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WASHINGTON, DC-Washington’s on-again, off-again relationship with toxic debt now appears to be off, again. The Federal Deposit Insurance Corp. has postponed the initial sale of such assets, scheduled for this month, under its Legacy Loan Program.

The official word from the agency is that this program hasn’t been canceled–but is being studied for possible reincarnation in another form.

FDIC suggested in a statement that the banking system wasn’t as burdened with toxic debt as many had first thought. The results of the stress tests, for instance, had proven to be better than expected.

“Banks have been able to raise capital without having to sell bad assets through the LLP, which reflects renewed investor confidence in our banking system,” FDIC Chairman Sheila Blair says in a prepared statement. “As a consequence, banks and their supervisors will take additional time to assess the magnitude and timing of troubled assets sales as part of our larger efforts to strengthen the banking sector.”

It is unclear what the implications are for the larger Public Private Investment Program–a program based on the same premise as FDIC’s Legacy Loan Program–that Treasury announced with much fanfare earlier this year. This was to be a key initiative to work side by side with TALF–the Treasury Department’s plan to jump start origination of healthy debt.

Certainly there is a case to be made that PPIP’s prospects are not looking good now. Treasury has done an about face on this matter before when Bush Administration Henry Paulson was Treasury Secretary.

One of TARP’s first incarnations included a plan to purchase toxic debt. Now, according to a client note penned by Harold Reichwald, Barbara Polsky, and Clayton Gantz at Manatt, Phelps & Phillips, Blair seems to have sounded the death knell for PPIP.

“The cause of the death of the Legacy Loans program was a toxic combination of policy and politics which caused major equity players to fear that the combination of government audit powers granted in recently-enacted legislation and the concern that the expected private profit-making would somehow be painted publicly as unconscionable after the fact,” they wrote. A call to Treasury was not returned in time for publication.

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