Washington DC

The Federal Reserve (photo: tiseb)

The Federal Reserve’s release of who received $3.3 trillion in emergency lending from a variety of different special programs during the financial crisis yielded some surprising results. Here’s a sampling of what we’ve learned so far:

• Bad collateral: The Fed accepted $1.3 trillion dollars in junk bonds, loans rated well below AAA, from major banks. Basically, when you or I go to a bank for a loan, we have to put up collateral that has some value, like our house. When these banks went in, they put up a piece of old lint and a sock as collateral. Normally, this would increase the interest rate for the loan, since the risk to the Fed is so high, but…

• Tiny interest rates. Interest rates for this overnight lending was as low as 0.50%, and in some cases as low as 0.0078%. At least $120 billion was borrowed from the Fed at that interest rate. Basically, the Fed was giving away money.

• Strange recipients. While big banks like Wells Fargo and BofA were the largest recipients of this aid from the Fed’s variety of different lending facilities, a substantial amount went to foreign banks. Other users included pension funds, banks in major trouble, hedge funds and bond funds, and non-financial firms.

Even bedrock corporations like Caterpillar, General Electric, Harley Davidson, McDonald’s, Verizon and Toyota depended on a program that supported the market for commercial paper — the short-term i.o.u.’s that corporations use. During the worst moments of the crisis, in the fall of 2008, even creditworthy corporate borrowers found this source of financing had dried up, and had to turn to the Fed.

While most of the Fed’s commercial paper purchase were made in the first few weeks after the program opened on Oct. 27, 2008, the central bank had to buy nearly as much in January 2009 and only slightly less in March 2009. Indeed, the Fed was still supporting the market for commercial paper well into the summer of 2009 — even as the recession officially came to an end.

The Fed says that this was necessary for liquidity, to help banks and non-bank companies make payroll and continue lending. But the Fed also lent to what amounted to foreign governments, like the Korean Development Bank. And the ongoing nature of this aid, to major corporations, even after the end of the recession, is startling.

• Conflicts of interest. In several cases, the Fed member banks lent to banks in their regions, while the CEOs of those banks sat on the boards of directors of the regional Fed. [cont'd.]

• Defenses. Here’s the President of the Dallas Federal Reserve, Richard Fisher, with his alibi on this release:

“That’s what we are paid to do. We took an enormous amount of risk with the people’s money … and we didn’t lose a dime, and in fact we made money on every one of them,” referring to the numerous lending facilities the Fed initiated during that time.

Three things. First, regular people who were struggling as much as these corporations didn’t get the opportunity for basically unlimited interest-free loans. It could have helped them quite a bit. But this program was exclusive. Banks also used these special, secret facilities to hide from the market the extent of their financial woes, which would become clear if they used the discount window for this purpose. Thirdly, I’ll outsource this point to Zach Carter:

BofA and its predecessors Countrywide and Merrill Lynch accessed the Fed’s Primary Dealer Credit Facility 416 times, for a total of $2.783 trillion. A full $476 billion in junk bonds were pledged as collateral for the loans, or roughly 17 percent. The PDCF is an overnight facility, so a lot of these loans are simply being rolled over day-to-day. Nevertheless, it’s a staggering amount of money, with an enormous degree of totally worthless collateral being pledged to justify it.

The Fed and Treasury had to do something in 2008 to keep the financial system from falling off a cliff. But by treating the problem as a liquidity issue with no strings attached, they didn’t solve the underlying problem: lots of very big banks were simply insolvent.
Now, over two years after TARP, it’s clear that many of our largest banks are only “solvent” due to accounting irregularities being approved by regulators that are terrified of letting big banks go under. As a result of this fear, we aren’t really regulating our banks.

Precisely. There were enormous social costs from the financial meltdown. Those are ongoing, and the bailout didn’t fix them. They merely propped up zombie banks which are still insolvent, and extended the suffering of regular people.