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It's a terrible problem. It's a problem called a too-big-to-fail problem. These companies have turned out to be too big to allow to collapse because, again, if they collapse the -- when the elephant falls down, all the grass gets crushed as well.
-- Ben Bernanke, July 26, 2009



) --As the debate over

Federal Reserve

Chairman Ben Bernanke's future enters into full swing, we find one of those typical ironies frequently encountered in the financial markets. After 20 months of recession, including nearly a year of crisis, the Fed chairman is in the same position of many of the financial institutions he helped to save: He is too big to fail, or, in this case, "too important to leave." Ben Bernanke's transition from theoretician to business economist has been a trial by fire, but for all of the tumult there is an upside.

Unless the president reappoints Bernanke, the Fed chairman's term will expire on Jan. 31, 2010. The debate has begun as to whether a reappointment has been earned. Since there will be a congressional confirmation of a new Fed chief if Bernanke is not reappointed, the president will need to select a replacement within the next couple of months if he doesn't reappoint Bernanke.

When former Chairman Alan Greenspan voluntarily retired in January 2006, the search for his successor had already been under way since the previous August, and Bernanke was nominated in late October. Keep in mind that that was the lead time for a scheduled departure during a period of economic stability.

During the first 2 1/2 years of Chairman Bernanke's tenure I was an ardent critic. The fact that Ben Bernanke assumed the chairmanship as a housing bubble was peaking was not his fault. It was his fault, however, that he didn't recognize the seriousness of the threat. If you search the news from 2005 and 2006, you'll find that the question "Are we in a housing bubble?" was asked daily. There were more than enough warning signals. One of the clearest was that adjustable-rate mortgage (ARMs) increased to 35% of mortgage applications, indicating that buyers were stretching to pay record prices. In order to keep sales momentum, credit quality had to deteriorate.

The seeds for this crisis were undoubtedly sown during Greenspan's tenure. It's also important to remember that Greenspan significantly influenced the central bank's approach during his nearly two decades at the helm. Most importantly, the Fed adopted an extreme


approach to regulation and a willingness to provide the economy protection at the first sign of trouble. The latter trait came to be known as the "Greenspan put." As Greenspan exited at the pinnacle of his popularity it seemed likely that his stamp on the Fed would remain for a while.

In the "if isn't broke, don't fix it world" of central banking, Ben Bernanke's biggest mistakes originated from maintaining his predecessor's approach. He failed to identify the seriousness of the housing and credit bubbles. Although this is not excusable, these bubbles were also missed (and unknowingly fueled by) Greenspan. Then, as the early signs of crisis emerged, Chairman Bernanke made the mistake of implementing the "Fed put" incorrectly and too soon.

This started two years ago when the Fed operated as an intermediary for

Bank of America's

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initial preferred-share purchase of


, which foreshadowed the rescue merger of the mortgage giant in January 2008 and was also the start of Bank of America's problems.

In the early stages of a crisis, the cracks first appear among the weakest players. It is imperative to take a hard line at that stage, because the economy is still relatively strong and can handle the harsh medicine. The key is to eliminate the weakest participants in the system while the system can still absorb the shocks, and place their assets in the hands of the stronger players at attractive prices.

Instead, Chairman Bernanke did the opposite: By trying to save everybody, he risked saving nobody. Weaker institutions like Countrywide and

Bear Stearns

were essentially saved while relatively stronger institutions like

Lehman Brothers

failed because there were no healthy acquirers left.

To Bernanke's credit, he exhibited a remarkable ability to react in real time. There are rare situations where the "Fed put" is appropriate -- when the economy is on the cusp of a systemic breakdown. At such times it's essential for the central bank to halt the crisis. In the words of Walter Bagehot, "The end is to stay the panic; and the advances should, if possible, stay the panic." Bernanke recognized this and took whatever steps were necessary to stabilize the system.

In this process, Bernanke has probably forgotten more details of this crisis than any replacement can ever hope to learn. The on-the-job training he received would be hard to replicate. He has encountered housing, credit and stock market busts, as well as runs on banks and money-market funds. He has witnessed the collapse of the securitized credit markets and the delevering of financial institutions. The list goes on, but Bernanke experienced all of these events in real time, and many of them happened simultaneously.

In all of the years he spent at the finest learning institutions in the world, nothing compares with the knowledge he has amassed over the past two years. Most importantly, Bernanke arose from these crises bruised but not beaten. That which did not kill him will make him stronger, and the American people will benefit from that strength if he is reappointed.

The tuition this nation as a whole has paid for Bernanke's education and transition from academic economist to real-world central banker has been expensive. But in return, we now have the world's premier central banker. In a nation as indebted as ours, we can't afford to let that tuition go to waste. At this fragile juncture in our nation's economic history, Ben Bernanke should be reappointed, because he is "too important to leave."

-- Written by Mike O'Rourke in New York


Mike O'Rourke is chief market strategist for BTIG, where he advises the firm's clients on Market developments and provides them with "Market Intelligence." Mike's primary focus is identifying short-term catalysts driving daily trading activity and addressing how they fit into the "big picture." O'Rourke has 13 years of experience in the financial markets. He started his career on the floor of the New York Stock Exchange with specialist firm Spear, Leeds and Kellogg. At SLK, Mike transitioned to the Nasdaq as market maker trading technology stocks in the late 1990s. In 1998, he joined the Proprietary Trading Group, managing his own portfolio, and thereafter, he traded proprietarily for Goldman Sachs following its acquisition of SLK. In 2003, he joined one of BTIG's predecessor firms. In 2006, O'rourke was appointed as chief market strategist for BTIG.