financial system, federal officials believed that the spillover effects of a failed
merger would threaten the viability of otherwise financially sound institutions and cause
collateral damage to the economy because Bank of America and Merrill Lynch participate in
several critical financial markets and are interconnected with and exposed to other systemically
important financial institutions.

24

There has been much public discussion regarding how strongly the Federal Reserve and Treasury
officials pressured Bank of America executives to go forward with the acquisition of Merrill
Lynch. Email communications show that the issue of removing Bank of America’s management
and Board of Directors was discussed among some Federal Reserve officials. For example, in an
email written on December 20, 2008, a Federal Reserve Bank Richmond official summarized a
conversation he had with Chairman Bernanke, stating, “just had a long talk with [Chairman
Bernanke]. Says they think the MAC threat is irrelevant because it’s not credible. Also intends
to make it even more clear that if they play that card and then need assistance, management is
gone.” However, the email communications obtained by SIGTARP does not provide indication
that such views were voiced by Chairman Bernanke to Mr. Lewis. In fact, Chairman Bernanke
testified to the House Committee on Oversight and Government Reform on June 25, 2009, that
he did not make such threats to Mr. Lewis.
On the other hand, former Secretary Paulson testified to the same committee that he told Mr.
Lewis that the Federal Reserve could remove Bank of America’s management and the Board of
Directors if the MAC clause was invoked and the merger agreement was abandoned. He
explained to SIGTARP that such a position was justified because of the risk to the financial
system and that investors would perceive invoking the MAC as poor judgment. Mr. Lewis also
stated in his deposition taken at the New York Office of the Attorney General on February 26,
2009, that Secretary Paulson made statements about removing Bank of America’s Board and
management. He subsequently relayed Secretary Paulson’s statements to his Board of Directors
in a special meeting held on December 22, 2008. Although confirming the threat of possible
removal, Mr. Lewis told SIGTARP that he also independently came to the same conclusion that
the potential failure of the merger would be harmful to his bank. Consequently, he concluded
that it was in the best long-term interest of the shareholders to go forward and complete the
merger.

No Indication of Federal Direction to Bank of America Regarding
the Disclosure of Fourth Quarter Losses
Since the acquisition of Merrill Lynch was completed in January 2009, numerous questions have
emerged about the acquisition and the extent to which federal officials put pressure on Bank of
America to complete the merger without making public Merrill Lynch’s losses. Specifically,
questions have arisen over whether the federal government directed Mr. Lewis not to disclose
Merrill Lynch’s losses to Bank of America’s shareholders. Although it was the government’s
intention to ensure that the acquisition was “kept on track,” both Chairman Bernanke and former
Secretary Paulson stated that they did not advise Mr. Lewis to withhold Merrill Lynch’s losses
from Bank of America’s shareholders. In an interview with SIGTARP, Mr. Lewis confirmed no
such instruction was given to him by Secretary Paulson or Chairman Bernanke. Chairman
Bernanke told SIGTARP that if Mr. Lewis “wanted to inform his shareholders of Merrill
Lynch’s losses, we [the Federal Reserve] would have worked” with him to develop a
government support plan. Chairman Bernanke also reiterated that the announcement of losses
has been, and will always be, the responsibility of the institution. In addition, Bank of America’s
legal counsel informed SIGTARP that he believed that the bank was under a legal obligation to
announce those losses at the end of each quarter, not mid-stream. Based on the information it
received and discussions with key principals, SIGTARP found nothing to indicate Treasury and
Federal Reserve officials instructed Bank of America executives to withhold the public
25

disclosure of losses, but that they agreed to provide financial assistance to ensure that Bank of
America remained a viable financial institution after the acquisition out of concern for the
financial markets as a whole.
Former Secretary Paulson and Mr. Lewis told SIGTARP that, after agreeing to go forward with
the merger on December 21, 2008, Bank of America executives asked for a letter committing the
government to future financial support. According to Mr. Lewis, he wanted a formal
commitment from the government to assure his Board of Directors that future financial support
was forthcoming. However, Secretary Paulson refused to provide bank executives with written
assurance of the government’s additional assistance, stating that the decision-making process for
additional support had not yet occurred. Moreover, once any written assurance was provided, it
would become a “disclosable event.” Secretary Paulson told SIGTARP that he and Chairman
Bernanke assured Mr. Lewis that the government would provide assistance to his bank and that
they were not going to let a systemically significant institution fail. However, they could not
issue a statement of such support until their staff had the opportunity to review the type of
assistance required and the assets that might be included in the support package. As a result, an
announcement of additional government support could not be made until an agreement was
reached.

