Central Bailout Banks

The Fed's FOMC is meeting today to decide on its interest rate policy. Setting the benchmark cost of money is always an important decision, but recent events have fundamentally altered the main role of the Fed, ECB and BOE (and the BOJ, though indirectly). Currently, they are acting mostly as lenders of last resort and less as arbiters of monetary policy.

The injection of hundreds of billions of dollars into the interbank market, the permission to 3-4 major US banks to lend $25 billion each to their brokerage subs, the acceptance of highly questionable ABCP as collateral and the latest bailout of Northern Rock, all point towards a role that was once reserved only for dealing with extreme crises. And if the BOJ is not participating directly in the bailouts (at least not yet), it is doing so indirectly through being the largest global lender of last resort of them all: keeping yen interest rates at absurdly low rates they pump hundreds of billions of cash into the system, through the so-called yen-carry trade.

In those rare instances in the past when central banks had to step in and play this "bailout bank" role, they did it quickly and immediately reverted to their monetary policy duties. There was no reason for them to "linger" on the stage, simply because there was no overall threat of systemic risk. Clearly, this is no longer the case and anyone can see that the trouble is spreading, not receding. Late yesterday the British government had to step in alongside the BOE to guarantee all deposits at Northern Rock, plus those at Alliance and Leicester - another lender that got into trouble.

Viewed from that perspective, today's FOMC decision on interest rates is mostly symbolic for financial markets, but it is highly important for Prof. Bernanke's image and reputation going forward as Chairman. It will be his first test under pressure and everyone will be watching to see how he does. If he listens too much to the siren songs of the various politicos and bond daddies and proclaims the Fed as Bailout Central his credibility will be worth less than the equity tranche of a leveraged SIV.

If I may be so bold as to make a suggestion, he should probably be calling on Paul Volcker for advice and support.

___________________________________________________________

Ben's Bail Bonds cuts 50 bp:

(a) stocks rally 3%,
(b) the dollar makes a new low vs. the euro (1.3980),
(c) gold goes to a 28 year high ($735) and
(d) oil rises to an all time high ($82.10).

Ben's economic prescription for survival based on the above:

(a) Since the vast majority of Americans do not own any stock, skip (a).
(b) Buy only cheap Chinese goods.
(c) Sell your wedding bands, bracelets and gold teeth and with the proceeds...
(d) Immediately buy some heating oil futures to prevent freezing this winter.

As Jim Rogers said today before the FOMC announcement, Bernanke spent his entire academic career studying the monetary printing press - and he just got his hands on them.