
In a stroke of ingenuity, banks are packaging anything they can find to get cash from the Fed. Admittedly this is a broad statement, but Lehman for one
recently pooled $2.8B of its unsold buyout debt into the Freedom CLO, which it in turn punted to the Fed for loans (though it was required to keep 25% on its own balance sheet). This raises questions as to whether there is any hope of preserving the Fed’s balance sheet. As it takes on more collateral of questionable worth, some are starting to worry that the Fed will run out of T-bills. What options does the Fed have in the unlikely even that it does run out? Yves Smith has a good
compilation of options from various sources. All of them are quite unconventional, but the Fed has shown itself to be fairly comfortable with innovative policy. Some of the more interesting options (of questionable legality) include the Fed issuing short-term paper, paying interest on bank reserves, or reversing the TSLF by providing Fed guaranteed MBS to banks.
Federal Reserve options aside, I’ve been wondering, how does this all end? Housing prices show no sign of slowing their decline, MBS and similarly backed junk seems destined to keep declining in value (though such “sure bets” are admittedly a dangerous assertion). It seems that this credit crisis will proceed well through 2008 and possibly into 2009. That is unless drastic action is taken in the form of outright purchases of MBS by a branch of the federal government or some incredibly creative stop on housing prices, though I am not advocating either.
I’m interested in hearing people’s thoughts on both the issue of Fed options in the event it runs out of T-Bills (if it even can) as well as the notion of “how this all ends”.
(Graphic from
Alea).