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Preview: Comments on "Did Lehman Brothers’s Failure Matter?"

Comments on "Did Lehman Brothers’s Failure Matter?"





Updated: 2009-03-09T20:37:47Z

 



As others have pointed out, severe economic problems were inevitable soon, just the timing was affected. However, in regards to...

2009-03-12T01:19:50Z

As others have pointed out, severe economic problems were inevitable soon, just the timing was affected. However, in regards to...

As others have pointed out, severe economic problems were inevitable soon, just the timing was affected.
However, in regards to why one company was not helped when others were, note that Lehman was the only one to contribute more to Democrats than to Republicans. Given the habitual ways of behing of the Bush administration and the rest of those in power in the Republican Party, it is reasonable to suspect that those fact affected the Bush administration's decisions on who to help and who not to help.

And BJ, to deny that the welfare of the super-rich would not be the most important consideration to the Bush administration is to totally ignore their habitual ways of behaving. But that way of thinking, or at least arguing, is to be expected from you, because it is your habitual habit.




Roger, you have it upside down. Why indirect funding through either the FED's swap programs or preferred shares instead of...

2009-03-11T08:51:35Z

Roger, you have it upside down. Why indirect funding through either the FED's swap programs or preferred shares instead of...

Roger, you have it upside down. Why indirect funding through either the FED's swap programs or preferred shares instead of direct investment with common shares? Because if the government had invested through common shares, taxpayers would have to eat the reported losses that have popped up. The preferred shares are like loans, so the majority of the losses in the Q4 and Q12009 were absorbed by common shareholders. Look at how much these stocks have dropped.

Now that the common shareholders have taken their fill of losses, the government can swoop in and convert their preferred shares into common. By delaying using the preferred shared method, the taxpayer has been spared from even greater losses.

Roger, I doubt that anyone was thinking, "how can we help the rich?" during the crisis. The facts don't support it and since Obama has pretty much continued with the same strategy, it doesn't make any sense. I think you should leave your conspiracy theory aside unless there is compelling evidence.

SOMEONE has to eat the losses, and had the government assumed control and responsibility, then the taxpayer would unfairly have to eat the vast majority of the losses. By indirectly investing, we let the shareholders take the losses, THEN we can swoop in and take control at much reduced cost. But if there is no need to take control, then we shouldn't because there's no reason to put the taxpayer at risk unnecessarily. The preferred are almost like loans that have to be repaid, thus the taxpayer gets paid interest (dividends) and gets an equity stake that has to be bought out later. I think the method employed by Paulson was the best under the circumstances. We were very fortunate to have someone of his caliber working for us, this guy wasn't Goldman CEO for nothing.




There were many things that could have been done, simply to allow time to debate what a rescue package might...

2009-03-10T23:37:18Z

There were many things that could have been done, simply to allow time to debate what a rescue package might...

There were many things that could have been done, simply to allow time to debate what a rescue package might be, there could even have been a financial market holiday for a couple of days, but there was intense pressure by Democratic leaders to have rescue legislation if only to embarrass Republicans so that supporting voices quieted Congressional liberals. This was a massive spending bill however, war-like in extent and passed with minimal Congressional thought and less public understanding.

The attack on Republicans was enough that the important number of liberals who actually prevented passage initially could be not considered. The size of the rescue, was larger than the real stimulus spending legislation when tricks like the suspending of the Alternative Minimum Tax are considered.




Anne, what you are pointing out is another panic scenario - the establishment panic. We saw it about WMD too...

2009-03-10T23:10:28Z

Anne, what you are pointing out is another panic scenario - the establishment panic. We saw it about WMD too...

Anne, what you are pointing out is another panic scenario - the establishment panic. We saw it about WMD too - even down to why, exactly, a U.S. made bomb dropped from an airplane, of which we sell tons to the Saudis, is not a WMD. I suppose much, much smarter people than me have the answer to that question.

The establishment panic did block, in my opinion, a number of opportunities. For instance, the opportunity to ask why the money couldn't have simply expanded the FDIC and the banks been put into traditional receivership. My own view is that the TARP piece of crapola was inevitable, but it should have made the more liberal members of Congress begin an intense debate on whether, for instance, we should simply devote that money to a tax funded bank. I have yet to understand the objection to direct funding, and the approval of indirect funding, of banks. It seems to me it comes down to paying rents to the ever vital rentier class.

I don't know whether you agree with that, but I think these questions were simply bludgeoned to death during the Establishment rush. They were questions that should have been pushed. But who was going to push them, and in what venue? The NYT Biz section? Cnbc? Lacking a strong working class movement, we lack any pressure on the forums that be, who are then dominated by the people who make sure that certain questions just don't arise.

Luckily, I think - seriously - that seemingly tiny forums, like this blog, are vital to forcing the establishment to begin confronting those larger questions.




ndd: As I said, I agree that the consumer recession was already baked-in. A confluence of events just made it...

2009-03-10T18:15:41Z

ndd: As I said, I agree that the consumer recession was already baked-in. A confluence of events just made it...

ndd:

As I said, I agree that the consumer recession was already baked-in. A confluence of events just made it that much worse.

And don't forget the liquidity trap. The growth in base money is just sitting in the vault:

http://research.stlouisfed.org/fred2/series/EXCRESNS?cid=123
http://research.stlouisfed.org/fred2/series/BOGAMBSL?cid=124




Patrick: The cardiac arrest theory doesn't explain why Joe Sixpack, literally overnight, stopped shopping. Even small ticket items, that wouldn't...

2009-03-10T17:11:08Z

Patrick: The cardiac arrest theory doesn't explain why Joe Sixpack, literally overnight, stopped shopping. Even small ticket items, that wouldn't...

Patrick:
The cardiac arrest theory doesn't explain why Joe Sixpack, literally overnight, stopped shopping. Even small ticket items, that wouldn't be subject to obtaining a consumer loan, stopped selling.

As to broad money supply, it "shrank" to 15% YoY growth.




ndd, anne: I suggest that there was a confluence of events. The consumer recession was already baked in, and when...

