Wednesday, September 17, 2008

Fallout Boys

No, this isn’t about some rock band, but about the potential fallout from the failures, rescues, failed rescues, and everything in between, that rose to a crescendo in the past six months – particularly in the past ten days – with respect to the financial markets. (By the way, I don’t mean to be sexist by saying ‘Fallout Boys,’ FEI is hosting its “Women in Financial Leadership” conference today in NYC, and clearly women will be impacted in every aspect of this crisis.)

Beginning with the government assisted takeover of Bear Stearns by JP Morgan Chase in the spring, and continuing with the FHFA’s takeover (technically, conservatorship of) Fannie Mae and Freddie Mac earlier this month, followed by the bankruptcy filing of Lehman Brothers earlier this week (not to mention the purchase of Merrill Lynch by Bank of America), and now, the $85 billion secured lending facility offered by the Fed to AIG, the situation seems to have deteriorated. Announcing the AIG loan agreement last night, the Fed said its action was taken “with the full support of the Treasury Department,” and that “The [Federal Reserve] Board determined that, in current circumstances, a disorderly failure of AIG could add to already significant levels of financial market fragility and lead to substantially higher borrowing costs, reduced household wealth, and materially weaker economic performance.” In light of the turmoil in the markets, Members of Congress, Presidential candidates, and others are asking for answers (or at least, explanations).

The Washington Post’s Lori Montgomery reported in her article yesterday, “Crisis Prompts Calls for Federal Rescue Entity,” that Rep. Barney Frank, chair of the House Financial Services Committee, indicated the market has "gotten into such terrible shape that specific interventions haven't helped,” and that he asked, “Are we at the point where there needs to be some federal intervention?" Her report continued: “’I think that's probably the next question we'll have to debate,’ Frank said, referring to the possibility of an entity similar to the Resolution Trust Corp. ‘The president-elect may be asking us to take a look at this.’ Frank said the assets of many troubled financial institutions are ‘probably undervalued by the panic,’ suggesting that the federal government could ‘hold them’ without saddling taxpayers with excessive costs.”

Numerous times, U.S. Treasury Secretary Henry M. Paulson has referred to the need for some mechanism to deal with the ‘resolution’ of (or the need to ‘resolve’) troubled institutions, as recently as Sept. 15, in his remarks at a White House press conference. Talk of a need for a resolution type entity was taking place earlier this summer –as reported in “Is There A Resolution Trust Corp. in Fannie or Freddie’s Future,” by Marine Cole, published in Financial Week on July 11, 2008 (prior to the September actions taken on Fannie and Freddie.)

Also in the ‘fallout’ category - other potential actions in response to the crisis could include: “Scope of Regulatory Revamp Is Likely to Widen - Derivatives Market Could Get Oversight As Fed Expands Role” as reported Kara Scannell in yesterday’s WSJ, and “SEC Poised to Act on Short Selling” as reported by Joanna Chung in yesterday’s FT.

Senate Hearings This Week on Off-Balance Sheet Accounting, More
The Securities, Investment and Insurance Subcommittee of the Senate Banking Committee will conduct a hearing on Thursday, September 18 at 2:30 pm on:
“Transparency in Accounting: Proposed Changes to Accounting for Off-Balance Sheet Entities.” Scheduled to testify are FASB board member Larry Smith, SEC Corp Fin Director John White, SEC Deputy Chief Accountant Jim Kroeker, former FASB board member Donald Young, and others. We reported earlier this week that FASB released three Exposure Drafts amending FAS 140 and FIN 46R, the accounting and disclosures for securitization and consolidation standards, which impact off-balance sheet treatment of special purpose entities (SPEs), qualified special purpose entities (QSPEs) and variable interest entities (VIEs).

Additional hearings are scheduled this week and next week at the Senate Banking Committee on the upheaval in the financial markets and regulators’ response, including a hearing during the morning of Sept. 18 on “
Recent Bank Failures and the Regulators Response,” and a hearing on Sept. 23 on, “Turmoil in US Credit Markets: Recent Actions Regarding Investment Banks and Other Financial Institutions.” The House Financial Services Committee has scheduled a hearing Sept. 25 on Oversight Hearing to Examine Recent Treasury and FHFA Actions Regarding the Housing GSEs, and Rep. Frank posted this Letter to the Editor of the WSJ, “Wall Street Journal Editorial Board Stifles Dissenting Opinion,” in response to an oped published last week in that paper. Frank claims the WSJ has so far refused to run his letter. In related news, Manu Raju reported in The Hill last night, “AIG Rescue Plan Sparks Hill Concerns.”

Perhaps the mood of the day (week, year) was best expressed by Paulson’s chief of staff, as quoted in the final lines of “No Bailout: Feds Made New Policy Clear in One Dramatic Weekend” by David Cho and Neil Irwin in yesterday’s Washington Post: “As the bankruptcy of Lehman became official, someone remarked about the historic nature of the weekend. Jim Wilkinson, Paulson's chief of staff, was within earshot of the comment and responded to the group discussing the events: ‘This would be extremely interesting from an analytical perspective if wasn't happening to us.’”

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