It's official: the US financial sector is deceased. The Federal Reserve is now lending directly to American companies, buying unsecured commercial paper. This will surely put any remaining commercial lenders out of business unless the Fed only buys paper at rates that are high enough to convince companies not to take them. With the Fed now in competition with remaining private banks, it has essentially torpedoed its own efforts to bail out the banking industry. It seems that Ben Bernanke, having studied the Great Depression, its effects and causes, is determined to repeat them. The effect of this will be to make much-needed credit available to companies at artificially low rates. This will undoubtedly save many healthy companies from defaulting on loans that banks will not re-issue as they come due. But the risk is that it effectively prices banks out of the commercial paper market. If banks were uncertain about lending to companies before, they will have no doubts as to whether it is competitive to do so now. Presumably, companies will still be able to borrow from willing banks at lower rates if they can offer collateral. But why pay a bank interest when you can default on the US taxpayer with no apparent consequences. This also means that the Fed's measures to boost liquidity and so stimulate lending between banks have failed. Banks are availing themselves heavily of the Fed's credit, but are still refusing to pass along the cheaper funds to each other. The interbank market remains in gridlock. With $700 billion in funds waiting to purchase non-performing assets, its unclear what choice banks now have but to off-load their junk, buy government debt, and just collect interest. This is essentially what happened to the Indonesian banking sector during the Asian financial crisis. It simply disappeared from the economy for a few years, unwilling to lend. The Fed might argue, however, that it isn't killing the financial sector; it was already dead. Nouriel Roubini, who has so far proved correct on just about all of his predictions related to the crisis, is calling for a blanket US guarantee of all deposits and steps to accelerate the consolidation of the banking sector. This latter move is textbook handling of a financial crisis: regulators need to force ailing banks out of business to give healthier banks more air and food to survive. While this might be doomsday for the financial sector, it is good news for corporations. So are hints of a rate cut by the Fed. Companies can now count on cheap financing to get them through the recession. It doesn't seem to do good things to the value of the dollar, but with the panic in financial markets prompting a flight to safety, the dollar is still making out. Once the dust settles, though, I suspect the dollar will suffer, as it becomes clear that the US is going to suffer from the crisis more than the rest of the world, not less. That may be the key conclusion to the decoupling debates. No, the economies of the rest of the world have not decoupled from the US. But it used to be that the US economic cycle was amplified in emerging, trade-dependent economies. The reverse may now prove true. Investors will be looking for a lull in bad macroeconomic news before stepping in to reapportion assets to reflect the new realities of global growth.
warnold@thenational.ae