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What happened ... where we stand today

Last Friday – Sept. 19, 2008 – may go down as a day that will "live in infamy" for bankers across the country.

The problems began when President Bush announced that holders of money market mutual funds would now have a federal government guarantee of their money. This action was deemed necessary because of the problems incurred by Reserve Primary Fund three days earlier (Tuesday, Sept. 16) when it "broke the buck" and declared its funds would only be able to return 97 cents for every $1 on deposit in their Fund.

Reserve Primary Fund had a large portfolio full of Lehman Brothers investments, and when Lehman Brothers filed for relief under the bankruptcy code the day before, it made Reserve's investments in it worthless. Reserve Primary Fund's shutdown was followed by Putnam Prime Money Fund, a $12.3 billion fund that shut down on Thursday.

Most observers understand why the Treasury recommended, and the President approved, the action that was taken. There was a huge, unanswered question that was out there, however, and it was just answered late this evening. The immediate question was whether the federal guarantee applied only to existing funds. The answer that was announced tonight is that it does apply only to existing funds as of the close of business Friday.
 

This is a dramatic change in the MMMF guarantee program, and it eliminates the incentive for bank customers to move their deposit accounts to these newly-guaranteed entities. This change came Sunday night and at a crucial time for commercial banks generally and community banks in particular. Both the ABA and the ICBA had begun to hear from their members – as we had – that customers were worried about the safety of their money and had begun to withdraw funds from member banks.

We've been working around the clock, along with our colleagues at the ABA and the other state bankers associations, to point out the implications of the proposed guarantee program that was announced without any limits, either as to amount of coverage or the addition of new funds. As such, there was an incentive for any bank customer with more than the FDIC insured amount to move his or her money immediately into a MMMF as soon as possible.

ABA wrote to Treasury Secretary Paulson and Federal Reserve Chairman Ben Bernanke pointing out the problems that would flow from this ill-advised decision. The letter was widely circulated in Washington and to the media. The ICBA also wrote to Paulson and Bernanke pointing out the problems with the proposal.

There are still many unanswered questions, most importantly whether community banks will be able to sell troubled loans to the new liquidity facility that's been the focus of the Sunday talk shows today. We're working with anyone and everyone we can to make sure that member banks have the opportunity to sell loans as well as securities into this new entity. It's not just a Wall Street issue; rather, it's an issue that impacts every community and main street in the country.

By way of background, withdrawals from MMMF accounts last week were ready to overwhelm the credit markets. Redemptions were nearly $145 billion during the week, which obviously created huge problems for the commercial paper markets. Simply stated, MMMFs weren't buying commercial paper any longer and were dumping what they had in order to cash out fleeing investors who were in a state of panic.

Now that the immediate problem has been temporarily dealt with the question is, what happens next? We wish we knew. To say this is unprecedented in our nation's history is to engage in understatement.

One thing that is certain, however, is this: the confidence in the nation's entire financial system is at stake here, and how that confidence is preserved will depend on how the Administration and the Congress proceed from this point.

This hasn't been a situation where people were pulling money out of mutual funds, banks and credit unions to go buy yachts or take vacations to Europe. They've been frightened. They don't know whether their money is safe, and they've been perilously close to losing confidence in the entire financial system.

The only entity that can ease those fears is the federal government. It's not the time for partisan finger-pointing and internecine wars between Republicans and Democrats, or between banks and credit unions for that matter. It's time for some adult leadership, and it's a time for all of us to pull together and stave off what could be a collapse of the financial services system and the destruction of Main Street U.S.A. as we know it.

It won't do much good to save "Wall Street" if Main Street goes by the boards, and that's precisely what can happen if the confidence factor is shattered. It's like being tagged as a child-molester: once you get that label, it doesn't matter what the truth is or what you do next. You can never un-ring that bell, and we can't afford to lose the confidence of bank customers in Oklahoma and elsewhere that their money is safe.

Call us with your questions, concerns and feedback.

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