One of the things that Geithner brought with him was this attitude of "Do no harm." Just explain that, and maybe in a way that people will understand.
I know that there's a lot of debate that has gone on: Should they have nationalized Citi? Should they have taken the agencies on their book, as opposed to conservatorship? And there's a lot of debate on what was the best course of action. I actually think they've used the best course of action based on the tools they had at that time, because I don't think you nationalize a Citi when you're not sure what day two means. So I think that at the beginning, during that period of time, you take what I would call prudent risk; you don't take wild risk.
So I think when you think about what the president has done and Secretary Geithner, and they did the stress tests and they did the recapitalization, I actually think it's worked well, and I think there's a lot of liquidity in the system. So, on the Fannie-Freddie thing, that's a tougher conversation, because the housing market hasn't come back, and right now 90 percent of mortgage origination is still going through them. And I think we all agree that we need to do more work on the housing market and come out with a better next course of action.
But I do think, in retrospect, not making quick decisions and rash decisions has paid off well for this country, and I think the policies have boded well to get the financial services up and running again.
The March 15 meeting, where the position --
The 15th , '09.
'09. Dealing with the banks. So that's where the stress test [was] sort of talked about. There has also been a lot of contention about -- and you can hopefully clear that up for us -- the contention about how serious it was to deal with the banks, to possibly take Citigroup and sort of restructure it. What happened in that?
Some of these I know. There were many different meetings, and I wasn't in all the meetings. The markets are still in terrible shape. There is a widespread view that perhaps a majority of the big banks are insolvent, that their assets are smaller than their liabilities. And there's high risk of bank runs and financial collapse if that's the circumstance.
So the debate is really between three camps and centers after we've decided, look, we are going to do a stress test. We're going to open up the books to the world so people can see what is the circumstance of the capital position of these companies.
And the question being actively discussed and debated is, what do we do when somebody fails the stress test? If they fail it wildly, fail the stress test, should they be nationalized? Should they be broken up into pieces and sold off? Should they be directly recapitalized? There's a lot to be said on each of those points. In my experience, the discussion was about what will we do when the stress test is done if somebody fails. It wasn't "Let's go pre-emptively decide one of those three and break them up before we actually have the data of whether they've failed."
When we get the stress test results, the country's good fortune was that the banks' positions were not as negative as everyone thought. So they looked and said, OK, you could argue, well, they should have made the stress level in the stress test even more difficult. But the stress test was clear enough that people could go out on their own and look and say, OK, fine. I'm going to in my own mind say what if the unemployment rate gets to 15 percent and what if the GDP goes down another 10 percent? What will happen to their capital position? And it wasn't as bad as they feared.
And giving the disclosure and showing people what their circumstance was and committing to recapitalize the banks is what allowed the private money to come in. And it actually ends up succeeding at rebuilding the system. You don't know what the counterfactual is.
I do think there is a group of people who say we should have just nationalized all the banks. I think to that there are two things to think about. One is, there is still a great chance that the financial rescue would have had ultimately a gigantic cost the way it had in virtually every other country of the world that's had a big financial crisis.
[The New Yorker's Washington correspondent Ryan] Lizza also writes about a February memo, ... [which] basically argued that TARP [Troubled Asset Relief Program] was not enough, there was a realization of that, and that there was a debate begun over this question of nationalization of some sort. ... What's the debate, and why is it had?
Again, we had put forward a complicated set of plans. There were those who were arguing that we were doing too much, and there were those who were arguing that we weren't doing nearly enough.
In that camp, there was those who argued that the best course of action would be to nationalize the banks. This often took the form of "We should do what Sweden did, not Japan," which sounds great. Sweden, before our crisis, was kind of the poster child that people would point to and say, this was a great resolution of a financial crisis.
There were a lot of key differences between what was going on in Sweden and what was going on here. In fact, Sweden only nationalized the banks ... after they tried everything else. And the outcome, while it was good, was not as good as the outcome that we had here.
What defines success in these exercises in my mind -- and everyone will have his or her own set of criteria -- but what happened in the economy, what happened to employment, what happened to the cost of borrowing and what was the cost to the taxpayer, by any of those objective measures, the results of what the president and the secretary did here in our country are better than the outcome in Sweden.
What was the debate in this February leading up to March about the question of banks? And would it become at some point necessary to nationalize or pull apart some parts of these banks?
There was quite a bit of debate leading up to Feb. 10. At that point, we had to freeze the policy, and you had to make a decision and go forward.
Even though the president had only been in office for two weeks, the world wasn't going to give you the luxury of any more time. The markets weren't going to cooperate with that, and they needed to hear what the new team was going to do.
There had been debate about whether or not we should nationalize the banks among dozens of other ideas. That was the one that was the most prominent. But on Feb. 10, we announced what the plan was. That included a plan to strengthen the banking system, including the stress test, a plan to stabilize the credit markets and a plan to deal with the legacy assets.
