September 21, 2008

Uncle Sam Bails Out Some Failing Banks, Not Others

Good news – perhaps – about failing banks is that President Bush on Saturday sent Congress a record $700 billion rescue plan allowing the Treasury Department to buy failing home mortgages that have bankrupted several, big, banks and threaten others.

This is the largest financial loss since the Great Depression sell-off in the early 1930s. It does not include the $200 billion earmarked to bolster the government “back-stop” entities Fannie Mae and Freddie Mac. (See our REPORT of last Week: Click here)

Mr. Bush says the rescue plan “is a big package because it’s a big problem. However, the risk of doing nothing far outweighs the risk of the package.”

WORLD BANKS AFFECTED

The problem of struggling/failing banks is not limited to the United States. The bankruptcy of Lehman Brothers – a corner stone of the American lending market since 1852 – spooked financiers here and abroad.

The U.S. Federal Reserve, and other central banks, allowed a $180 billion expansion of “swap lines” that allow banks to borrow more dollars from each other at lower rates in money-market funds.

However, Paul Mortimer-Lee, head of market economics in the London Office of BNP Paribas, is quoted in the New York Times as being “concerned.”

“The move by the U.S. Federal Reserve reflected concerns that the financial markets now appear to be facing their gravest problems since the Depression (of l930s)."

“We are high on a mountain, with a thin rope and holding on by our fingertips.”

This is scare talk by European lenders that throws gasoline on a campfire.

FEDS TO THE RESCUE

Nevertheless, the Fed’s rescue package would purchase mortgage-backed securities from troubled firms issued before September 19 of this year. The authority would expire in two years.

President Bush said in a brief White House statement last Friday, "This action entails risk, but we expect that this money will eventually be paid back. The risk of not acting would be far higher."

Treasury Secretary Henry M. Paulson, Jr., says the government policy in dealing with corporate failures had not forestalled the present problems.

Henry Paulson

"I am convinced this bold approach will cost American families far less than the alternative – a continuing series of financial institution failures and frozen credit markets."

Paulson says the mortgage securities that the government would buy “are the underlying weakness in our financial system.”

Federal Reserve Chairman Ben. S. Bernanke and congressional backers are working to gain support this week for Paulson’s proposal.

DUMP ON UNCLE SAM

The Dow-Jones industrial average gyrated last week over the market fluctuation situation. However, the D-J closed the financial week near break-even.

“It’s a massive relief rally on the back of the comprehensive plan,” said Joseph Brusuelas, chief economist for Merk Investment, to the Washington Post.

“If you have hundreds of millions of mortgage-backed securities on your books that you cannot value – much less sell – you can now unload them to the U.S. government.”

Reassuring for mortgage lenders, but ironic for individual Americans who bought homes earlier this year.

The government has taken over the giant home mortgage lenders Fannie Mae and Freddie Mac. (See our column of last week: Click Here)

However, the government-private corporations threw the 158-year-old Lehman Brothers to the wolves, but took over American International Group, the largest insurer in the world.

There are some things that are too big to let die – Bear Sterns Residential Mortgage Corp. earlier this year -- and some to small to worry about – Lehman Brothers.

HEAR EINSTEIN

We are reminded of a comment by Albert Einstein when faced with a big problem: “Everything should be as simple as possible, but no simpler.”

By Lindsey Wilger Williams, retired newspaper publisher and syndicated columnist