U.S. plans to buy financial equity

By David Lawder

WASHINGTON (Reuters) - The United States is developing plans to buy equity stakes in financial institutions, providing another weapon in its war against financial market turmoil, U.S. Treasury Secretary Henry Paulson said on Friday.

Providing the first confirmation of the plan after a meeting of Group of Seven finance chiefs, Paulson said the equity purchases would be made alongside purchases of distressed assets as a way to recapitalize U.S. banks and other institutions reeling from soured mortgages and illiquid securities.

The Treasury will use authority granted by Congress in last week's $700 billion (410 billion pound) financial rescue legislation to buy largely nonvoting common or preferred shares. Paulson said the two-pronged approach would more effectively recapitalize banks.

"We can use the taxpayers' money more effectively and more efficiently, have it go farther and get more for their dollars and more protection if we develop a standardized program for making and encouraging equity participation," he said.

The proposal drew quick support from Democratic presidential nominee Barack Obama, who said it would provide "more money to lend to families and businesses."

Disclosure of the plan comes as the Treasury is considering a number of other major steps to deal with a worsening crisis of confidence that has frozen credit markets and halted interbank lending.

The Treasury may also push for a global backstop of interbank lending and possibly an unlimited guarantee on bank deposits, according to sources familiar with the discussions. A Treasury spokeswoman said the Bush administration is reviewing a British proposal to guarantee interbank lending.

The direct capital injections would help banks overcome the bad debts weighing down their balance sheets and boost their capacity to lend, complementing the bailout bill's objective of removing illiquid assets.