The Capital Purchase Program and Board Appointment

"After the financial crisis, one of the primary objectives of policymakers around the world has been to boost the capital ratios of financial institutions. While a variety of tools have been employed, we argue that an instrument has been overlooked, and might be partly responsible for the fast recovery of the financial sector in the US. We plan to study an important feature of the TARP program, and in particular the Capital Purchase Program (CPP), namely the ability of the US Treasury to appoint board members in recapitalized institutions.

Under a CPP agreement, the Treasury purchases preferred stock, equity warrant, or subordinated debt from a financial institution in exchange for dividend or interest payments. While the bank is not legally obliged to pay dividends or interests, the agreement provides the Treasury with the right to appoint up to two directors if six or more payments are missed, and a non-voting “observer” if the institution misses five payments. We hypothesize that executives may be reluctant to accept the appointment of directors or observers by the Treasury, as they are likely to be less willing to compromise with their views or preferences.

We plan to exploit, as a shock to the salience of these conflicts, the dramatic ouster, in 2012, of the Citigroup CEO, Vikrant Pandit. The abrupt resignation was imposed by the board and especially by Citi’s chairman, Michael O’Neill, appointed by the Treasury in connection with TARP funding. This event was fairly unprecedented and widely covered in the press. Boards rarely adopt confrontational approaches towards top executives, and the chairman often acts as a CEO’s ally, rather than as an antagonist.

We hypothesize that this resignation might have affected CEOs’ perception of the risk of having directors that are less likely to be “captured”. Thus, we should find that, following the Pandit’s resignation, firms that have missed several payments will react by issuing equity or retaining earnings and, by holding more capital, buy back the Treasury’s shares and avoid undesired board appointments.

We are assembling an original database that includes CPP-related transactions for all US banks that we plan to merge with SNL Financial Data and with hand-collected information on Treasury-appointed directors. With this new database, we will perform a difference-in-difference analysis aimed at testing whether the Pandit’s resignation had a significant effect on financial institutions involved in the CPP.

The results of this research would be useful for the recue programmes that should be taken in place after the current COVID-19 crisis if it will spillover in a bank recapitalization as well."