Gold News

Whatever Happened to the Lehman Lads?

Just look what happens when you let a financial system get to the edge of collapse...

CASTING professional Seventies' Geordie James Bolam as Bank of America chief Ken Lewis was an inspired choice. This week's ridiculous BBC drama, The Last Days of Lehman Brothers, would scarcely be funnier without him.

But really, to bring out the true comic potential of Wall-Street-on-Tyne, they should have got Bolam to play Hank Paulson...and then pulled off the TV reunion of the century by hiring Rodney Bewes to play New York Fed president Timothy Geithner.

"You know, I wouldn't give a penny to a banker to benefit a banker," Geithner told CNBC's equally comical Town Hall meeting on Thursday.

"But if you let the system get to the point where people are taking their money out of banks, where people can't get credit, where things stop, then you will see companies fail...unemployment rise...pension values fall by 30%...people having to work a decade longer because of that damage...then [bailing out the banks] is the necessary thing to do, it is the fair thing to do."

In short, the current Treasury secretary said, "Look what happens when you let a financial system get to the edge of collapse."

Okay Tim – let's look...remembering of course that YOU let a financial system get to the edge of collapse between becoming New York Fed president in 2003 and leaving for Washington in 2009.

To recap:

The New York Fed acts as the Federal Reserve's "eyes and ears on the market" as a late 1990s' history put it, "central to domestic and global financial stability" in the words of Geithner himself. As far back as the 1920s, the NY president – then Benjamin Strong – put Fed policy into action where it mattered most, operating directly in the money markets, trimming short-term yields to target the key US policy rate, taking credit risk, financing banks that find themselves short, running the nation's payments system, storing Gold for overseas central banks, trading in the forex market, and examining member banks "to check their financial soundness".

Hence the salary...typically twice the Fed chairman's and surpassed only by the White House package. (Geithner earned $411,200 in 2008, plus severance pay for choosing to leave of $434,668 on top.) Hence also the strength of character and intellect demanded.

"The president of the New York Fed, by virtue of the responsibility inherent in the position and the location of the Bank at the heart of the financial services industry of the United States, requires an individual with a capacity to play a key role in shaping monetary and economic policy," said Peter Peterson – chairman of the board of directors – in searching for a New York chief back in June 2003.

This statesman (or woman) would also "supervise some of the largest banking companies in the world, manage a large institution and address critical financial market issues, often under severe pressure." No fooling there, but maybe Peterson knew something Timothy didn't when Geithner announced he was "honored to be selected for this post" in November '03.

"I'm pleased Tim Geithner will be at the helm," said Peterson. "[He] is admirably equipped to confront the unique domestic and international challenges that will face our financial system over the coming years."

What challenges lay ahead exactly? You might expect New York Fed research, produced by the analysts and economists amongst its 3,000-odd staff, to have pointed the way...

Sept. 2003
What Market Risk Capital Reporting Tells Us about Bank Risk
Not much apparently, apart from the fact that "The ratio of market risk capital to overall capital has been relatively stable over time," despite halving from 0.02% to 0.01% between 1998 and 2002. Naturally, the study only looked only at bank holding companies. So while it captured Citigroup, J.P.Morgan and Bank of America, it missed the ever-more highly geared Bear Stearns, Lehmans and Merrill Lynch...

Jan. 2004
After the Refinancing Boom: Will Consumers Scale Back Their Spending?
Of course not. "More than one out of every four home mortgages in this country refinanced in 2003" at record-low interest rates, but "The financial status of consumers has not deteriorated during this refinancing boom."

June 2004
Are Home Prices the Next 'Bubble'?
No again, because "Although home prices have risen strongly, increases in family income and low nominal mortgage rates have meant that homes have remained affordable on a cash flow basis."

March 2005
What Financing Data Reveal about Dealer Leverage
Reasons to be cheerful, in short. Analyzing the "financing activities of primary dealers" such as Bear Stearns, Lehmans and Merrills, this New York Fed study found that "Dealer borrowing involving fixed-income securities has grown only modestly in recent years. Moreover, this increase is not clearly associated with greater risk taking..."

