E Paul Krugman Wants To Bless Us, But It Is Mostly For Wall Street

Krugman revisits early efforts by the US government and newly formed central bank, to cope with speculation, a credit crisis, and a run on the Bank of the US. I looked into that episode a little more:

 In late December of 1791, the price of securities began to increase once again, and the eventual crash in March of 1792 caused many investors to panic and withdraw their money from the Bank of the United States.[1] One of the primary causes of the sudden run on the bank was the failure of a scheme created by William Duer, Alexander Macomb and other bankers in the winter of 1791. Duer and Macomb’s plan was to use large loans to gain control of the US debt securities market because other investors needed those securities to make payments on stocks in the Bank of the United States.[2] [Emphasis mine]

...As Duer and Macomb defaulted on their contracts and found themselves in prison, the price of securities fell more than 20%, all in the matter of weeks.[2]

This hoarding of bonds was not structured finance as we see happening in modern times. It was an attempt to corner the market so that those who used bonds would have to pay more for them. Hamilton kicked in a brilliant plan to restore confidence to the markets:

...In a series of letters to Seton at the Bank of New York, Hamilton introduced several measures to restore normalcy to the securities market. Hamilton encouraged the bank to continue offering loans collateralized by US debt securities, but at a slightly increased rate of interest – seven percent instead of six.[3] In order to persuade the Bank of New York to lend during the panic...

The central bank promised to purchase excessive collateral from the lending institutions. It turns out that Hamilton's efforts were decidedly CounterCyclical, as opposed to the procyclical efforts to withdraw credit in times of distress and flood the system with credit when times are good!

Hamilton preceded and succeeded in implementing Bagehot's Dictum, which is:

Lend freely, against good collateral, at a penalty rate" is still considered the gold standard for managing a financial panic as the "lender of last resort.

One wonders if the central bank forgot to be the lender of last resort in 2008? Continuing to offer loans was something missing from the Ben Bernanke plan of 2008. The Commercial Paper Market imploded and no efforts were made to revive it, and it destroyed real estate markets everywhere, even where many of the loans were sound.

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Disclosure: I am not an investment counselor nor am I an attorney so my views are not to be considered investment advice.

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