Bull by the Horns

by Sheila Bair

  It was unbelievable to me how little Treasury was asking of the institution to right itself. The government had considerable leverage. With the common-stock conversion, it owned more than a third of the institution. In addition, the FDIC had the legal authority to close Citibank—Citi’s $1.3 trillion insured-bank subsidiary—which would surely have forced the rest of Citi into a bankruptcy. In that event, the preferred shareholders would likely have been wiped out. That was a high-risk course, granted, but a tool that we could have threatened to use to extract more concessions from shareholders and bondholders. But Tim’s interest was just the opposite: he was anxious to make good on Citi’s too-big-to-fail status. He wanted to appease those stakeholders. I wanted them to share the pain.

  Citi never paid back that $25 billion. It was the only major bank that did not pay back its TARP grant in full. Instead, Treasury eventually sold its $25 billion stake to other investors. It should be acknowledged that Treasury did sell those shares at a profit—a point repeatedly made to defend against critics of Tim’s generous treatment of that institution. Of course, Tim did not know whether Treasury’s investment would pay off at the time, and it still troubles me that he could so readily subordinate the government’s interest to those of private shareholders. The larger issue was the fundamental unfairness of the vast lengths the government went to to protect this institution and its management, shareholders, and bondholders.

  Treasury’s conversion of $25 billion of its shares did help stabilize Citi, though it was still a very sick institution. Our FDIC examiners were aghast that the OCC had kept Citi’s CAMELS rating at a 3 even though it had required three separate bailouts.

  In January, I received a heads-up from Jason and John that they were in discussions with the OCC about the need for a downgrade. The Federal Reserve had already lowered its rating of Citi’s holding company to a 4—though that was nonpublic and, unlike a bank downgrade, had no severe repercussions. A downgrade of Citibank to a 4, on the other hand, would put its $1.3 trillion in assets on the troubled-bank list, which at the time included 305 banks114 with total assets of $220 billion. A downgrade would also entail a formal enforcement order against the bank that would be public, as well as a significant increase in the deposit insurance premiums it paid.

  Though the OCC examiners in the field had moved to downgrade the bank in tandem with the Fed’s downgrade of the holding company, on January 21, Jason notified me115 that the OCC was wavering. The argument was again that with all of the bailout assistance, Citi wasn’t in a troubled condition.

  There was no doubt in my mind that our examiners were right. Citi was a troubled 4 by every established standard used to measure bank health. At the same time, I was worried about the impact of adding $1.3 trillion to our troubled-bank list; everyone would know that it was Citi. Citi was highly vulnerable to a bank run because of its heavy reliance on foreign deposits. There was a real chance that those foreign depositors would withdraw en masse once they saw the inevitable headlines: “Citi Added to FDIC Troubled-Bank List.” So I decided to see if we could avoid a downgrade by using the threat of it to effectuate real changes at Citi.

  I convened a meeting with Don Kohn, John Dugan, and Bill Dudley from, respectively, the Fed, OCC, and NY Fed, on Friday, February 20, to discuss our concerns about Citigroup. I wanted to make sure that senior officials at the other agencies were aware of our concerns and the threat of a Citi downgrade to the FDIC troubled-bank list. I also wanted to call their attention to what we considered to be grossly inappropriate use of the TLGP by Citi. We had made very clear when launching the program that funds raised through FDIC-guaranteed debt issuance were to be used to support lending activities. Yet my examiners reported that Citi was using the program to pay dividends to preferred shareholders, to support its securities dealer operations, and, through accounting tricks, to make it look as if funds raised through TLGP debt were actually raising capital116 for Citi’s insured bank.

  I informed my colleagues that I supported our examiners in their view that Citi was a 4 but wanted to work with them to see if we could avoid a downgrade by taking more concrete steps to return the bank to health. Specifically, I told them that we wanted Citi to raise its tangible common-equity ratio to 7 percent by converting all of its preferred shares, as well as some of its subordinated debt, to common equity. In addition, we wanted to have an experienced commercial banker running Citigroup. With those two requirements, I essentially told them that we could avoid the downgrade. However, without significant improvement in Citi’s management and capital position, we would have no alternative but to downgrade the institution and also seriously restrict its use of TLGP.

