The Fed over the weekend made its intervention. Back on November 8, 2007 clouds were forming that presaged this move. Bank announcements of billion-dollar writeoffs to cover subprime losses were disconnected from analysts, such as one at the Royal Bank of Scotland, saying that the full extent of the losses would be much larger, more like $250-$500 billion.
Fed Chairman Bernanke testified then to Congress then that he expected both slower growth and higher inflation (stagflation?), but it would be temporary. Leading to the question: "How long is temporary?" The Bear Stearns crisis on Friday and its takeover by JPMorgan Chase clarifies the situation. The RBS estimate may be on the low side. Temporary may be longer than we expected. The initial bailout offering from the Fed on March 11 of $200 billion for banks was not enough. Bear Stearns owed too much money to fail. A direct intervention was needed.
The members of the Federal Open Market Committee are expected to lower the Fed funds target rate tomorrow (March 18). But that's not going to make much difference as no one knows which bank might be next.
Perhaps marketplace liquidity could be revived by Brady bonds. When Nicholas Brady was Reagan's Treasury Secretary in 1989-1993, he faced debt defaults in Mexico and other developing countries as the U.S. recession reduced demand for imports. Brady provided these countries with a form of U.S. government insurance for replacement bonds. Loans that had defaulted were converted into bonds collateralized by zero-coupon U.S. Treasuries, ensuring that principal would eventually be repaid. Investors gambled only on the payment of interest and the intermediate marketability of the bonds. The Brady bonds had maturities up to 30 years and coupons with a choice of rates (fixed, variable etc.). They were a success. Mexico issued its first Brady bonds in 1990 and within three years the defaulting countries were back in the debt market.
The Brady bonds worked then. Could they work again today to restore liquidity and make unnecessary further direct interventions by the Fed?
Unfortunately it seem that this Depression is only signaling the further consolidation of companies into one great global Bank, if this "buyout" of Bear Stearns is any indication. One Worldism?
Sounds like Brady Bonds were a financially painless way for the country to deal with a previous crisis. Was there--could there be--a rule of thumb that applied to even such bonds, making them unavailable to companies that are in the jam they're in due to overweening greed, disregard for the law and just plain stupidity?
It was Walter Wriston of CitiCorp who stated that "governments could not go bankrupt" that led syndicated loans to Latin American countries Argentina, Brazil, et. al. during the 80s. Several of the big banks were technically "insolvent" with their syndicated portions of the loans after these countries defaulted. The FDIC was not big enough to "close" these institutions out (limited size limited personnel) and so Nick Brady of the Reagan market discipline steps in. The result was mergers (akin to what you see with Bear) and the government intervention bought time and the mergers were sweetened by the taxpayer. Yet the market discipline tune of the republican party carries on. Ronald Reagan saw 20% of American farmers go under yet did nothing to help a single one. We are right back in the same position sailing on the good ship of fools that we are. As long as we, individually, can avoid being a farmer or now... a homeowner being forclosed; none of us really gives a shit. It's market discipline, you know.
Maybe there's a little market tutelage that needs to take place. A social good is different than a private good. A market economy picks up signals, maintains its sleek competitiveness, and enjoys a longevity not because of government stepping in to aid misplaced market bets, but because of the bumps and bruises that endures on a daily basis. It may well be that a flatulent, chubby, and unresponsive market we now observe is the result of the Brady Bonds, the savings and loans bail out, coupled with negative real interest rates, and a nin-cum-poop as Prxnit? Whaddaya think? I mean a "market" that makes a $750000 loan to a $12K per year strawberry picker (calif) and then securitizes this a AAA paper cannot be a market that is functioning? Whaddaya think? And the taxpayers should tolerate this? Indeed bail the big boys who were part of this? Indeed good segments of this were illegal. Yet it's Martha Stewart who we watch do jail time.
Have you ever heard of "Market Discipline"? You know when 20% of the American farmers were expunged during the Reagan administration. (Have you ever spoken to anyone in America who is really conversant with the word "capital"?)