When the Fed goes into the investment business
By Rodrigue Tremblay
Online Journal Guest Writer
Apr 14, 2008, 00:12
power to determine the quantity of money . . . is too important, too pervasive,
to be exercised by a few people, however public-spirited, if there is any
feasible alternative. There is no need for such arbitrary power . . . Any
system which gives so much power and so much discretion to a few men, [so] that
mistakes -- excusable or not -- can have such far reaching effects, is a bad
system. It is a bad system to believers in freedom just because it gives a few
men such power without any effective check by the body politic -- this is the
key political argument against an independent central bank." --Milton
system of banking [is] a blot left in all our Constitutions, which, if not
covered, will end in their destruction . . . The issuing power should be taken
from the banks and restored to the people to whom it properly belongs."
--Thomas Jefferson, (1743-1826), 3rd U.S. President
American people ever allow private banks to control the issue of their money,
first by inflation and then by deflation, the banks and corporations that will
grow up around them [around the banks], will deprive the people of their
property until their children will wake up homeless on the continent their
fathers conquered." --Thomas Jefferson, (1743-1826), 3rd U.S.
In 1989, the U.S. government created the Resolution Trust Corp., in effect nationalizing many
savings and loans banks that were in financial difficulties. Similarly, on
February 16, 2008, the British government nationalized the Northern Rock bank and rescued this bank with about �55 billion ($107 billion)
in public loans and guarantees.
During the weekend
of March 14-16, 2008, the Federal Reserve, a
semi-public and semi-private American central bank organization, created a Delaware-based corporation
in partnership with a (regulated) private bank, the JP Morgan Chase bank, in
order to buy and manage $30 billion of distressed mortgage-backed securities
acquired from a New York-based global but unregulated investment bank, Bear Stearns,
about to go bankrupt. JP Morgan Chase put $1 billion in the new corporation,
while the Fed invested $29 billion, an amount that was quickly transferred to
JP Morgan Chase, the new owner of Bear Stearns.
In so doing, the Fed
has de facto nationalized a portion of the portfolio of Bear Stearns,
and become an "investor of last resort" rather than a "lender of
last resort," besides facilitating the takeover of this investment bank by
JP Morgan Chase. A private company, BlackRock Financial Management, was
also hired to administer the new Delaware-based corporation and will attempt to
liquidate the acquired securities gradually over time. The Fed could then
recuperate part or all of its non-recourse "loan" to JP Morgan Chase,
and would retain any excess amount on its unusual "investment," in
the event there is a profit.
There you have it.
For the first time since its creation in 1913, the Fed has turned itself into a government of the banks,
and has invested risky public capital in a business that was in need to be
saved quickly from bankruptcy and liquidation. Thus, the Fed has not only
decided that it is its duty to solve "liquidity crises,"
but also "solvency crises" in
the regulated and non-regulated banking sector. In other countries, such public
investments to resolve a solvency crisis are decided and handled by the treasury
and the government, and are later voted into law. Even in the U.S., that is the
way the Resolution Trust Corp. was created by the Reagan administration in the
late 1980s. In fact, the current banking crisis is very reminiscent of the U.S. Savings and Loan crisis
of the 1980s and 1990s, although this time the banking crisis is much
more severe and much more widespread.
I personally do not
question the need for avoiding a panic liquidation of the subprime and other
exotic assets of Bear Stearns, in order to avoid a contagious domino effect of
bank failures and a worldwide credit crunch, which could have duplicated the
failure of the Creditanstalt bank in September
1931, an event that precipitated the 1930s depression. After all, the Fed was
established in 1913 to avoid banking panics. What can be questioned is the way
this has been done, the end result being in effect to subsidize the U.S.
banking sector by privatizing most of the profits derived from the rescue
operation in the hands of a private bank, and nationalizing the most likely
losses in the hands of the Fed and its backer, the U.S. government. The U.S.
Treasury should have played a much larger role in this bailout, so as to
protect the public interest.
Make no mistake
about it. This transaction may turn out to be enormously profitable to JP
Morgan Chase, if the actions of the Fed were to stabilize the market for
mortgage-backed financial assets in the coming months, while the Fed guarantees
that the new owner of Bear Stearns would not suffer any loss on a vulnerable
portion of its acquired portfolio.
A more transparent
and a more democratic approach would have called for the Treasury to establish
the equivalent of the old Resolution Trust Corp. to acquire insolvent Bear Stearns and gradually liquidate its
mortgage-backed and other risky financial assets over time. The salvaged
investment bank could have later on been sold to an existing bank at a fair
market value, or reinstated as an independent viable financial entity. The
public good could have been protected by avoiding a financial panic, while
simultaneously precluding a massive liquidation of jobs at Bear Stearns, and a
possible private enrichment of a private entity under the umbrella of an
unusually risky public investment by the Fed.
I have been an
adviser to central banks over my career, and that is what I would have
lives in Montreal and can be reached at email@example.com.
He is the author of the book �'The New American Empire.� His new book, �The Code for Global Ethics,�
will be published in 2008. Visit his blog site at thenewamericanempire.com/blog.
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