How Citigroup Unraveled Under Geithner's Watch

This story was co-published with Politico.

As president of the New York Federal Reserve Bank, Timothy Geithner often preached that gargantuan financial firms like Citigroup should be held to the highest regulatory standards to make sure they couldn't take on too much risk.

But when it came to supervising Citigroup in recent years, the record shows that the New York Fed eased the reins as the company blew billions on subprime mortgages and other risky deals that ultimately forced the biggest bank rescue in U.S. history.

Now, the 47-year-old Geithner heads to the Senate in coming days as President-elect Barack Obama's nominee for Treasury secretary. He's won accolades for his expertise and work ethic, but there's been little attention to his record as a Fed watchdog.

Geithner's tenure at the New York Fed – which bore the major responsibility for supervising Citigroup – covers a tumultuous span in which the sprawling conglomerate spiraled from the country's biggest banking company to one of its largest welfare cases.

Now under much closer government supervision – after a $52 billion rescue – Citigroup appears headed for dismantling amid a leadership shuffle that included last week's announced departure of former Treasury Secretary Robert Rubin as senior counselor and director.

Should the New York Fed have seen trouble coming and prevented it? As Citigroup took on risk and its capital deteriorated, what oversight did Geithner exercise? And what contacts, if any, did Geithner have about regulatory matters with Citigroup officials, including Rubin, under whom Geithner worked at Treasury in the 1990s?

All are issues that may come up when Geithner appears before members of the Senate Finance Committee at his confirmation hearing, which has been put off until the day after Tuesday’s inauguration amid questions about Geithner’s taxes and past employment of a housekeeper.

Because the Fed conducts much of its work in secret, details about Geithner's role in the Citigroup debacle remain hidden. But a review of publicly available records shows that the New York Fed, in a key period, relaxed oversight as Citigroup went on a risky spree.

Geithner, following practice common among Cabinet nominees with pending confirmation hearings, declined an interview for this story. Neither the New York Fed nor Rubin responded to written questions about Citigroup.

The New York Fed's supervisory unit reports directly to the bank president, Geithner. The unit's job is to ensure that firms manage risk and have enough capital to cushion against losses. Large companies tend to be held to more stringent capital standards.

Yet poor risk management and weak capital levels were central to Citigroup's undoing. One enforcement agreement in place before Geithner took office in 2003 – an order requiring quarterly risk reports – was lifted during his watch. A ban on major acquisitions also was eliminated a year after it had been imposed in 2005.

Afterward, in 2006 and 2007, Citigroup aggressively expanded into the subprime mortgage business and bought a hedge fund and Japanese brokerage, among other assets.

A year later, as the global financial crisis took hold, Citigroup took losses and writedowns of more than $50 billion. The New York Fed brought no public enforcement case, although examiners privately sent a critical letter to the company in the first half of 2008.

Compared with its peers, Citigroup had a thinner capital cushion and relied more heavily on less-desirable types of capital, records show. The New York Fed knew – in 2007 it allowed Citigroup to count as capital securities that some regulators and credit agencies frown upon or discount.

Last May, after the collapse of investment firm Bear Stearns set off alarms, Fed regulators and Citigroup were in lockstep about risk and capital levels. "Perfect agreement" is the way CEO Vikram Pandit described it at a meeting with analysts.