CIT's troubles raise Fed supervision questions

By Kristina Cooke and Karey Wutkowski - Analysis

NEW YORK/WASHINGTON (Reuters) - Business lender CIT Group's troubles are raising questions about the Federal Reserve's ability to pinpoint a firm's problems and put it back on the right track.

Less than seven months ago, the Fed approved a request by CIT, a lender to nearly 1 million small and mid-sized businesses, to become a bank holding company, giving it access to taxpayer funds under the Treasury's Troubled Asset Relief Program, known as TARP. The approval also made CIT subject to more regulation by the central bank.

Based on information provided by CIT and its primary regulators, the Fed judged in December that the lender's capital, management and future prospects qualified it as a bank holding company.

Now, CIT's inability to borrow cheaply has put it on the brink of bankruptcy, save for a last-minute emergency financing deal arranged by bondholders.

The U.S. Treasury Department acknowledged last week that it will likely lose the entire $2.3 billion it pumped into CIT, which would be the first loss suffered under the government's $700 billion financial rescue program.

The Fed's failure to force a restructuring at CIT is unlikely to sit well with Republicans and Democrats alike who are already uneasy about a proposal by President Barack Obama to expand the Fed's regulatory powers to put the U.S. central bank in charge of monitoring large, interconnected firms whose failure would threaten financial stability.

Representative Spencer Bachus, the top Republican on the House of Representatives Financial Services Committee, said on Tuesday the Fed had historically done a "poor job" in identifying and addressing systemic risk.

"A prime example of this is troubled lender CIT," the Alabama congressman said. "This inability to assess risk once again threatens to undermine a fragile economy and erase the taxpayer funds provided to CIT under TARP."