Some assets on the Fed’s balance sheet are short-term credits than could be withdrawn easily if confidence in financial institutions returns, but the Fed has also been buying longer term assets that are harder to unwind. Should the Fed keep buying assets to signal its determination to fight deflation, or does the Fed need to think about how to unwind some of the programs to demonstrate that the expansion of its balance sheet won’t lead to inflation? Read more »

The Fed recently reaffirmed its determination to expand its balance sheet. The crisis has already driven it to take on risky assets such as agency bonds and commercial paper. It has also lent to weak financial institutions, and is expected to participate in the Treasury’s public-private partnership to buy toxic assets. The expansion has averted a crippling credit contraction. But the Fed could lose money by taking on risk. Read more »

A few years ago, countries were seeking to expand their financial sector (move toward the left in the chart) in order to accelerate economic growth. But the crisis has made states more aware of the economic and political risks associated with over-sized banks, as demonstrated by the crisis in Iceland. The crisis has also illustrated the interdependence of the world banking system and the costs of letting foreign banks fail, highlighting the importance of international regulation. The following articles discuss how best to fix finance—through national regulation or international coordination. Read more »

Congressional hearings have focused on the question of whether credit is being extended and by whom. Our chart shows why this question matters. The black and red lines show the tight correlation between home price appreciation and mortgage credit growth. The shaded areas show, through the 3rd quarter, that the government is extending while banks and the securities market are contracting home mortgage credit. Read more »

Financial stocks plunged this week, renewing the debate over how to fix the banking system. The Treasury’s remaining $350 billion in TARP funds would be enough to buy the existing common equity of the U.S. banking system, but buying existing stock wouldn’t provide the banks with new capital. To fix the banks, the Obama administration must select from a range of options that include capital injections, asset purchases, a ‘bad bank’, or nationalization. Read more »

The latest initiative from the Federal Reserve is aimed at the collapse in consumer lending. As our chart shows, the Fed’s promised infusion is roughly equivalent in size to the financing provided by private lenders to this class of borrower in recent years. A key architect of this initiative is Timothy Geithner, whom Barack Obama has nominated as Treasury Secretary. Below we provide links to some of Geithner’s recent speeches and testimony. Read more »

G20 leaders are meeting in Washington to discuss a possible overhaul of global finance. One topic on the agenda is whether to increase the resources of the IMF, which stood at $201 billion at the end of August. However, many underrepresented emerging market countries, such as China, would be wary of such a move without a shift in the power structure. The following articles tackle the agenda of the upcoming G20 meeting. Read more »

The U.S. Senate passed Paulson’s $700 billion rescue plan three days after the House rejected it. The House is expected to vote again on Friday. While the political maneuvering continues, the Federal Reserve is forced to hold things together through greater easing and expansion of its liquidity provisions, but as the graph above indicates, its balance sheet is severely stretched. The articles below discuss the limited options left for the Fed. Read more »

The charts above put the size of Paulson’s $700 billion rescue plan into perspective. Given that $700 billion is small relative to the total assets of all FDIC insured institutions, the design of the bailout will be at least as important as the size. Government money may have more impact if it is used to bolster banks’ capital rather than to bolster their assets. The following articles capture some of the debates around the bailout plan. Read more »

As the graph above indicates, the markets’ perception of the risk of failure increased following the bankruptcy of Lehman Brothers. The Wall Street crisis has demonstrated the need for a systematic solution rather than case-by-case bailouts. Secretary Paulson has responded with a plan to create a $700 billion fund to buy up troubled assets from banks. The articles below discuss the risks involved and propose alternative solutions. Read more »