October 16, 2008

Following the meeting of the G-7 Finance Ministers and Central Bank Governors Treasury Secretary Henry M. Paulson, Jr. outlined broad principles.

Holland & Knight Alert
Jose Sirven | Kerry S. Kehoe | Suzanne E. Gilbert

Unprecedented Global Coordinated Actions by U.S. and Foreign Central Governments
At the meeting of the G-7 Finance Ministers and Central Bank Governors in Washington, D.C., an aggressive action plan to address the turmoil in global financial markets and the stresses on our financial institutions was finalized.
The agreed upon action plan provides a coherent framework that will direct the U.S. and foreign governments towards a collective policy that will provide liquidity to markets, strengthen financial institutions, protect savers and enforce investor protections. Below are the broad principles of the action plan:

    • European governments are injecting billions of capital into their banking systems and the U.S. Federal Reserve announced it will back-up their effort by making U.S. currency available in unlimited amounts as efforts continue to strengthen the foundations of the world financial system.
    • Central banks from around the world have acted together to provide additional liquidity for financial institutions, taking the necessary steps to support the global economy. The Federal Reserve has established swap lines with nine central banks to reduce pressures in global short-term U.S. dollar markets. Additionally, the U.S. Treasury implemented a temporary guaranty program for the U.S. money market and mutual fund industry.
    • In order to provide broad access to liquidity and funding to financial institutions, the Bank of England (BoE), the European Central Bank (ECB), the U.S. Federal Reserve, the Bank of Japan and the Swiss National Bank (SNB) are jointly announcing further measures to improve liquidity in short-term U.S. dollar funding markets.

U.S. Treasury Commits $250 Billion to Inject Capital in Banks and Purchase Preferred, Non-Voting Shares – Coordinates Efforts With Other Federal Agencies
The federal government announced a multifaceted plan to restore confidence and strengthen the U.S. banking system – a plan which is unprecedented in scope and magnitude. In moving to comprehensively address persistent capital and liquidity issues in the banking system, the Treasury, the FDIC and the Federal Reserve have taken their boldest and broadest actions yet. The program is sure to have a substantial impact on businesses throughout the U.S. and, in particular, on the way banks are run and the way that they are regulated now and in the future. Treasury’s far reaching proposal involves the U.S. government providing an injection of capital into banks including taking stakes in nine of the nation's top financial institutions.
This unprecedented effort puts the government's guarantee behind the basic structure of financial markets. The government is set to buy preferred equity stakes in Goldman Sachs Group Inc., Morgan Stanley, J.P. Morgan Chase & Co., Bank of America Corp. (which now includes Merrill Lynch), Citigroup Inc., Wells Fargo & Co., Bank of New York Mellon and State Street Corp. The following is an overview of the Treasury Department's plan:

    • The centerpiece of Treasury’s proposal is the injection of capital into banks (which also include important new FDIC debt guaranties and deposit insurance and the Federal Reserve’s update of its commercial paper backstop plan).
    • Under the capital plan, Treasury will make capital available to many banks, thrifts and their holding companies (although it is not yet clear what specific eligibility criteria will be imposed). The initial program size of $250 billion is funded out of the total of $700 billion potentially available under the Emergency Economic Stabilization Act of 2008 (EESA). Of that $250 billion, approximately half is already spoken for: Treasury reported securing agreements with several of the country’s largest financial institutions for each to issue up to $25 billion worth of preferred stock to the Treasury. This leaves approximately $125 billion for other institutions, although it’s possible that some of the remaining $450 billion of potential authorizations under EESA could also be made available for this program to the extent needed.
    • Appropriately, Treasury’s program includes aspects that create incentives for participants to promptly replace the government’s capital with private capital. Perhaps most prominent among these are the executive compensation restrictions that exist for the life of the investment. The initial dividend rate of 5 percent increases to 9 percent after five years and dividends will generally be cumulative.
    • While the Treasury-preferred stock will be generally non-redeemable for the first three years, there is an exception for a redemption done with fresh Tier 1 capital if the raise is at least 25 percent of the preferred stock investment, and the preferred stock is freely redeemable at par after the initial three-year period. Likewise, Treasury’s 10-year warrants (which will be struck at market and will initially equal 15 percent of the preferred stock investment) will be cut in half if, before the end of 2009, the institution raises private Tier 1 capital in an amount equal to the preferred stock investment. Moreover, the warrants can be repurchased at fair market value when all of the preferred stock has been redeemed.

Federal Reserve and the FDIC Initiated Several Important Efforts to Ease the Financial Crisis Which Will Impact Business

Federal Reserve Actions
Federal Reserve has announced a new Commercial Paper Funding Facility (CPFF) program, which provides a broad backstop for the commercial paper market. Beginning October 27, the CPFF will fund purchases of commercial paper of three-month maturity from high quality issuers.

Under the CPFF, the Federal Reserve Bank of New York will finance the purchase of unsecured and asset-backed commercial paper from eligible issuers through its primary dealers. The CPFF will finance only highly rated, U.S. dollar-denominated, three-month commercial paper.

The CPFF will be structured as a credit facility to a special purpose vehicle (SPV). The SPV will purchase from eligible issuers three-month U.S. dollar-denominated commercial paper through the New York Fed’s primary dealers. Eligible issuers are U.S. issuers of commercial paper, including U.S. issuers with a foreign parent company.

FDIC Actions
The Federal Deposit Insurance Corporation (FDIC) announces a new program – the Temporary Liquidity Guarantee Program. This program guarantees newly issued senior unsecured debt of banks, thrifts and certain holding companies, and provides full coverage of non-interest bearing deposit transaction accounts, regardless of dollar amount.

In addition, any participating depository institution will be able to provide full deposit insurance coverage for non-interest-bearing deposit transaction accounts, regardless of dollar amount. These are mainly payment-processing accounts, such as payroll accounts used by businesses. Frequently, these exceed the current maximum limit of $250,000. This new, temporary guarantee expires at the end of 2009.

All FDIC-insured institutions will be covered under the program for the first 30 days without incurring any costs. After that initial period, however, institutions wishing to no longer participate must opt out or be assessed for the costs of future participation. If an institution opts out, the guarantees are good only for the first 30 days.

State and Local Government Opportunities

Several members of Congress sent letters to Mr. Paulson, asking Treasury to buy municipal bonds from financial institutions as a way to help states and local governments to begin borrowing again. The borrowing ability of local governments, in particular, has been complicated as investors have shied away from buying municipal bonds. As of now, Treasury doesn't foresee taking such a step, however, they could be persuaded if the impacts of the financial crisis continue to have negative effects on state and local governments.

Holland & Knight Financial Recovery Team in Discussions With Decision Makers

Members of the President's Working Group on Financial Markets (PWG) will promulgate rules and regulations that will fundamentally transform the mortgage finance, financial services and global markets. Holland & Knight's Financial Recovery Team will continue to meet and have discussions with representatives of the PWG which includes the following agencies: the U.S. Treasury, FDIC, the Federal Reserve and the SEC.

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