Fed Releases More Details Of Bear Stearns Rescue

(RTTNews) - The decision by the Federal Reserve to take the drastic and unprecedented step of helping financial giant Bear Stearns avoid a collapse by facilitating its sale to JPMorgan & Chase (JPM) was discussed and voted on by four Fed officials, minutes from the two meetings in mid-March released Friday revealed.

Federal Reserve Chairman Ben Bernanke, Vice Chairman Donald Kohn, and Governors Kevin Warsh and Randall Kroszner approved the actions taken on March 14, and they were joined by Governor Frederic Mishkin on March 16.

On March 14th, the Federal Reserve’s Board of Governors discussed the “funding difficulties” of Bear Stearns, including the “likely effects of its bankruptcy on financial markets,” according to the minutes.

The meeting took place at 9:15 am on Friday, March 14th. That morning Bear Stearns CEO Alan Schwartz, who earlier in the week had denied that his company was facing liquidity problems, said in a statement that the company’s liquidity position has “significantly deteriorated” over the last 24 hours.

“Board members agreed that, given the fragile condition of the financial markets at this time, the prominent position of Bear Stearns in those markets, and the expected contagion that would result from the immediate failure of Bear Stearns, the best alternative available was to provide temporary emergency financing to Bear Stearns through and arrangement with JPMorgan Chase & Co…” the March 14th minutes read.

Citing “unusual and exigent” circumstances, the Federal Reserve voted to allow up to $30 billion funding for a short window of 28 days, with JP Morgan funding Bear Stearns and the NY Fed funding JP Morgan through its discount window.

Two days later, on Sunday, March 16th, the board met again at 3:45 pm ET to discuss the acquisition of Bear Stearns by JP Morgan and establishing a primary securities dealer credit facility.

After the initial loan was made, it became clear that “Bear Stearns would have difficulty meeting its repayment obligations the next business day,” the minutes from March 16th read.

“Significant support, such as an acquisition of Bear Stearns or an immediate guarantee of its payment obligations, was necessary to avoid serious disruptions to financial markets,” the minutes read.

In addition, the Board granted an 18-month exemption to JPMorgan & Chase from risk-based and leverage capital requirements, which would allow JP Morgan to exclude the assets and exposure of Bear Stearns from its risk-weighted assets.

“The Board’s decision to establish a facility for primary securities dealers was based on recent, rapidly changing developments,” the minutes read, noting that the credit markets were so tight that “dealers might have difficulty obtaining necessary financing for their operations from alternative sources.”

With that decision, the Federal Reserve Board of Governors voted to facilitate the sale of Bear Stearns to JPMorgan & Chase. To date, Bear Stearns and its 85-year history on Wall Street is the largest casualty of the credit crunch.

Some criticism has been directed at the action, which prevented the institution from filing for bankruptcy. One commonly floated notion is that Bear Stearns had been saved simply because of its size, emphasizing the potential disaster that could have accompanied the failure of such a widespread, deeply connected financial institution.

In testimony before Congress in April, Bernanke defended the Board’s decision.

“The purpose of our action, as with our other recent actions–including our provision of liquidity to financial firms and our reductions in the federal funds rate target–was, as best as possible, to improve the functioning of financial markets and to limit any adverse effects of financial turmoil on the broader economy,” Bernanke said.

However, the implications of the action remain to be seen. Although he supports the Federal Reserve’s intervention, Federal Reserve Bank of Minneapolis President Gary Stern wrote in his bank’s 2007 annual report that the Federal Reserve’s actions have a “potentially significant cost.”

“The uninsured creditors of other large financial firms may now have heightened expectations of receiving government support in f these firms get into trouble,” he said. “That is, they may perceive that the governments will view their firm, also, as systemically important and therefore ‘too big to fail.’”

“Such expectations need to be addressed by policymakers because they encourage financial firms to take on more risk than they otherwise would, and this increased risk-taking, all else equal, makes future financial and economic instability more likely,” Stern added.

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Posted in Categories: Economy, Forex, Releases.