Recycling bailout money: Is it right?

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WASHINGTON (CNNMoney.com) -- Some lawmakers are questioning whether the Treasury Department has the power to recycle returned bailout dollars to fund new or expanded rescues for auto companies, life insurers and small banks.

Treasury Secretary Tim Geithner got pounded over his plans to reuse bailout money this week on Capitol Hill.

The question is whether the $700 billion Troubled Asset Relief Program, the law Congress enacted last fall at the height of the financial crisis, gives Treasury the legal authority to reuse the funds. Treasury says it's on sound legal grounds, but some lawmakers say Treasury should use the money to pay down the federal deficit.

The issue has surfaced publicly as more banks move to return TARP funds. Treasury estimates that it will receive about $25 billion in returned funds - some of which it will redeploy in helping other companies.

At this point, Congress isn't likely to try to formally tie Geithner's hands. But the dispute underscores lingering political sensitivity about TARP, which many lawmakers didn't want to approve in the first place.

At the time, Congress was loath to give Treasury too much leeway in how it spent the money. In fact, at first it released only half the money and gave itself a veto over the second $350 billion.

Geithner currently estimates that $123.7 billion remains, including the $25 billion in returns.

"I think the political rationale behind it is to avoid coming back to us for anything," Sen. David Vitter, R-La., said Wednesday at a Senate Banking Committee hearing.

Geithner said at public hearings on the Hill and in a Wednesday letter to Vitter that his staff has examined the question and agrees that the TARP law gives them flexibility to reuse TARP money.

"I'm being very careful to make sure, and I will always be very careful, that we're applying the letter and spirit of the law in this case," Geithner told the Senate panel. "I talked last night again to the people that were there in October and September in drafting legislation and looking at its interpretation, and they confirmed our reading of that flexibility."

Geithner points to parts of the federal law that allow Treasury to have as much as $700 billion "outstanding" and invested in troubled assets at any one time.

When a government TARP investment is repaid, Geithner said, the proceeds go into the Treasury general fund. That, in turn, "frees up head room" for other dollars to be used for other programs, according to Geithner's letter to Vitter. The returned dollars are then banked and "new funding is made available," he wrote.

However, Rep. Brad Sherman, D-Calif., said he believes that the law dictates that Treasury should bank returned bailout dollars.

He's among critics who highlight a paragraph in the TARP law that directs repayments to pay down debt - period.

Sherman asked U.S. Attorney General Eric Holder to give a legal opinion as to whether Treasury was correctly interpreting the law.

"I think the rule of law is breaking down, where we're getting to a point where we just do whatever seems popular with those with the most power as long as the public just doesn't know about it," Sherman said.

Sherman argues that if returned bailout dollars are going to be reused, they should go toward causes he deems more worthy, such as backing up cash-strapped municipalities in California to issue bonds.

Rep. Kevin McCarthy, R-Calif., has filed legislation that would require that any repaid bailout dollars be funneled directly to paying down the debt.

Senate Banking Chairman Chris Dodd, D-Conn., defended Geithner. He said that Congress, knowing there could be political consequences later, agreed last fall to "get resources out to do what we could."

"People can have a different look at history going back, but the idea was to provide some flexibility in all of that," Dodd said. "And as I recall very specifically, that was the intention at the time. But I appreciate the discussion and debates, of course."