Wikinvest Wire

Jump-starting the shadow banking system

Wednesday, March 04, 2009

A funny thing happened on the way from the lead story to the summary column in today's Wall Street Journal - the phrases "jump-start" and "shadow banking system" were placed right next to each other, making for a rather embarrassing admission of exactly what is going on.
IMAGE Reporters Liz Rappaport and Jon Hilsenrath were careful to use the term "jump-start" only once in their report and placed it far, far away from the phrase "shadow banking system", but, obviously, whoever was charged with compiling the summary section didn't feel the need.

Here's the report about yesterday's announcement by the Federal Reserve to spend another trillion dollars to try to save yet another part of the financial system.

The U.S. launched a program to finance up to $1 trillion in new lending to consumers and businesses, in an ambitious attempt to jump-start credit for everything from car loans to equipment leases.

The Federal Reserve and the Treasury Department hope to revive the moribund market for so-called securitized lending, which until last year was central to providing consumer and business loans. Starting March 17, large investors -- including hedge funds and private-equity firms -- can obtain cheap credit from the Fed and use the money to buy newly issued securities backed by such loans.

The Fed, which announced the program's outlines in November in tandem with the Treasury, had already expanded the size of the program and on Tuesday further expanded its targets. Originally limited to backing securities for consumer and small-business loans, it now will also target securitized loans for heavy industrial equipment, agricultural-equipment leases and rental-car fleets. And the central bank sweetened some terms to draw investors and debt issuers. For instance, participants won't have to adhere to limits on executive compensation that apply to banks that accept bailout government money. Such restrictions were originally planned for some participants.

Much is riding on the initiative, known as TALF for Term Asset-Backed Securities Loan Facility. At the height of the credit boom, Wall Street issued more than $1 trillion a year of securities that were backed by consumer credit, and trillions more backed by mortgages. These markets -- sometimes called "the shadow banking system" because they operate outside traditional bank activity -- accounted for roughly 40% of all consumer lending before the financial crisis erupted last year. But the market dried up last year. Issuance of securities tied to consumer loans dropped to less than $8 billion in the final three months of last year.

"There has been somewhat of a collapse of the banking system, but an almost total collapse of the shadow banking system," said Princeton University economist Alan Blinder. "Given our reliance on the latter, we need to get that shadow banking system revived."
Then again, after the enormous problems that it's caused over the last year or so, maybe the shadow banking system should be left to wither up and die.


Anonymous said...

with each passing day, Jim Rogers makes more and more sense -- the government should do nothing, let everyone go bankrupt, we will have two or three horrible years, and then it can all be rebuilt. what they are doing here is trying to fix a system that is un-fixable.

albrt said...

The shadow banking system can't be fixed in our lifetimes because people have seen that it doesn't work in a crisis.

The terms "asset backed security" and "collateralized debt obligation" were simply fraudulent. Generally these securities have no meaningful recourse to anything that your neighborhood pawn broker would recognize as substantial collateral. These securities have hypothetical claims on the proceeds to other contractual obligations, but in a crisis all that means is you have a right to call your lawyer and incur a large legal bill.

There is only one thing more fraudulent than pretending the alphabet soup securities were collateralized: pretending credit default swaps and related index contracts were "insurance."

Anthony J. Alfidi said...

Too many of the uber-rich still have chunks of their net worth tied up in the shadow banking system, via CDOs and other illiquid frauds in their hedge funds. That's why the bailouts will continue unabated. That $1T is already wasted.

Corrigan said...

Re-inflate the bubble, hurry!

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