On TARP and agency securitization

• Author: José J. Cao‐Alvira,Alexander Núñez‐Torres
• Date: 01 August 2019
• Published date: 01 August 2019
• DOI: http://doi.org/10.1111/infi.12147

DOI: 10.1111/infi.12147

ORIGINAL ARTICLE

On TARP and agency securitization

José J. Cao-Alvira

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Alexander Núñez-Torres

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Department of Economics and Business

of Lehman College, City University of

New York, New York

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PRIME Business School, Universidad

Sergio Arboleda, Bogota, Colombia

Correspondence

José J. Cao-Alvira, Department of

Economics and Business of Lehman

College, City University of New York,

New York, NY.

Email: jose.caoalvira@lehman.cuny.edu

Abstract

This paper focuses on the contract terms and performance of

agency-securitized loans purchased by Fannie Mae from US

banks under TARP protection. Our results suggest that

TARP funds effectively increased the market power and

cost competitiveness of the intervened banks, allowing

them to offer more aggressive terms at the origination of

mortgages that were later securitized. The mortgage loans

acquired by the agency from TARP-protected banks exhibit

lower interest rates and lower default rates when compared

with those acquired from unprotected banks. Furthermore,

TARP banks were able to offer increasingly better loan

terms to the safest borrowers—in terms of their FICO scores

and debt-to-income—which translated into significantly

better loan performances. These last results contrast with the

literature regarding TARP's effects on more traditional

credit markets.

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INTRODUCTION

Established in October 2008, the Capital Purchase Program of the Troubled Assets Relief Program

(TARP) authorized the US Treasury to purchase preferred equity from troubled banking institutions

to enhance their capitalization and, with it, restore the stability of the financial system. The historic

transfers of capital seen during TARP revived the discussion on the effects of such protections of the

financial system, as public guarantees of this magnitude have the capacity to distort competition in

the banking sector. These distortions can undermine the program's ability to restore stability in the

system. In the literature, considerable research has shown that after the government's intervention

TARP-protected banks gained a competitive advantage over their unprotected counterparts,

increased their risk-taking behaviour, and showed no clear sign of improvement in the holding of

adequate capital reserves.

International Finance. 2018;1–15. wileyonlinelibrary.com/journal/infi © 2018 John Wiley & Sons Ltd

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© 2018 John Wiley & Sons Ltd wileyonlinelibrary.com/journal/infi International Finance. 2019;22:186–200.

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