Fed will be buried in debt
Posted by Michael S. Rozeff at March 11, 2008 09:11 AM

The Fed is taking up mortgage debt, bad paper. But the Fed (and
foreign Central banks) cannot possibly absorb all the bad or
deteriorating debts in the world onto their own balance sheets. These
debts grew at very high rates for a long time, and their amount is
huge. To take them up by creating money will unleash an enormous
inflation.

The Central banks can at best hold them at preferentially low interest
rates in order to bail out banks. These banks then will face a
prolonged credit crunch and be reluctant to make other loans. The
financial system will seize up over a long period. Better to have a
brief and purging panic now, as in the 1800s.

There is news today that rates on credit default swaps are jumping in
Asia. That signals increased risk premiums on corporate and other
bonds overseas. Central banks cannot absorb all the many credits that
are faltering worldwide.

Instead of trying to keep rates down and asset prices up, the Central
banks need to step aside so that asset prices can decline far enough
that their returns become attractive to those who can supply real
capital. Let the Panic of 2008 proceed to its end. Then a recovery can
begin that is built on real capital, not market manipulation.

The false theory that the Fed can stave off recessions and control the
economy (wasn't fine-tune the term?) is once again being put to the
test. Greenspan thought it could, and seemed amazed at how easy it
was. But one swallow does not make a summer.

.

Market panic after Bear Stearns reports

By Ambrose Evans-Pritchard
Last Updated: 6:40am GMT 11/03/2008

Panic swept the credit markets on reports of an insolvency crunch at
both the US investment bank Bear Stearns and the mortgage giant Fannie
Mae, triggering a dramatic surge in default insurance and rumours of
yet another emergency rate cut by the US Federal Reserve.
# News from the banking and financial services sector
# More economic news and analysis

Bear Stearns headquarters in New York: Insolvency fears set off storm
in credit markets
There are fears that Bear Stearns have been unable
to raise capital to cover mortgage losses

Financial shares plummeted on Wall Street in another day of wild
trading as the markets began to fear that the $200bn (£100bn) life-
line pledged by the Fed last Friday would not be enough to halt a
vicious downward spiral.

The Dow Jones index fell 153.54 to close at 11,740.15, breaking
through the crucial support line of its January lows.

Credit default swaps (CDS) measuring bankruptcy risk on Bear Stearns
debt rocketed from 246 points to 792 on fears that it had been unable
to raise capital to cover mortgage losses and was preparing to invoke
Chapter 11 bankruptcy protection.

The company denied the reports, insisting that it had $8bn of ready
credit lines and enough funds to meet its debt obligations for the
next year without having to sell assets or take out fresh debt. "There
is no truth to the liquidity rumours," said a spokesman.
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The bank's share price ended down 11pc at $62.30.

Lehman Brothers, the biggest mortgage underwriter, was also mauled on
leaked reports that it planned to slash its worldwide workforce by
5pc. Lehman CDS contracts leaped 60 points to 395.

Almost every indicator of credit stress was flashing warning signals.
The CDX index measuring default risk on US investment grade bonds rose
to 190 and the iTraxxx Europe touched 150.

Bank of America said the Fed would have to cut rates to 1.5pc by the
middle of the year. The futures markets have begun to price in the
serious possibility of a 100 basis point drop next week.

Goldman Sachs said the Fed chairman, Ben Bernanke, might push through
an emergency cut even sooner.

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