2009-03-10T16:23:39Z

ndd, anne: I suggest that there was a confluence of events. The consumer recession was already baked in, and when...

ndd, anne:

I suggest that there was a confluence of events. The consumer recession was already baked in, and when the Lehman failure sent the financial system into cardiac arrest it unleashed a sudden and massive contraction of credit which effectively shrank the broad money supply drastically with predictable results.




The problem comes to whether the point was saving a proper financial company or saving what were inherently false insurance...

2009-03-10T15:29:12Z

The problem comes to whether the point was saving a proper financial company or saving what were inherently false insurance...

The problem comes to whether the point was saving a proper financial company or saving what were inherently false insurance contracts written finance company to finance company. As with mortgage contracts, we invented wildly profitable mortgages that could be sold at any cost with no risk because home prices would increase so the basic cost of a mortgage was not relevant to a homeowner because the basic mortgage could always be refinanced. Then, the issued mortgage could be broken up and sold several times over as for prospective interest which would be premium interest. So, derivatives.




Cynthia: The problem with the Paulson-Geithner bailout is that it isn't designed to help get banking and insurance operations back...

2009-03-10T15:19:42Z

Cynthia: The problem with the Paulson-Geithner bailout is that it isn't designed to help get banking and insurance operations back...

Cynthia:

The problem with the Paulson-Geithner bailout is that it isn't designed to help get banking and insurance operations back up and running again. It isn't designed to help get credit flowing through the real economy again. It is only designed to bail out the super-rich who were rich yet stupid enough to bet the farm on CDS's. *

* Credit Default Swaps or credit default insurance contracts which allowed buying assets no matter the risk under the pretense that the assets were covered by insurance.

[Agreed; there was no problem as such with the standard insurance programs at AIG, there was a problem with the writing of impossibly layered insurance contracts on financial assets which were though to involve no risk so required only fees that could not possibly cover a loss. The insurance was relatively cheap, but wildly profitable since there were supposed to be no insurance losses.]




The only reason Lehman didn't receive a federal bailout is because AIG, at the time, had enough money in reserve...

2009-03-10T15:01:08Z

The only reason Lehman didn't receive a federal bailout is because AIG, at the time, had enough money in reserve...

The only reason Lehman didn't receive a federal bailout is because AIG, at the time, had enough money in reserve to bail out Lehman for its huge losses on CDS contracts. But when a huge wave of other financial firms began to lost big time on their CDS contracts, AIG was too deep in the hole to bail them out as well. So Uncle Sam instead stepped in to bail out AIG so that it in turn could bail out other firms as well as their fabulously wealthy investors who were rich yet stupid enough to bet the farm on CDS's.

The problem with the Paulson-Geithner bailout is that it isn't designed to help get banking and insurance operations back up and runnning again. It isn't designed to help get credit flowing through the real economy again. It is only designed to bail out the super-rich who were rich yet stupid enough to bet the farm on CDS's. It is only designed to keep the phony economy based on CDS and other derivatives afloat. Because of this, the bank bailout don't do one iota to help those who are in the business of making real products and delivering real services. It only helps those who are in the business of buying and selling phony products and services!




Ndd: "OMG THERE'S A DIRE EMERGENCY!!! RUN FOR YOUR LIVES!!!!! THE BUILDING IS ON FIRE AND IF WE DON'T PUT...

2009-03-10T14:53:42Z

Ndd: "OMG THERE'S A DIRE EMERGENCY!!! RUN FOR YOUR LIVES!!!!! THE BUILDING IS ON FIRE AND IF WE DON'T PUT...

Ndd:

"OMG THERE'S A DIRE EMERGENCY!!! RUN FOR YOUR LIVES!!!!! THE BUILDING IS ON FIRE AND IF WE DON'T PUT IT OUT IN THE NEXT 15 MINUTES THE ENTIRE CITY IS GOING TO BURN DOWN AND YOU'RE ALL GOING TO DIE!!!!!!!!!!!!!"

When financial system rescue legislation was proposed in the fall, I had no idea what we were supposed to rescue and why nor did enough of the most liberal members of Congress that the legislation failed initially. On failing however, the failure was harshly and continually blamed on Republicans which was just not true. Democrats could easily have passed the legislation had enough liberals been supporting. The blame however was enough for Democrats trying to understand what was being voted on and the bill passed with little understanding of why even now.

These last months there have no clear explanations from political leaders as to just what situation we are in, at least coherent guesses divorced from politics as to why, and a sense of coherence as to how our problems are to approached.

I am still trying to understand why we gave almost $200 billion to an insurance company and what this could have to do with building schools and hiring teachers.




Ndd: "Why, I was in a department store just the other day, when I saw this young woman with two...

2009-03-10T14:38:34Z

Ndd: "Why, I was in a department store just the other day, when I saw this young woman with two...

Ndd:

"Why, I was in a department store just the other day, when I saw this young woman with two toddlers in tow. She was all set to buy a new microwave oven when she looked at her blackberry and gasped, 'The TED spread has ticked up!' The salesperson sighed."

These are really important comments, and not flip at all, for if ever there has been a time for economists or political leaders who follow the advice of economists to speak understandably and not condescendingly the time has been increasingly important for more than a year in the making.




Anne: I know, I know. Why, I was in a department store just the other day, when I saw this...

2009-03-10T13:55:54Z

Anne: I know, I know. Why, I was in a department store just the other day, when I saw this...

Anne:

I know, I know. Why, I was in a department store just the other day, when I saw this young woman with two toddlers in tow. She was all set to buy a new micowave oven when she looked at her blackberry and gasped, "The TED spread has ticked up!" The salesperson sighed.

I suppose I don't have to belabor the point, but was the end of that sale.




Maybe it's because I am here in the Midwest where employment in many places is double digit, but I don't...

2009-03-10T12:34:43Z

Maybe it's because I am here in the Midwest where employment in many places is double digit, but I don't...

Maybe it's because I am here in the Midwest where employment in many places is double digit, but I don't buy the "Consumers are not spending because of fear" meme.

