Lending in times of financial crisis: the ECB and the Fed

When the financial crisis came, central banks followed Baghot’s rule: in a financial panic, lend freely against good collateral. It turns out that the US Federal Reserve did this well, in that it is making profits for the US taxpayer and not losing money. (One interpretation, they are earning returns for bearing risk which is another way of saying they were lucky; the other interpretation, they were savvy and profited from providing liquidity when it was scarce.) The New York Times has a piece today noting both how profitable the Fed is and how similar to a hedge fund except for the compensation of its employees. Two differences the article glosses over are the advantage of the Fed — it always can have access to liquidity so can take illiquid positions — and the fact that most hedge funds are quite unprofitable lately (after fees). In contrast, the ECB seems to have lent against bad collateral (article here). It looks like the collateral it received from Lehman did not cover the value of the loan, although it will be close if one thinks of a billion dollars as close and one ignores the costs of asset management. Of course, the US Federeal Reserve in part did so well because the US Treasury took first losses on many loans.