SEPTEMBER 17, 2013
What the Media Didn't Tell You About the Fall of Lehman Bros.
Financial Terrorismby MIKE WHITNEY
The Lehman Brothers default on September 15, 2008, was the biggest incident of financial terrorism in US history. When Secretary of the Treasury Henry Paulson and Fed chairman Ben Bernanke convened an emergency meeting with leading members the US Congress and their aides on September 18, 2008, they had already developed a “break the glass” strategy for extorting $700 billion dollars from US government to make up for the losses on trillions of dollars of toxic “subprime” assets that were at the center of Wall Street’s massive predatory lending swindle.
The plan was to precipitate a financial catastrophe so immense that elected officials would comply with Wall Street’s demands as presented by former Goldman Sachs CEO, Paulson. To that end, Bernanke warned the congressional assembly that if they refused to meet their extortionist demands of $700 billion no-strings-attached bailout, that “We may not have an economy on Monday”. This was clearly a lie that was intended to coerce congress. As it happens, the so called Troubled Asset Relief Program or TARP was not implemented for a full month later (October 14th). The economy was still intact although the markets and Bernanke’s friends on Wall Street had suffered severe losses.
Naturally, this analysis veers from the specious narrative presented in the MSM, which characterizes the behavior of Paulson and Bernanke as selfless and even “heroic”. Nothing could be further from the truth. The two men deliberately blew up the century-old investment bank to blackmail congress and to provide emergency assistance to the many broken and insolvent banks and financial institutions who were at the end of their rope. Bernanke himself alluded to the dismal condition of the country’s biggest lenders in testimony to the Financial Crisis Inquiry Commission in 2011. Here’s what he said:
“As a scholar of the Great Depression, I honestly believe that September and October of 2008 was the worst financial crisis in global history, including the Great Depression. If you look at the firms that came under pressure in that period . . . only one . . . was not at serious risk of failure. . . . So out of maybe the 13, 13 of the most important financial institutions in the United States, 12 were at risk of failure within a period of a week or two.”
They were all broke, according to Bernanke. All, except one. Even worse, “12 were at risk of failure within a period of a week or two”, so something had to be done fast, which is why both men were committed to creating a big enough implosion to scare congress in compliance.
Keep in mind, none of this was secret. It had been more than a year since the French bank BNP Paribas stopped redemptions on hard-to-price mortgage backed assets which were steadily losing value. That sent up red flags on Wall Street and in markets across the globe. PIMCO’s former managing director, Paul McCulley gives a good account of what happened on that day in a speech he delivered at the 19th Annual Hyman Minsky Conference on the State of the U.S. and World Economies. Here’s an excerpt from McCulley’s speech:
“If you have to pick a day for the Minsky Moment, it was August 9. (2007) And, actually, it didn’t happen here in the United States. It happened in France, when Paribas Bank (BNP) said that it could not value the toxic mortgage assets in three of its off-balance sheet vehicles, and that, therefore, the liability holders, who thought they could get out at any time, were frozen. I remember the day like my son’s birthday. And that happens every year. Because the unraveling started on that day. In fact, it was later that month that I actually coined the term “Shadow Banking System” at the Fed’s annual symposium in Jackson Hole.
“It was only my second year there. And I was in awe, and mainly listened for most of the three days. At the end….I stood up and (paraphrasing) said, ‘What’s going on is really simple. We’re having a run on the Shadow Banking System and the only question is how intensely it will self-feed as its assets and liabilities are put back onto the balance sheet of the conventional banking system.’” (Paul McCulley, 19th Annual Hyman Minsky Conference on the State of the U.S. and World Economies)
August 9, 2007. Game over. From that point on, the price of mortgage-backed assets continued to slide wiping out trillions of dollars of value and plunging most of Wall Street’s banks deep into the red. This is why the Fed started doling out liquidity to everyone through its discount window whether they were regulated or not, because they had to stanch the bleeding and stop the de facto run on the shadow banking system. Despite the Fed’s efforts, 12 of the 13 biggest financial institutions in the country were dead broke and “at risk of failure within a period of a week or two.” This is why Paulson and Bernanke decided to throw Lehman overboard, because it was the only way they felt they could win support from Congress for the $700 billion bailout. Oddly, the New York Times financial scribe, Joe Nocera, seems to think that Paulson and Bernanke should be applauded for their initiative. Here’s a clip from an article by Nocera in 2009, a year after the Lehman crashed.
“In the months between Bear Stearns and Lehman Brothers, Mr. Paulson and Mr. Bernanke had approached Congressional leaders about the need to pass legislation that would give them a handful of additional tools to help them deal with a larger crisis, should one ensue. But they quickly realized there was simply no political will to get anything done. After Lehman, however, Mr. Paulson and Mr. Bernanke were able to persuade Congress to pass a bill that gave the Treasury Department $700 billion in potential bailout money — which Mr. Paulson then used to shore up the system, and help ease the crisis. Even then, it wasn’t easy; it took two tries in the House to pass the legislation. Without the crisis prompted by the Lehman default, it would have been impossible to pass a bill like that. That is one reason the Lehman default turned out to be a good thing.” (Lehman Had to Die So Global Finance Could Live”, NYT)
So the Lehman default was a “good thing” because it paved the way for TARP? There’s no question where Nocera’s loyalties lie, is there?