  The following day117, I sent an email to Don, Bill, and John formalizing our concerns in writing.

  At that point, the FDIC had $167 billion in insured deposits and another $70 billion in debt guarantees, as well as $10 billion worth of exposure on the ring fence agreement. But did those gentlemen acknowledge the legitimacy of our concerns and pledge to work with us? No. They didn’t even respond to my email.

  A few weeks later, as Citi continued to wobble, Tim convened a conference call to review emergency strategies if Citi experienced another run by its creditors. The NY Fed had circulated proposals to provide all-out support to Citi, with the FDIC guaranteeing all of its debt, including its half-trillion dollars in foreign deposits! However, the NY Fed also conceded that the Citi management team should be replaced if another emergency bailout was needed.

  During the call, I once again pressed for a more fundamental restructuring to force Citi to sell off its bad assets into a bad-bank structure that would be funded by private shareholders and bondholders. We had significant leverage, given the FDIC’s resolution powers over the bank and Treasury’s ownership interest. But no one on the call would support me; they were all worried about how the markets would react. I thought the markets would respond quite positively. It wasn’t exactly a secret that Citi was on the edge. My proposal would actually fix it.

  Couldn’t we at least bring in an experienced commercial banker to run the place? I asked. Tim resisted, offering a bone instead: that Vikram could hire some more commercial bankers to work for him. I doubted that many senior commercial bankers would be willing to work for Vikram, given his weak reputation, but no one was going to buck Tim. The call concluded after an hour. I would later read118 in Ron Suskind’s book Confidence Men: Wall Street, Washington, and the Education of a President that Tim had consulted with Vikram prior to our call and had talked with him again afterward about where things stood. Looking back, I have to wonder. Tim seemed to view his job as protecting Citigroup from me, when he should have been worried about protecting the taxpayers from Citi.

  The next day119, out of the blue, I received a call from Larry Summers, wanting to know how we would set up a good-bank/bad-bank structure for Citi. I explained our plan to force Citi to sell its $800 billion of toxic assets into a PPIP structure. The losses would be funded with the existing privately held equity and debt. I did not push to “close” Citi; I assumed that Tim was speaking for the administration when he kept saying that the government had to save Citi at all costs. Surprisingly, Summers said he didn’t think that removing $800 billion of bad assets from Citi’s balance sheet would do it. He thought the place was in even worse shape than we did. It was a confusing conversation because his comments seemed completely opposite from what I was getting from Tim. Again, only later would I learn (by reading Ron Suskind’s book) that Summers had been pushing to nationalize Citi and break it up. If only he had let me know, we could have worked with the White House to impose some accountability on the institution. It would have completely changed the political dynamic and the growing anger and resentment against the government’s seemingly endless willingness to throw money at big institutions. The public justifiably wanted retribution. Citi should have been led to the pillory.

  But I didn’t know Summers’s views, so things stayed confused and unresolved. However, we
maintained tight controls on Citi’s use of TLGP, and our examiners continued with their downgrade. On May 26, 2009120, our head of supervision, Sandra Thompson, sent a letter to William Rhodes121, the CEO of Citibank, notifying him that FDIC examiners had downgraded Citibank to a CAMELS 4, citing the institution’s weak capital and liquidity position and the failure of its management to correct its inadequate controls against excessive risk taking. That same day, I received a call from Ben Bernanke, asking that the FDIC not downgrade Citi. I asked him how the Fed could reconcile downgrading the holding company but not the bank. He was surprised to learn that the Fed examiners had downgraded the holding company. Whoever had asked him to call me had left out that crucial fact. I think he was miffed that he had not been fully briefed before calling me, but that worked to my advantage. Throughout the difficult negotiations with Citi and the regulators, Ben, more than anyone, helped us secure some meaningful management and other changes to that institution.

