Next ‘Too Big to Fail’|Isn’t the Fed’s Problem

(CN) - Addressing criticism over the 2008 bailouts of AIG, Citigroup and others, the Federal Reserve approved a rule Monday that limits its emergency money-lending powers.

As the financial crisis deepened in 2008, the Federal Reserve stepped in with multibillion-dollar loans to struggling corporations that had invested too heavily in residential mortgage-backed securities to survive the securities' almost total loss of value.

The nation's bank lent a total of $710 billion to keep American International Group, Citigroup, Bank of America and others afloat.

Though those loans have since been repaid, with interest, with a tidy $30 billion profit to the government, critics still condemn the notion that some companies are "too big to fail" without extreme damage to the economy, regardless of their poor business decisions.

The government bailout in 2008 effectively immunized company managers from the consequences of their actions. Critics said the lending program was an overreach of the Fed's authority.

With the 2010 Dodd-Frank Act, Congress prohibited the Federal Reserve from lending to insolvent entities, and asked the board to specify its emergency-lending powers.

The Fed's unanimous Monday vote sends a clear message that major banks cannot expect a bailout in the event of a future crisis.

Under the new rules, the Fed must receive permission from the Treasury secretary before setting up an emergency-lending program.

To avoid helping a specific company avoid bankruptcy, furthermore, such a program must be designed to aid at least five eligible entities.

The rule also broadens the definition of insolvency to include situations where a company has not yet entered formal bankruptcy proceedings, but can be shown insolvent from an accounting perspective.

Chair Janet Yellen said in a statement, "Emergency lending is a critical tool that can be used in times of crisis to help mitigate extraordinary pressures in financial markets that would otherwise have severe adverse consequences for households, businesses, and the U.S. economy."

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