Losses that Could Destabilize Bank of America and the
Broader Financial System Resulted in Additional Support
While Federal Reserve officials believed that a failure of Bank of America to complete the
merger agreement with Merrill Lynch could prove destabilizing to the financial markets, they
also believed that losses at both companies, but particularly at Merrill Lynch, were likely to have
an adverse effect on Bank of America. During the meeting with former Secretary Paulson and
Chairman Bernanke on December 17, 2008, Mr. Lewis and other Bank of America senior
executives stated that Merrill Lynch’s losses had been projected to be flat for the fourth quarter
when the merger plan was initially agreed upon in September 2008. However, Mr. Lewis stated
that estimated losses for the fourth quarter had accelerated by mid-December. In the fourth
quarter of 2008, Merrill Lynch eventually lost $15.31 billion after tax (approximately $21.53
billion pretax). This was almost three times worse than its performance in the third quarter when
it posted losses of more than $5.15 billion. Largely reflecting a significant decline in revenues,
Merrill Lynch posted losses of more than $27 billion for the year (see Figure 4).

26

Figure 4: Merrill Lynch After-Tax (Net) Losses from End of 2007 through 2008
($ in billions)
$4.0
-$27.08

$2.0
$0.0

Billion

‐$2.0
‐$4.0

4Q07

1Q08
‐1.96

‐$6.0

2Q08

3Q08

‐4.65

‐5.15

4Q08

‐$8.0
‐$10.0
‐$12.0
‐$14.0
‐15.31

‐$16.0
Source: Merrill Lynch and the SEC

In addition to Merrill Lynch’s losses, Mr. Lewis told SIGTARP that the unexpected and sharp
market deterioration in the fourth quarter of 2008 resulted in losses for Bank of America and
several other major financial institutions. Figure 5 shows that Bank of America lost $1.79 billion
in the fourth quarter, the first time it had posted a quarterly loss in more than 17 years. Its yearend financial data shows that the losses were due, in part, to escalating credit costs linked to the
economic downturn and continued capital markets disruptions. It reported write-downs in its
capital markets business, including losses on collateralized debt obligations33 of $1.7 billion and
write-downs on commercial mortgage-backed securities of $853 million. Bank of America was
considered a well-capitalized company, but documentation obtained from the Federal Reserve
shows that federal regulators were concerned that, once Bank of America merged with Merrill
Lynch, the amount of tangible common equity at the combined entity would be among the lowest
of the large bank holding companies. This would make Bank of America vulnerable if the
financial system experienced further deterioration.

33

A collateralized debt obligation is a financial instrument that entitles the purchaser to some portion of the cash
flows from a portfolio of assets, which may include bonds, loans, or mortgage-backed securities.

27

Figure 5: Bank of America Net Income Gain/Loss from 2007-2009 ($ in billions)
$5.0
$4.0
$3.0

Billion

$2.0
$1.0
$0.0
4Q07

1Q08

2Q08

3Q08

4Q08

1Q09

‐$1.0
‐$2.0
‐$3.0
Source: Bank of America

In response to Mr. Lewis’ request for additional government assistance, Treasury, the Federal
Reserve, and FDIC subsequently agreed to provide additional assistance to shore up the
combined company’s financial position and reduce the risk of market disruption once the merger
was complete.