Consumers are not spending because they DON"T HAVE MONEY or CREDIT. The foreclosures represent people who are deep in debt. The housing boom is bust and most of that workforce is unemployed or underemployed. Instead of building new at high wages they are remodeling and repairing at discount prices. Auto industry collapse means that millions of workers are laid off and unemployed drawing paychecks or benefits that are much smaller. They have LESS money to spend. Not to mention that many consumers were cleaned out by high gas prices.

All of this was happening BEFORE the financial collapse. What Big Finance was doing was unsustainable and bound to collapse, but we were already headed into a housing and rust belt recession (The entire 8 years of Bush was a Michigan recession). This recession is much worse because of the financial collapse on top of the other problems, but the other problems still exist and reinforce the problems for finance.




Ndd: What the hell do people think those customers were reacting to? "OMG look at the Libor?" "OMG look at...

2009-03-10T12:14:58Z

Ndd: What the hell do people think those customers were reacting to? "OMG look at the Libor?" "OMG look at...

Ndd:

What the hell do people think those customers were reacting to? "OMG look at the Libor?" "OMG look at the signal this Lehman failure sends to the markets?" "OMG investors are really going to flee from risk now?"

[Right, right, right.]




Here's what Prof. Krugman says: you’re looking at some building, and you hear the fire alarm go off, and smoke...

2009-03-10T11:35:05Z

Here's what Prof. Krugman says: you’re looking at some building, and you hear the fire alarm go off, and smoke...

Here's what Prof. Krugman says:
you’re looking at some building, and you hear the fire alarm go off, and smoke starts trickling out the windows. Then a lot of fire trucks and firemen arrive — and only after that do flames start shooting out the top of the building.

Clearly, the fire department turned a small problem into a crisis.

Except that's not what happened in September. Here's what happened:

you’re looking at some building, and you hear the fire alarm go off, and smoke starts trickling out the windows. Then a lot of fire trucks and firemen arrive — and only after that do flames start shooting out the top of the building.

Then officials from the fire department get on TV, radio, and on bullhorns to announce "OMG THERE'S A DIRE EMERGENCY!!! RUN FOR YOUR LIVES!!!!! THE BUILDING IS ON FIRE AND IF WE DON'T PUT IT OUT IN THE NEXT 15 MINUTES THE ENTIRE CITY IS GOING TO BURN DOWN AND YOU'RE ALL GOING TO DIE!!!!!!!!!!!!!"


Gee, perfesser, ya think that might induce a little panic?




Can nobody remember simple facts for even 6 months? Can nobody look at data and not see the obvious that...

2009-03-10T10:54:35Z

Can nobody remember simple facts for even 6 months? Can nobody look at data and not see the obvious that...

Can nobody remember simple facts for even 6 months? Can nobody look at data and not see the obvious that is shouting at them at the top of its lungs?

The difference between August 2008 and October 2008 is that the consumer came to a dead halt, virtually overnight. Has nobody read any of the stories of businesses that said, "On September X, orders dried up/customers stopped coming in"?

What the hell do people think those customers were reacting to? "OMG look at the Libor?" "OMG look at the signal this Lehman failure sends to the markets?" "OMG investors are really going to flee from risk now?" Total, unadulterated ivory tower BS.

The Lehman failure was but one item in a string of horribly bad news that happened virtually daily in September, starting with the takeover of Fannie and Freddie.

What DID scare the daylights out of consumers was (1) several money markets breaking the buck, followed by (2) Bush, Paulson, and Bernanke getting on the TV telling the country that we were hours away from Armageddon and if almost a $Trillion wasn't thrown at Wall Street NOW! NOW! NOW! Your Employer won't get a payday loan and Your Paycheck Will Bounce Next Week. That, dear people, was pretty damn effective scaring the sh^^ out of consumers. That their 401k's promptly lost 1/2 of their value - probably due to hedge fund redemptions - by early October was the icing on the cake.

But by all means, let's stick our heads in the sands, ignore what really happened, and come up with a nice explanation that appeals so well to academia.




Those who are trying to convince us and taxpayers that Lehman Brothers’s failure matters are the same willing to keep...

2009-03-10T09:20:34Z

Those who are trying to convince us and taxpayers that Lehman Brothers’s failure matters are the same willing to keep...

Those who are trying to convince us and taxpayers that Lehman Brothers’s failure matters are the same willing to keep the existing system and buy time and not yet convinced that something was wrong... They are defending now AIG (read their memo) or Citigroup threatening or scaring people by saying "look at what happened to and after Lehman...". Let's be intellectually honest and pragmatic economists by saying that Lehman's failure was irrelevant and some are mixing too often cause and effects, symptoms and disease.




We may believe that Lehmans' failure was catastrophic. Would Citigroup's failure be less so? Would its nationalization and accompanying creditor...

2009-03-10T08:18:06Z

We may believe that Lehmans' failure was catastrophic. Would Citigroup's failure be less so? Would its nationalization and accompanying creditor...

We may believe that Lehmans' failure was catastrophic. Would Citigroup's failure be less so? Would its nationalization and accompanying creditor wipeout be less so?




What is the mechanism whereby Lehman could have been prevented from entering Chapter 11, given that this was Lehman's chosen...

2009-03-10T05:54:05Z

What is the mechanism whereby Lehman could have been prevented from entering Chapter 11, given that this was Lehman's chosen...

What is the mechanism whereby Lehman could have been prevented from entering Chapter 11, given that this was Lehman's chosen course of action?

Was that mechanism (if it exists) available at the time Lehman entered Capter 11?

If it existed, should it have been used?

If it existed and had been used, would Lehman be better off today? (I suspect not.)




Stock market commentary exhibits a strong bias towards trying to come up with a fundamental explanation for price moves rather...

2009-03-10T05:13:38Z

Stock market commentary exhibits a strong bias towards trying to come up with a fundamental explanation for price moves rather...


