Fed, Paulson Continue Market Interventions

The Federal Reserve Bank of New York is meeting with banks and investors to move forward in creating a clearinghouse to restore order in the market for credit default swaps (CDS). The collapse of Lehman Brothers and the near-collapse of Bear Stearns raised concerns about the viability of the $45 trillion CDS market, which is currently unregulated. Credit default swaps provide insurance for mortgage-backed securities and bonds.

As the banks and hedge funds who hold the swaps go bankrupt, there is concern they won't pay the insurance for the bonds when they default. This has caused the market for CDS to dry up, as no one wants to buy the insurance if they aren't sure it will be paid. Without the CDS, banks are reluctant to issue new mortgages, and companies can't find anyone to buy their bonds.

The plan is for the clearinghouse to restore order to the CDS market, and the credit market it supports. It would do this by providing clear, accessible information, and provide safeguards by allowing monitoring without impeding trading.

Furthermore, the Fed is pushing the Clearing Corp., a Chicago clearinghouse that is owned by some of the biggest CDS market-makers to obtain a banking license. This would place it under the Fed's regulatory authority, and would hopefully restore confidence in the CDS market again. (Source: Bloomberg, Fed, Dealers to Meet on Default Swaps Clearinghouse, October 6, 2008; AJC.com, Credit crisis an opportunity for Atlanta-based ICE, October 6, 2008)

U.S. Treasury Secretary Henry Paulson named Neel Kashkari, an assistant secretary and Goldman Sachs veteran, to head the TARP office. It will take about four weeks before the auctions are implemented by two groups of asset-management firms who will act as TARP's financial agents. In the meantime, may Treasury inject cash directly into banks, perhaps by purchasing preferred stock. (Source: Bloomberg, Paulson Talking to Bernanke, Working on TARP Program, October 6, 2008)