NightBlogger

For it appears that the US Federal Reserve has given up on the idea of easing stress on interbank and wholesale lending and is resigned to being the central bank-come-market-maker of last, first and every resort. The Fed is supposed to have a control over the monetary system; by which it can manipulate the rates at which banks lend to each other, and the rate at which banks lend to the economy. And yet the Fed has cut rates - slashed them. Its target now stands at 1 per cent. It, and other central banks, have flooded the system with liquidity through a smorgasbord of different open market operations. Banks though, still aren’t lending to the economy. And they are still keeping huge sums in reserve. (They don’t have anywhere else safe to put their cash.) More

(Reuters) - Insurer American International Group Inc struggled for survival a day after a financial tsunami swept away investment bank Lehman Brothers and forced the sale of rival Merrill Lynch in the biggest financial industry shake-up since the Great Depression. AIG scrambled for a financial lifeline on Monday after investment bank Lehman Brothers Holdings Inc failed to find a rescuer and Merrill Lynch & Co Inc agreed to be taken over by Bank of America Corp. The U.S. Federal Reserve has hired investment bank Morgan Stanley to review options for AIG — which has lost some 92 percent of its value so far this year — a person familiar with the situation said Monday.

AIG’s precipitous stock decline has led ratings agencies to threaten downgrades that could force it to post more collateral and nullify insurance contracts, possibly setting in motion a chain reaction that could threaten its survival. In an ominous sign, two ratings agencies went ahead with downgrades after the market closed on Monday. “AIG seems to be the next guy on the chopping block,” said Tom Sowanick, chief investment officer at Clearbrook Financial LLC in Princeton, New Jersey.

Again seeking a private solution to Wall Street’s woes, the Fed had asked JPMorgan Chase & Co and Goldman Sachs Group Inc to explore arranging $70 billion to $75 billion in loans to support AIG, among other financing options, another person familiar with the situation said. Fearing a financial meltdown, the U.S. presidential candidates sparred Monday over who could best restore the system’s health, with Republican John McCain pledging reform and Democrat Barack Obama saying hands-off Republican policies were the problem. More

DailyReckoning.com
Not one but three different banks are warning investors of major crisis ahead. Note to the banks: where have you been for the last year? A thousand martini lunch? The slow-motion credit crisis is nearly twelve months old. The question today is whether the competing interest rate policies of the European Central Bank and the U.S. Federal Reserve will lead to more selling in global stock markets and higher commodity prices. Inflation is winning the war.

“A very nasty period is soon to be upon us - be prepared,” says Royal Bank of Scotland’s chief credit strategist Bob Junjuah. In Wednesday’s U.K. Telegraph Junjuah says, “The Fed is in panic mode… The massive credibility chasms down which the Fed and maybe even the European Central Bank will plummet when they fail to hike rates in the face of higher inflation will combine to give us a big sell-off in risky assets.” Aussie stocks are caught in the thematic cross fire. Higher commodity prices are good for commodity producers. But global inflation sows the seeds of global recession, which is not bullish for resources.

Morgan Stanley’s European research team says an European Central Bank rate hike next month (the one Jean Claude Trichet has threatened to deliver) could lead to a “catastrophic event.” Morgan’s report concluded that, “We see striking similarities between the transatlantic tensions that built up in the early 1990s and those that are accumulating again today. The outcome of the 1992 deadlock was a major currency crisis and a recession in Europe.” More

By Ambrose Evans-Pritchard, International Business Editor
The clash between the European Central Bank and the US Federal Reserve over monetary strategy is causing serious strains in the global financial system and could lead to a replay of Europe’s exchange rate crisis in the 1990s, a team of bankers has warned. “We see striking similarities between the transatlantic tensions that built up in the early 1990s and those that are accumulating again today. The outcome of the 1992 deadlock was a major currency crisis and a recession in Europe,” said a report by Morgan Stanley’s European experts.

Just as then, Washington has slashed rates to bail out the banks and prevent an economic hard-landing, while Frankfurt has stuck to its hawkish line - ignoring angry protests from politicians and squeals of pain from Europe’s export industry. Indeed, the ECB has let the de facto interest rate - Euribor - rise by over 100 basis points since the credit crisis began. More