As we advocated two months back (Bagehot plus RFC: The Right Financial Fix), Uncle Sam is finally starting to sell systematic risk insurance on high-grade securities in exchange for preferred stock. This is a critical function for the US government; Uncle Sam is the only player capable of hedging systemic risk because he’s the only player capable of taking actions that keep the overall economic system on the right course.
In a speech last week on “Policy Coordination Among Central Banks”, Ben Bernanke, US Federal Reserve chairman, drew attention to the way that the Fed’s swap line with other central banks has been used to facilitate lender of last resort funding for dollar-denominated assets held outside the US.
The infusions of equity in a score or so of major banks in the U.S., UK, and EMU will help prevent a deep and prolonged world-wide recession. So will the Fed’s new Money Market Investor Funding facility, which supports unsecured short term borrowing by top-rated financial institutions. But these steps won’t help most banks to get back to their main job — lending to households and businesses.
So now Uncle Sam has an additional $700 billion to work with. Will it be enough? It depends on what he does with the money. The original idea was to buy assets outright, $700 billion worth and then we’re done. But the debate has moved on, and today’s idea seems to be to use the […]
Three possible pricing structures can be contemplated: distress prices (current), support prices, and normal prices (pre and post crisis). The table below shows the relationship between the price paid for the bond under the Paulson Plan and the price paid for the insurance under KM. In each case, the two prices add to 100. The […]
Fortunately, the Treasury and Fed are looking for a “comprehensive approach to address the illiquid assets on bank balance sheets.” Their idea is to swap up to $700 billion in Treasuries for the “toxic” assets, putting a floor on bank losses and leaving the government to hold the risky assets until conditions improve. The big […]