Fed Leaders Ponder an Expanded Mission

Whether there is a formal, legal change in the Fed's power over Wall Street or not, the recent measures, which were taken under a 1930s law that can only be exploited in "unusual and exigent circumstances," represent a massive departure from past practice.

The central bank was created in 1913 to prevent the banking crises that were commonplace in the 19th century. The idea was that the Fed would be a backstop, offering a limitless source of cash if people got the bright idea to pull all their money at once out of an otherwise sound bank.

In exchange for putting up with regulation from the Fed and requirements over how much capital they can hold, banks have access to the "discount window," at which they can borrow emergency cash in exchange for sound collateral. A bank might take deposits from individuals and make loans to people buying a house. Hedge funds do something similar: borrow money in the asset-backed commercial paper market and use it to buy mortgage-backed securities. But the bank has lots of regulation and access to the discount window; the hedge fund does not.

In recent decades, more of the borrowing and lending that was the sole province of banks has come to be done in more lightly regulated markets.

A decade ago, the nation's commercial banks had $4 trillion in credit-market assets, and a whole range of other entities -- mutual funds, investment banks, pensions, and insurance companies -- had about twice that much. Now, those other entities have about three times as many assets, based on Fed data.

Still, the Fed has resisted broadening its authority. On March 4, Fed Vice Chairman Donald L. Kohn told the Senate Banking Committee that he "would be very cautious" about lending Fed money to institutions other than banks or, as he put it, "opening that window more generally." The Fed did exactly that 12 days later.

The New York Fed said yesterday that investment firms have borrowed an average of $33 billion through that program in the past week.

The Fed has intervened in the doings of Wall Street in the past, but in limited ways. Most notably, in 1998, the New York Fed brought in heads of the major investment banks to cajole them into a coordinated purchase of the assets of the hedge fund Long-Term Capital Management, to prevent a disorderly sell-off that could have sent ripples through the financial world.

"Long-Term Capital was the dress rehearsal for what happened with Bear Stearns," said David Shulman, a 20-year veteran of Wall Street who is now an economist at the UCLA Anderson Forecast.

Treasury Secretary Henry M. Paulson Jr. said that if investment banks are given permanent access to the Fed's emergency funds, they should have the same kind of supervision that the Fed requires for conventional banks. "This latest episode has highlighted that the world has changed, as has the role of other non-bank financial institutions, and the interconnectedness among all financial institutions," he said in a speech Wednesday.

If Congress and the administration do broaden the formal powers of the Fed, it would be the latest in a long history of financial policy made out of a crisis. The Great Depression fueled an array of stock exchange regulation. The 1987 stock market crash led to curbs on stock trades. The 2002 corporate scandals led to the Sarbanes-Oxley Act.

And after the panic of 1907, a National Monetary Commission was formed to figure out how to prevent such things from happening again. Its crowning achievement: The creation of the Federal Reserve.