US government to rescue Citigroup

US authorities moved on Sunday to prop up Citigroup and prevent it from joining the growing list of financial giants felled by the spreading global economic and financial contagion. Following a nearly 60 per cent slide last week in Citigroup's share price that sent shock waves through global financial markets, the US Treasury department, the Federal Reserve and the Federal Deposit Insurance Corporation (FDIC) issued a joint statement saying the government would invest an additional US$20 billion (Dh73.46bn) in the troubled New York-based lender and guarantee another $306bn of its property-backed loans and related securities. "The US government is committed to supporting financial market stability, which is a prerequisite to restoring vigorous economic growth," the three said in their joint announcement. "With these transactions, the US government is taking the actions necessary to strengthen the financial system and protect US taxpayers and the US economy." Citigroup's rescue marks the third time in as many months that Washington has stepped in to prevent the collapse of a major financial institution. It also represents a new milestone in the wholesale nationalisation of global banks that began when the crisis began gathering speed in September. Propping up Citigroup, whose $2 trillion in assets make it America's second-largest bank, was clearly aimed at preserving an institution whose failure would have had wider global repercussions than even American International Group (AIG), which was pulled back from the brink by a government rescue in September. Some analysts heralded the deal as a confidence-boosting success. "The bailout is to prevent the global financial system from collapsing," said Yeh Kim Leng, an economist at RAM Rating Services in Kuala Lumpur, Malaysia, one of the 106 countries where Citigroup operates. "If they hadn't, we might see the whole global economy go into a tailspin." Still others expressed frustration with the seeming trial-and-error nature of the US bailout effort. The funds to aid Citigroup come from the same controversial $700bn pool originally pushed through Congress to buy distressed assets from banks and keep the financial system from seizing up. After initial delays in passage, the first half of that programme has been used instead to inject equity into the banks themselves. Confusion remains over just how or when the remaining funds will be used. Earlier this month the Treasury secretary, Henry Paulson, said the funds would be used to shore up banks and ensure ample credit to US consumers. US politicians are calling on the president-elect, Barack Obama, to spend as much as another $700bn to stimulate the economy. And reports said that aides to Mr Obama were working with the administration of President George W Bush to devise a spending package that would be ready for Mr Obama to sign as soon as he takes office on Jan 20. In the meantime, many fear a political vacuum of economic leadership. Citigroup's plight sparked a renewed flight from risk by investors. Emerging markets are being pummelled as investors move more money into US dollars and the perceived safety of US government bonds, sending the yield on US Treasuries to its lowest since 1940. Stocks in Asia and the Gulf slid yesterday. China's benchmark stock index was down more than 4 per cent and South Korean stocks fell by more than 3.5 per cent. Stocks fell 3.3 per cent in Bahrain and dived by 5.3 per cent in Dubai, although Saudi Arabia's benchmark index flouted the trend by staging a 2 per cent rally. Until the foundations of a recovery in global demand can be laid, the Gulf faces a one-two punch, economists say. Already squeezed by evaporating international funding, falling oil prices are constricting government revenues. In the Gulf as elsewhere, therefore, the question facing policymakers is how to restore confidence in the financial markets and then offset declining demand with enough government spending to soften the blow of falling global demand. Economists suggest some Gulf states may ultimately be forced to start running government deficits to make sure that public spending helps soften the impact of the global slowdown. "These are the worst financial conditions we've seen in 80 years," said Simon Williams, the chief economist at HSBC in Dubai. "The Gulf has it within its reach to spend to insulate itself from the global slowdown." For a while, it seemed that Citigroup might avoid the fate of smaller rivals such as Lehman Brothers, which has gone bankrupt, or Merrill Lynch, which survived by selling itself to Bank of America. Citigroup was formed in its present shape by the merger a decade ago between Citicorp and Travelers Group. The deal included Travelers's newly merged brokerage operations, Salomon Smith Barney, which was placed under Citi's management. But the bank's history goes back much further, to the founding 196 years ago of the City Bank of New York, which eventually became Citibank. Today Citigroup has 350,000 employees servicing its 200 million customers worldwide. Citigroup had already received $25bn under the $700bn Troubled Asset Relief Programme (TARP), through which Washington has doled out more than $300bn to the nation's banks. Losses in the subprime mortgage market had already cost Citigroup billions of dollars in write-offs and investors and analysts were prodding the bank to sell off assets or split up to boost its share price. Soon, however, the subprime crisis began to spread to other forms of lending where Citi is a leader. On Thursday, Citigroup's largest shareholder, Saudi Prince Alwaleed bin Talal, said he would invest an additional $350 million in the bank, raising his stake to 5 per cent from 4 per cent. And on Friday, Vikram Pandit, the chief executive at Citi, told employees in a conference call that there was no imminent break-up of the company. But the ship was already sinking, whether in parts or whole. Citi's stock had lost 57 per cent of its value to close below $4 a share, its lowest since 1994. The bank, which had a market capitalisation last year of more than a quarter of a trillion dollars, ended the week worth less than one tenth of at. On Friday evening, Citigroup executives reportedly presented their own version of a rescue plan to federal officials. Then began two days of round-the-clock negotiations. Citi heralded its own bailout as a breakthrough. Under the terms of Citi's deal, the US government will guarantee any loans or securities backed by residential property for 10 years, and anything backed by commercial real tate for five years. The government is also backing any real estate-related hedge contracts. While initial plans were reportedly to move those assets into a special, government-backed vehicle, the assets will reportedly now remain on Citigroup's balance sheet. Citigroup and its shareholders will have to absorb any losses on these assets, up to $29bn. Any losses beyond that will be shared, with the Treasury and FDIC absorbing 90 per cent and Citi taking 10 per cent. In return, they will receive $7bn in preferred shares. The Federal Reserve will be prepared to lend additional funds if needed. The government will also receive preferred shares for its $20bn equity injection, paying an 8 per cent annual dividend. The deal boosts the amount of capital available to the bank to stay in business by $40bn, and to make sure shareholders are not being bailed out with it, Citigroup has also agreed not to pay shareholders a dividend exceeding one US cent per share for the next three years. It remains unclear just how Citigroup's existing shareholders will be affected by the plan. The Abu Dhabi Investment Authority (ADIA), which last year paid $7.5bn for a 4.9 per cent stake in Citi, has suffered huge paper losses on its investment. Citigroup's shares have fallen almost 90 per cent since, but ADIA earns 11 per cent annually on its stake. It must be converted into Citigroup stock between March 2010 and Sept 2012 at an effective rate of no less than $31.83 per share. warnold@thenational.ae