$20 Billion in Additional Capital under the Targeted Investment
Program
On January 16, 2009, Treasury made an additional investment in Bank of America by acquiring
$20 billion in newly issued senior preferred stock under the TIP. Combined with the $25 billion
received under the CPP, Treasury’s total capital injection into Bank of America now totals $45
billion. Because the ceiling on the amount of capital that Treasury could provide under the CPP
was capped at $25 billion, the TIP was used as a vehicle to infuse additional assistance to Bank
of America. The preferred stock acquired under the TIP carries an 8 percent dividend payable to
Treasury. As required by EESA, Treasury also received warrants to purchase common stock of
Bank of America at a strike price34 of $13.30 per share and with an aggregate value of $2 billion.
Bank of America will be prohibited from paying dividends on common stock in excess of $.01
per share per quarter for three years without the consent of Treasury.

$118 Billion in Loss-sharing Agreement under the Asset Guarantee
Program
To further help restore confidence in Bank of America, Treasury, FDIC, and the Federal Reserve
also agreed to share losses with the bank on a designated pool of up to $118 billion of loans,
securities backed by residential and commercial real estate loans and corporate debt, derivative
34

A strike price is the stated price per share for which underlying stock may be purchased by the option holder upon
exercise of the option contract.

28

transactions that reference such securities, and other financial assets. The pool would contain
both Merrill Lynch (about 75 percent) and Bank of America (about 25 percent) assets. Based on
the preliminary terms of the arrangement, Bank of America would absorb the first $10 billion of
losses in the asset pool. If the losses on these assets exceeded this amount, then Bank of
America would absorb 10 percent of the additional losses of the pool of assets, and Treasury and
FDIC would absorb 90 percent of the losses, up to $10 billion. The terms would be in effect for
ten years for residential mortgage-related assets and five years for other assets. As compensation
for these guarantees, Treasury would receive $3 billion, and FDIC would receive $1 billion in
preferred stock with an 8 percent annual dividend rate, and accompanying warrants. The Federal
Reserve would provide Bank of America non-recourse loans backed by these assets with the
same 90 percent and 10 percent loss-sharing provision if the coverage from Treasury and FDIC
were to be exhausted.
Although the AGP term sheet was negotiated in January 2009, the final agreement was not
completed. On May 6, 2009, Bank of America requested termination of its participation in the
program because executives believed that the cost of the guarantees outweighed the potential
benefits. Mr. Lewis and other senior executives told SIGTARP that future losses would not
exceed the initial $10 billion that the bank would need to cover under the terms of the AGP. The
Federal Reserve, Treasury, and FDIC reviewed the effects of Bank of America’s withdrawal
from the program and negotiated with Bank of America regarding a fee to be paid that
recognized both the costs incurred by the government and the benefits received by Bank of
America once its participation in the AGP was announced. The termination agreement was
reached on September 21, 2009 and Bank of America agreed to pay $276 million to Treasury, $57
million to the Federal Reserve, and $92 million to the FDIC.

29

Conclusions and Lesson Learned
Faced with the threat of an unparalleled economic crisis, Treasury, the Federal Reserve and
FDIC implemented programs designed to help prevent a further deterioration of the economy
and a significant risk of financial market collapse. It may be difficult in the near term to assess
fully the impact of Treasury’s initial injections of capital to the first nine institutions on
preventing an economic collapse. What is clear, however, is that key federal officials and senior
industry leaders believed that the risks to the financial stability and economic growth of the
United States and the rest of the world were too great for inaction.
In addition, former Secretary Paulson and Chairman Bernanke believed that the already fragile
financial system could further destabilize if the acquisition of Merrill Lynch failed. This
contributed to their decision to press Bank of America to consummate the transaction and then to
provide it with additional financial support to help ensure that the bank remained a viable
financial institution after the merger and to avert what they thought could be another marketdestabilizing event.
At the same time, Treasury’s description of how the investments in the first nine institutions
were made in October 2008 highlights what should be an important lesson for how Treasury
should describe its actions and rationales in future programs. In an October 14, 2008, statement
announcing the investment in the original nine institutions, Secretary Paulson stated: “These are
healthy institutions, and they have taken this step for the good of the U.S. economy. As these
healthy institutions increase their capital base, they will be able to increase their funding to U.S.
consumers and businesses.” The nine institutions were similarly described as healthy in a joint
statement released that same day by Treasury, the Federal Reserve and FDIC, and in a separate
statement released by Treasury.
It is apparent, however, that senior Government officials had affirmative concerns, at the time
the nine institutions were selected, about the health of at least some of those institutions: the
Federal Reserve had concerns over the financial condition of several of these institutions
individually and for all of them collectively absent some governmental action; and former
Secretary Paulson noted concerns about the potential of an outright failure of one of the
institutions. In addition to the basic transparency concern that this inconsistency raises, by
stating expressly that the “healthy” institutions would be able to increase overall lending,
Treasury may have created unrealistic expectations about the institutions’ condition and their
ability to increase lending. Treasury and the TARP program lost credibility when lending at
those institutions did not in fact increase and when subsequent events — the further assistance
needed by Citigroup and Bank of America being the most significant examples — demonstrated
that at least some of those institutions were not in fact healthy.
It is not our intent to suggest that Government officials should make public their concerns over
the financial health of individual institutions, but rather that government officials should be
particularly careful, even in a time of crisis, of describing their actions (and the rationales for
such actions) in an accurate manner. Ultimately, the lesson is straightforward: accuracy and
transparency will enhance the credibility of Government programs like TARP and restore
30