But what is Nocera saying? He’s saying that Paulson had no chance of getting congress to submit to his absurd demands unless they were threatened with a full-system meltdown, a crisis on a scale of 9-11. That speaks to the motive behind Paulson’s actions. Here’s more from Nocera:
“Almost everyone I’ve ever spoken to in Hank Paulson’s old Treasury Department agrees that without the immediate panic caused by the Lehman default, the government would never have agreed to make the loans needed to save A.I.G., a company it knew very little about. In effect, the Lehman bankruptcy caused the government to panic, which in turn caused it to save the firm it really had to save to prevent catastrophe. In retrospect, if you had to choose one firm to throw under the bus to save everyone else, you would choose Lehman.” (Lehman Had to Die So Global Finance Could Live”, NYT)
Yes, Joe, the ”Lehman bankruptcy caused the government to panic”, because it was designed to make them panic. It’s called terrorism, financial terrorism.
Nocera is being deliberately misleading here. “The government never agreed “to make the loans to A.I.G.” How could they? AIG collapsed the day after Lehman blew up, long before the TARP was approved. The Fed authorized the Federal Reserve Bank of New York to lend up to $85 billion to the AIG under Section 13(3) of the Federal Reserve Act. In other words, the Fed invoked emergency powers under some obscure clause (“unusual and exigent”) in their charter, to pull out all the stops and save AIG from the chopping block. But they refused to do the same for Lehman a day earlier. Why?
And why was Lehman denied access to the Fed’s Discount Window even though the facility was explicitly designed for struggling banks like Lehman.. And why was Lehman was blocked from becoming a bank holding company, even though Morgan Stanley and Goldman Sachs were allowed to make that same change just six days later. And why were the short sellers were allowed to devour Lehman with impunity driving down the value of its stock down by 75% in a week, but were banned 4 days later when they took aim at G-Sax and Morgan Stanley. Get a load of this pretentious statement from the SEC banning short selling on September 19, 2008:
“SEC Halts Short Selling of Financial Stocks to Protect Investors and Markets
Washington, D.C., Sept. 19, 2008 — The Securities and Exchange Commission, acting in concert with the U.K. Financial Services Authority, took temporary emergency action to prohibit short selling in financial companies to protect the integrity and quality of the securities market and strengthen investor confidence. The U.K. FSA took similar action yesterdayThe Commission’s action will apply to the securities of 799 financial companies. The action is immediately effective.
SEC Chairman Christopher Cox said, “The Commission is committed to using every weapon in its arsenal to combat market manipulation that threatens investors and capital markets. The emergency order temporarily banning short selling of financial stocks will restore equilibrium to markets. This action, which would not be necessary in a well-functioning market, is temporary in nature and part of the comprehensive set of steps being taken by the Federal Reserve, the Treasury, and the Congress.”
That ought to give you a lot of confidence in our regulatory agencies, eh? Four days after the Lehman faced the firing squad, everyone else gets a pardon. Nice. No politics in that decision!
Of course, there was an offer to buy Lehman’s by Barclay’s, but that mysteriously fell apart at the 11th hour when UK regulators refused to approve the deal. Think about that for a minute. We are asked to belief that “unnamed” UK regulators put the kibosh on a deal that would have kept the stock market crashing and mitigated the financial crisis which according to the Dallas Federal Reserve cost upwards of $14 trillion. Do you find that a little hard to believe? I do.
The deal fell apart, because Paulson torpedoed it, that’s why. Just like the deal with Bank of America (and Lehman) fell apart. In fact, BoA CEO Ken Lewis wouldn’t even answer (Lehman CEO) Dick Fuld’s phone calls on the weekend of the bankruptcy. Why? Because the fix was already in, that’s why. Paulson wanted his own 9-11, and he got it.
Paulson has defended his decision to let Lehman fail saying that neither he nor Bernanke had the legal authority to save Lehman even though they had bailed out Bear Stearns just months earlier under similar conditions. Even though they bailed out AIG the NEXT DAY under similar conditions (under trumped up emergency powers) Even though according to the New York Times The Treasury had $50 billion exchange stabilization fund which could have been used in a pinch. Even though the Fed was throwing around money like a madman, dumping trillions into their lending facilities and committing $330 billion in swap lines with Bank of Canada, Bank of England, Bank of Japan, Danmarks Nationalbank, ECB, Norges Bank, Reserve Bank of Australia, Sveriges Riksbank, and Swiss National Bank Swap lines outstanding now total $620 billion.
