To understand the legal implications arising from the current TARP shareholding arrangement, along with possible ramifications on capital markets and the private sector, read this very interesting four-pager by George Mason University School of Law’s J.W. Verret. He writes:

Under the provisions of the Troubled Asset Relief Program (TARP), part of the Emergency Economic Stabilization Act, the federal government has acquired controlling interests in hundreds of the nation’s largest banks, as well as the insurance giant American International Group (AIG) and GMAC, the financing arm of General Motors.

While, Treasury’s preferred shares do not carry the voting rights typically used to ensure the balance between shareholders and corporate management, Verret explains that Treasury still carries some important weight.

Nonetheless, government still retains the ability to nominate two “preferred directors” to the board of directors if the participant falls behind on dividend payments for any six quarters. Additionally, the government also retains the right to vote on any mergers or acquisition activity and on the issuance of new shares. While not an explicit avenue for control, the Treasury could also influence corporate policy by using its power to waive certain corporate governance changes mandated by TARP funding provisions.
In 2003 and 2007, the Securities and Exchange Commission mounted failed attempts to require shareholder nominees to appear on the corporate ballot. House Financial Services Committee Chairman Barney Frank (D-MA) has recently voiced support for this provision, indicating that the legislature may once again take up the issue. Success of any such attempt would inevitably give the government greater control over TARP participants.

To find out how the government might act to influence corporate decision making and why it is problematic, read along here.