Stock market commentary exhibits a strong bias towards trying to come up with a fundamental explanation for price moves rather than focusing on things like herd behavior. The market nowadays is not an efficient discounting mechanism reacting rationally to novel and expected pieces of information. It's much more like a giant cattle stampede. This observation isn't meant to be condescending towards individual market participants. The traders who are having success are the one's implicitly modeling the market as a giant cattle stamped, while traders/investors trying to rationalize things and be hyper analytical are getting hurt almost every day. That trend by itself can be cyclical and reinforcing. The Lehman failure, among other things, was a focal example where the rationalists got slaughtered (either because Lehman mgmt. was lying about their finances or because herd behavior became unreasonably suspicious - take your pick).




Brad Setser has some really interesting things to say here When Lehman failed, it seems the Fed and Treasury were...

2009-03-10T04:44:32Z

Brad Setser has some really interesting things to say here When Lehman failed, it seems the Fed and Treasury were...

Brad Setser has some really interesting things to say here

When Lehman failed, it seems the Fed and Treasury were panicking about the CDS counterparties. Turns out they really needed to worry about an old fashioned bank run (albeit via blackberry) on money market funds and the knock-on effects on the interbank market. Makes me wonder: had Treasury and the Fed understood this, the money market guarantee they put in place on Sept. 29 could have been put in place over the weekend of Sept. 13-14 when Lehman failed... and maybe the world wouldn't have stopped.

I also wonder if they over estimated the risk posed by the AIG CDS fiasco.





Was the decision to let Lehman go bankrupt a gigantic mistake? Consider what economic historian Charles Kindleberger had to say...

2009-03-10T03:05:40Z

Was the decision to let Lehman go bankrupt a gigantic mistake? Consider what economic historian Charles Kindleberger had to say...

Was the decision to let Lehman go bankrupt a gigantic mistake? Consider what economic historian Charles Kindleberger had to say about the general issue of rescuing "too big to fail" institutions in his classic study "Manias, Panics, and Crashes":

"In a word, our conclusion is that money supply should be fixed over the long run but be elastic during the short-run crisis. A lender of last resort should exist, but its presence should be doubted. For example, uncertainty about whether New York City should be helped, and by whom, may have proved just right in the long run, so long as help was finally provided, and so long as there was doubt right to the end as to whether it would be. This is a neat trick: Always come to the rescue, in order to prevent needless deflation, but always leave it uncertain whether rescue will arrive in time or at all, so as to instill caution in other speculators, banks, cities, or countries. In Voltaire's Candide, the head of a general was cut off "to encourage the others." What I am encouraging is that some sleight of hand, some trick of mirrors be found to "encourage" the others (without,of course, cutting off actual heads) because monetary fundamentalism has such unhappy consequences for the economic system."

From this perspective, a wiser response to Lehman's problems would have been to let it twist in the wind, let the shareholders suffer (as with Bear Stearns), but then step in at the end and rescue it. Instead, Paulson, Bernanke and Geithner chose the course of "monetary fundamentalism" and we are all suffering "the unhappy consequences for the economic system."

Prominent fundamentalist zealots calling for wiping out bond holders of major US banks would do well to read Kindleberger. It will be tough enough to hold the global system together as the global crisis now devastates the highly leveraged European banking system without the US adding a "Lehman times a thousand" shock to the fragile global system.




John Taylor may want to consider additional evidence on the reaction of global money markets and bond markets to the...

2009-03-10T02:56:40Z

John Taylor may want to consider additional evidence on the reaction of global money markets and bond markets to the...

John Taylor may want to consider additional evidence on the reaction of global money markets and bond markets to the Lehman bankruptcy.

For example, Bloomberg publishes a daily "financial conditions index" (BFCIUS Index) that is a normalized weighted average of a variety of money market and bond market spreads (2 year swap spread, libor-ois spread, etc.) The index is designed to be a leading indicator of bank lending behavior and overall economic activity. In the two days following the Lehman bankruptcy, the Bloomberg index experienced the equivalent of a 10-standard deviation weekly move to the downside. In the following few weeks, the index from a pre-crisis level of about -2.9 standard deviations (i.e. financial conditions were already tightening before the Lehman shock, despite heroic Fed easing) to minus 10-standard deviations relative to its 1992-2008 history.

Movements in the Bloomberg index correctly foreshadowed the "cliff diving" behavior of numerous economic activity variables in subsequent weeks and suggest that the Lehman bankruptcy was indeed a game changer for the economic outlook. Mr. Taylor, please get the data and do some simple econometrics. The BFCIUS Index Granger causes output fluctuations. It clearly moved in an unprecedented manner in the immediate aftermath of the Lehman decision. Soon thereafter, so did virtually every important economic activity variable in the world.




AIG wrote an interesting memo about the consequences of AIG failure. http://www.scribd.com/doc/13112282/Aig-Systemic-090309 As AIG noted, the collapse of the Reserve...

2009-03-10T02:04:26Z

AIG wrote an interesting memo about the consequences of AIG failure. http://www.scribd.com/doc/13112282/Aig-Systemic-090309 As AIG noted, the collapse of the Reserve...

AIG wrote an interesting memo about the consequences of AIG failure.

http://www.scribd.com/doc/13112282/Aig-Systemic-090309

As AIG noted, the collapse of the Reserve Primary Fund was an unanticipated result of the Lehman failure. AIG stress the interconnectedness of the finance. It is the interconnectedness that can keep companies afloat if something happens to one of the units. However, when the failure is across the board, the interconnectedness adds weight to the anchor weighing the company down.

These very large hopelessly entangled financial behemoths would take a long time to sort out if they fail. During the sorting out, all kinds of assets get temporarily frozen which is can create a system wide problem. This mess will take time to unwind in a way that does the least harm to the system.

The problem was not that Lehman was wiped out, but that it failed with no structure in place to pick up the pieces. Part of the regulation going forward will be unwinding the entanglements and limiting the size so that one unit is not too big to fail.




A post without much merit that provides little additional information about the issues. Was it the failure of Lehman's, or...

2009-03-10T01:03:02Z

A post without much merit that provides little additional information about the issues. Was it the failure of Lehman's, or...

