Thursday, May 8, 2008

Will the Bank of America-Countrywide Deal Be Bailed Out?

(In the spirit of Eenie, Meenie, Minie, Moe)

If a big bank starts to go,

Bail it out, give it some dough.

If it hollers, give it moe,

Too big to fail,

If you have to know.

Bank of America seems to be hesitating before it steps up to the altar to merge with Countrywide. Last week, it said in a filing with the SEC that it might or might not stand behind some $39 billion of Countrywide's debt. After this disclosure, S&P promptly announced a downgrade of Countrywide to junk status. Bank of America says it still intends to acquire Countrywide. But skepticism about the deal is popping up and Bank of America's management took some heat at its recent shareholders meeting about acquiring Countrywide.

What's going on? It might be that Bank of America's management is feeling a wee bit embarrassed by J.P. Morgan's deal to purchase Bear Stearns, which was announced a couple of months after Bank of America agreed to buy Countrywide. More precisely, the Federal Reserve's agreement to effectively take $29 billion of toxic Bear Stearns assets off J.P. Morgan's hands made the deal attractive. Bank of America didn't get any such sweetener for the Countrywide deal, and the continuing cascade of bad news from the housing market could be making the Countrywide acquisition look less brilliant by the day.

By wavering on whether or not to back Countrywide's debt, Bank of America might be trying to put pressure on the Fed to take some of the hot tamales from Countrywide's balance sheet off Bank of America's hands. The government has only slightly thawed the deep freeze in the credit markets, and wouldn't want to see things ice up again. If Bank of America backed out of the Countrywide deal, the financial markets could turn frigid in nanoseconds.

That's the problem with bailouts. When the government bails out one bank, its competitors will want bailouts, too. Bank of America isn't in the best of shape as things stand, having already written off billions of dollars of mortgage-related losses. It's a really big bank, one that the Fed can't afford to allow to fail, or even get queasy. (Imagine the morass if the financial markets refused to lend to Bank of America, as happened with Bear Stearns.) So don't be surprised if we, the people, end up owning the bad part of Countrywide, just as we own the bad part of Bear Stearns. In the meantime, hope for oil and grain prices to fall.

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