The near-collapse of US investment giant Bear Stearns and its Federal Reserve bailout on Friday heightened fears that the worst is not over for the spreading global credit crunch.
Bear Stearns, among the hardest hit by the collapse of the US subprime, or high-risk, mortgage market, said it was getting an emergency loan from JPMorgan Chase backed by the Federal Reserve after its liquidity position had "significantly deteriorated."
The Fed meanwhile pledged "to provide liquidity as necessary to promote the orderly functioning of the financial system," a statement that highlighted concerns about the credit squeeze and its wider impact on the banks.
Traders said Bear Stearns's need for emergency funds spooked investors as a credit crunch sweeps Wall Street and concerns mount that a housing slump and rising job cuts could push the US economy into a recession.
"Obviously, the Bear Stearns story rapidly gave rise to worries that it might not be the only firm with similar problems," said Gregory Drahuschak, analyst at Janney Montgomery Scott.
The Bear Stearns news "has sent reverberations throughout all markets worldwide, not only because this is another 'too big to fail' scenario, but also because it has strong implications for a domino effect in the already weakened financial services industry and beyond," added Sherry Cooper, chief economist at BMO Capital Markets.
Bear Stearns's shares plunged 47 per cent, with investors rattled only a day after an affiliate of US private equity giant, the Carlyle Group, defaulted on nearly $17 billion of debt.
One of Carlyle's three co-founders, David Rubenstein, told the Washington Post newspaper that the current financial market turmoil "is deeper than anything we have seen since the Depression."
The Fed's announcement on liquidity came amid growing concerns about the outlook for a financial system left holding mortgage-backed securities in a market that has frozen because of the meltdown in US real estate.
JPMorgan Chase said the Federal Reserve of New York, through its discount window, would finance the rescue and that it was working closely with Bear Stearns on securing permanent financing or "other alternatives" for the bank.
The US central bank last week announced a new program that would allow firms to swap their mortgage securities for US Treasury bonds to help unblock the market but that programme will not start until March 27.
The Fed has poured hundreds of billions of dollars into the financial system and slashed interest rates by 2.25 percentage points since September to battle the credit crunch that is threatening the US economy with recession.
President George W. Bush last month signed a $168-billion economic stimulus and the government and banks have introduced a number of initiatives to help homeowners faced with losing their homes amid tightening credit, job cuts and a slowing economy.
But the authorities' efforts to reassure the markets have fallen on deaf ears.
"It is time to stop pretending," said Bob Eisenbeis, the chief monetary economist at Cumberland's Advisors and a former executive vice president of the Federal Reserve Bank of Atlanta.
"Since last August the assertions regarding the turmoil in financial markets have been characterized as a temporary liquidity problem ... It is time to step back and recognise that the current situation isn't a liquidity issue and hasn't been for some time now.
"Rather there is uncertainty about the underlying quality of assets which is a solvency issue driven by a breakdown in highly leveraged positions," he said. (AFP)
Bear Stearns crisis raises fears worse is yet to come