- The Washington Times - Wednesday, July 16, 2008

The financial crisis intensified Tuesday as top officials warned of growing risks to the economy and fruitlessly strived to contain an unraveling of financial stocks that drove major stock indexes to their lowest levels in two years.

Wall Street markets continued to react to the darkening outlook for banks and the economy, despite strenuous efforts across the government to promote calm. The economic news worsened as General Motors Corp. announced an aggressive plan to avert bankruptcy and reports showed wholesale inflation soaring to a 27-year high, while even a massive infusion of tax rebates barely supported retail spending.

Federal Reserve Chairman Ben S. Bernanke said the renewed crisis in financial markets after several months of stasis is forcing the central bank to refocus on maintaining financial stability and aiding the flagging economy, while some members of Congress balked at the request from President Bush and Treasury Secretary Henry M. Paulson Jr. for unlimited authority to prop up the ailing mortgage giants in what could be the government’s costliest bailout ever.

“The economy continues to face numerous difficulties,” Mr. Bernanke told the Senate Banking, Housing and Urban Affairs Committee, saying the toxic combination of threats presents “significant challenges.”

See related story:“Consumer prices jump 1.1 percent in June”

The Fed is concerned about the “considerable stress” that has re-emerged in financial markets after a three-month lull created by the Fed’s rescue of Bear Stearns & Co. from bankruptcy and its move to lend directly to Wall Street firms in March.

Now the Fed is working with the Treasury to prevent a catastrophic failure of Fannie Mae and Freddie Mac, which Mr. Paulson said “represent the only functioning secondary mortgage market” left in the United States.

Mr. Bernanke said the renewed financial crisis threatens to rock an economy already on the edge of recession, despite a temporary boost to consumer spending this spring from tax rebates.

“Healthy economic growth depends on well-functioning financial markets,” he said. “Consequently, helping the financial markets to return to more normal functioning will continue to be a top priority of the Federal Reserve.”

As Mr. Bernanke spoke, police clashed with customers in a rush to withdraw their money from IndyMac bank in California. The biggest of a growing string of bank failures, IndyMac’s implosion Friday highlighted the threat to the economy from growing weakness in the banking system.

Mr. Bernanke said the Fed is watching banks closely and estimates most have enough of a cash cushion to absorb their mounting losses in the real estate and credit markets.

“Our banking system is well-capitalized,” he said. “My concerns have turned less on the solvency of these institutions and more on their ability to extend the credit that our economy needs to keep growing because in many cases banks are deleveraging or shrinking.”

Mr. Paulson defended to Congress his weekend move to bolster Fannie and Freddie by proposing to buy some of the companies’ stocks while increasing their credit lines. He refused to say how much the rescue plan would cost, saying a cap on the cash available from the Treasury would undermine confidence in the mortgage agencies.

Republicans said they had worked hard to avoid such a bailout, only to be asked to agree to one in a financial emergency.

“I fear that we’re sitting on a financial powder keg,” said Sen. Richard C. Shelby of Alabama, the committee’s ranking Republican. He questioned what some legislators termed the “blank check” the administration is requesting for Fannie and Freddie.

“When you’re dealing with the taxpayers’ money I don’t think ambiguity has a place,” said Mr. Shelby. “We are potentially layering taxpayer resources on top of massive systemic risk.”

“Our plan is aimed at supporting the stability of financial markets, not just these two companies,” Mr. Paulson said. “Let me stress that there are no immediate plans” to infuse cash into the mortgage giants.

With the Treasury plan having done little to calm financial markets, House Republican leaders called for hearings on the proposals despite a personal plea from Mr. Bush for quick action.

Democratic leaders expressed fewer objections and were more sympathetic to the call for swift congressional action, saying they would include the plan in housing legislation that the House may put to a vote as early as this week.

“Inaction is not an option,” despite some doubts, said Sen. Christopher J. Dodd, Connecticut Democrat and committee chairman.

Meanwhile, the Securities and Exchange Commission (SEC) made waves in the markets by announcing it will move to stop illegal trading that has driven down the stocks of Fannie, Freddie and other Wall Street firms and banks.

SEC Chairman Christopher Cox told the banking committee that the commission will limit short selling in the shares of financial companies that are critical to the economy through an emergency order requiring traders to own the shares of financial companies they sell short. The announcement caused a sharp rebound in financial shares in the early afternoon Tuesday, but most resumed their fall by the end of the day.



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