September 10, 2010


Could Panic Of '08 Have Been Averted? (ROBERT J. SAMUELSON, 9/10/10, IBD)

Lehman's failure had dire consequences because it suggested government had lost control of events. No one knew which financial institutions would be protected and which wouldn't; AIG soon got a massive loan. Uncertainty rose; panic followed.

Worried they'd lose normal credit, companies hoarded cash by cutting jobs, investment and inventories. Disappearing work and wealth (stock losses from September 2008 to March 2009 totaled $3.9 trillion, reports Wilshire Associates) caused consumers to postpone discretionary purchases: cars, homes, appliances.

The explanations of why Lehman was allowed to fail have subtly shifted in two years. Over that weekend of Sept. 13-14, Treasury Secretary Henry Paulson, Fed Chairman Ben Bernanke and New York Federal Reserve Bank President Timothy Geithner desperately tried to organize a private-sector rescue. They almost succeeded.

They persuaded a consortium of other banks to assume $30 billion worth of Lehman's weakest investments. It seemed that Barclays, a major English bank, would buy Lehman, but British regulators raised last-minute objections.

At that point, only the U.S. government could have saved Lehman, which faced a self-fulfilling crisis of confidence. Its customers and lenders were fleeing because they feared they might not be paid. Someone with deep pockets had to stand behind Lehman to assuage these anxieties.

The standard explanation now from Paulson and Bernanke of why they refused is that legally they couldn't do otherwise. The Treasury said it lacked authority to make an investment; the Fed could lend but only if Lehman had adequate collateral, which was allegedly missing. That's the story now, but after Lehman's bankruptcy, the emphasis was different.

"I never once considered that it was appropriate to put taxpayer money on the line in resolving Lehman Brothers," Paulson said. Indeed, his position initially drew praise as standing up to Wall Street.

Bernanke gave similar justifications. Testifying to Congress Sept. 23, he said that "the troubles at Lehman had been well-known . .. (and) we judged that investors ... had had time to take precautionary measures."

In truth, an informal consensus had formed against using government funds to save Lehman. Harsh criticism of the earlier rescue of Bear Stearns — done with Bush administration support and Fed money — had left a deep scar. The Financial Crisis Inquiry Commission has published e-mails reflecting the mood.

On Sept. 9, Treasury chief of staff Jim Wilkinson wrote that he couldn't "stomach us bailing out lehman (sic). Will be horrible in the press." Given this bias, there was no Plan B once Barclays withdrew its offer.

Paulson, Bernanke and Geithner later performed commendably in preventing a wider financial collapse and restoring confidence that, arguably, averted a second Great Depression. Though their measures (TARP, government loan guarantees and Fed lending facilities) were unpopular, they ultimately calmed markets.

But the lingering question is whether Paulson & Co. were cleaning up a mess they helped create.

Doctrinally, we free market conservatives almost had to let Lehman fail, but to their credit, as soon as they saw the actual results, rather than the theoretical ones, W and his team stepped in immediately to save the economy. To their eternal shame, the House GOP remained wedded to ideology despite reality. Had they had their way we could have had a Depression.

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Posted by Orrin Judd at September 10, 2010 8:21 PM
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