This week marked 10 years since the harrowing descent into the financial crisis — when the huge investment bank Lehman Bros. went into bankruptcy, with the country’s largest insurer, AIG, about to follow.
No one was sure which financial institution might be next to fall.
The banking system started to freeze up.
Banks typically extend short-term credit to one another for a few hundredths of a percentage point more than the cost of borrowing from the federal government.
This gap exploded to 4 or 5 percentage points after Lehman collapsed.
Federal Reserve Chair Ben Bernanke — along with Treasury Secretary Henry Paulson and Federal Reserve Bank of New York President Timothy Geithner — rushed to Congress to get $700 billion to bail out the banks.
“If we don’t do this today we won’t have an economy on Monday,” is the line famously attributed to Bernanke.
The trio argued to lawmakers that without the bailout, the United States faced a catastrophic collapse of the financial system and a second Great Depression.
Neither part of that story was true.
Still, news reports on the crisis raised the prospect of empty ATMs and checks uncashed.
There were stories in major media outlets about the bank runs of 1929.
No such scenario was in the cards in 2008.
Unlike 1929, we have the Federal Deposit Insurance Corporation.
The FDIC was created precisely to prevent the sort of bank runs that were common during the Great Depression and earlier financial panics.
The FDIC is very good at taking over a failed bank to ensure that checks are honored and ATMs keep working.
In fact, the FDIC took over several major banks and many minor ones during the Great Recession.
Business carried on as normal and most customers — unless they were following the news closely — remained unaware.
Had bank collapses been more widespread, stretching the FDIC staff thin, it is certainly possible that there would be glitches.
This could have led to some inability to access bank accounts immediately, but that inconvenience would most likely have lasted days, not weeks or months.
Following the collapse of Lehman Bros., however, the trio promoting the bank bailout pointed to a specific panic point: the commercial paper market.
Commercial paper is short-term debt (30 to 90 days) that companies typically use to finance their operations.
Without being able to borrow in this market even healthy companies not directly affected by the financial crisis such as Boeing or Verizon would have been unable to meet their payroll or pay their suppliers.
That really would have been a disaster for the economy.
However, a $700-billion bank bailout wasn’t required to restore the commercial paper market.
The country discovered this fact the weekend after Congress approved the bailout when the Fed announced a special lending facility to buy commercial paper ensuring the availability of credit for businesses.
Without the bailout, yes, bank failures would have been more widespread and the initial downturn in 2008 and 2009 would have been worse.
We were losing 700,000 jobs a month following the collapse of Lehman.
Perhaps this would have been 800,000 or 900,000 a month.
That is a very bad story, but still not the makings of an unavoidable depression with a decade of double-digit unemployment.
The Great Depression ended because of the massive government spending needed to fight World War II.
But we don’t need a war to spend money.
If the private sector is not creating enough demand for workers, the government can fill the gap by spending money on infrastructure, education, healthcare, child care or many other needs.
There is no plausible story where a series of bank collapses in 2008-2009 would have prevented the federal government from spending the money needed to restore full employment.
The prospect of Great Depression-style joblessness and bread lines was just a scare tactic used by Bernanke, Paulson and other proponents of the bailout to get the political support needed to save the Wall Street banks.
This kept the bloated financial structure that had developed over the last three decades in place.
And it allowed the bankers who got rich off of the risky financial practices that led to the crisis to avoid the consequences of their actions.
While an orderly transition would have been best, if the market had been allowed to work its magic, we could have quickly eliminated bloat in the financial sector and sent the unscrupulous Wall Street banks into the dust bin of history.
Instead, millions of Americans still suffered through the Great Recession, losing homes and jobs, and the big banks are bigger than ever.
Saving the banks became the priority of the president and Congress.
Saving people’s homes and jobs mattered much less or not at all.
The financial crisis that broke out a decade ago was a long time in the making, and a long time in the playing out.
Over just a few days in September, 2008, Lehman Brothers essentially ceased to exist, the Federal Reserve took over American International Group to prevent a wider collapse, and commercial banks and mortgage lenders around the country failed.
The speed and the scale of destruction were so breathtaking that only the direst analogies seemed adequate—the stock market crash of 1929, or an economic 9/11.
Citigroup appeared poised to go down next, with General Motors and Chrysler to follow.
Everything solid in the American economy turned out to be built on sand.
But the crisis took years to emerge.