taxpayer confidence in the policy makers who manage them; inaccurate statements, on the other
hand, could have unintended long-term consequences that could damage the trust that the
American people have in their Government.

31

Management Comments and Audit Response
SIGTARP received official written responses to this report from both Treasury’s Office of
Financial Stability and the Board of Governors of the Federal Reserve Board (the “Federal
Reserve”).
In a letter from its General Counsel, the Federal Reserve concurred with the report’s findings and
expressly agreed “that an important lesson illustrated by the events that shocked the financial
systems over the past two years is that transparency and effective communication are important
to restoring and maintaining public confidence, especially during a financial crisis.” (Emphasis
added.) For the Federal Reserve’s full response see Appendix H.
Treasury, in contrast, did not express as positive a position on SIGTARP’s findings. Although
Treasury characterized the report as “a useful contribution,” it did not expressly state whether it
concurred with the lesson learned that SIGTARP identified in the report. Indeed, Treasury’s
response appears to take issue with SIGTARP’s call for the need for careful consideration of
public statements in a time of crisis, stating that “[w]hile people may differ today on how the
contemporaneous announcements about the reasons for selecting the initial nine recipients
should have been phrased, any review of such announcement must be considered in light of the
unprecedented circumstances in which they were made.”
Although SIGTARP certainly acknowledges the unprecedented circumstances that Treasury was
operating under last fall, we believe that the lesson to be learned here is that it is precisely during
such extraordinary times, as the Federal Reserve correctly noted, that the Government must
exercise increased vigilance about accuracy and transparency in its statements to the public. It is
axiomatic that the Government’s capacity to address financial crises depends in no small
measure on its credibility, both with market participants whose confidence is essential to
stabilize the financial system and with the American public whose confidence is essential to
underpin the political support necessary to take the difficult (and often expensive) steps that are
needed. Accuracy and transparency can enhance the public’s understanding of and support for
government programs, whereas statements that are less than careful or forthright—like those
made in this case—may ultimately undermine the public’s understanding and support for these
same programs. This loss of public support could damage the government’s credibility and have
long-term unintended consequences that actually hamper the Government’s ability to respond to
crises. For Treasury’s full response, see Appendix I.
SIGTARP also received informal and technical comments from the Federal Reserve, Treasury,
FDIC, and the Office of the Comptroller of the Currency. These were incorporated into the draft
where appropriate.

