Paulson Shifts Focus of Rescue to Consumer Lending (Update4)

Nov. 12 (Bloomberg) — U.S. Treasury Secretary Henry Paulson plans to use the second half of the $700 billion financial rescue program to help relieve pressures on consumer credit, scrapping an effort to buy devalued mortgage assets.

“Illiquidity in this sector is raising the cost and reducing the availability of car loans, student loans and credit cards,” Paulson said today in a speech at the Treasury in Washington. “This is creating a heavy burden on the American people and reducing the number of jobs in our economy.”

Paulson’s remarks are an acknowledgement that the pitch he made to Congress for the bailout hasn’t delivered what was promised. Paulson sold the Troubled Asset Relief Program as a way to rid bank balance sheets of illiquid mortgage assets, and he may encounter resistance from Congress for the remaining $350 billion after using most of the first half to buy bank stakes.

Lawmakers will “put his feet to the fire,” said Kevin Petrasic, a former official at the Office of Thrift Supervision, now an attorney with the Paul, Hastings, Janofsky & Walker law firm in Washington. “I’m not sure how you get around dealing with what is clearly the congressional intent.”

Paulson said he has no regrets for the revised plan. “I will never apologize for changing a strategy or an approach if the facts change,” he said.

Treasury and Federal Reserve officials are exploring a new “facility” to bolster the market for securities backed by assets, Paulson said, adding that the program would be “significant in size.” Officials are considering using a portion of the bailout money to “encourage private investors to come back to this troubled market,” he said.

Private Capital

The Treasury chief said the department is also considering having companies that accept new taxpayer funding get matching private capital. Buying “illiquid” mortgage-related assets — the reason the program was established a month ago — is no longer being considered, he said.

“Our assessment at this time is that this is not the most effective way to use TARP funds, but we will continue to examine whether targeted forms of asset purchase can play a useful role,” he said.

Paulson has committed all but $60 billion of the initial $350 billion allocated by Congress to take equity stakes in banks and in insurer American International Group Inc. Lawmakers, who could reject Treasury requests for the remaining $350 billion, are pushing for aid to automakers including General Motors Corp. Paulson is resisting.

Automakers’ `Viability’

Automakers “are a key part of our manufacturing industry and manufacturing is critical,” Paulson said in response to a question after his prepared remarks. “We need a solution, but the solution has got to be one that leads to viability.”

Paulson said he has no timeline for notifying Congress of his intent to use the remaining TARP funds, and reiterated that he’s “comfortable” that $700 billion is “what we need” to stabilize the financial system.

With less than three months left in the Bush administration, demands for assistance from foundering companies will likely escalate. The Treasury two days ago took a $40 billion stake in AIG. American Express Co. this week converted into a bank-holding company, making it eligible for funds.

Democrat Barack Obama assumes the U.S. presidency on Jan. 20. Obama said last week his economic team will “review the implementation” of the rescue plan, suggesting he may have different priorities for its use. Paulson said today he met with a member of the incoming president’s transition team as well as someone “who is going to have responsibility” for the program after the end of the Bush administration.

Schumer’s Mixed Reaction

Some lawmakers are also calling for greater oversight over use of the funds. Senators Charles Schumer of New York and Robert Menendez of New Jersey last week wrote Paulson asking him to require banks accepting public capital to increase lending rather than use the money to finance takeovers. Neel Kashkari, the interim assistant secretary running the program, the same day rebuffed suggestions to “micromanage” lending decisions.

Schumer is scheduled to hold a press conference today to “praise Paulson for finally recognizing the superiority of capital injections to asset purchases, but will also criticize Treasury’s unwillingness to issue strict guidelines to ensure participating firms use the funds to increase lending,” according to a press release.

Paulson’s change in plans sent U.S. home-loan bonds without government backing down to new lows, credit default swap indexes suggest.

The ABX-HE-PENAAA 07-2 index of swaps tied to subprime-loan bonds rated AAA when created in the first half of 2007 dropped about 8 percent to a mid-price of 42, according to a note to clients today from Goldman Sachs Group Inc. The level suggests the bonds might fetch about 42 cents for each dollar of unpaid balances.

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