The transcripts of 14 scheduled and emergency policy meetings the Fed held cover only official meetings and not the countless telephone calls and unofficial gatherings of senior policy officials and financiers held during the crisis.
They give some of the clearest insight yet into how officials tackled the crisis. They also shine more light on the record and personality of Janet Yellen, then chair of the San Francisco Fed and now the first woman to lead the Federal Reserve, showing glimpses of humor.
Yellen has a reputation for calling the recession ahead of her peers – one that is borne out in the Fed’s documents. In a January 21 meeting she said “the risk of a severe recession and credit crisis is unacceptably high, and it is being clearly priced now into not only domestic but also global markets.”
On September 16, the day after Lehman Brothers filed for bankruptcy, Yellen showed her lighter side as she gave evidence of an economic slowdown in San Francisco. “East Bay plastic surgeons and dentists note that patients are deferring elective procedures,” she said to laughter.
“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,” she said.
“Sales of cheap wine are soaring,” Yellen reported to the Fed on March 8, a week before Bear Stearns collapsed.
What is consistent in the transcripts is that the Fed appeared to be struggling to grasp the magnitude of the crisis that was unfolding. On 21 January 2008 – well before Bear Stearns and Lehman fell into trouble – Fed chairman Ben Bernanke admitted it had already misread the burgeoning financial crisis. “We were seriously behind the curve in terms of economic growth and the financial situation,” Bernanke told his fellow economists. Two months later, Bear Stearns was near to collapse and was forced to sell itself to JP Morgan in a government-brokered deal.
By March, Bernanke had concluded that significant action had to be taken. “We live in a very special time,” the Fed chairman told colleagues on a 10 March conference call. Bernanke went on to press for the Fed to approve his plans to act as a backstop for Wall Street.
By June, things had calmed down slightly, but a sense of menace lingered, particularly around Lehman Brothers, as Bernanke observed: “With respect to financial markets, I agree certainly that the crisis atmosphere that we saw in March has receded markedly, but I do not yet rule out the possibility of a systemic event. We saw in the inter-meeting period that we have considerable concerns about Lehman Brothers, for example.”
Another Fed official cited Lehman’s shaky health after the fall of Bear Stearns and said “the announcements about Lehman Brothers over the last month highlight that we’re not yet safe.”
Yet those concerns did not lead to action, and there is a sense from the conversations that Lehman had created its own problems, which the Fed felt no pressure to solve. In June, Timothy Geithner – then head of the powerful New York Federal Reserve – said he wouldn’t let the central bank’s emergency lending measures be judged by whether “they would save Lehman from itself.” Another Fed official noted Lehman’s shrinking ability to borrow money after the fall of Bear Stearns and observed: “It started to crack, but it never really shattered.”
Adding to the impression that the Fed believed it held the upper hand in discussion of the bailouts, one official observed that the Fed’s imprimatur was one of the few things providing credibility to the banking sector at the time. “We have considerable leverage over these institutions at this time.” Kevin Warsh wrote. “No matter what they and their lobbyists say, they want us to be their regulator more than they can possibly contain themselves – mostly for our credibility and mostly for our balance sheet.”
The transparency of the emergency measures also came up, as officials encouraged Bernanke to share the Fed’s thinking about potential bailouts with Congress and the Treasury.
“It is going to be a tough act because you don’t want to take anything off the table, but you want to keep a lot open and not show your hand … You are going to have to show some leg during that speech,” Dallas Fed president Richard Fisher encouraged Bernanke.
Yet, if anything, the Fed seemed to become more opaque, at least when it came to the biggest crisis it would yet face: Lehman Brothers. In the two Fed meetings in July and August – before Lehman Brothers failed in September – the transcripts showed that none of the Fed members mentioned the firm’s name even once.
Lehman’s collapse was greeted with little fanfare by the Fed officials. Two days after the collapse of Lehman Brothers, an event that triggered stock market crashes around the world, Bernanke told his colleagues: “I think that our policy is looking actually pretty good.
“Our quick move early this year [to cut interest rates], which was obviously very controversial and uncertain, was appropriate.”
As the crisis unfolded, Fed officials initially were more concerned about rising inflation than unemployment. The Fed decided to keep interest rates pat at 2%, not showing any action. In a debate about wording of the Fed’s statement, one of the governors, Kevin Warsh, explained the Fed’s decision to stand pat by telling his fellow officials: “I think the sentiment we are trying to suggest is watchful waiting. We are not indifferent, we are not clueless. We are paying attention, but we are not predisposed.”
Others actively argued against action. Richmond Fed president Jeffrey Lacker, for instance, opposed intervention and said the fall of Lehman would have a “silver lining” in that other banks would read it as a decisive signal that the government would not intervene in a financial collapse.
“Overall, I don’t take what’s happened in the last few days as changing much,” Lacker said the day after Lehman filed for bankruptcy. The fall of Lehman, coming as a shock to the markets, later led several other banks to struggle, including Goldman Sachs and Morgan Stanley.
Federal Reserve governor Elizabeth Duke summed up the situation it had to fix: the lack of participation of banks in the economy. “The banks feel as though they have done everything they can do in terms of capital management,” she said, noting that banks could not buy or sell stock in the markets. “The markets are fragile to dead. So what are they going to do? The only thing they can do is contract the balance sheet and not lend.” The Fed subsequently introduced a battery of stimulus measures convincing banks to lend.
However, once the scale of the event unfolding became clear, the transcripts show the Fed and Bernanke acting swiftly and decisively to contain it, despite some internal disagreement.
The documents show a Fed struggling to even over how to describe the meltdown as it took hold. At a meeting on March 18, Frederic Mishkin, an Federal open markets committee (FOMC) member, said: “I will not use ‘financial crisis’ in public. ‘Financial disruption’ is still a good phrase to use in public, but I really do think that this is a financial crisis. It is surely going to be called that in the next edition of my textbook.
Participant: When is it coming out?Mishkin also compared the FOMC to Monty Python’s Life of Brian where “they all on the cross, and they start singing ‘Look on the Bright Side of Life.’”
Mishkin: Wouldn’t you like to know!
• This story will be updated as we work through the documents.
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