  Within a few days, I also received a call from Dick Parsons, requesting a meeting the following week. Parsons had been staying in regular contact with us and with our strong encouragement had added two career commercial bankers to the Citi board, Jerry Grundhofer, the highly successful former CEO of U.S. Bancorp, and Michael O’Neill, a former CEO of Bank of Hawaii. I had been pushing hard for Grundhofer to replace Pandit, and I believe Jerry would have stepped in if Tim had asked him to. But Tim would not take decisive action to replace Bob Rubin’s handpicked choice for CEO, Vikram Pandit.

  We scheduled the meeting for June 22, to give Parsons and his board members time to prepare. Because we did not have the support of Citi’s primary regulators, the OCC and the NY Fed, I was not optimistic that he was going to willingly offer us much. Then, on June 5122, all hell broke loose as a front-page story in The Wall Street Journal headlined “FDIC Pushes Purge at Citi” with the subhead “Bair Wants to Shake Up Management, Sought to Cut Rating of Bank’s Health.”

  I was horrified. There is nothing more sacrosanct at the FDIC than the confidentiality of the supervisory process and the identity of banks that go onto the troubled-bank list. Throughout my five years at the FDIC, we never had a run on a failing bank because of a leak of supervisory information or downgrade. Our whole mission is to try to avert bank failures and to make sure that when a bank does fail, it is a planned and orderly resolution. Nothing goes deeper in the culture of the FDIC. Yet as soon as the article hit, Citi officials were pointing their fingers at us.

  That was ridiculous. The article itself cited on- and off-the-record sources at Citi who accused me of trying to use a downgrade as leverage to remove Vikram Pandit. Ned Kelly, the bank’s combative CFO, was on the record disparagingly calling us its “tertiary regulator.” My assumption was that Citi, fearful of being put on the troubled-bank list, leaked the story preemptively to try to make it seem as though the downgrade was all about personalities and power struggles, not about the health of the institution. But that strategy had backfired badly. Citi was a very fragile institution, and the FDIC had a huge exposure. We were doing our job, and the story came out that way. The irony was that I was trying to work out a package of measures that would keep Citi off the list, but the inept management—fearful of losing their jobs—had panicked and gone public instead of meeting with us to work out the problems.

  If there was any question about the leaks being orchestrated by Citi, they were put to rest123 by a Bloomberg article that appeared the following day, headlined “Citigroup Gains Geithner Backing as Pandit Bucks Bair.” The message was clear: Geithner would protect Pandit at all costs. And going from ridiculous to ludicrous, the article accused us of blocking Citi’s efforts to convert $25 billion of preferred shares to common shares, which the Treasury would match with its own conversions. Yes, that was the plan that had been announced in February; Citi had still not executed on it. The reason for the delay had nothing to do with us. Citi simply had not yet obtained all of the approvals it needed from the SEC. (That was acknowledged124 by Citi’s counsel, as well as the SEC.)

  Citi had also failed to raise the $5.5 billion required as a result of the stress-test results conducted by the Fed in May. In contrast, the rest of the banks had moved quickly and efficiently to raise capital after the stress tests. The stress tests had been announced on May 8, and within a month, all of the banks needing to raise capital, with the exception of Citi and GMAC, had substantially completed their capital raising with new common-equity issuance and conversion of preferred shares. That was just another in a series of examples of Citi management being unable to execute in a timely way.

  I met with Parsons, Grundhofer, and O’Neill on June 22 to discuss their willingness to boost capital and change management. They showed willingness to make some management changes, but resisted further capital raising. Grundhofer, whom I trusted, basically said he thought it would be the end if we put Citi on the troubled-bank list. That was my problem: my only leverage was a potential nuclear bomb, the troubled-bank list. If I detonated it, it would be in direct defiance of the Treasury and Federal Reserve Board. That was a huge risk for the FDIC to take. And they knew it.