A post without much merit that provides little additional information about the issues. Was it the failure of Lehman's, or the airing of information that allowed people to see how bad the situation was? A refusal to lend to big banks was a very reasonable response that has little to do with the willingness to take on risk in general. That response was reasonable and correct and could have been averted only if people thought the government would not allow any big bank to fail. An attempt to keep up asset prices would cause a worse disaster. Many small banks that have been conservatively run are stepping up loans, and they have been throughout this 'crisis.'
What if government resources prove too small to save the rest of the big bank holding companies? Has Surowiecki thought of the consequences of trying and coming up short? As long as people think the decision to fail to bailout is done by choice, things will not be so bad. If they start to see it as one of necessity (which I think is, or soon will be), then things may become truly awful.
I would feel diferently if the U.S. banks used the bailout money as did banks in Japan, to prop up zombie businesses. But that is not the case.
I said some time ago that I would be happy to come out of this episode as well as did Japan, with no crushing domestic dislocations. I serioulsy doubt we will, and now I see Paul Krugman is coming around to a like view.




http://krugman.blogs.nytimes.com/2009/03/09/japan-reconsidered/ March 9, 2009 Japan Reconsidered By Paul Krugman Well, I’m sure I’m not the only person to notice this:...

2009-03-10T00:55:44Z

http://krugman.blogs.nytimes.com/2009/03/09/japan-reconsidered/ March 9, 2009 Japan Reconsidered By Paul Krugman Well, I’m sure I’m not the only person to notice this:...

http://krugman.blogs.nytimes.com/2009/03/09/japan-reconsidered/

March 9, 2009

Japan Reconsidered
By Paul Krugman

Well, I’m sure I’m not the only person to notice this: Japan doesn’t look so bad these days.

[I sure noticed.]




I have a little quibble: No one let Lehman Brothers fail; it did. *thud* It was a question of style....

2009-03-10T00:24:29Z

I have a little quibble: No one let Lehman Brothers fail; it did. *thud* It was a question of style....

I have a little quibble: No one let Lehman Brothers fail; it did. *thud*

It was a question of style. The Lehman balloon popped instead of the air (wealth) being allowed fizzle out like what is now happening to Citi, BofA, GM, et al. *pfft*

My new prediction: We're going to start to see negative equity appear before the end of the year - or maybe next - in mortgages purchased in the 90s.




Personally, I don't think it is worth spending any time on whether letting Lehman fail was the right thing to...

2009-03-10T00:24:23Z

Personally, I don't think it is worth spending any time on whether letting Lehman fail was the right thing to...

Personally, I don't think it is worth spending any time on whether letting Lehman fail was the right thing to do. The fact is that the other investment banks are now just banks and subject to FDIC receivership. Thus, the real question is whether the FDIC should be allowed to do its job and take the big failing banks like Citigroup into receivership.

But people keep reminding us of what happened to Lehman to distract us from the real question.




http://krugman.blogs.nytimes.com/2009/03/09/japan-reconsidered/ March 9, 2009 Japan Reconsidered By Paul Krugman For a decade or so Japan’s lost decade has been the...

2009-03-10T00:22:20Z

http://krugman.blogs.nytimes.com/2009/03/09/japan-reconsidered/ March 9, 2009 Japan Reconsidered By Paul Krugman For a decade or so Japan’s lost decade has been the...

http://krugman.blogs.nytimes.com/2009/03/09/japan-reconsidered/

March 9, 2009

Japan Reconsidered
By Paul Krugman

For a decade or so Japan’s lost decade has been the great bugaboo of modern macroeconomics. Economists constantly warned that you mustn’t do X or you must do Y, because otherwise we’ll turn into Japan. And policymakers congratulated themselves in advance for not being like their Japanese counterparts, who dithered and drifted, refusing to make hard decisions.

Well, I’m sure I’m not the only person to notice this: Japan doesn’t look so bad these days.

For one thing, the famed sluggishness of Japanese policy — the refusal to face up to banking system losses and pour in the funds needed to recapitalize the system, the refusal to let zombie banks die, the stop-go nature of fiscal policy, with concerns about rising debt warring with concerns about the economy — all of that seems entirely comprehensible now, doesn’t it? Even with the knowledge of what happened to Japan to motivate us, so far we’re following exactly the same path.

And given what the next couple of years are likely to look like, Japan’s lost decade — yes, growth was slow, but there wasn’t mass unemployment or mass suffering — is actually starting to look pretty good. We may or may not be about to face our own lost decade, but the sheer misery millions of Americans will face in the near future probably exceeds anything that happened in Japan during the 90s.

I still hope we can do better than the Japanese did, but it’s not at all obvious that we will.




http://krugman.blogs.nytimes.com/2009/03/09/irrelevant-lehman/ March 9, 2009 Irrelevant Lehman? By Paul Krugman There have been many reactions to John Taylor’s claim * that...

2009-03-10T00:20:30Z

http://krugman.blogs.nytimes.com/2009/03/09/irrelevant-lehman/ March 9, 2009 Irrelevant Lehman? By Paul Krugman There have been many reactions to John Taylor’s claim * that...

http://krugman.blogs.nytimes.com/2009/03/09/irrelevant-lehman/

March 9, 2009

Irrelevant Lehman?
By Paul Krugman

There have been many reactions to John Taylor’s claim * that Lehman didn’t cause markets to freeze up, that it was the reaction by Treasury and the Fed that did it. Jim Surowiecki ** has a good answer.

Here’s mine: you’re looking at some building, and you hear the fire alarm go off, and smoke starts trickling out the windows. Then a lot of fire trucks and firemen arrive — and only after that do flames start shooting out the top of the building.

Clearly, the fire department turned a small problem into a crisis.

* http://www.stanford.edu/~johntayl/FCPR.pdf

** http://www.newyorker.com/online/blogs/jamessurowiecki/2009/03/did-lehman-brot.html




Again, there is an issue that is continually being lost that was never lost in Japan and that is jobs....

