On Friday Bear Stearns–even in the throes of a financial collapse that had driven its share price down by three-quarters–was still worth $3.5 billion. On Sunday night it was worth barely $200m, sold for two bucks a share to J.P. Morgan, in a deal brokered by the Fed. If this is a bail-out (and it is) the shareholders of Bear Stearns are not exactly thrilled about it. They will want to know why giving away their firm (whose book value, they had just been told, was in the neighbourhood of $80 a share, and whose headquarters building is said to be worth $1 billion) to J.P. Morgan was better for them than going bust.

It wasn’t. Bankruptcy would surely have recovered more value for shareholders than this give-away–but the Fed evidently feared that closure and disposal of Bear’s assets would have jeopardised other parts of the country’s teetering financial system. Preventing that was the Fed’s overriding goal. The firm had to be acquired in a hurry, shored up, and then run, so far as counterparties were concerned, as though nothing had happened. By any measure, Bear Stearns was not that big: it was surely not “too big to fail”. Apparently, though, it was deemed too delicately interconnected to fail. One wonders how many such institutions there now are, and who will carry the burden of keeping them in business.

The Fed, helping to answer that question, simultaneously announced a new lending facility for “primary dealers”–non-bank financial firms like Bear, which have hitherto been unable to borrow from the Fed. This constitutes a remarkable expansion of the Fed’s financial safety net. Something else Bear’s shareholders will want to know is why this facility was not created in time for them to take advantage of it. At the end of last week, they were having to borrow from the Fed indirectly, through the good offices of J.P. Morgan. Two days later, J.P. Morgan is getting Bear for nothing, and in addition has been promised as much as $30 billion in Fed loans, secured against Bear’s dodgy assets. If the assets turn out to be worth less than the loans, the Fed–ie, the taxpayer–bears the risk. (And that, by the way, is why these arrangements are indeed a bail-out, though not one that helps Bear’s original owners.)

On the face of it, this looks like a remarkably good deal for J.P. Morgan. We will see whether it turns out to be such good value for taxpayers.

March 17th, 2008 in Current Affairs | Permalink