How did the federal reserve bail out bear stearns?

Question

what did they do to bail them out? and why does the fed do this? thx!

Answer 1

Taking Danajaan's answer one step further , JP Morgan Was and is the largest holder if credit derivatives and one of the owners of the federal reserve . So JP Morgan bailed it self out of collapsing and doing away with a competitor . From the fed charter it was all illegal .

Answer 2

The fed loaned money to JP Morgan so that they could buy Bear Stearns.  Bear was holding so many subprime-based derivatives that if they had liquidated, the market would have crashed and had much greater repercussions throughout the economy.

Answer 3

The Federal Reserve bailout was a 28-day loan of $29B to J.P. Morgan so they could buy out Bear Stearns through a stock purchase.

The Federal Reserve loan to J.P. Morgan was not unusual in itself. As the banker's bank, the Federal Reserve frequently makes loans to banks.

What was unusual was the sheer size of the loan which was totally unprecedented. What was also unusual was that the loan was collateralized by Bear Stearn assets (estimated at about $55B) rather than the borrowers assets.

Why does the Federal Reserve do this?

One answer is that they are mandated by congress to look after the health of the system.

It is very typical that when a bank fails, the FDIC or Fed will look for a friendly buyer who will take over operations with minimum disruption to depositers.

This was unusual because Bear Stearns was so huge that no other bank was in a good position to just take it over. Only J.P. Morgan expressed an interest and they indicated they could only do it with short-term financial assistance.

The other reason is to exorcise ghosts from the Fed's past. When the Great Depression hit, the Fed did not do enough to fend off the subsequent collapse of many banks.  This was actually in keeping with the times where the general economic consensus was one of lassiaz faire policies; that the bank failures were just part of the 'pruning process' and that the economy would roar back.

Well, the economy just got worse, and foresight was that the Fed should have done far more to protect the system. In fact, there was probably no other institution in a position to make a difference except the Fed -- and they faltered big-time.

So the Fed's greatest concern since 1935 is never letting that situation repeat itself.

Those lessons were dramatically played out in stock market crash of 1987. Stocks dropped about 25% in one day and it looked like it was going to be a domino effect into the rest of the economy. Well, the Fed stepped in. And all they did was guarantee liquidity (i.e. easy money) if brokerage houses and banks could just put off call in margins. And it worked. The crisis was averted and the stock market came back.

So here we are in 2008. The Fed sees potential for trouble if "Bear Stearns" one of the biggest banks fails. Already there appears to be a run on the bank and looks like many obligations will be defaulted on.

Do they sit back and watch it fail and possibly trigger other runs like we've seen in other "Panics of..." in history? Or do they try to nip it?

So they took action, and the impact of this failure was minimal.

The cost to the tax payer is practically nil and, in fact, may return something back. The bailout was a short-term loan that was financed out of Fed operating funds. The Fed will make some interest on the loan which most will be turned over to the Treasury at the end of the year. (By law, all Fed income after expenses have to be given to the Treasury).

Does this smack of helping the big guy during a time when there are so many foreclosures for the little guy?

  

Yes, indeed. And though the Fed cannot, by law, make loans to individuals, certainly they could have done more.