2009-03-10T00:10:18Z

Again, there is an issue that is continually being lost that was never lost in Japan and that is jobs....

Again, there is an issue that is continually being lost that was never lost in Japan and that is jobs. Whether in the failure of Bear or Lehman or troubles from Citigroup on, what is overlooked is the loss of massive numbers of jobs when little loss may be necessary or helpful.

Look to successful companies, the most successful of all since 1980, the large American drug companies or subsidiaries which rather than produce effective research find getting bigger by merging and buying preferable. But getting bigger always means loss of jobs, not to mention always threatening to limit competition.

We have been passing through a startling period in which over 98 months there have been 485,000 jobs lost in the American economy, but that is seemingly not the emphasis.




Usually, I'm complaining, because someone has offered an elaborate counterfactual that has no other basis than imagination. But, the Lehman-should-not-have-been-allowed-to-fail...

2009-03-09T23:36:03Z

Usually, I'm complaining, because someone has offered an elaborate counterfactual that has no other basis than imagination. But, the Lehman-should-not-have-been-allowed-to-fail...Usually, I'm complaining, because someone has offered an elaborate counterfactual that has no other basis than imagination. But, the Lehman-should-not-have-been-allowed-to-fail meme doesn't come attached to a counterfactual explanation of what the alternative course would have looked like, or what the consequences would have been. So, we are left wondering what the narrator of the Lehman-should-not story imagines the "correct" course of action might look like. I have some ideas about a "correct" course of action. I think, after Bear Stearns, the Fed and Treasury should have been in serious panic mode, trying to devise a general policy to cope with the certainty of extensive failures among major investment banks, as well as commercial banks. They should have had aggressively sought out information about who was implicated, say, in credit default swaps. Personally, I would have commissioned Fannie and Freddie to do forward appraisals on every mortgaged house in the country, and started calculating on the value of mortgages and MBS. As far as I know, Bernanke and Paulson did not do that. They sat back and waited to see how things would develop. They waited to see if the big banks would be able to raise private capital. (Bernanke, in particular, seemed excessively optimistic about the prospect of suckers with very deep pockets rescuing some major institutions, but that may be confusion in my poor memory of an earlier Bernanke with the post-Bear Bernanke.) So, when the Lehman weekend came, as inevitably it must, Bernanke and Paulson were still in ad hoc, seat-of-the-pants mode. They needed a general policy at that point, to apply to the case of Lehman, which case had been pending with increasing certainty for many months. And, they didn't have one. That was an important part of the information content sent in that signal to the market: Bernanke & Paulson are passive and have no idea how to cope systematically. The need for a systematic policy was brought immediately home by the emergence of AIG the same weekend. That greatly amplified the message in the signal, that the problem was huge, systematic and the Fed and Treasury had nothing -- no systematic policy. Stirling Newberry had a nice observation, which fits in well with Krugman's current column, which was to the effect that it was obvious from Lehman onward that Fed policy, by being reactive, was losing a race condition, "a flaw in a system or process whereby the output and/or result of the process is unexpectedly and critically dependent on the sequence or timing of other events. The term originates with the idea of two signals racing each other to influence the output first." If I were to predict scholarly assessments of the Fed policy from August 2007 through the crash of October 2008, I am inclined to imagine that the revelation of a race hazard will be featured. The Fed fell behind, and a credit crunch and a liquidity trap and deflation happened, triggering the r[...]



I guess it's true that one particular gust of wind is responsible for the collapse of a house of cards,...

2009-03-09T23:19:54Z

I guess it's true that one particular gust of wind is responsible for the collapse of a house of cards,...

I guess it's true that one particular gust of wind is responsible for the collapse of a house of cards, but the question of what gust it was is not very interesting. Of course a more rational administration might have taken useful steps to deal with the emerging crisis and this program might have included saving Lehman. The administration, however, was not rational and imagining it could have acted in a more intelligent fashion amounts to imagining it was a different administration. As they say in the philosophy business, if grandma had balls, she'd be grandpa.




The problem was not in allowing Lehman to go belly up, the problem is how it was done. If folks...

2009-03-09T23:13:32Z

The problem was not in allowing Lehman to go belly up, the problem is how it was done. If folks...

The problem was not in allowing Lehman to go belly up, the problem is how it was done. If folks had figured out at the time that they should change Lehman's status to that of a bank so that the FDIC could pre-privatize it, that would have been much better than what happened.

The problem with comparing Citigroup and Lehman is that they are in two vastly different situations. Because Citigroup is now a bank, it wall not simply collapse but be taken over by the FDIC, who will clean things up. Thus, allowing Citigroup to "fail" is an entirely different than what happened to Lehman and defies any reasonable comparison.

There's nothing wrong with "failing," but how failure is handled can make a big difference. An orderly wind down is much preferred.




I'm with those who believe that letting Lehman fail was good to start uncover what auditors could not. And I...

2009-03-09T23:02:55Z

I'm with those who believe that letting Lehman fail was good to start uncover what auditors could not. And I...

I'm with those who believe that letting Lehman fail was good to start uncover what auditors could not. And I do not se any real damage in the failure itself. It could have been managed in a more orderly and transparent way. I also believe the same exact events would have occurred. Conventional wisdom which regrets the failure of Lehman Brothers should see to next Lemon Brothers Lemon Brothers. Insolvent banks would be insolvent with or without Lemhan. You can put lipstick on a pig, but it's still a pig! And it does not fly...




Good lord, all we appear to have learned from this whole thing is that, the next time around, we just...

2009-03-09T22:51:15Z

Good lord, all we appear to have learned from this whole thing is that, the next time around, we just...

Good lord, all we appear to have learned from this whole thing is that, the next time around, we just need to prop up the debt bubble with *endless* bailouts of *any* institution threatening failure.

Global Super-Fed, anyone?




Here's response I wrote to John Taylor's piece in the WSJ which they didn't print. Maybe it will interest someone:...

