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Tig asked:


When the Federal Reserve bank lowers interest rates during a sharp decline of the market, is it providing assistance to speculators who made bad investments or is it keeping markets liquid?

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One Comment to “FRB is providing assistance to speculators who made bad investments or is it keeping markets liquid?”

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1. gray shadow said:
   On July 2nd, 2008 at 4:00 am

   Both.

   The Fed actions of pumping in more money helped keep the markets liquid. Speculators are one of the parties that benefit from more liquid markets.

   I think everyone wants to see those responsible for the subprime crisis suffer, but not the non-participants.

   The root cause of the problem goes back to how loans are bundled and re-sold on the secondary market. “Bad loans” could be passed on easily in these bundles. This provided a ready market for shady loan brokers during the housing boom to ‘launder’ their product of questionable loans.

   However sub-prime loans should not be considered inherently bad; they do allow more would-be home owners into the market. The solution should be proper marketization of the risk. Bonds are evaluated and graded (AAA, etc) based on the risk of default, and an appropriate rate is set. Similarly loans should be properly graded. If done properly, the rate of default on the loans should be offset by the additional interest applied.

   Also: The lowering of the Discount Rate is mostly symbolic. Banks are far more likely to borrow from other banks at the lower “Federal Funds” rate than from the Federal Reserve at the Discount Rate. But the move seemed to have a calming effect on the market and banks.