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Federal Reserve’s Secret Bailout Helped Banks Profit During Crisis

This article was written by in Economy, Featured. 10 comments.


While the Federal Reserve was publicly providing money to member banks at interest rates of up to 0.5% during the financial meltdown of 2008, a different, less public program bailed out Credit Suisse, Goldman Sachs, and Royal Bank of Scotland with short-term loans with an interest rate of only 0.01%. Those banks received the bulk of the help from this program, but Morgan Stanley, Citigroup, Bank of America, and BNP Paribas in France also received billions of dollars. If consumers like you and me wanted to borrow money for 28 days, we might have to turn to payday lenders or shady techniques, where the price of borrowing expressed in APR could be 500%, 1,000%, or even more. These banks borrowed at least $30 billion practically for free, and had the opportunity to use that cash as leverage to increase earnings during the economy’s toughest market in the recent recession.

The details of this “single-tranche open-market operation” (ST OMO) do not include exact amounts, and members of Congress did not even know the details of this program until now, despite oversight responsibilities. These transactions were kept mostly secret because releasing information about this type of bailout at the time could have had a disastrous effect on the reputations of these institutions, doing more harm than good in a time of crisis.

The Federal Reserve adopted a technique usually used for controlling the money supply and affecting interest rates, and turned it into a facility for extending loans to the banks without the loans being a part of the Troubled Asset Relief Program (TARP) or bailout. Bloomberg explains how this special type of lending worked.

Under ST OMO, cash changed hands through repos, or repurchase agreements, which the central bank has used to move money in and out of the banking system for at least 60 years. In a repo, the dealer sells securities to the Fed and agrees to buy them back for a higher price after a set period of time…

When the central bank increases the money supply — by paying cash for securities in repos — interest rates tend to fall. When it drains cash from the system by selling securities in reverse repos, rates can climb. Using repos to provide emergency cash, a step the Fed announced on March 7, 2008, was a departure from that process…

It’s possible this plan helped save these banks from collapse, but was it necessary? And given the secretive nature of the program, would have there been any damage if the details were made public at the time, as was done for other aspects of the Wall Street bailout? What did these banks do with a practically free loan?

Photo: sachab
Bloomberg

Updated May 30, 2011 and originally published May 27, 2011. If you enjoyed this article, subscribe to the RSS feed or receive daily emails. Follow @ConsumerismComm on Twitter and visit our Facebook page for more updates.

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About the author

Luke Landes is the founder of Consumerism Commentary. He has been blogging and writing for the internet since 1995 and has been building online communities since 1991. Find out more about Luke Landes and follow him on Twitter. View all articles by .

{ 10 comments… read them below or add one }

avatar Paula

I can’t wait for the day that an entrepreneur running a small business from his home office is bailed out by the feds. But somehow, I think that day will never come.

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avatar shellye ♦107 (Cent)
avatar Al

http://www.gao.gov/new.items/d11696.pdf
is the 266 page GAO-11-696 report that the Fed fought toothandnail to stop.

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avatar SteveDH

I may be wrong but I understood these loans, although helping Credit Suisse and others were primarily a result of the rush to save AIG and our investment banks. Many of the CDOs and synthetic CDOs had recourse to AIG which couldn’t handle them and would have defaulted on many of its obligations. Nobody had anyone to turn to for short term dollars because our banks were reluctant to lend dollars to banks overseas who, because of the crisis, were under tremendous pressure to sell their dollar-dominated assets (Mortgage backed securities etc.). I also believe that many other central banks, not just the Fed, were involved in swapping currencies in order to provide dollars to the overseas banks.

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avatar MC

I read an article from the Rolling Stone some time ago that seemed much more damming than this.

Basically, the interest free loans you’re referring to, they borrowed billions of dollars and then bought TBills where they could get a spread of 2.5% say, and if you did the math from the interest, that almost accounts for the entire profitability of some of the said banks (if I recall, just getting the difference on the spread seemed like it was more than what they were reporting in earnings.) In other words, the tax payers just floated the banks until the market recovered and it didn’t really improve liquidity as was intended. (which we already intuitively knew)

http://www.rollingstone.com/politics/news/wall-streets-bailout-hustle-20100217

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avatar skylog ♦368 (Nickel)

matt taibbi has written quite a bit on this topic. venomous for sure, but he has brought quite a bit of information to the “general public.” i also read that article when it came out. “griftopia” is a good read.

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avatar skylog ♦368 (Nickel)

given that none of us really know what went down during the “collapse,” be it the dealings of the firms, the government…basically, any of it, on the surface this looks as if it may have been a “good thing.” does it make mt stomach turn to think about all that was given to those who may have been the most responsible? you bet; however, i do not like to think about how it could have been even worse.

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avatar Emily Morgan

Doesn’t this prove that our banking system is a fraudulent criminal enterprise­? Isn’t this evidence of a fundamenta­lly corrupt system rigged to benefit large bankers and impose debt on the citizenry? Doesn’t this explain how class and wealth is created in our “free” society? What was the interest rate to credit unions and community banks? IMF and immunity? Wouldn’t we all have less debt paying .5% interest rates on our homes, businesses­, and education? This should completely change the national debate on debt, deficit spending, budgets, and medicare. Corruption is at the heart of our $14 Trillion debt. They owe the American people…T­RILLIONS (and trillions and trillions of $$$).

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avatar qixx ♦1,895 (Half-Dollar)

I wonder what these banks would have for credit scores if they were individuals. Certainly not high enough to get 5% loans. And no where near good enough to get 0.5% loans.

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avatar Cejay ♦1,521 (Half-Dollar)

While I do object to this happening the secrecy is what really burned me up. I have read several articles that are a lot more scathing than this one. The American people are kept in the dark about so much on a regular basis. Reminds me of the ending of “A Few Good Men” when Jack Nicholson yells “You Could Not Handle the Truth.”

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