Fed in a desperate race with the spectre of collapse

By Damian Reece
The Telegraph, London
Wednesday, March 12, 2008

http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2008/03/12/ccom11...

Equity traders, being ever the optimists, decided to look on the bright side of yesterday's central bank intervention. London and New York did a jig after the US Federal Reserve and Bank of England pulled out all the stops to avoid markets falling into a pit of despair.

And who can blame them? When you've got state institutions as big as the Fed supporting markets then where's the worry?

The Fed, with its latest $200 billion offer of cheap cash, has provided yet more state aid for errant hedge funds and another Washington-backed bailout for Wall Street bankers. The Bank of England joined in again, further shedding any notion of being wary of moral hazard. But as the bail-outs are getting bigger, then clearly the problems causing them must be getting bigger.

The Fed has saved the day again, but it will only be for a day or so. It was Friday, remember, when it had to pump $200 billion of cash into the system. Yesterday it was offering to lend a similar amount to try to soak up some of the toxic debt that has left the lending markets hamstrung. How much further can the central banks go to support a system that is so obviously broken?

Arguably, having come this far, Mervyn King and Ben Bernanke have breached the point of no return. There is no going back. The US certainly is now relying on its central bank to keep its most important credit markets open and its equity markets from plunging and to bring a veneer of normality to financial life. Traditional supports, such as confidence in normal commercial debt repayment, have been knocked away as institutions are engaged in a desperate dash for cash.

We have not seen anything like it since the decade of the Great Depression. Melodramatic as that might sound, it is a fact, but a fact that markets seem unwilling to accept.

While the Fed is willing to slash rates and hope, and pump liquidity into the system, markets will remain optimistic. But it is a race to the bottom, the Fed hoping it reaches the finish line first and restores confidence returns before a bank goes bust. But the spectre of a collapse is neck and neck with Bernanke and it's still anyone's guess which will win.

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