Sunday, September 12, 2010

A Scary Thought

Here's a scary thought: Let's say the European sovereign debt crisis flares up again, and one or two Euro banks fail. (Not a bank like UBS or Deutsche Bank, but a medium-sized bank like Bank of Greece or a Landesbank.) That, in turn, causes a U.S. money market fund — many of which have large exposures to Euro banks — to "break the buck," which leads to another run on money market funds.

The Fed would be powerless to help. The Fed's emergency lending authority (the famed Section 13(3)) requires that any emergency lending facility to non-banks be approved "by the affirmative vote of not less than five members" of the Fed Board of Governors. Currently, there are only four members of the Fed board: Bernanke, Warsh, Elizabeth Duke, and Dan Tarullo. Donald Kohn retired earlier this month, and the Senate has yet to vote on Obama's three nominees (Janet Yellen, Peter Diamond, and Sarah Bloom Raskin).

While I don't expect this scenario to happen, it's certainly not out of the realm of possibility. And if it did happen, the Fed would have to sit on the sidelines and watch the carnage unfold.

I understand that Senate floor time is scarce (really, I do), but this absolutely has to be at the top of the list. Yes, I know it would be time-consuming to overcome Sen. Shelby's opposition, but you know what? Screw Shelby. This has to get done, and soon.

(I'm looking at you, Sen. Reid.)

23 comments:

Tom Davis said...

I thought I heard on Bloomberg radio sometime in the last 3 weeks that the European countries (the PIIGS) had completed all their financing for the year, and that is why we have seen an easing of Euro-concerns.

Great blog, BTW. Love your extracurricular reading and observations

Cetamua said...

So much for the conventional wisdom that states that a "do nothing government" is good for the market...

Thingumboob said...

It is well past due that the "carnage" you refer to proceeds apace. The American people are already more than tired and enraged at the parasitical financial markets bucket shop, gambling casino crapola. And here you are wheedling for yet more bailouts. That is frankly apalling and disgraceful. What needs to happen is to bankrupt these parasites, shut down the derivative markets, and return to Glass Steagal regulations.

Jeffrey said...

Yes, let's all enjoy a nice long global depression, comfortable in the knowledge that we've reinstated Glass-Steagal. That'll go down well with the last remaining cans of beans.

Michael Turton said...

Yes, Glass Steagal will lead to a global depression, just like it did each year prior to its repeal.

Anonymous said...

Read section 11 of the Federal Reserve Act. Your concerns here are specifically covered. This isn't an issue.

anne said...

I love that we spent all those billions to "fix" our financial sector and yet we can still face breaking the buck if just one or two mid-sized European banks fail. Hope you're wrong about this one, EOC.

What do you think of this story on EU stress tests and sovereign debt exposures that was published in VoxEU? http://www.voxeu.org/index.php?q=node/5506

John Emerson said...

It's not "time is scarce" but a Republican strategy of monkey-wrenching Obama, combined with a Democratic strategy of lying in bed with their head under the covers.

Smokey said...

@ Michael Turton

Reinstating Glass Steagal may not cause a global depression (in fact it would achieve pretty much nothing at all) but bankrupting the 'parasites' (when someone refers to banks as 'casinos' it is usually a good clue that they have no idea what they're talking about) and shutting down the derivative markets most certainly would.

W.r.t. the money market funds, surely they have moved away from the yield chasing which caused a few of their brethren to break the buck in the depths of the GFC? I would find it astonishing were any of the larger funds to hold signifcant amounts of CP issued by the land banks (but of course stand to be corrected)

Oh and EoC - great blog, the Lehman analysis in particular was fascinating

HermanNewticks said...

Federal Reserve Act 11(r)(2) has provisions for 13(3) lending when there are fewer than 5 board members available, but it requires unanimity, which isn't necessarily always easy to achieve. And the Fed hasn't issued the new regs that are required by 13(3) as amended by Dodd-Frank yet anyway. So, while the lack of a full Board is not the direst of issues, it's still an issue. It would be a very good thing to get some confirmations through the senate. Thanks for all your good blogging and creating a forum for some good discussion.

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