More on The Fed Audit, “Secret Loans”, and Conflicts of Interest

The last couple of days I’ve posted some thoughts on The Fed and the summer 2011 “audit” by the Government Accounting Office (GAO) here and here.  A long time reader and commenter, AZleader, apparently also wrote about The Fed audit.  I like his post a lot.  In particular, AZleader went beyond the press releases and news documents to read the actual report itself, something real historians do and journalists used to a long time ago.  He makes some good points (emphasis is mine):

Politicians and Press Releases

Shock of shocks! What you read in politician press releases doesn’t always jive with unbiased, objective truth. Politician press releases, as is true in the Sanders one, are often a mixture of fact and false implication crafted toward a political agenda.

It is not casual reading but ya gotta study the small print of the GAO’s very complex 253 page report that Sanders based his press release on to get to fundamental truths:

  1. The $16 trillion in “secret” Fed loans are not loans. They are MOSTLY innocuous financial services transactions provided by The Fed for which it was paid banking fees.
  2. There is nothing “secret” about the loans. According to the GAO Report all information it includes is in existing publicly available annual financial statements of the 12 federal reserve banks.
  3. The GAO audit isn’t “The first top-to-bottom audit of the Federal Reserve” as Sanders’ claims.  It isn’t even remotely close to that. Such an audit was proposed by Congressman Ron Paul and others but, as often happens in Congress, it got watered down in Dodd-Frank.
  4. The GAO audit is very limited in scope. It covers only temporary emergency loan programs between December 1, 2007 and July 21, 2010.

The main outcome of The Fed audit was to make recommendations on how The Fed can protect itself against exposure as the “lender of last resort” in emergencies.

Almost all the $16 trillion in transactions by The Fed are money swaps or very short-term 82 day or less collateralize loans to banks.

In other words, not only was The Fed not “out of control” as I noted, but it was instead actually doing what a central bank is supposed to do:  act as lender of last resort, facilitate transactions between banks, and facilitate international currency exchange — the precise things The Fed didn’t do so well in 1929-1933 and we paid for it with a Great Depression.

He also points out that while

…two CEOs were involved in conflict of interest situations. JP Morgan CEO, Jamie Dimon, and NY Fed Bank President, William Dudley, were both in positions of conflict of interest during the crisis.

The Fed was in a crisis mode and needed all the expertise it could get, even at the risk of having some conflict of interest.  I would agree that given the situation at the time, it was probably necessary to involve Dimon and Dudley.  However, what I fault The Fed for is for not having been prepared for such a situation.  The Fed has been too cozy with the banking executives for too long and too slow to move when changes in the industry or markets create a possible conflict of interest.

I agree with AZleader also in noting how the real scandal, the real damning information in the audit hasn’t gotten the attention it deserves.  Specifically:

….The vast majority of actual dollars spent by The Fed was in the “Agency Mortgage-Backed Securities Purchase Program“.

That isn’t even a loan program at all.

That program was created “to support the housing market and the broader economy”. It bought up all the toxic home mortgage loans approved by and backed up by Fannie Mae and Freddie Mac, the home mortgage lending giants.

The Fed had to buy all of Freddie and Fannie’s bad debt because it was required by law. Both companies are government sponsored enterprises (GSEs) created by the government. Those companies went into government receivership in September of 2008.

The total real dollar net purchases in that program was $1.25 trillion. Some of those assets have since been sold. There is still a $909 billion debt balance outstanding.

The Fed paid out about $80 billion in investment management fees to outside vendors, all of them American companies

Again, the problem here isn’t so much that they bought the Freddie and Fannie debt. Something had to be done to help “support the housing market”.  The problem is again a lack of foresight, planning, and consideration of alternatives.  In the reality, what The Fed did was prop up Freddie, Fannie, and the big banks involved in wholesaling mortgages and the MBS market.  The way it was done didn’t really address the fundamental issues in the housing and mortgage market, as evidenced by us being in the fourth year of a continued housing depression, declining house prices, and rising foreclosures.  Sick lenders were a symptom, not the disease in housing.  The Fed only addressed one symptom.  The Fed has also exposed itself to serious losses by taking on much of this mortgage debt.  What options The Fed might have considered is a topic for another discussion.

AZleader and I don’t always agree on a lot of things, but I think we’re close on The Fed audit.  Of course, how we fix The Fed is another topic….