First (my bold):
The multiple instances of run-like behavior during the crisis, together with the associated sharp increases in liquidity premiums and dysfunction in many markets, motivated much of the Federal Reserve's policy response. Bagehot advised central banks--the only institutions that have the power to increase the aggregate liquidity in the system--to respond to panics by lending freely against sound collateral.And then:
The Federal Reserve's responses to the failure or near failure of a number of systemically critical firms reflected the best of bad options, given the absence of a legal framework for winding down such firms in an orderly way in the midst of a crisis--a framework that we now have. However, those actions were, again, consistent with the Bagehot approach of lending against collateral to illiquid but solvent firms.Really?
Was the Fed really lending against sound collateral, or was it more the fact that, whatever it chose to lend against became, ipso facto, "sound collateral."
And were these really "illiquid but solvent firms" or "illiquid and insolvent firms" that the Fed, through a bevy of support programs, succeeded in reviving?
I can't tell if Bernanke really believes what he's saying or, deep inside, realizes it's a necessary intellectual cover for a spate of unprecedented Fed activism.