Can you believe it? The Fed was doling out money hand over fist to foreign banks while pretending they didn’t have the authority to save Lehman! What a freaking joke. And, as we said earlier, the Fed used its emergency powers –which it conferred on itself, by the way– to bail out AIG the very next day. (Still, none of the recent recaps of the Lehman incident in the MSM have challenged Paulson’s claim that he didn’t have the legal authority.)
Now take a look at this excerpt from a recent interview in Bloomberg with Paulson:
“I remember waking up very early the morning of Sept. 15 in New York and looking out the window at all the people on the street walking to work….. their lives were about to change in very profound ways.
Lehman intensified the crisis — it was a symptom, not the cause. I don’t subscribe to the “domino theory” when it comes to Lehman. My former colleague, Ed Lazear, had a line that’s more apt: The crisis was like a giant popcorn popper, and it had been heating these kernels for a year as the crisis went on. Lehman might have been the first to pop, but we knew that weekend that Merrill Lynch and AIG were going to pop next, and many others in the U.S. and Europe were not far behind.”
Okay, so Paulson confirms our theory that the banks were broke. Good. Here’s more from Paulson:
“That week was like no other week I’ve ever had. We were dealing with multiple problems — the need to prevent the failure of AIG, the likely impending failure of other financial institutions, the need to prevent the implosion of money-market funds, and the need to go to Congress to request emergency authorities.
We had been working all week on how to request what we needed from Congress. At the heart of it was the ability to buy illiquid assets from financial institutions. We were talking in terms of hundreds of billions of dollars.”
It was Thursday evening, Sept. 18, when Ben Bernanke and I met with the congressional leaders. So far many of them had not seen the financial crisis. It hadn’t rippled through to their constituents. Ben and I painted a picture of a financial system which was frozen. Banks weren’t lending to each other. Credit wasn’t flowing normally.” (Bloomberg)
This is where it gets interesting. The day before Lehman collapsed, that is, Sunday, September 14, the International Swaps and Derivatives Association (ISDA) offered an exceptional trading session to allow market participants to offset positions in various derivatives on the condition of a Lehman bankruptcy later that day.” (Wikipedia)
Pretty convenient, eh? So a lot of the banks who would have suffered catastrophic losses by counterparty deals gone south, were able to hedge their bets the day before the volcano blew. Doesn’t sound like the people in charge had already decided how the deal was going to go down?
Indeed. And what about Paulson’s claim that “Ben and I painted a picture of a financial system which was frozen. Banks weren’t lending to each other. Credit wasn’t flowing normally.”
Yeah, it was frozen, because Bernanke was freezing it…deliberately! The Fed chairman began to drain billions of dollars of liquidity from the system to increase the stress in interbank lending and push Libor higher. (Some of the economics blogs were monitoring this fiasco closely at the time wondering what the hell Bernanke was doing.) Bernanke and Paulson were exacerbating the crisis to put pressure on congress. And as far as the trouble in the commercial paper market. According to economist Dean Baker “If the commercial paper market were to shut down, most corporations would lack the ability to meet payroll or pay their bills”. The funny thing is, the Fed had the ability to fix the problem even before TARP was approved, in fact, Bernanke was using the liquidity squeeze in commercial paper and in the money markets to pour more gas on the fire so that congress would cave in. Baker sums up Bernanke’s deceptive role in an article titled “Ben Bernanke; Wall Street’s Servant”:
”Bernanke deliberately misled Congress to help pass the Troubled Asset Relief Program (TARP). He told them that the commercial paper market was shutting down, raising the prospect that most of corporate America would be unable to get the short-term credit needed to meet its payroll and pay other bills. Bernanke neglected to mention that he could singlehandedly keep the commercial paper market operating by setting up a special Fed lending facility for this purpose. He announced the establishment of a lending facility to buy commercial paper the weekend after Congress approved TARP.” (“Ben Bernanke; Wall Street’s Servant”, Dean Baker, Industry News.org)
Baker makes a pretty damning accusation here, but is he right, was Bernanke really exacerbating the troubles in the commercial paper market to twist congress’s arm?
A quick check of the St Louis Fed’s “Financial Crisis Timeline” tells us everything we need to know. On October 3, 2008, Congress passed the Emergency Economic Stabilization Act which established the $700 billion Troubled Asset Relief Program (TARP). Four days later (October 7, 2008) the Fed announced the creation of the Commercial Paper Funding Facility (CPFF), “which will provide a liquidity backstop to U.S. issuers of commercial paper…”.Two weeks after that, (October 21, 2008) Bernanke launched the Money Market Investor Funding Facility (MMIFF) to purchase “U.S. dollar-denominated certificates of deposit and commercial paper” which will relieve the stress lingering in the money markets.
Looks like Baker is right after all; it was a stunt designed to blackmail congress. Bernanke used the problems in the commercial paper and money markets to intensify the crisis and force Congress to sign over the loot. Then– as soon as TARP passed–he dialed down the pressure and backstopped the entire financial system with an estimated $14 trillion in loans and other commitments. If that isn’t financial terrorism, then what is it?
*Max Kaiser coined the term financial terrorism.
