Too Big to Fail [51]
Two days later, however, the world changed. Early on the morning of August 9, in the first major indication that the financial world was in serious peril, France’s biggest bank, BNP Paribas, announced that it was halting investors from withdrawing their money from three money market funds with assets of some $2 billion. The problem? The market for certain assets, especially those backed by American mortgage loans, had essentially dried up, making it difficult to determine what they were actually worth. “The complete evaporation of liquidity in certain market segments of the U.S. securitization market has made it impossible to value certain assets fairly, regardless of their quality or credit rating,” the bank explained.
It was a chilling sign that traders were now treating mortgage-related assets as radioactive—unfit to buy at any price. The European Central Bank responded quickly, pumping nearly 95 billion euros, or $130 billion, into euro money markets—a bigger cash infusion than the one that had followed the September 11 attacks. Meanwhile, in the United States, Countrywide Financial, the nation’s biggest mortgage lender, warned that “unprecedented disruptions” in the markets threatened its financial condition.
The rates that banks were charging to lend money to one another quickly spiked in response, far surpassing the central bank’s official rates. To Bernanke what was happening was obvious: It was a panic. Banks and investors, fearful of being contaminated by these toxic assets, were hoarding cash and refusing to make loans of almost any kind. It wasn’t clear which banks had the most subprime exposure, so banks were assumed guilty until proven innocent. It had all the hallmarks of the early 1930s—confidence in the global financial system was rapidly eroding, and liquidity was evaporating. The famous nineteenth-century dictum of Walter Bagehot came to mind: “Every banker knows that if he has to prove that he is worthy of credit, however good may be his arguments, in fact his credit is gone.”
After Bernanke told his wife their trip had to be canceled, he summoned his advisers to his office; those who were away called in. Fed officials began working the phones, trying to find out what was happening in the markets and who might need help. Bernanke was in his office every morning by 7:00 a.m.
Only two days later came the next shock. It was becoming a daily scramble for the Fed to keep up with the dramatically changing conditions. The following day Bernanke held a conference call with Fed policy makers to discuss lowering the discount rate. (A symbolic figure in normal times, the discount rate is what the Fed charges banks that borrow directly from it.) In the end, the Fed issued a statement announcing that it was providing liquidity by allowing banks to pledge an expanded set of collateral in exchange for cash—although not on the scale that the Europeans had—to help the markets function as normally as possible. It also again reminded the banks that the “discount window” was available. Less than a week later, Bernanke, faced with continued turmoil in the markets, reversed his earlier decision and went ahead with a half-point cut in the discount rate, to 5.75 percent, and hinted that cuts in the benchmark