Ex-Fed Official Sharply Criticizes Decision to Rescue Bear Stearns

The Federal Reserve, headed by Ben S. Bernanke, invoked emergency powers last month to lend to Bear Stearns.
The Federal Reserve, headed by Ben S. Bernanke, invoked emergency powers last month to lend to Bear Stearns. (By J. Scott Applewhite -- Associated Press)
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By Craig Torres
Bloomberg News
Tuesday, April 29, 2008

Vincent Reinhart, a former senior policy adviser to Alan Greenspan and current Federal Reserve Chairman Ben S. Bernanke, said the central bank's rescue of Bear Stearns was the "worst policy decision in a generation."

Fed officials invoked emergency powers last month to lend money to Bear Stearns after the fifth-largest U.S. securities firm by market value said it might file for bankruptcy.

"The panicked decision jumped over other possibilities" and may prove as damaging as Fed policy errors that caused the "great contraction" of the 1930s and the "great inflation" of the 1970s, Reinhart said yesterday.

Reinhart made the comments at a seminar on the credit crisis at the American Enterprise Institute in Washington, where he is a resident scholar. He became director of the Division of Monetary Affairs at the Board of Governors in 2001 and held that position until he left in September.

The Fed's actions "eliminated forever the possibility that the Federal Reserve could serve as an 'honest broker,' " Reinhart said in a slide presentation sent to Bloomberg News by e-mail. The central bank also "tilted the political playing field toward direct mortgage relief."

The Fed's Board of Governors invoked an emergency rule on March 14 to lend $13 billion to Bear Stearns after the firm informed New York Fed President Timothy Geithner that it would have to file for bankruptcy. Two days later, the Fed agreed to finance $30 billion of illiquid Bear assets to secure its takeover by J.P. Morgan Chase.

The Fed also opened up lending on March 16 to investment banks, known as the primary dealer credit facility, another unusual extension of credit by the Fed to non-bank corporations.

Geithner told a congressional hearing April 3 that the risks of the Fed's actions "are modest in comparison to the substantial damage to the economy and economic well-being that potentially would have accompanied Bear's insolvency."

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