32

Appendix A—Scope and Methodology
We performed the audit under authority of Public Law 110-343, as amended, which also
incorporates the duties and responsibilities of inspectors general under the Inspector General Act
of 1978, as amended. Work was completed from February to September 2009 as Project
Number 003.
To determine the events that influenced the decision of Treasury officials and primary federal
regulators to select the first nine institutions—including Bank of America—to receive CPP
funds, SIGTARP’s Audit Division performed general research using academic studies, business
and economic periodicals, and other available publications. We corroborated the importance of
these events and their effect on the government’s decision-making process by interviewing key
principals and policy-makers, including former and current Secretaries of the Treasury, the
Chairman of the Board of Governors of the Federal Reserve System, the Chairman of the Federal
Deposit Insurance Corporation, the Comptroller of the Currency, as well as other senior officials
and staff members from Treasury, the Federal Reserve Board, the Office of the Comptroller of
the Currency, and the Office of Thrift Supervision.
To determine the rationale and criteria for selecting the first nine financial institutions to receive
CPP funds, we interviewed the above key principals and further supported their testimonials with
data obtained from their offices, including email communications, internal legal opinions, and
financial analysis. We also spoke with the chief executives of Bank of America, Merrill Lynch,
Wells Fargo, Goldman Sachs, State Street, and Bank of New York Mellon to obtain their views
on the selection process, their understanding of the government’s rationale, and their reasons for
accepting the funds. We also reviewed these institutions’ financial regulatory filings and
obtained data on total asset values, risk-weighted assets, and gains and losses for the last several
reporting quarters.
To determine the basis for the decision of Treasury and federal regulators to provide Bank of
America with additional government assistance, we focused on statements provided by officials
at the Federal Reserve Board, Treasury, and other primary federal regulators. We reviewed
written and oral testimonies made by former Secretary Paulson, Chairman Bernanke, and Mr.
Lewis to the House Committee on Government Oversight and Reform. We also obtained
analyses from the Federal Reserve Board, some of which originated from the Federal Reserve
Banks of Richmond and New York. Officials from the Office of Financial Stability also
provided additional information.
Numerous issues have arisen in the aftermath of the Bank of America and Merrill Lynch merger.
Some of these issues are the focus of ongoing investigations, including by SIGTARP’s
Investigations Division, and are, therefore, not discussed in this report.
This performance audit was performed in accordance with generally accepted government
auditing standards. Those standards require that we plan and perform the audit to obtain
sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions
based on our audit objectives. We believe that the evidence obtained provides a reasonable basis
for our findings and conclusions based on our audit objectives.
33

Limitations on Data
Federal Reserve Board officials provided institution-specific data and an analysis of the state of
the U.S. economy that was deemed sensitive, confidential, and, restricted. As a result, we could
only generalize from the data obtained. In addition, we relied on the judgment of the staff from
these offices to provide us with complete information for us to perform our review. Other data
may exist that we did not have the opportunity to review.

Use of Computer-processed Data
We relied on the financial institutions’ quarterly and annual filings with the SEC. Because
financial institutions are required by law to submit these financial statements, we view the
information contained in them as the best representation of the institutions’ financial standings.

Internal Controls
As part of our review of the selection of the initial nine institutions to receive CPP funds and the
decision to provide Bank of America with additional government support, we examined the
government’s criteria and rationale behind these one-time decisions. In this regard, we evaluated
the internal controls over the decisions of Treasury and the Federal Reserve to validate the
magnitude of the losses of Merrill Lynch and Bank of America.

34

Appendix B—Measures To Stabilize Financial
Markets before EESA Passage
Initiatives

Date

Agency

Description

Reduce Primary Credit
Rate

August 2007
to April 2008

Federal Reserve

Primary Credit Rate reduced from 5.75
percent to 2.25 percent. Maximum
Primary Credit Borrowing Term increased
to 30 days. The maximum term later
increased to 90 days.
Federal Funds Rate reduced from 5.25
percent to 2 percent.

Reduce Federal Funds
Rate
HOPE NOW

October
2007

Treasury

An alliance of investors, servicers,
mortgage market participants, and credit
and homeowners’ counselors that works
with at-risk homeowners to help prevent
foreclosures.

Term Auction Facility

December
2007

Federal Reserve

Fixed amounts of term funds will be
auctioned on a regular basis to depository
institutions against a wide variety of
collateral for terms of 28 days. Terms
later extended up to 84 days.

Economic Stimulus Act
of 2008

February
2008

President of the
United States

Recovery Rebates, up to $600, and
Incentives for Business Investment

Term Securities Lending
Facility

March 2008

Federal Reserve

Lending of Treasury securities for 28-day
terms against a range of collateral. Terms
later extended to up to 84 days.

Primary Dealer Credit
Facility

March 2008

Federal Reserve

Extending credit to primary dealers at the
primary credit rate against a broad range
of investment-grade securities.

