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Government reshaping financial landscape

By Patrice Hill (Contact) | Wednesday, October 8, 2008

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In little more than six months, the government has put a federal guarantee behind the biggest Wall Street firms, taken over half the $11 trillion mortgage market, gained ownership of the world's largest insurance company, enacted the biggest financial bailout in history and, on Tuesday, became the lender of last resort for corporate America.

The unprecedented series of actions, most of which were bred of desperation and occurred with increasing speed in just the past month, have left even the most worldly wise pundits short of breath and wondering where this government intervention into what was strictly private realms for decades will end — and when.

"The financial landscape will be remarkably different, and we suspect so too will the social landscape" after the historic events of the past month, said Bob Andres, chief investment strategist at Envestnet Asset Management. "Don't be surprised by additional strong policy actions by the Federal Reserve or Treasury to exorcise the credit dilemma."

Cities and states such as California, which has alerted the Treasury that it may need an emergency loan, are next in line behind the banking and corporate sector, he said, and so is the ailing market for student loans.

Talk surfaced Tuesday that the government also may set up a loan program for small businesses, many of which are on the ropes and clamoring for help from Uncle Sam.

Tuesday's move by the Fed to set up a program to purchase commercial paper without collateral from major corporations like General Electric Co. and General Motors Corp. crossed a critical line of demarcation that had been honored for nearly a century between the worlds of banking and commerce in the United States.

"Think of it as kitchen sink monetary management," said Edward Hadas, an analyst with Breakingviews.com. "The central banks throw in everything they have — cash, government securities and eventually the full faith and credit of the sponsoring governments" to try to stop the rapid unraveling of credit markets.

In frantic bids to stem the credit contagion, governments in several European countries have gone even further than Washington in recent days, nationalizing their entire banking sectors and offering blanket guarantees on all bank deposits to prevent dangerous runs that can bring down the whole financial system.

"Central banks were determined to keep deleveraging from turning into debt deflation, even if they have to assume much of the lending role of normal banks," Mr. Hadas said.

But he worries that the independence and unique roles of the Fed and other central banks as defenders against inflation have been seriously damaged. "The distinction between central banks and governments is blurred," he said.