May 29, 2009
Posted by J.W. Verret

Thanks again Gordon for the invitation, as always I enjoy my time here. Before I go I thought I would write briefly about one growing concern involving the Federal Reserve's TALF program. (For other interesting TALF related issues, see Zaring, Ribstein, and the Deal Professor). As part of the term asset backed lending facility, or TALF, the Federal Reserve has been offering low cost loans to stimulate markets for a variety of financial products. Much of TALF has been geared thus far toward loans to facilitate purchases of commercial mortgage backed securities, which back consumer financing for cars, credit card debt and other consumer loans. As yet there has been tepid interest in this program, with only $15 billion in TALF loans being made out of the nearly $1 trillion in loans expected in the original plan. TALF will also be used to finance the public/private investment partnerships that form the center of the Administration's re-invented TARP (a.k.a. the Legacy Securities Program). TALF loans are being extended for increasingly longer periods such that it may threaten the Federal Reserve's ability to manage interest rates. Originally the Fed was adamant that it would only make one-year loans. The commercial mortgage industry pushed back, and the Fed compromised with three-year loans. Now, the Fed is offering five-year, non-recourse, rate subsidized loans. The non-recourse nature, and the subsidized rates, are risky enough. But the extended terms could severely limit the Fed's ability to manage interest rates if the market's appetite for TALF loans grows. If the Fed finds it needs to sell its holdings in the future to scoop up excess liquidity, its hands will be tied with respect to TALF debt. And selling assets to take money off the street is how the Fed manages interest rates upward. The Fed would need to sell the debt at an enormous discount, if it can find a market at all. Treasuries, assets which the Fed normally holds, are much easier to unload. There is some growing concern that TALF debt will remain locked in the Feds hands for the term of the loan, and future monetary policy flexibility will be constrained.

Thanks for reading, and I hope to see everyone again soon.

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