The “hidden” benefits of the Citigroup bailout

With the recent financial turmoil in Greece, the press has turned its attention away from the bailouts of Citigroup, AIG, Fannie Mae, Freddie Mac, and other major U.S. financial corporations. Less than a month ago, though, Gretchen Morgenson noted in the New York Times that a Treasury Department estimate of the costs of the main financial bailouts probably understated their total costs to the economy. Around the same time, federal officials and others pointed to the government’s investment in Citigroup as a relatively successful venture that could make a profit—perhaps $11 billion plus $8 billion in interest and fees. (The company’s stock has fallen somewhat since then.)

Bailouts are of course intended to benefit the economy as a whole, and it is certainly hoped that such benefits will greatly exceed the return to the government on its investment. A large part of the return went to investors who have increased their wealth by owning the shares of Citigroup since it was saved by the government. The market capitalization of Citigroup is now very roughly $90 billion, after subtracting the U.S. government’s stake of about $32 billion. (The latter figure may overstate the size of the government’s share, because it may include stock that has been sold by the government this year.)

Predictions of a good return on the Citigroup bailout are good news. But since the bailout appears not to have been a zero-sum game (a win-win situation was possible), the lion’s share of the benefits to the company as of now (15 months after the government’s last investment) did not go to the government. In fact, a $90 billion windfall of sorts went to shareholders, even as the government incurred large costs for other bailouts.

Citigroup’s announcement that its first-quarter profits were $4.4 billion suggests that the government may indeed get a profit of $19 billion or more on its investment, which totaled about $45 billion. But it should be kept in mind that the company has parlayed the federal capital infusion into gains for its shareholders of perhaps more than four-and-a-half times the government’s financial return.

As Hyman Minsky, the late Levy Institute economist, argued, the costs of failing to bail out a major financial institution might be huge and widespread, and in this case one cost might have been a far deeper recession or depression. So the benefits to the economy as a whole of saving Citi could be many times the amounts suggested above. But it is still relevant to ask how well the government did on its investment, in order to consider whether the bailout could have been accomplished on more favorable terms to taxpayers.

This brings to mind an interesting fact. Ed Wolff’s March Levy Institute working paper, “>Recent Trends in Household Wealth in the United States: Rising Debt and the Middle-Class Squeeze—An Update to 2007,” shows that in 2007, 75.2 percent of all stock held by Americans belonged to households with incomes above $100,000 (This figure is in Table 15B). This figure and others in Wolff’s paper may give us some sense of the socio-economic status of those who have benefited most from Citigroup’s return to profitability.
Of course, if the government had captured all of the gains from its investment (perhaps by temporarily nationalizing the company, as Paul Krugman proposed last February), it could have used the money for other purposes. The hypothetical $90 billion benefit, for example, would have been far larger than the combined state and federal costs for benefits paid by the old AFDC program as of, say, 1980, even after adjusting for inflation. AFDC was the most controversial welfare program and the largest cash benefit program for poor families. AFDC has been gradually whittled down by budget cuts and reforms. (The program is now part of a program known as TANF.) In 1980, the program paid benefits of approximately $12.0 billion, or about $30.1 billion in 2010 dollars.* This sort of program for poor families is crucial when the unemployment rate is high, though the AFDC program itself was badly flawed, a fact that many liberals and moderates admitted during debates over welfare reform in the 1980s and 1990s.
*Department of Health and Human Services (DHHS). 2010. “Federal and State Expenditures for AFDC.” Washington, DC: Office of the Assistant Secretary for Planning and Evaluation.