The Fed Walks The Line On Lehman

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We earlier reported that officials at the Federal Reserve and Treasury are scrambling to find a buyer for Lehman Brothers, perhaps going as far as bending or waiving rules that limit the ability of private equity firms to buy sizable stakes in investment banks. Part of the rationale for this may be because the Fed and Treasury want to avoid putting its own balance sheet or taxpayer funds into what would widely be perceived as another bailout.
There seems to be an increasing consensus among commentators that Lehman won't be bailed out by the Federal Reserve or the Treasury. Over at RealTimeEconomics, Sudeep Reddy adds color to this idea by pointing out that to Fed officials it may well appear that they have already bailed out Lehman. The primary deal credit facility gives Lehman Brothers access to the discount window, allowing it to borrow cheaply against collateral arguably priced at inflated values. Indeed, Bill Gross of Pimco has publicly cited the facility as preventing him from withdrawing from trades with Lehman on the other side.
What's more, the Treasury and the Fed may want to reduce the moral hazard issue in the market by allowing an institution to fail, Reddy says. But its not clear that they will have the luxury of adding discipline to the market. Lehman is deeply intertwined in the credit markets, particularly, and its failure could have unwanted ripple effects, rocking the stability of the broader financial markets. A better solution, some at the Fed believe, would be to find a willing buyer and arrange private financing without a Fed backstop. This most likely explains the Fed scramble to find a buyer.
Would the Fed Let Lehman Fail? [Wall Street Journal]

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