Changes to the financial system after the 2008 crisis means the Fed is “now the commercial bank of last resort for the entire economy”—and that's a problem for recovery from the current crisis
By Julia-Ambra Verlaine and Liz Hoffman April 24, 2020 11:46 am ET In September 2008, eight bank chiefs filed out of black town cars and into the Federal Reserve. Their firms had tipped the country toward economic collapse. But they also offered a way out, and the government handed them marching orders, in exchange for billion-dollar bailouts.
“There is less risk-taking in the banking system” today, said Jean Boivin, head of the BlackRock Investment Institute, the think-tank arm of the world’s biggest asset manager. “As a result, the traditional channel of [the Fed] lending to banks and having them deploy it is not as powerful.” The going rates for repo spiked on Sept. 16, tripling in the course of an afternoon from 2% to about 6%. Suddenly a kind of borrowing that is usually so inexpensive and plentiful that nobody pays it much attention became scarce and expensive.
Not until the Fed stepped in with hundreds of billions of dollars in repo funding did the market begin to stabilize. Rates abated within a week. This is when banks usually step into their role as the circulatory system of the markets, scooping up assets, matching buyers with sellers and making money in the process. Unwilling to give up cash, and with their trading limited, they couldn’t steady the safest and most liquid market in the world: the market for U.S. government debt.
Over the past six weeks the Fed’s portfolio of securities and other holdings has grown by more than $2 trillion, to $6.6 trillion. It is likely to get larger still. The Dodd-Frank legislation of 2010 shuttered those proprietary trading desks and limited banks’ ability to take risks even as middlemen for clients. Today banks dart in and out of positions quickly so as not to trip risk limits or attract the attention of on-site Fed examiners.
Private-equity firms and hedge funds stepped in, lending directly to companies and buying up consumer loans from a new crop of online lenders.
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