It was caused by reckless lending practices, Wall Street greed, outright fraud, lax government oversight in the George W. Bush years, and deregulation of the financial sector in the Bill Clinton years.
The deepest source, going back decades, was rising inequality.
In good times and bad, no matter which party held power, the squeezed middle class sank ever further into debt.
You could pick up early warning signs in 2006, in states such as Florida, where the high-flying housing market, suspended in midair by irrational faith, suddenly looked down and fell to earth.
Then American homeowners learned that their most valuable and tangible asset had become tangled up in obscure entities called derivatives, mortgage-backed securities, and collateralized debt obligations—financial instruments that spread around the world and, once gone bad, threatened to kill off whole banks, and to cripple countries.
If a defaulted loan on a house in Tampa was used to make bonds owned by investors in Japan, the house infected the global economy.
When the crash came here, it wiped out nine million jobs, took away nine million homes, erased retirement accounts, and pushed large numbers of Americans out of the middle class.
Every economic calamity creates its own imagery. The Great Recession that accompanied the financial crisis didn’t bring back breadlines or industrial strikes.
This time, the desperation was quiet and lonely: a pile of mail at the doorstep of a deserted house in a brand-new subdivision; a foreclosure judge presiding over a stack of files; a middle-aged man playing video games all day with the shades drawn; a retired woman trying to get a human being on the phone at the bank.
At first, American institutions responded with signs of health: the Federal Reserve stopped the free fall of the biggest banks; the press uncovered corruption and fraud; and a bipartisan Congress passed legislation to get credit flowing and rescue the financial sector.
Then the electorate turned out the party in power.
The financial crisis decided the election of 2008. Americans who might never have imagined themselves choosing a black President voted for Barack Obama because he understood the scope of the disaster and offered hope for a remedy.
But our democracy turned out to be unwell.
The first symptom of sickness came within three weeks of Obama’s inauguration.
In February, 2009, with the economy losing seven hundred thousand jobs a month, Congress passed a stimulus bill—a nearly trillion-dollar package of tax cuts, aid to states, and infrastructure spending, considered essential by economists of every persuasion—with the support of just three Republican senators and not a single Republican member of the House.
Rather than help save the economy that their party had done so much to wreck, Republicans, led by Senator Mitch McConnell, chose to oppose every Democratic measure, including Wall Street reform.
In doing so, they would impede the recovery and let the other party take the fall. It was a brilliantly immoral strategy, and it pretty much worked.
The President didn’t always aid his own cause. He had campaigned as a visionary, but he governed as a technocrat.
His policies helped to end the recession within months, but the recovery was excruciatingly slow.
The stimulus package could have been much larger, with added money for job creation; more indebted homeowners could have been kept in their houses.
Perhaps Obama made too many compromises in the hope of appealing to a bipartisanship that was already dead.
But his biggest mistake was to save the bankers along with the banks.
After a financial crisis caused in part by fraud, not a single top Wall Street executive was brought to trial.
The public wanted to punish the malefactors, but justice was never done. In the years after the crash, you could feel the fabric of the country fraying.
The Tea Party and Occupy Wall Street rose up as opposite expressions of antiestablishment rage, nourished by the sense that colluding élites in government and business had got away with a crime.
The game was rigged—that became the consensus of the alienated.
The left turned its anger on corporations and banks; the right blamed bureaucrats, minority groups, and immigrants.
Rising extremism, especially among Republicans, made it impossible for important facts uncovered by the press or asserted by politicians to have an impact.
Public trust in just about every American institution declined.
Obama’s inspiring Presidency appeared to float high above a landscape where bands of citizens were adrift and quarrelling.
Economically, the country has changed surprisingly little since 2008.
The big banks have returned to risky practices, and Republicans are trying to undo the Dodd-Frank reform law, which was enacted to prevent another collapse.
The distribution of income and wealth in America is as lopsided as ever.
Despite almost ten years of economic growth, real wages are stuck at their pre-crisis level, while corporate profits are soaring and stock prices have reached record highs.
All the misshapen economic trends of the previous decade are still with us.
The lasting effect of the crisis is in our politics.
The Presidency of Donald Trump is an overdetermined fluke, an accident with a thousand causes.
Among them is the catastrophic event that gutted millions of lives and ended in no fair resolution, only cynicism.
The economic indicators are strong right now, but before long there will be another financial crisis.
They come every seven or ten years, each bearing the features of its time.
If the previous one was the result of overconfidence in free markets, the next might be triggered—as in Turkey today—by the behavior of an authoritarian leader.