Limited liability company
formed (Maiden Lane) to
facilitate acquisition of
Bear Stearns by
JPMorgan Chase

March 2008

Federal Reserve

The FRBNY forms Maiden Lane to control
$30 billion of Bear Stearns assets that are
pledged as security for $29 billion in term
financing at primary credit rate.
JPMorgan Chase assumes first $1 billion
of any losses.

Increase of credit lines
to Fannie Mae and
Freddie Mac

July 2008

Treasury

A temporary increase in the credit lines to
Fannie Mae and Freddie Mac, and a
temporary authorization for Treasury to
purchase equity in either enterprise if
needed.

Temporary prohibition of
short sales

July 2008

Securities and
Exchange
Commission

The Securities and Exchange
Commission issues emergency order to
limit short selling in the securities of
Fannie Mae, Freddie Mac, and primary
dealers at commercial and investment
banks.

Housing and Economic

July 2008

President of the

Among other provisions, authorizes the

35

Recovery Act of 2008

United States

Treasury to purchase Fannie Mae’s and
Freddie Mac’s obligations and reforms the
regulatory supervision of these entities
under a new Federal Housing Finance
Agency.

Government
conservatorship of
Fannie Mae and Freddie
Mac

September
2008

Federal Housing
Finance Agency
and Treasury

The Federal Housing Finance Agency
places Fannie Mae and Freddie Mac in
conservatorship. Treasury announces
three additional measures to complement
the decision:
1) preferred stock purchase agreements
between Treasury/Federal Housing
Finance Agency and Fannie Mae and
Freddie Mac to ensure these entities
positive net worth
2) a new secured lending facility that will
be available to Fannie Mae, Freddie
Mac, and the Federal Home Loan Bank
3) a temporary program to purchase
Fannie Mae’s and Freddie Mac’s
mortgage-backed securities

Lending Facility for AIG

September
2008

Federal Reserve

The Federal Reserve Board authorizes
the FRBNY to lend up to $85 billion to AIG
under Section 13(3) of the Federal
Reserve Act. Terms of Federal Reserve
lending later amended in coordination with
Treasury.

Temporary ban on short
sales

September
2008

Securities and
Exchange
Commission

The Securities and Exchange
Commission announces a temporary
emergency ban on short selling in the
stocks of all companies in the financial
sector.

Creation of the AssetBacked Commercial
Paper Money Market
Mutual Fund Liquidity
Facility

September
2008

Federal Reserve

Created to extend non-recourse loans at
the primary credit rate to U.S. depository
institutions and bank holding companies
to finance their purchase of high-quality
asset-backed commercial paper from
money market mutual funds.

Temporary Guaranty
Program for Money
Market Mutual Funds

September
2008

Treasury

Treasury will insure the holdings of any
publicly offered eligible money market
mutual fund that pays a fee to participate
in the program. The program will make
$50 billion available from the Exchange
Stabilization Fund to guarantee
investments in participating money market
mutual funds.
Source: The Federal Reserve Bank of St. Louis, Treasury, and Public Law 110-185

36

Appendix C—Net Income Gains and Losses from
2007 to 2009 of Seven U.S. Financial Institutions
Receiving CPP Funds
Wells Fargo
$4.0

