Wall Street’s Temporarily Permanent Fed Window

Dealbreaker is reporting that at the Fox Street Journal conference on Wednesday, US Treasury Undersecretary Robert Steel said the borrowing facility for Wall Street securities firms is only temporary.  

The new discount window that allows securities firms to borrow from the Federal Reserve, a privilege reserved for depository commercial banks in normal times, was opened amidst the collapse of Bear Stearns. It has somewhat calmed fears that another large Wall Street firm could collapse in the fashion of Bear Stearns, but lately Fed officials seem to have been indicating that the window poses serious "moral hazard" threats.

Much of the discussion on Wall Street and in the media has centered around the likely regulation that would accompany any continuation of the window beyond September. Indeed, much of the coverage of Steel's remarks concentrated on this issue. But this seems to overlook the very real possibility that the window will be shut permanently.

When asked if the window would remain open beyond its schedule September expiration, Mr Steel said, "I stressed the word temporary." The interviewer then pointed out that the word temporary was not used in Merrill Lynch CEO John Thain's discussion of the window earlier in the conference. Steel reiterated: "Notice I used it twice."

We here at The Running of the Bulls call BS. 

Are we really to believe that after the rescue of Wall Street’s “least important” bank with some Depression era law nobody had ever heard of, if Merrill, Morgan or Goldman (blasphemy! – ed.) were on the verge of bankruptcy, the Fed would not do everything it could to avoid a collapse?  After skirting the bounds of legality – as Paul Volcker put it – and backstopping $29 billion of an unregulated private institution’s debt to facilitate a sale to another private institution, we are supposed to believe the government is now worried about moral hazard because a government official says so?

Do we look stupid?

Perhaps the Treasury is now offering a rationalization to forego regulating the I-banks like commercial banks.  By saying that Wall Street will not be able to tap the Fed window in the future, the Fed is may be laying the groundwork for Wall Street to outflank lawmakers’ attempts to increase regulation on capital market institutions. 

Yet, how can we believe the government?  The Fed took extreme action to bail out Bear Stearns, using powers it may not legally have, and acted as a middleman to broker the sale of one private company to another, risking taxpayers’ money to do so.  Are we to believe that, if under similar circumstance in the future, the Fed would not do so again? 

Believe what they do, not what they say.  Until the Fed does not gallop to the rescue of a major Wall Street in trouble, based on their prior actions, we have no reason to believe the Fed will not bail out Wall Street once again.

Of course, Wall Street would want investors to believe they have an implicit guarantee from the US government.  That way, they can issue more capital to suckers investors, thus increasing revenues and their egregiously outsized compensation.

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