2009-03-09T22:44:06Z

Here's response I wrote to John Taylor's piece in the WSJ which they didn't print. Maybe it will interest someone:...Here's response I wrote to John Taylor's piece in the WSJ which they didn't print. Maybe it will interest someone: "Post Posted: Mon Feb 09, 2009 10:20 am Post subject: Re: How Government Created the Financial Crisis "Many have argued that the reason for this bad turn was the government's decision not to prevent the bankruptcy of Lehman Brothers over the weekend of Sept. 13 and 14. A study of this event suggests that the answer is more complicated and lay elsewhere. While interest rate spreads increased slightly on Monday, Sept. 15, they stayed in the range observed during the previous year, and remained in that range through the rest of the week. On Friday, Sept. 19, the Treasury announced a rescue package, though not its size or the details. " This is simply an incorrect reading of the facts. On the Sunday before Lehman, there was a special trading session. At that session, many investors predicted that, if Lehman failed, then Merrill would be next. Many of the consequences were uncertain. As well, the negotiations with the B of A and Barclays both included the idea that there needed to be government guarantees. That week, AIG was saved, the B of A bought Merrill, and the Fed stopped a run on Money Market Funds. At that point, there was a hope that these actions might suffice to stem the tide. That is what explains the brief respite, which was all it was. The idea that the brief respite for everyone to take a look at the landscape proves it wasn't Lehman simply doesn't follow. The problem with the dithering about government action was that there was no stated guarantee to intervene, not that people weren't sure what the government would do. After all, by that logic, if you didn't want the government to intervene, dithering should have been good news. A delay is better than a guarantee by that logic. Only if you were counting on government intervention would the dithering have bothered you. Prof. Taylor seems unable to see that our Investor Class was counting on, believed that it had paid for by lobbying, and believed history had shown that it could expect, massive government intervention in the case of a financial crisis. They had no Plan B. Every action since then has confirmed this view. Our current system is a hybrid welfare state. The financial sector is not run by Cato Fellows. The fact that people use free market ideas to argue for some government actions is utilitarian, not principled. Following a quote from Wittgenstein, "If a free market existed, our investor class could not compete in it". Expectations matter. What was expected in this crisis was government action. This was an implicit, if not explicit, guarantee. Guarantees are just that. Guarantees. We should be working now on a better arrangement than the one that got us into this mess. Sadly, the bankers seem to be calling the shots to this day. Maybe we should honor our politicians who[...]



From an economist, yet more dissapointment. Looks like another case of confusing correlation with causation. (Post hoc ergo propter hoc,...

2009-03-09T22:39:27Z

From an economist, yet more dissapointment. Looks like another case of confusing correlation with causation. (Post hoc ergo propter hoc,...

From an economist, yet more dissapointment. Looks like another case of confusing correlation with causation. (Post hoc ergo propter hoc, as an earlier commenter rightly pointed out).

A whole bunch of things happened in the economy around that time, the failure of Lehman was but one event. The rescue of AIG (again, as another commenter pointed out) was another. I don't think the rescue of Lehman would have put us in a greatly different position to now - in fact, it would be yet another mammoth carcass of toxic holdings on the TARP steppe; further weighing down consumer / taxpayer sentiment about just whether it will be possible to pay off the trillions of dollars of losses that government is socializing onto the taxpayer account in its mis-guided "rescue" of the banks.

Buffett is right (yesterday's interview) - people are fearful. Frankly we are seeing much more economically rational behaviour from the average US taxpayer (fearful, wallet in pocket) than we are from the so-called experts like Geithner et al, who have uncle sam's wallet out and are spending like it's 1999!




This issue in saving Lehman or Bear was not saving owners or managers, but protecting the credit system and protecting...

2009-03-09T22:36:22Z

This issue in saving Lehman or Bear was not saving owners or managers, but protecting the credit system and protecting...

This issue in saving Lehman or Bear was not saving owners or managers, but protecting the credit system and protecting important service institutions offering any number of responsible jobs and in terms of credit facility protecting jobs beyond either financial company.

When Robert Rubin was asked during the financial crisis spreading in Asia, what might happen if a city-bank failed in Japan, Rubin simply answered that such a failure was impossible. Meaning the Japanese government would not have allowed failure of a critical bank, since failure would have locked up credit markets all through Asia. Wall Street analysts however wrote as though such a failure could be easily compensated for, and I remember thinking there was too little understanding of the credit interdependence among companies in Japan.

The credit interdependence was there in New York and London in 2008, and not properly understood.




I believe that Lehman's bankruptcy brought to the forefront the seriousness of the situation so that it could no longer...

2009-03-09T22:22:09Z

I believe that Lehman's bankruptcy brought to the forefront the seriousness of the situation so that it could no longer...

I believe that Lehman's bankruptcy brought to the forefront the seriousness of the situation so that it could no longer be ignored. Had Lehman never collapsed or existed, we still would be at the same place we are today, it would have just been another firm or institution that gave us the signal. I guess it's like a bridge with several supports close to failure. The bridge is going down no matter what and it doesn't matter which support fails first, if one doesn't another will. However the first support that does fail will cause a visible and big reaction, which may lead some to believe that the support caused the failure. But even if we had fixed that lone support, it wouldn't have mattered, the bridge was gone anyway, it was just a question of when.

Had the government saved Lehman, I believe the same exact events would have occurred. People would still have been alerted to the seriousness of the situation and credit would have seized up just as before. Saving Lehman does not make Citigroup or AIG solvent. It does not save Washington Mutual or Wachovia. And it still behaves as a canary in a coal mine, altering investors to the problems that are now popping up. In short, the government did the right thing in not using taxpayers' dollars to "save" another failed institution as it would have made no difference anyway.




Libor this and Libor that, I care about bonds and what was obvious to bond investors from March 2008, was...

2009-03-09T22:20:53Z

Libor this and Libor that, I care about bonds and what was obvious to bond investors from March 2008, was...

Libor this and Libor that, I care about bonds and what was obvious to bond investors from March 2008, was that the attempts of the Federal Reserve to lower interest rates were having no effect on corporate bonds beyond the relatively limited number of Aaa issues. There was a liquidity trap forming and easily understood as Paul Krugman understood, and the failure of Bears Stearns should have been warning enough of the effect of neglecting mounting problems at any of the larger financial companies, but especially of a derivative dealing bank.

