Fed Adopts Emergency Lending Limits Banning AIG-Style Bailouts

30 Nov 2015 | Author: | No comments yet »

Fed Adopts Emergency Lending Limits Banning AIG-Style Bailouts.

The Federal Reserve took the final step to ensure it can’t repeat the extraordinary steps taken to rescue American International Group Inc. and Bear Stearns Cos. in 2008, adopting formal restrictions on its ability to help failing financial firms. Under the revised authority approved in a unanimous vote Monday, the Fed would only be able to save firms in a broad-based scenario including at least five entities at the same time. The changes are designed to reflect Congress’ intention in the 2010 Dodd-Frank Act to prevent the central bank from bailing out individual companies. “The ability to engage in emergency lending through broad-based facilities to ensure liquidity in the financial system is a critical tool for responding to broad and unusual market stress,” Fed Chair Janet Yellen said before the vote at a meeting in Washington. Many lawmakers worry the Fed was able to operate with relatively few restrictions as it tried to keep banks and other firms afloat during the last financial crisis.

Lawmakers from both parties including Democratic Senator Elizabeth Warren complained that an initial proposal released almost two years ago didn’t go far enough and left regulators too much wiggle room to orchestrate backdoor bailouts. The new rule traces its legal origin back to the Dodd-Frank Act, which President Obama signed into law to enforce new regulations on Wall Street and expand federal oversight in the wake of the Great Recession.

Fed officials said the final rule was intended to allow the injection of liquidity into an entire market or sector of the economy rather than to specific firms. In addition, emergency loans can only be made at a “penalty rate” that is higher than the market rate, and the Fed will be required to review every six months whether a loan program should be ended.

Loans would come with a penalty rate and would have to be repaid in full on an accelerated basis if borrowers are found to have misrepresented their solvency. Elizabeth Warren (D., Mass.) and David Vitter (R., La.) urged the Fed in a letter last year to establish time limits for emergency lending programs, bar firms who might be “on the verge of bankruptcy” from receiving loans and ensure the loans be dispersed across the financial sector rather than concentrated among a few big firms. “The Federal Reserve has long had this authority but has used it only sparingly and only in severe financial crisis,” Ms.

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