You Can Never Have Too Much Non-Recourse Debt

So the Dow is up 417 points because the Fed has offered to loan $200 billion backed by mortgage-related securities (link). I assume these loans are non-recourse? I.e., if the value of the collateral falls to, say, zero, then the taxpayers get stuck with the bill? Isn’t this, then the biggest anti-deficiency loan ever, issued to well-nigh universal cheering and applause, into a market where we’re being told that walking away from your loans is a naughty thing to do?

And isn’t this gobbledygook?

The so-called Term Securities Lending Facility will allow strapped financial institutions to hand potentially damaged securities to the government in exchange for either cash or Treasury securities, whose U.S.-government backing makes them one of the safest investments on the market.

The Fed normally lends Treasury securities to banks for just a few hours. Under the new program, money will be lent for 28 days and the central bank will accept nongovernment mortgage-backed securities - the source of the current crisis in the credit markets - as collateral.

The Fed will require that the assets, which are linked to soured home loans, have a premium credit rating.

Update: A nonosecond after I posted this, I opened an email from my friend Margaret saying that I must read the current Krugman. Sure enough (link):

Some observers worry that the Fed is taking over the banks’ financial risk. But what worries me more is that the move seems trivial compared with the size of the problem: $200 billion may sound like a lot of money, but when you compare it with the size of the markets that are melting down — there are $11 trillion in U.S. mortgages outstanding — it’s a drop in the bucket.

The only way the Fed’s action could work is through the slap-in-the-face effect: by creating a pause in the selling frenzy, the Fed could give hysterical markets a chance to regain their sense of perspective. And to be fair, that has worked in the past.

But slap-in-the-face only works if the market’s problems are mainly a matter of psychology. And given that the Fed has already slapped the market in the face twice, only to see the financial crisis come roaring back, that’s hard to believe.

The third time could be the charm. But I doubt it. Soon, we’ll probably have to do something real about reducing the risks investors face.

See also: Bove: Fed Rescue for Bear Stearns(link).