Fed says private equity good source of capital

WASHINGTON (Reuters) - The Federal Reserve considers private equity to be a good source of capital for financial services companies battered by the credit crisis, top regulators said on Thursday.

The Fed is examining its rules and wants to clarify what constitutes a controlling interest in a bank, which could clear the way for cash infusions from private equity firms.

“Private equity is a very good source of capital,” Federal Reserve Chairman Ben Bernanke told a congressional hearing to examine systemic risk and the financial markets.

Bernanke told the House Financial Services Committee that there are issues related to effective control as established by the Bank Holding Act, which has a 25 percent ownership threshold.

Current rules make it hard for investors to buy more than 9.9 percent of a bank’s stock without permission and increased supervision from regulators.

Rules also make it difficult to own more than 24.9 percent without becoming a bank holding company, which restricts investments outside the banking sector.

That would not comport with private equity firms, which typically take controlling stakes in all types of underperforming businesses and try to turn them around.

Bernanke said the Fed wants to make a clearer statement about when private equity can come in and take a large stake in a financial institution.

The central bank has already reached out to large private equity firms like Carlyle Group to ascertain what kind of obstacles they face.

The move would help the country’s big banks, which have been forced to write down billions in mortgage-related losses and are now struggling to raise money amid tight markets.

“We have encouraged financial institutions to recognize losses and to raise capital,” Treasury Secretary Henry Paulson said at the same hearing.

“Because capital is available, it’s a much better alternative than shrinking their balance sheets” and limiting other activities, he said.

Banks are required to maintain certain capital levels to guard against risks associated with their investing and lending.

Paulson said private equity was one source of capital, adding that he very much endorsed the Fed’s idea of being open to private equity.

Reporting by Rachelle Younglai, Karey Wutkowski; editing by Jeffrey Benkoe