Was It Necessary for the Fed to Bail Out the World?

Includes: AIG, KBE, XLF
by: Gary A

I submitted these questions to the Federal Reserve Governors on their website. Since I am not certain that I will get straight up answers to the questions, I urge the economists among the SA readership to attempt to answer these questions in the comment section:

I would like to know why it was necessary to extend swap lines when loans could have been made by central banks in their own currencies. In other words, why were swap lines, and loans made in American dollars by foreign central banks necessary?

My second question is why did all European banks have a shortage of dollars in the first place and why did they all have like minded positions, leading to a panic?

My last question is what role did the toxic assets sold to the European banks have on their dollar shortages? Did the bad bonds that really weren't AAA have anything to do with the dollar shortage that created the Sept 2008 panic?

We know that the Fed is in hot water for bailing out these European banks with backdoor payments from government funds through AIG. We know this has a conspiracy ring to it. But can we glean a sinister action with regard to these questions above? Certainly the European banks that were bailed out by AIG had positions that facilitated panic. Were those positions caused by sinister motives? Can we ever really know?

See also this paper showing what apparently happened after the Lehman bailout and a run on dollars. Thanks to Marli for emailing me this link to the BIS paper:

What pushed the system to the brink was not cross-currency funding per se, but rather too many large banks employing funding strategies in the same direction, the funding equivalent of a “crowded trade”. Only when examined at the aggregate level can such vulnerabilities be identified. By quantifying the US dollar overhang on non-US banks’ global balance sheets, this paper contributes to a better understanding of why the extraordinary international policy response was necessary, and why it took the form of a global network of central bank swap lines.

Disclosure: no positions