Monday, April 7, 2008

Why The Fed Interfered With Bear Stearns

Now that the potential Bear Stearns implosion/collapse has calmed down a bit, it's interesting to look at it from a slightly different angle. The Fed encouraged JPMorgan Chase to buy Bear at a ridiculous price to keep Bear from going under. What's interesting about this is: why is the Fed so heavily involved in this whole deal, and if the Fed was so heavily involved why was JPMorgan involved at all?
The Fed's offer to take on Bear's terrible securities meant JPMorgan didn't need to be brought into any potential transaction at all. For instance, if Bear can somehow manage to rid themselves of their nearly-worthless, mortgage-backed securities then they would probably rebound nicely and return to being a pretty good invesment bank (most of the securities under management at Bear are still performing very well). Taking those bad securities off Bear's hands is exactly what the Fed was offering to do for JPMorgan if JPM could succeed in their takeover bid. But again, why is JPMorgan involved at all? Perhaps to avoid the appearance of impropriety?
Let's ask the obvious question: why is the Fed suddenly so directly involved with Wall Street's problems? This can't be overstated, but the Fed's offer to bail out Bear Stearns for JPM is, by far, the absolute MOST involved the Fed's ever been in any part of Wall Street's business. The reason for such heavy involvement could be traced to the ripple effect of what would happen if Bear Stearns was left to collapse on its own. Namely, loan confidence would plummet, mortgage payments would rise sharply (for quite a few years) and I'm not just talking about personal loans and residential loans but small business loans and commercial mortgages as well. None of this would be fatally damaging to the behemoth of a supertanker that is the U.S. economy (we've survived very large financial institution failures before), BUT, if the U.S. economy is teetering on the precipice of a recession, Bear's failure would certainly tip it over.
Understand that Fed Chairman Ben Bernanke is a Bush appointee, it's an election year, and a full-scale recession might cripple the Republicans' chances of securing the White House for another four years. Am I stretching this into a bit of a conspiracy theory? Perhaps. But I'll bet (and don't be surprised if) Bernanke has to answer some tough questions in the coming months.

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