Bernanke defends Bear Stearns rescue
WASHINGTON (AP) - April 3, 2008 Bernanke and Treasury Department Undersecretary Robert Steel
said that the consequences to the U.S. economy and financial system
would have been far more serious had the government allowed the
nation's fifth largest investment house to go bankrupt.
"Given the exceptional pressures on the global economy and
financial system, the damage caused by a default by Bear Stearns
could have been severe and extremely difficult to contain,"
Bernanke told the Senate Banking Committee.
The panel conducted a five-hour hearing as lawmakers sought to
understand the decisions made during the hectic weekend of March
14-15 after Bear Stearns informed the Fed that it was on the verge
of having to file for bankruptcy protection because nervous
creditors were demanding to be repaid.
The investment house was purchased by JP Morgan Chase & Co. with
assistance from the Fed in the form of a loan backed by $30 billion
of Bear Stearns assets. JP Morgan has agreed to absorb the first $1
billion of losses if the value of the assets declines, but
taxpayers are at risk for the remaining $29 billion.
Bear Stearns, with a stock price around $150 per share a year
ago, was sold for $10 a share, becoming the biggest victim of a
severe credit crisis that hit financial markets in August.
That crisis, which was triggered by a prolonged housing slump
and cascading mortgage defaults, has made it harder for consumers
and businesses to get loans and helped to push the country to the
brink of a recession.
Democrats on the Senate Banking Committee questioned why the Fed
was willing to put such a large amount of money at risk to protect
Wall Street while as many as 3 million homeowners are facing the
risk of defaulting on their mortgages with the administration
balking at greater efforts to help them.
"Was this a justified rescue to prevent a systemic collapse of
financial markets or a $30 billion taxpayer bailout for a Wall
Street firm while people on Main Street struggle to pay their
mortgages?" Senate Banking Committee Chairman Christopher Dodd
asked Bernanke and the other witnesses.
Bernanke said that government's effort was not a bailout for
Bear Stearns shareholders, who will suffer big losses, but an
effort to protect the financial system and ultimately the entire
economy, which could have faced severe consequences from a Bear
Stearns bankruptcy.
"The adverse impact of a default would not have been confined
to the financial system but would have been felt broadly in the
real economy through its effect on asset values and credit
availability," said Bernanke. On Wednesday, Bernanke had for the
first time raised the possibility that the current economic
troubles could push the country into a recession.
Steel said that Treasury Secretary Henry Paulson was actively
monitoring four days of marathon negotiations that began after Bear
Stearns notified the Fed on March 13 that it was one day away from
having to file for bankruptcy protection. Steel said the
administration supported the Fed's decisions.
Most of the questions on the deal centered on the value of the
assets the Fed is now holding as collateral for the loan.
Bernanke and Timothy Geithner, president of the Fed's New York
regional bank, said they believed $30 billion was a valid price for
those assets and Bernanke said the central bank could end up making
money on the deal as the assets are sold along with interest on the
loan.
But some lawmakers questioned whether the Fed had done enough to
properly value the Bear Stearns assets and wondered whether the
entire episode had set a dangerous precedent for future risky
behavior by other investment houses.
"How big do you have to be to be too big to fail?" asked Sen.
Jim Bunning, R-Ky. "Who let our entire financial system become so
fragile that one failure jeopardizes the health of the entire
system?"
Also appearing before the committee were Alan Schwartz, the head
of Bear Stearns, and Jamie Dimon, the head of JP Morgan, who
described grueling marathon sessions over the weekend as executives
searched for the best way out of the crisis.
Schwartz told the panel that Bear Stearns was brought down by
"unfounded" market rumors that led to what was essentially a
"run on the bank" as Bear Stearns creditors began demanding
payment out of fears the company was about to collapse.
"Facing the dire choice of bankruptcy or a forced sale under
exigent circumstances, we salvaged what we could to avoid wiping
out our shareholders, bondholders and 14,000 employees," Schwartz
told the panel.
Dimon took issue with reports that the Fed had taken Bear
Stearns' riskiest securities as collateral for the $30 billion loan
the central bank made to facilitate the sale, saying that JP Morgan
did not "cherry pick" the assets it would keep on its books and
that it was critical that the sale be arranged.
"A Bear Stearns bankruptcy could well have touched off a chain
reaction at other major financial institutions that would have
shaken confidence in credit markets that already have been
battered," Dimon told the committee.
Sen. Charles Schumer, D-N.Y., said entire episode pointed out
the need to overhaul the government's regulatory system. On Monday,
Treasury Secretary Henry Paulson put forward a plan that would
scrap the current system of overlapping agencies for three super
regulators, giving the Fed greater powers to monitor the safety of
the entire financial system.
Dodd said his panel would examine the need for an overhaul of
financial regulations but that this exercise, because of its
complexity, would have to wait until next year when a new
administration is in place.
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