Monday, November 24, 2008

Citigroup Bailout Means Large Subsidy To Citigroup

As most of you have probably already heard, Citigroup became the latest financial institution to be bailed out by the U.S. government. The bailout comes in the form of a $20 billion capital injection combined with a guarantee that the U.S. government will cover up to $249.3 billion in losses. Formally, the latter is structured as Citigroup taking the first $29 billion in losses from a $306 billion portfolio, with the U.S. government taking 90% of the rest.

In return, the U.S. government gets preferred shares of $20 billion yielding 8%, as well as a warrant to buy Citigroup shares during the next 10 years at a strike price of $10.61 billion.

The capital injection part of this seems pretty good for the government as they will get significant compensation. The loan guarantee however could mean quite significant losses, despite the fact that Citigroup will take the first $29 billion. Potentially, the losses could be as high as $249.3 billion. But that requires that all of the assets in that portfolio become worthless, so that is unlikely despite the fact that we're talking about very troubled assets. Most likely, losses will exceed $29 billion, so the government is going to have to take some losses, but probably not anywhere near $249.3 billion. Just how much is impossible to say, but it seems safe to say that this bailout nevertheless represent a significant subsidy to Citigroup.


Blogger Hans Byström said...

It is interesting to notice the similarity of this deal with that of Warren Buffett in Goldman & Sachs. "Gammal är äldst" as we say in Sweden!

2:58 PM  
Anonymous Toronto real estate agent said...

Another "too big to fail". This system of central banking is ill, but it seems their own faults will make them even stronger! Governments and central banks are very successful in convincing people it's fault of the free market.

Take care

10:18 PM  
Blogger stefankarlsson said...

Hans: yes there are many similarities between the deals. Only Buffet didn't agree to take on potential losses of up to $249.3 billion.....

10:20 PM  
Anonymous movie buff said...

my initial thought upon hearing about Citibank's potential bankrupcy was, if Citi goes under, will that cancel out the (negative) small fortune I have stored up on my trusty Citi-card?

3:55 AM  
Blogger Hans Byström said...

Stefan: yes, exactly! Same same but different! Gammal är äldst (warren är typ 76år och genomsnittsskattebetalaren i USA typ 35år.....)

12:20 PM  

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