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Smith Faculty
Opinion Article
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March 16,
2008
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By Dr. Peter Morici, Professor of
International Business
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Fire Sale at Bear Stearns and Panic at the Fed
Sunday evening J.P. Morgan announced
its purchase of Bear Stearns at $2 per
share after it had closed at $30 on
Friday, and the Federal Reserve
announced yet another emergency credit
facility.
The shareholders at Bear Stearns were
lucky to get anything for the firm, and
J.P. Morgan CEO James Dimon, eager to
get his hands on Bear Stearns’ brokerage
business, may ultimately have built the
scaffolding for his own hanging.
The hidden liabilities and potential
for law suits at Bear Stearns are huge.
Look at the unanticipated trouble Bank
of America is having with Countrywide.
Sometimes CEOs simply do reckless
things. Dimon is gambling not investing.
When the other shoe falls, shareholders
will know who to blame.
Bear Stearns is not the only big
financial house in trouble. The
potential for contagion is real and
menacing. The real questions are: Which
of the big banks will be next to fail?
How many more banks will fail? Will the
whole system turn to panic if Citigroup
unwinds?
The quality of leadership provided by
Citigroup CEO Vikram Pandit, and Robert
Rubin, the man who chose him, is a major
concern now that Citigroup has been
forced to pour $1 billion into the hedge
fund Pandit sold his employer. The Board
at Citigroup seems hypnotized to be
putting up with that maneuver.
We don’t want to return to Glass-Stegall
but some of the large bank groups may
have to be broken up. Citigroup tops the
list. These firms are just not managed
well and are too large and diverse to be
managed effectively. The economy has
been put at grave peril by the
unwillingness of Pandit and other
leaders of the Wall Street banks to
reform what are clearly broken banking
practices and a failing business model.
The Federal Reserve, to bolster
liquidity, cut the primary credit rate
charged primary dealers who borrow
against securities at the Fed from 3.5
percent to 3.25 percent. Also, it
increased maximum maturity for loans
from 30 to 90 days. This should increase
liquidity in the securities market a bit
but will not address the primary
systemic problems that make bank credit
so difficult to obtain.
The Federal Reserve continues to bail
out major financial institutions without
imposing meaningful conditions to
improve their conduct and performance.
It is failing to require the reforms
that have closed the bond market to
banks, make the securitization of bank
loans virtually impossible, and have
greatly curtailed responsible lending to
businesses by banks. In turn, the banks
continue to impose onerous conditions on
their customers. Many are sound
businesses not responsible for the
crisis the banks have created yet bear
the primary burden.
Hence, the Federal Reserve continues
to give aid to the irresponsible, while
letting these same banks punish their
customers.
Through today’s move, the Fed is
trying to reassure financial markets
that it stands ready to back up the
banks but this is not likely to work.
Treasury Secretary Henry Paulson and
Federal Reserve Chairman Bernanke have
reacted to events and consistently been
behind the curve. Their leadership has
been wholly lacking.
Today’s moves by the Federal Reserve
are the desperate acts of failing men.
The threat of contagion and wholesale
breakdown is on a scale of 1929 is real.
Yet, President Bush adopts the
posture of Herbert Hoover telling us
everything will work out soon. He looks
more like a man whistling through the
graveyard. Bernanke and Paulson look
worse than that.
Peter Morici is a professor at the
University of Maryland School of
Business and former Chief Economist at
the U.S. International Trade Commission. ►More Faculty
Opinion Articles |
