Analyzing Bear Stearns Bailout

Credit where it is due. In bailing out Bear Stearns’ troubled mortgage portfolio and encouraging J.P. Morgan Chase to buy the rest of the firm for next to nothing, the Fed prevented the mother of all Black Mondays from occurring on March 17, while punishing Bear’s management and stockholders for the company’s recklessness. Had the Fed failed to address Bear’s fate so promptly, panic selling would almost certainly have engulfed Lehman Brothers, Merrill Lynch, and other Wall Street firms.

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Ultimately, though, the Fed’s actions are likely to provide a respite from, rather than a resolution of, the credit crunch, and they point to the urgent need for more vigorous regulation and oversight of Wall Street. In rescuing Bear, the Fed went well beyond its original mandate of lender of last resort to commercial banks, such as Citigroup and Bank of America. The same day Bear was sold, the Fed also offered emergency financing directly to 20 Wall Street investment banks and agreed that the firms could provide as collateral “a broad range of investment-grade debt securities,’’ including mortgage paper nobody else wanted to buy.

To be sure, these are challenging times. But the Fed has embarked on a historic change. In extending its protective arm to all of Wall Street, it is evoking the threat of the Great Depression or even one of the 19th century’s epic financial whirlwinds. In 1825, the Bank of England, facing a wholesale panic in London’s financial district, flooded the markets with cash: “We lent it,” a spokesman commented at the time, “by every possible means consistent with the safety of the bank, and we were not, on some occasions, overnice.” Ben Bernanke wasn’t very nice to Bear’s stockholders either, prompting some of them to agitate for more cash from J.P. Morgan to approve the deal. But to everybody else on Wall Street, Bernanke seemed like the tooth fairy. From now on, he was effectively saying, no Wall Street firm is dumb or venal enough to be allowed to fail.