The Treasury’s $700 Billion Bill Limited, The Markets Turn To The Fed

The attention of the markets is focused in the wrong direction. The Treasury will probably get its $700 billion bailout bill. A number of banks and other financial firms will have their balance sheets buttressed. Credit availability may improve, but banks may hold on to a lot of the capital to shore up reserves against more write-offs due to a failing housing market.

Because the system is so badly damaged, it is unlikely that the economy will be suddenly awash in capital.

The Fed, working quietly, is building an insurance policy into the system and it may do more than the new "Emergency Economic Stabilization Act of 2008."

Over the last week or so, the Fed has stepped up the rate at which it buys Treasury bills. That investment has recently been running up 10% over last year. Earlier in 2008, the sum was not growing at all. The Fed did not want to push capital into the markets and fuel inflation.

Chairman Ben Bernanke has had a change of heart. He clearly does not see inflation as the risk. The economy is too badly crippled. The Treasury plan may improve the asset-based problems in the financial system, but it may do next to nothing to solve the catastrophe derived from lack of credit.

The Fed has very few restrictions on how it uses it cash. In that way it is a bit better off than Treasury. The Fed can print money to put into the system, or tap current reserves. Either way, putting cash into buying US debt is mainlining it to the broader economy and the financial system uses it as it will. It is not "earmarked" for anything special and the Treasury can push out tens of billions of dollars in a short time.

The markets should move their attention to the Fed. It may not cut rates, but cutting rates has done very little. Banks have not put that back into the market in the form of lending.

The Fed has turned on the cash pump. That may do much more for building liquidity into the system than the bailout ever could.

Douglas A. McIntyre