May 2005
Are We Underestimating the Gains from Globalization for the United States?
Like, duh! The trade deficit might is yawning 18% wider from 2004 to a record $760 billion, but "the real cost of imports" was nearly 30% lower between 1971 and 2001 than the official import-price index suggests. "This drop in import prices, we contend, has raised US welfare by $260bn, or about 3% of 2001 GDP."

Oct. 2006
Twin Deficits, Twenty Years Later
Could reducing the government's deficit also reduce the trade imbalance? "Even if the fiscal deficit – [then] about 2% of GDP – were fully erased, the nation's current account deficit would improve by only a fraction of its [then] current 7% of GDP." (Fiscal deficit 2009 will be 12% of GDP; trade deficit has fallen below 5%.) Joined-up thinking on Liberty Street misses research to be published in December saying the America's rocketing oil imports effectively force petro-Dollar holders to hoard Treasuries, because the US doesn't export enough goods to cover the costs.

May 2007
How Worrisome Is a Negative Saving Rate?
Not very. "[A] surge in energy costs may have temporarily dampened saving, while household wealth – assets such as stocks and homes, less debt – is on the rise."

All this while, of course, the New York Fed president was busy monitoring and ensuring the stability of those financial institutions within 10 minutes' walk of his office. In the fall of 2005, for instance, he hosted a series of meetings to address clear and present trouble bubbling in the credit derivatives market – specifically with credit default swaps, those CDS which the world at large finally caught onto when first Bear Stearns and then Lehmans blew up three years later.

The problem? Major dealers couldn't keep up with the massive volume of CDS they were trading...creating a huge backlog of confirmation notices still not sent 30 days after the deal was struck!

That was the thing with Cut'n'Paste Finance; bish-bosh dealing promised insurance against a debt-issuer's default on the fly by phone, and hasty emails confirming the trade (or not) were then cobbled together from whatever previous deals lay to hand. By the end of Jan. 2006, Bear, Lehmans, Merrills and the rest at least managed to cut the backlog of confirmations more than 30 days late by 30%, just as they promised in a letter to Geithner. Come July 2008, in fact, the major dealers had further reduced their credit-default swap confirmation backlogs "by roughly 93% and increased the percentage of trades that are confirmed electronically from 53% to more than 90%," as the New York Fed declared. But the ad hoc basis of CDS dealing only signaled their impending collapse; the actual cause lay in their very nature and the sheer size of dealing...which between Geithner's meeting of 2005 and the eve of the 2008 wipe-out rose "by more than 200%" according to New York Fed data.

"One is led to the inescapable but unsatisfying conclusion," writes Liaquat Ahamed in his recent history of the Great Crash, "that the bull market of 1929 was so violent and intense and driven by passions so strong that the Fed could do nothing about it."

Perhaps. But letting the system get to the point of collapse starts with letting the system get to where collapse becomes first possible, then unavoidable and finally essential. Economists once called this the "credit cycle", and guessed there was little point in trying to avoid it. Whereas Geithner wants a fresh raft of tax-funded regulations, plus the staff to ignore them. (Check that CNBC speech for his "brightest & best" recruitment ad). The former New York Fed chief also pretends that the horrors he allowed to develop justify last year's tax-funded bail-outs – meaning those super-low interest rates and previous which underwrote the credit derivatives' surge into bubble.

He mocks history worse than James Bolam mocked Ken Lewis's Mississippi drawl.

Adrian Ash

Adrian Ash, BullionVault Gold News

Adrian Ash is director of research at BullionVault, the world-leading physical gold, silver and platinum market for private investors online. Formerly head of editorial at London's top publisher of private-investment advice, he was City correspondent for The Daily Reckoning from 2003 to 2008, and he has now been researching and writing daily analysis of precious metals and the wider financial markets for over 20 years. A frequent guest on BBC radio and television, Adrian is regularly quoted by the Financial Times, MarketWatch and many other respected news outlets, and his views from inside the bullion market have been sought by the Economist magazine, CNBC, Bloomberg, Germany's Handelsblatt and FAZ, plus Italy's Il Sole 24 Ore.

See the full archive of Adrian Ash articles on GoldNews.

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