I have been going over and over the events of the week beginning September 15, 2008, and I continue to come up with one basic conclusion: the reaction of Fed Chairman Ben Bernanke to the existing financial market strains was somewhat precipitous. A good start to understanding the time-line for that week is the article that appeared in the November 10 Wall Street Journal: “Paulson, Bernanke strained for consensus in Bailout." The article begins “Federal Reserve Chairman Ben Bernanke reached the end of his rope on Wednesday afternoon, September 17.”
The week before, the week beginning September 8, the government nationalized Fannie Mae (FNM) and Freddie Mac (FRE). Lehman Brothers was next. Secretary of the Treasury Hank Paulson put his foot down on this one…no bailout for Lehman…that’s final! Monday, September 15 Lehman Brothers filed for bankruptcy. The next troubled firm was AIG and frantic efforts were made to find additional cash for AIG. The basic signal being given to the market was…the bailouts are over. Lehman had to find its own way out or declare bankruptcy. AIG also had to find its own solution. The ‘free-market’ leanings of Paulson and others made for a reluctant leadership.
Then Tuesday evening came, and the world changed. On that evening, the AIG $85 billion bailout was announced. When I heard this news around 9:00 PM that night, things just seemed to feel different: this was a different world than it was before. One didn’t know how, but it was different.
The Wall Street Journal article reports that by Wednesday afternoon “Bernanke reached the end of his rope.” He called Paulson and “with an occasional quaver in his voice” he spoke “unusually bluntly” to the Treasury Secretary. Paulson did not move immediately. He had to sleep on it, and on Thursday morning, he committed.
Paulson called the leadership in Congress and asked them to have a meeting with himself and Bernanke on Friday evening. The few members of Congress that talked with the press after that meeting said that Bernanke did most of the talking and “scared the daylights out of everyone.” Bernanke knew his history of the Great Depression and he knew currents events. He was very logical and very articulate. The leaders were told that they had to act and they had to act fast. The plan was to have a bill before Congress on Monday seeking Congressional approval (of both houses) by the following Friday. The Treasury Department had a bill ready (three pages long) by midnight Saturday evening. The price tag - $700 billion. Why $700 billion? Because it was a big number!
As we know, the bill was rewritten and finally passed on Friday, October 3. What was the bill to do? No one really knew. The important thing, according to Bernanke, was that something was being done and that something was big!
And, the Fed did not stand idle. Helicopter Ben began to flood the financial markets with liquidity. The important thing was to get a lot of liquidity “out there” and worry about cleaning it up later, once the crisis was over. As I have reported elsewhere, Reserve Bank Credit has risen from $890 billion in the banking week ending September 10, 2008 to about $2.2 trillion in the banking week ending November 12, 2008. (I have also noted that it took 94 years to get Reserve Bank Credit up to $890 billion and only nine weeks to have it more than double.) The rationale for this increase was - the financial markets are in a liquidity trap and we don’t know how much is needed - we just cannot fail to supply enough!
Here we are in the middle of November. The basic conclusion relating to the financial crisis so far is that although we cannot tell whether or not the effort is working, we believe that things are better off than they would have been if the actions of Paulson and Bernanke had not been taken.
However, discontent is now being expressed. Paulson has changed the direction of the $700 billion bailout package and Congress is not particularly happy with this move and expressing its discontent. No one really seems to know what to do. Since events have slowed down and the ‘immediate’ need for the rapid passage of the package seems to have passed away - as might be expected - everyone and his brother and sister have their hands out to get a piece of the bailout pie. Apparently, lobbyists are over-running the Treasury Department trying to get their share. And, Henry Paulson’s reputation has seemed to tank along with the stock market. (See the article by Rebecca Christie and Matthew Benjamin on Bloomberg.com titled “Paulson Credibility Takes Hit with Rescue-Plan Shift." It seems like no one can be a part of this administration without having his or her image tarnished.)
And, one question still remains. While Paulson and Bernanke seem to be running this whole show - where is the “decider?” The “decider” has apparently decided to hide out in the White House bunker. This has left Paulson and Bernanke hanging. They are trying to do something, but with no steady hand overseeing their efforts and no vision for a plan.
It seems obvious that the driving force behind all the activity over the last nine weeks has been Ben Bernanke, since he is, in a real sense, the initiator, if not the architect, of the hasty and ill-thought out bailout effort. On Wednesday afternoon, September 17 Bernanke reached the end of his rope. The rest, as they say, is history.
It is my personal hope that President-elect Obama will be able to name his own Chairman of the Board of Governors of the Federal Reserve System when he becomes President.