  The situation was becoming more and more about power and control and less about righting Citi’s ship; it was turning into a classic Washington turf battle. My fear was that instead of helping us, Geithner, the OCC, and the NY Fed were, behind the scenes, encouraging Citi not to give too much. Throughout the ensuing negotiations125, Ben Bernanke, Dan Tarullo, and others at the Fed would play a constructive role, while Tim’s close ally at the NY Fed, Bill Dudley, took the lead in opposing our downgrade. (Because it was a supervisory matter, Tim was prohibited from being openly involved in the process.) With Ben’s help in particular, we were able to get significant management changes. A strong board, separate from the Citigroup board, was appointed to oversee the operation of the FDIC-insured bank. Jerry Grundhofer was made the chairman of that board, and Citi brought in a new CEO, Gene McQuade, another experienced commercial banker, to run the bank.126 Ned Kelly was removed as the CFO and replaced with John Gerspach, who was well respected by our examiners.

  Citi also agreed to hire an independent consultant to review its management from the top down and benchmark their qualifications and performance against other banks’.

  I had no doubt that Pandit would compare unfavorably to deeply experienced bank CEOs such as Jamie Dimon at JPMorgan Chase, John Stumpf at Wells Fargo, Richard Davis at U.S. Bancorp, and James Rohr at PNC. These gentlemen were not perfect, but they did have decades of experience running commercial banks. They had all done a good job steering their institutions through the 2008 crisis and avoiding much of the high-risk activity in the years leading up to the crisis that got Citi and others into trouble. What astounded me was why the Citigroup board hadn’t gone higher for a respected, experienced commercial banker. It could have done so much better than Pandit. In the past, Citi had been led by well-respected industry titans such as John Reed and Walter Wriston. Bringing in a top-name CEO would have been a huge boost to market confidence in the Citi franchise.

  On the basis of those changes and commitments, I asked our examiners to review their downgrade to determine if it was still appropriate. In late June, I invited John Corston to have lunch with me. I laid things out for him. I thought we had gotten a lot in terms of management improvements, not enough but a lot, and there was a risk, given Citi’s huge foreign deposit base, that we would have a nasty run on the bank if it went on the troubled-bank list. As chairman of the FDIC, I had to consider the broader risks involved with a downgrade. Neither of us liked it, but our choices were between bad and very bad. Shortly thereafter, Citi was restored to a 3. Since both the downgrade and subsequent upgrade occurred in the same quarter, Citi never went onto the list. To this day, I question whether we made the right decision.

  At the end of July127, Parsons requested a meeting with me and the other regulators to review the progress they had made in carrying out the agreement and discuss the next steps,
including the management review. Ben deferred to me in setting up and hosting the meeting. On August 10, Parsons, with three new board members, Grundhofer, O’Neill, and Diana Taylor, the well-regarded former head of banking supervision in New York State, came to the FDIC. We were joined by Ben, Dan Tarullo, John Dugan, and Bill Dudley. The meeting was held in my large conference room across the hall from my office. It was amicable. The fighting was over. We had done the best we could.

  Pandit ended up staying at Citi. When the “independent consultant” report128 came back in the fall, it compared Pandit to small European bank CEOs and gave him glowing marks. As for its review of the rest of Citi’s management, it gave high grades to Pandit loyalists while criticizing those who were not viewed as part of the Pandit team. One of the first to go was a solid, experienced commercial banker—and one of the few senior women at Citi—Terri Dial. Pandit had hired her in 2008 but, for whatever reason, had cooled in his support for her. It has bothered me that as a result of the crisis, too many management “improvements” at Citi and elsewhere have really been attempts by weak management teams to circle the wagons, promoting their closest supporters and axing those who are more independent. And because women executives are frequently outside top management’s inner circle, far too many have lost their jobs.

  That was my first and last experience in asking bank consultants to assist regulators in reviewing bank operations. They are hopelessly conflicted, given their desire to secure future consulting work at those big banks. The consultants clearly considered their primary client to be Vikram Pandit. Indeed, they reported to him regularly on their review and sought his input until we found out about it and objected.129 The whole review violated the spirit of the agreement we had reached with Citi. But Citi’s primary regulators, the OCC and NY Fed, didn’t seem to mind one bit.