$3.0

$3.0

$2.0

$2.0

$1.0

$1.0

Billions

Billions

Goldman Sachs
$4.0

$0.0
4Q07

1Q08

2Q08

3Q08

4Q08

$0.0
4Q07

1Q09

‐$1.0

‐$1.0

‐$2.0

‐$2.0

‐$3.0

‐$3.0

1Q08

JPMorgan Chase
$4.0

$3.0

$3.0

4Q08

1Q09

4Q08

1Q09

$2.0

Billions

Billions

3Q08

Morgan Stanley

$4.0

$2.0
$1.0
$0.0
4Q07

1Q08

2Q08

3Q08

4Q08

1Q09

‐$1.0

$1.0
$0.0

‐$1.0
‐$2.0

‐$2.0

‐$3.0

‐$3.0

‐$4.0

Citigroup Inc.
$5.0

$0.0

Billions

2Q08

4Q07

1Q08

2Q08

3Q08

4Q08

1Q09

‐$5.0

‐$10.0

‐$15.0

‐$20.0

37

4Q07

1Q08

2Q08

3Q08

State Street Corporation

$2.0

$1.5

$1.5

Billions

Billions

Bank of New York Mellon

$2.0

$1.0

$0.5

$1.0

$0.5

$0.0

$0.0

4Q07

1Q08

2Q08

3Q08

4Q08

1Q09

4Q07

Source: Morgan Stanley, Citigroup, State Street, and the SEC

38

1Q08

2Q08

3Q08

4Q08

1Q09

Appendix D—Selected U.S. Incorporated Bank
Holding Companies by Total Assets (in $ billions)
Asset Value as
of 6/30/08

Asset Value
as of 9/30/08

Bank of America Corp

1,723.27

1,836.45

1,822.07

2,323.42

JPMorgan Chase & Co

1,775.67

2,251.47

2,175.05

2,079.19

Citigroup Inc.

2,100.39

2,050.13

1,938.47

1,822.58

Wells Fargo & Company

609.074

622.36

1,309.64

1,285.89

a

a

1,125.23

925.29

a

b

626.02

Name

Goldman Sachs
Morgan Stanley

N/A

a

N/A

N/A
N/A

Asset Value
as of 12/31/08

658.81

Asset Value
as of 3/31/09

Wachovia Corporation

812.43

760.56

N/A

N/A

PNC Financial Service Group

142.79

145.64

291.09

286.47

U.S. Bancorp

246.54

247.06

267.03

263.62

Bank of New York Mellon Corp

201.34

267.64

237.65

203.88

SunTrust Banks

177.23

174.78

189.14

179.22

State Street Corp

146.52

286.71

176.63

144.86

Citizens Financial Group, Inc.

161.97

163.77

160.44

167.54

Capital One Financial Corp

151.11

154.80

165.91

177.39

Regions Financial Corp

144.44

144.29

146.25

141.95

BB&T Corporation

136.47

137.04

152.02

143.42

Fifth Third Bancorp

114.97

116.29

119.76

119.31

Key Corp

101.96

101.49

105.23

98.37

Source: Federal Reserve and the SEC
Notes:

a
b

Goldman Sachs and Morgan Stanley became bank holding companies in September 2008.
As of November 30, 2008

39

Appendix E—Key Events in the Bank of America
and Merrill Lynch Merger
When Merrill Lynch Chief Executive Officer concluded that Treasury and Federal Reserve
officials were unlikely to provide assistance to Lehman Brothers, he realized that his institution
could be next to fail and initiated plans for a merger. He reached out to Bank of America
executives on September 13, 2008, seeking a deal in which Bank of America would acquire part
of the firm. Uninterested in a partial investment, however, Bank of America pushed for a
complete acquisition. Both institutions worked through that weekend and announced plans for
the merger on Monday, September 15, 2008. After the merger announcement, both institutions
began developing plans for integration. Shareholders of both institutions ratified the merger
agreement on December 5, 2008, and the merger was completed on January 1, 2009.
Date

Events

13 September

Merrill Lynch contacts Bank of America to discuss a possible merger.

14 September

Bank of America and Merrill Lynch agree to merge.

15 September

Bank of America publicly announces plans to merge Merrill Lynch; at that time, Merrill Lynch’s
gains/losses estimated to be even for the fourth quarter of 2008.

26 November

Federal Reserve approves Bank of America’s acquisition of Merrill Lynch.

5 December

Bank of America shareholders approve the acquisition of Merrill Lynch; Merrill Lynch’s fourth
quarter loss estimated to be about $9 billion, after tax.

14 December

Bank of America updates Merrill Lynch’s estimated fourth quarter losses to be about $12.5
billion after tax (about $18 billion pre-tax).

17 December

Bank of America informs Treasury and the Federal Reserve of its concerns over Merrill Lynch’s
fourth quarter losses and its possible withdrawal from merger, citing a MAC clause; Treasury
requests a meeting with bank executives for that evening; Treasury request Bank of America
not act while they consider the implications to the financial system of invoking the MAC.

