Some dramatic quotes from the just released Fed minutes over the three weeks following Lehmans Sept 15th 2008
The release of the Fed minutes from 2008 right after Lehman provide a dramatic insight into the workings of central banks at that time. I have covered much of this before but this is the first time we have word for word insight into those dramatic days.
First this exchange between Evans and Bernanke reviewing the at that time, 1Bn increase in the Fed balance sheet. This explains the thinking that central banks have zero risk. Think Europe in the years following this.
Clearly, confidence in the markets is extraordinarily poor and fragile, and that’s another reason that an escalation in the authorizations is important—to reassure people that the central banks are prepared to be there, if necessary.
CHAIRMAN BERNANKE. Of course, for the balance sheet—and we’ll discuss that also with interest on reserves—it has the benefit of having zero credit risk because the other central banks are our counterparties.
The resolution of Sept 29th displays the mammoth efforts right after Lehman from a host of co-ordinated countries:
MR. MADIGAN. Thanks, Mr. Chairman. I’ll read a resolution regarding the swap lines:
“The Federal Open Market Committee authorizes the Federal Reserve Bank of New York to take the following actions to amend the existing temporary swap arrangements with foreign central banks as follows: with the Bank of Canada, to increase the aggregate amount to $30 billion; with the Bank of England to increase the aggregate amount to $80 billion; with the Bank of Japan to increase the aggregate amount to $120 billion; with the Danish National Bank to increase the aggregate amount to $15 billion; with the European Central Bank to increase the aggregate amount to $240 billion; with the Norges Bank to increase the aggregate amount to $15 billion; with the Reserve Bank of Australia to increase the aggregate amount to $30 billion; with the Swedish Riksbank to increase the aggregate amount to $30 billion; with the Swiss National Bank to increase the aggregate amount to $60 billion. In each case the System Open Market Account Manager would be authorized to determine appropriate liquidity buffers.
This though is the key part for bankers. Read this paragraph carefully, bearing in mind this is bureaucratic speak for “banks are hopelessly over-levered and can die in an instant”. Emphasis mine. Reading this it appears Wachovia dissolved in one Friday.
MR. ALVAREZ. Thank you, Mr. Chairman. On Friday, Wachovia experienced significant liquidity pressures, and its management concluded that it would have difficulty funding itself this week. So the board of directors of Wachovia authorized the management to begin entertaining merger offers. Wells Fargo and Citi quickly emerged as the leading candidates among a group of candidates, but by Sunday it became clear that those two, which were the only remaining candidates by Sunday, could accomplish the merger only with government assistance. For a variety of reasons, the Board believed that it was appropriate to implement the systemic risk exception to give the FDIC the widest flexibility to resolve Wachovia in order to maintain confidence in the banking system. Among the reasons was the concern about liquidity pressures that would be felt by similarly situated banking institutions if there was a disorderly or very focused failure of Wachovia. Also, there was concern that, because Wachovia looked so strong on a capital basis and it would be somewhat surprising to some in the market when it closed, it would send a bad signal about similarly situated institutions. There was also concern about the large amount of foreign deposits that would be left behind in a least-cost resolution; the potential for money market mutual funds, which are already in a fragile state, to have further disruption from a least-cost resolution; and that the current financial turmoil and weakened economy would be further weakened if the least cost solution was pursued and that might undermine business and household confidence.
More on Wachovia and what a bank run looks like:
MR. LACKER. Yes. Wachovia was losing about $1 billion in deposits a day on average over the past couple of weeks.
And here is the first reference to “Too big to fail”. This is a prescient comment from a smart man on the fly during a meeting two weeks after Lehman.
RMAN BERNANKE. President Fisher.
MR. FISHER. Mr. Chairman, this may be a conversation for another day, but it seems to me that we’re ending up with more and more concentration—Bank of America, Citicorp, Morgan—and I’m curious as to what we plan longer term so as not to displace the ability of other institutions to play their role in the financial markets and grow their businesses—the super-regionals that are healthy and so on. But I guess just philosophically what concerns me longer term is that, in response to these actions, there are no other people to take these steps, but we’re creating larger and larger concentrations and bigger and bigger situations where we have too big to fail.
VICE CHAIRMAN GEITHNER … so that the probability of default of the financial system goes down and people feel more comfortable lending at term to financials.
Janet Yellen even managed some black humour.
“My contacts report that cutbacks in spending are widespread, especially for discretionary items . . . East Bay plastic surgeons and dentists note that patients are deferring elective procedures,” she said. “Reservations are no longer necessary at many high-end restaurants. And the Silicon Valley Country Club, with a $250,000 entrance fee and seven-to-eight-year waiting list, has seen the number of would-be new members shrink to a mere 13.”