Why after the failure of Bear, the deterioration of the international economy and resulting mounting problems with derivatives as economic conditions worsened, Lehman Brothers was not saved is beyond sense.




The problem, to my mind, was obviously between the failure of Bear Stearns and Lehman. The state failed there -...

2009-03-09T22:19:42Z

The problem, to my mind, was obviously between the failure of Bear Stearns and Lehman. The state failed there -...

The problem, to my mind, was obviously between the failure of Bear Stearns and Lehman. The state failed there - by failing to intervene much more vigorously. The problem underlying the whole sequence of events was the twin ideological delusions that the market would correct itself and that the default in these situations is not to interfere too heavily.

Lehman didn't fail all in one day - it failed over a period of time in which all the vicious habits of the ancien regime congealed in one big denial/inertia festuche.




Bruce Wilder @ 02:38 PM Excellent analysis in my opinion ... What it all gets down to is trust in...

2009-03-09T22:09:59Z

Bruce Wilder @ 02:38 PM Excellent analysis in my opinion ... What it all gets down to is trust in...

Bruce Wilder @ 02:38 PM

Excellent analysis in my opinion ...

What it all gets down to is trust in the financial system. Once that trust is broken it tarnishes both the institutions and the government and compromises their efforts at rationalization going forward.




I read in The Guardian that Lehman's accounting was like Enron accounting on steroids. How to save those who deserve...

2009-03-09T21:58:29Z

I read in The Guardian that Lehman's accounting was like Enron accounting on steroids. How to save those who deserve...

I read in The Guardian that Lehman's accounting was like Enron accounting on steroids. How to save those who deserve saving and yet not reward the crooks? There seem to be more crooks out there than we realized.




" . . . letting Lehman fail . . ." This is a good example of how narrative is not...

2009-03-09T21:38:11Z

" . . . letting Lehman fail . . ." This is a good example of how narrative is not..." . . . letting Lehman fail . . ." This is a good example of how narrative is not analysis. Narrative requires post hoc, propter hoc sequences, with the hero (or antihero) confronting challenges, striving, and, by her own actions, winning or losing. Taylor is a classic libertarian, engaged in the libertarian's pastime of blaming everything on government's shortcomings and failings. Others want AIG's coincident failure and rescue to not have an ill effect. That wouldn't be much a narrative, would it? "Gov't announces giant bailout of AIG; LIBOR spikes." But, it makes as much sense. The narrative of how Lehman's failure triggered a financial crisis is still, at base, a signal argument -- that is, an argument that Lehman's failure was a signal to the market, not that its failure -- massive as it was -- caused substantive harm to the system. As far as I know, Lehman's failure had some, but limited effects on other institutions holding Lehman paper. I think one money market fund busted a buck. But, even that was more a demonstration of what could happen more broadly -- it was not, in itself, a broad, substantive effect on many money market funds. In other words, it was a signal that other banks and institutions might be in big trouble, too. An argument that Lehman's failure was a signal is not necessarily wrong, but it is a much weaker criticism of government policy than would be a Lehman failure that had substantive effects throughout the system. In particular, it is harder to see how simply "rescuing" Lehman would have prevented the signal. AIG's "rescue" was a pretty strong signal, too, after all. Because of the "rescue", it did not have substantive effects -- banks holding AIG CDS got paid, and paid billions. But, it was signal that lots of CDS were both in the money, and going bad. If Lehman's failure was a signal, it was a signal of general weakness across the industry -- not a substantive event that created weakness, but a signal that revealed and confirmed weakness already suspected. Given that a "rescue" could only have supplied funds to meliorate the substantive effects of Lehman's failure, to argue that letting Lehman fail was a big policy mistake, you have to marshal evidence that would suggest either that the substantive effect was large and critically important (cause that's what a rescue could do -- reduce the substantive losses) or that a Lehman "rescue" would have been a different "signal". What was the information content of that "signal" and how would a rescue have changed that content. Taylor is projecting, concerning the information content of the signal, [...]



A further thought on futures. In addition to the volatility insurance institutions sold each other, many people used futures just...

2009-03-09T21:31:41Z

A further thought on futures. In addition to the volatility insurance institutions sold each other, many people used futures just...

A further thought on futures. In addition to the volatility insurance institutions sold each other, many people used futures just to place bets on the trends. Far more insurance was issued than assets existed. This helped turn futures a high risk casino, where the potential payouts were far greater than world GDP. It was simply not possible for issuers to pay out on the insurance if something went wrong, as there were not enough resources in the entire world meet the terms of the policies.

All by themselves, the growing futures casino would have eventually destroyed the system, even if the rest of the problems had not happened. No one should be allowed to write a futures contract, unless they have demonstrated that they have the resources to pay out on the terms of the contract. Offsetting contracts have demonstrated that they do not really cancel each other out, so this should not be allowed any more.

You put up secure collateral, or you don't write the contract. Such things as selling covered calls, where the call writer actually owns the stock he is offering to sell at the strike price.




Assets bought on very low margin cannot withstand much volatility. Financial institutions sold futures to insure each other against volatility...

2009-03-09T21:17:46Z

Assets bought on very low margin cannot withstand much volatility. Financial institutions sold futures to insure each other against volatility...

Assets bought on very low margin cannot withstand much volatility. Financial institutions sold futures to insure each other against volatility in their leveraged portfolios. When Lehman fell, confidence in the system of futures insurance fell with it. Without reliable volatility insurance, leveraged bets were frantically unwound. Everything fell in price, which caused even more institutions to try and get out before it was too late. Leveraged players are still trying to sell on any minor rally to unwind their leveraged positions.

The big problem was the low margin, and fake insurance. Systemic leverage cannot safely be maintained at extreme levels, and futures are not real insurance against volatility. This system needs to be unwound in an orderly fashion, instead of the frantic scramble to get out all at once.