19 December

Bank of America informs the Federal Reserve of additional losses discovered at Merrill Lynch.
Losses at Merrill Lynch for the fourth quarter of 2008 eventually total $15.31 billion (after tax).

21 December

Bank of America informs Treasury that it is still considering invoking the MAC clause; Treasury
stated that management and Board of Directors could be removed if Bank of America invoked
the MAC clause; Bank of America requested a de-escalation on the issue; Bank of America
calls its Board to discuss Treasury’s position; Treasury assures Bank of America that the
government will stand behind the company.

22 December

Bank America informs its Board of conversations with Treasury and the Federal Reserve. The
Board is also informed that Bank of America will not invoke the MAC clause and that Treasury
and the Federal Reserve agreed to provide additional assistance. At that time, Treasury and
the Federal Reserve had not provided written assurance of such assistance.

30 December

Bank of America executive convenes a special meeting with the Board of Directors to update
members on the progress he is making with Treasury and the Federal Reserve regarding
additional government assistance.

1 January 2009

Bank of America and Merrill Lynch merger closes.

16 January 2009

Bank of America announces additional TARP assistance through the TIP and AGP and fourth
quarter 2008 and end-of-year earnings.

Source: The State of New York Office of the Attorney General and SIGTARP’s analysis of statements from Mr. Lewis,
Chairman Bernanke, former Secretary Paulson

40

Appendix F—Definitions of Acronyms
Acronym

Definition

AGP

Asset Guarantee Program

AIG

American International Group

Bank of America

Bank of America Corporation

Bear Stearns

Bear Stearns Companies

Citigroup

Citigroup Inc.

CPP

Capital Purchase Program

EESA

Emergency Economic Stabilization Act

Fannie Mae

Federal National Mortgage Association

FDIC

Federal Deposit Insurance Corporation

FRBNY

Federal Reserve Bank of New York

Freddie Mac

Federal Home Loan Mortgage Corporation

Goldman Sachs

Goldman Sachs Group, Inc.

JPMorgan Chase

JPMorgan Chase & Co.

LIBOR

London Interbank Offered Rate

MAC clause

Material Adverse Change clause

Merrill Lynch

Merrill Lynch & Co., Inc.

OCC

Office of the Comptroller of the Currency

OIS

Overnight Indexed Swap

SEC

Securities and Exchange Commission

SIGTARP

Special Inspector General for the Troubled Asset Relief Program

State Street

State Street Corporation

TARP

Troubled Asset Relief Program

TIP

Targeted Investment Program

Wachovia

Wachovia Corporation

WaMu

Washington Mutual Inc.

Wells Fargo

Wells Fargo & Company

41

Appendix G—Audit Team Members
This report was prepared and the review was conducted under the direction of Barry W. Holman,
Director of Audits, Office of the Special Inspector General for the Troubled Asset Relief
Program.
The staff members who conducted the audit and contributed to the report include:
Scott Harmon
Tinh T. Nguyen
James Shafer

42

Appendix H—Management Comments from the
Federal Reserve Board

43

44

Appendix I—Management Comments from
Treasury

45

SIGTARP Hotline
If you are aware of fraud, waste, abuse, mismanagement, or misrepresentations associated with the
Troubled Asset Relief Program, please contact the SIGTARP Hotline.
By Online Form: www.SIGTARP.gov

By Phone: Call toll free: (877) SIG-2009

By Fax: (202) 622-4559
By Mail:

Hotline: Office of the Special Inspector General
for the Troubled Asset Relief Program
1801 L Street, NW, 4th Floor
Washington, D.C. 20220

Press Inquiries
If you have any inquiries, please contact our Press Office:

Kristine Belisle,
Director of Communications
Kris.Belisle@do.treas.gov
202-927-8940

Legislative Affairs
For Hill inquiries, please contact our Legislative Affairs Office:

Lori Hayman
Legislative Affairs
Lori.Hayman@do.treas.gov
202-927-8941

Obtaining Copies of Testimony and Reports
To obtain copies of testimony and reports, please log on to our website at www.sigtarp.gov

46