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Saturday, May 03, 2008 11:19 PM

Bernanke Answers S.O.S. Call

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On Friday in Bernanke Gets S.O.S. Call I noted Bernanke's denial of an ill advised request from Senator Dodd's request to bailout the Student Loan Program.

Bernanke rejected Dodd's request in an April 25 letter, saying it's up to Congress and the Bush administration to address diminishing profits on the loans.

This S.O.S. was unanswered. Nonetheless, the expectations genie has been unleashed and it will not be long before more S.O.S. alarms are sounded.
Bernanke Caves In Already

BusinessWeek is reporting Fed action brings cash for student loan market.
Action taken by the Federal Reserve on Friday targeting the global credit crisis, in concert with European central banks, included an injection of cash into the stricken student loan market through a special lending operation.

Lawmakers and the student loan industry have been pressing for such action by the central bank for weeks, as distress in the credit markets has caused more than 60 lenders to stop making federally guaranteed student loans, either temporarily or permanently.

The exiting lenders, which include college loan agencies in several states, account for an estimated 15 percent of the federally backed student loan market. Their departure comes at the time when students headed to college next year must lock in their loans.

In the move, the Fed is allowing investment firms and banks to use bonds backed by federally guaranteed student loans as collateral for the loans of safe Treasury securities that the central bank is making available.

"I am pleased that the Federal Reserve Board has changed its policy," Dodd said in his statement.

The Fed's decision to boost the amount of loans it makes to banks every two weeks, in a process known as a Term Auction Facility, was aimed at sending a strong signal that the central bank is prepared to supply as much in reserves as U.S. banks need. The latest move was made in coordination with the European central banks' efforts to bolster their financial systems as well.

The European Central Bank said it will increase the amount of dollars offered to $25 billion in the latest series of tenders, with the auctions to come every two weeks. The tenders' maturity will be 28 days. Previously, the ECB has auctioned off amounts that have ranged from $10 billion to $15 billion per tender but without a set schedule.
Hells Bells Why Stop There?

This is one of those fortuitous things. I nearly called my previous post on this topic "Bernanke Denies S.O.S. Call". However, I thought better of it fully expecting this, but the speed was amazing even to me.

The Fed after denying the initial S.O.S. request has now answered the call and upped the ante. The ECB is in the act too. Please consider Fed expands auction, accepts wider collateral.
The Federal Reserve, along with other central banks, said Friday that it was increasing the funding it is providing to banks and announced that, for the first time, it was willing to accept bonds backed by auto loans and credit cards.

"In view of the persistent liquidity pressures in some term funding markets, the European Central Bank, the Federal Reserve and the Swiss National Bank are announcing an expansion of their liquidity measures," the Fed said in a statement.

"The program is now reaching a magnitude where it can play a significant role in plugging the gap between the remaining demand for unsecured term funding in the bank market and the latest decline in supply following the run on Bear Stearns," wrote Lou Crandall, chief economist for Wrightson ICAP.
My Comment: The TAF failed at $50 billion, failed at $75 billion, failed at $100 billion, and it will fail at $250 billion or whatever amount Lou Crandall chief economist for Wrightson ICAP wants to throw at it.

Clearly Crandall does not understand this is not a liquidity problem that this is a solvency problem. Equally clearly, he has not read the Fed's sponsored research that lays out why such move are counterproductive.

Inquiring minds may wish to consider Failures of the Term Auction Facility, Fed's Swap-O-Rama Gets Crazier, and Fed Auction Futility
The expansion was "probably marginally disappointing because there was a widespread expectation ... that the Fed would extend the term of at least some TAF auctions to three months," wrote Stephen Stanley, chief economist for RBS Greenwich Capital.
My Comment: This is pretty funny. Stanley implies this will be a failure for the simple reason that everyone expected Bernanke to up the TAF by this amount as if the Fed upped it by twice the amount would have done any good.
Deeper Cooperation

The Federal Open Market Committee also has authorized further increases in its existing temporary currency-swap arrangements with the European Central Bank and the Swiss National Bank.
My Comment: Deeper cooperation or deeper doo-doo? I will have more on this line of thinking early next week.

Meanwhile, the comment of the week goes to "H8R" who replied on my blog earlier today "It's SuperBernanke, able to leap tall deflations in a single bound!"

Indeed. What these actions prove is how much panic Bernanke is still in. And things are about to get worse for $Ben. Unfortunately, we are about to find out how much more creative he can get.

Mike "Mish" Shedlock
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