Financial aid for the auto industry

Today (December 5), CBO released a letterat the request of House Majority Leader Hoyer analyzing the budgetary effects of two legislative proposals: S. 3715, the Auto Industry Emergency Bridge Loan Act, as introduced on November 20, 2008; and draft legislation released by the House Committee on Financial Services (and posted on that committees Web site) on November 17, 2008.

Both proposals would authorize the federal government to provide up to $25 billion in bridge loans to support ongoing operations of automobile manufacturers and component suppliers. S. 3715 would rescind $7.5 billion of funds previously appropriated to the Department of Energy for loans to automakers and also appropriate $7.5 billion for the cost of "bridge loans" to support ongoing operations of eligible auto manufacturers and component suppliers. Repayments of bridge loans would be available to support new loans.

The draft legislation posted by the House Committee on Financial Services would require the Secretary of the Treasury to provide $25 billion in bridge loans to eligible auto manufacturers and component suppliers, to be administered under the Troubled Assets Relief Program (TARP) that was created by the Emergency Economic Stabilization Act of 2008 (Public Law 110-343).

Provisions related to the administration and financial terms of such loans are similar under the two proposals, but significant differences arise regarding their budgetary treatment and potential net impact on the federal budget. In particular, the subsidy costs of loans under S. 3715 would be calculated on a present value basis following the requirements of the Federal Credit Reform Act (FCRA), while loans made under TARP (as directed by the draft House legislation) would be calculated on a slightly different basis. Under TARP, subsidy costs would be calculated by adjusting the discounting called for in FCRA to account for the market risk associated with the loans. In contrast, FCRA discounting is done by using the relatively risk-less Treasury rate of borrowing. (That difference, and its impact on the net budget impact of the proposals is explained in more detail in the letter to Majority Leader Hoyer.)

Another key difference between the two proposals is that S. 3715 would allow loan repayments to be revolved into new loans. That provision would effectively raise the estimated subsidy rate of the initial loans under S. 3715 to 100 percent. That result occurs because repayments would automatically revolve into new loans without subsequent appropriation of any additional funding to cover the subsidy costs of those new loans, as would normally be required under FCRA. By making new loans with the repayments of the initial loans, the government would essentially be spending those receipts, thus adding to the subsidy costs of the initial loans.

A summary of CBOs estimates for the two proposals is provided in the following table:

CBO also sent a lettertoday to Cong. John M. Spratt Jr., Chairmanof the House Budget Committee, providing information on how two alternative scenarios to provide $34 billion in bridge loans to the auto industry would affect the federal budget. Under both scenarios, the loans would support firms' ongoing operations and would carry interest rates of 5 percent for the first five years after disbursement and 9 percent thereafter. CBOs estimates of the subsidy cost for providing $34 billion in bridge loans under the two scenarios specified by Chairman Spratt are summarized in the following table:

CBO estimates that the subsidy rate for bridge loans under standard credit reform accounting (following the requirements of FCRA) would be 50 percent. By comparison, we estimate a subsidy rate of 70 percent for providing such loans under TARP because that programs accounting requires an adjustment to reflect market risk. Using those subsidy rates, CBO estimates a budget cost of $17.0 billion for the use of new budget authority (with FCRA accounting), and a net budget cost of $13.6 billion to $17.0 billion for use of existing TARP authority.