IT seemed curious in late August when the nation’s four largest banks stepped up to the Federal Reserve’s discount window and borrowed $500 million each.
That’s the method the Fed uses to provide emergency short-term funds to banks. But this was no emergency, the banks and the Fed insisted.
The spiel that day was that the Central Bank simply wanted everyone to know that there was no stigma attached to going hat-in-hand to the Fed.
JPMorgan Chase, Bank of America and Wachovia – three of the banks – said in a joint statement that the transactions were “intended to display the effectiveness” of the discount window.
Separately, Citigroup said back then that it “stands ready to continue to access the discount window as client needs and market conditions warrant.”
As soon as the discount window transactions were revealed we here in the newsroom started guessing which of the banks was in trouble. We figured that one was having problems with defaulting mortgages and other derivative securities, and the other three were decoys.
Citigroup now seems to have been the real target of the Fed’s largess.
And guess what? There is a stigma attached to having to go to the government when a company gets itself into trouble for running its business poorly.
Yesterday it was officially announced that Citigroup, Bank of America and JPMorgan Chase were starting a fund totaling $100 billion to bail out anyone – insert Citigroup name here – having trouble.
This time the problem has to do with something called structured investment vehicles, or SIVs, which are just one of the untold number of derivative securities that hardly anyone understands but which can hurt everyone.
Citigroup’s shareholders were the ones hurt the most yesterday as news of the fund, as well as sharply lower earnings, caused the company’s stock to decline $1.63, or 3.4 percent, in trading.
Those earnings did not include the damage done by the SIVs because Citi, like others, keeps these investments off its balance sheet.
The fallout yesterday was widespread, as the whole stock market took it on the chops on renewed fears about credit problems in the U.S. The Dow Jones industrial average declined 108 points.
While the three banks agreed to pony up the $100 billion it wasn’t at all clear where the money would come from – whether the fund would try to sell securities and, if so, whether the government would underwrite those bonds.
News that Citigroup and the others were forming this fund partly explains the unusual amount of cooperation between Wall Street and Washington in recent months.
It also clarifies the nervousness in Washington, especially over whether the problem in mortgage and other securities would taint a stock market that is near record levels.
As I’ve said before in this column Treasury Secretary Hank Paulson has been having an unusual number of meetings with both Fed Chairman Ben Bernanke and people from the financial community.
And Paulson has been talking up the President’s Working Group on Financial Markets – a unique and secretive government and industry coalition – as ready, willing and able to help in the event of a crisis.
It was Treasury, according to reports, which began discussions about the bank bailout fund at a meeting on Sept. 16.
The President’s Working Group is also known as the Plunge Protection Team. Experts from both Treasury and the Fed have met in recent months with Congress to explain risks to the nation’s financial system. And Paulson has even said that the Working Group is vigilant for the next market crisis.
Well, it’s here.
Under different circumstances, Washington would probably have created its own distress fund and not needed a hand from the industry. But any semblance of fiscal irresponsibility on the government’s part could send interest rates higher, the dollar lower and exacerbate the credit market crisis.
As it is, interest rates are higher now than before the Fed “cut” borrowing costs in mid-August.
Back then a 10-year government bond was yielding around 4.66 percent. The rate dropped temporarily to 4.32 percent in early September but has now rebounded to 4.69 percent.