When it comes, we’ll be less prepared to address it than we were in 2008.
This President has made an enemy of facts, Congress no longer passes rational laws, and American democracy is ten years unhealthier. ♦
Argentina taxing exporters, Chinese debt relief for Africa, looming trade tariffs. Here are some of the things people in markets are talking about.
EM Sets the Tone
Emerging markets will continue on shaky ground this week as Turkey and Argentina move to shore up their currencies after they took a battering last month.
The Turkish central bank on Monday vowed to reshape its monetary policy stance next week after inflation accelerated in August to the fastest pace since 2003.
Argentine President Mauricio Macri said his administration would raise taxes and cut spending, bringing forward its target of a balanced budget by one year.
Brazil will also remain on tenterhooks after the country’s top electoral court banned imprisoned Luiz Inacio Lula da Silva — who was leading in the polls — from running in October’s presidential elections.
President Donald Trump abruptly canceled an outing on Monday to place calls on trade, his spokeswoman said, as he prepares to confront both China and Canada this week.
Trump’s trade negotiators are in difficult talks with their Canadian counterparts over a revision of the North American Free Trade Agreement already agreed to by the U.S. and Mexico.
As soon as Thursday, Trump may also implement tariffs on as much as $200 billion in additional Chinese products, escalating his trade war with the Asian powerhouse.
Monday’s U.S. Labor Day will provide little direction for Asia’s markets on Tuesday as they wait the potential start of fresh U.S. tariffs on China’s imports.
Instead, emerging markets are likely to set the tone. Asian equity-index futures were mixed, indicating a muted open. Currencies were steady.
Argentine stocks led global equities lower and emerging currencies joined the decline, offering no reprieve for investors despite the U.S. holiday.
U.S. equity futures climbed on Monday and stocks closed steady in Europe. The pound weakened as the U.K.’s flagship Brexit proposal came under attack at home and in Brussels.
On Tuesday’s data docket, South Korea delivers its final second-quarter GDP print, and reports August CPI.
Australia details its current-account balance and net exports, before the central bank meets amid overwhelming expectations it will hold interest rates at a record low.
JD.com CEO Probe
JD.com Inc.’s billionaire founder returned to China after his weekend arrest for alleged sexual misconduct in Minnesota, where local police are investigating the chief executive officer of one of the Asian country’s largest internet corporations.
Liu Qiangdong, who uses the English name Richard, is a doctoral student at the University of Minnesota, and was in Minneapolis for his studies, the Minneapolis Star Tribune newspaper reported.
The case involves a Chinese student at the school, according to the Financial Times and the Star-Tribune.
Chins Comes to Africa’s Aid
Chinese President Xi Jinping pledged debt relief to some poorer African nations, attempting to push back against a major criticism of his signature Belt and Road Initiative.
Speaking to the Forum on China-Africa Cooperation on Monday in Beijing, Xi said China planned to exempt some African countries from interest-free loans due by the end of the year, adding that the relief would be granted to unspecified poor and heavily indebted countries.
He also announced an additional $60 billion of loans and other financing to follow on a similar amount promised three years ago.
What we’ve been reading:
- Wealth managers are getting “crazy” pay hikes to defect in Asia.
- The top China stock fund loading up on tech stocks.
- Swine flu risk to China’s bond market.
- The stock foreigners love and Chinese hate.
- Argentina’s judgement day.
- Rebound after a $14 billion mobile stock sell-off in Japan.
- One of Latin America’s biggest cultural, scientific and historic treasures goes up in flames.
And finally, here’s what David’s interested in this morning
With the prospect of a dramatic escalation in the China-U.S. trade spat looming at the end of this week, it’s reasonable to expect emerging-market bulls to take the week off.
Not that a rally was on the cards anyway, but judging by recent market reaction to previous escalations, the dollar would probably tilt stronger, all things equal.
And by virtue of the dollar’s biggest negative correlation to EMs in two years, all the more reason not to bet the house.
What do we watch next? The comment period for tariffs on the next $200 billion ends on Thursday.
Technically, President Trump can have them enacted any time after this.
And since there are no high-level talks scheduled (that we know of), the chances of a deal and a bid across emerging-market assets appears slim.
One has to wonder whether Donald Trump and his economic team actually want to push through with this.
A possible negative side-effect to monitor these next few months will be tariff-induced inflation, especially ahead of the U.S. midterms.