The market reacted the way it did, and continued to react negatively, so the debate picked up again. Is what we announced enough? Is it good enough? Did we go far enough? Should we revisit?
That culminated in that meeting on March 15, where it kind of all came to a head, and the president led the meeting. This was a six- or seven-hour meeting. He was deeply engaged, pushing us very hard. The whole team was under tremendous pressure, and the question was, should we change course?
After pushing us for hours, he made the decision -- I think it was a courageous decision, and I think it played out in the end to be the right decision -- to stay the course and to stick with the plan.
So it was too expensive an idea, basically.
I would say the idea was risky. So we're trying to think through as we are going along what will be the outcome. The other thing to think about with explicit nationalization is that initial set up of the TARP had limited restrictions on dividends, executive compensation. If you went and announced, "We're about to wipe you out," you might very well have seen a lot of these companies just pay out everything they had to their shareholders to avoid it being taken away.
The March 15, 2009 meeting, dealing with banks -- there's lots of different opinions about exactly what was acceptable or what was not, this idea of nationalization or not. … Was there a real plan, or a real thought that in fact probably some banks would have to be taken over? What was the thinking around that period of time?
The thinking at the time was that we had to do whatever it takes to most efficiently get credit flowing again. And that meant that lots of toxic assets on balance sheets had to be dealt with as quickly and efficiently and cheaply as possible.
The question as to whether nationalization, conservatorship, taking over these banks was the best way to do that was in the room. But it wasn't the obvious first, best option. I mean, I remember some discussions where experts in such matters explained why that might work a lot better in Sweden than it would work in the United States, and making pretty good substantive arguments.
So what was the argument for nationalization?
The argument of nationalization was very much a kind of rip-the-Band-Aid-off argument.
It was an argument that asked, are we looking at a liquidity problem in our banks or a solvency problem? Are our banks insolvent, in which case, by far, the quickest and best way to go is to rip the Band-Aid off and nationalize? Or are we looking at something that's more of a temporary liquidity nature, because of some bad investments? If we help reflate them for a while, we can get in, we can get out, and they'll be back in business. …
Greece looks to me like insolvency. The U.S. at that time looked to me much more like a liquidity issue.
But the way that meeting, the 15th, specifically has been discussed is that at least the option of taking over one or two of the banks that were in a worse situation, like Citi, was an option that was being considered.
I'll tell you what my view is, and I don't know that I was in every meeting on this stuff.
From where I sat, from the meetings I was in, the option of nationalization was out there. But it was never an option that got all that close to the finish line, as far as I could tell. I think there's a view that the idea of nationalizing even a few banks was very close to a decision that the president made. I don't think that's quite realistic.
And that point was raised in the meeting?
That point was raised all the time. We're trying to think through, what will the cost of these things be? So if you nationalize the banks and it drives out all the people or if you don't manage them successfully, the cost of that -- you will essentially lose all the money, and that would be in the trillions.
I mean, the average cost to a country from a financial rescue was usually 5 to 10 percent of GDP. So in the TARP terms, it would be as if we did a TARP that cost $2 trillion of money up front and we lost $1 trillion of it. That wouldn't be out of the ordinary at all. That would be kind of the median experience of other countries.
There was a lot of talk about nationalizing banks. Citi was the prime candidate, but there was talk about Bank of America as well. First they were going to fire Ken Lewis, and then they were going to nationalize the bank. Would it have helped to fire Ken Lewis? … Would that have had any effect?
I would argue that in a sense, the "too big to fail" institutions were quasi-nationalized; that is, they were saved by either being given leeway to acquire institutions that they otherwise wouldn't have acquired, and also they were subsidized by the government in terms of monies provided to make sure they could have ongoing operations. And so these are bailouts.
Usually in the private sector, you go through Chapter 7 if you're a total disaster, or you go through Chapter 11 if there is hope for the company and it can be reorganized. And the bondholders take it in the neck, but the shareholders get pretty much wiped out. And typically what happens is management gets totally replaced. They messed up, they pay a price, they're let go.
That clearly did not happen in the case of any of the major financial institutions, large or small, that failed in this process.
Well, because we didn't let the private sector clear the system out of fear that doing so would lead to an implosion of the global economy and deflation. But I think we want to make sure we don't pervert capitalism from the standpoint of letting the market exert its discipline.
We argue at the Dallas Fed, and I argue personally, what makes this country great is what the economist named Joseph Schumpeter called "creative destruction." We are masters of creative destruction in America. If we weren't, we would still be a totally driven agricultural society for example. … That process of creative destruction applies in the rest of the private sector. It should apply in the financial sector, as well. …
The meeting on the 15th that has been talked about a lot, what really took place there? What was the debate? What was your attitude about how much you could push the banks, and should you in fact possibly take over some of the ones that were badly damaged, like Citigroup?
So I think nationalization is a term that is definitely fraught with danger, I guess. What everybody was talking about was just sort of how aggressively do you clean up various banks? And it was never that the government wanted to run a bank, but the question was if somebody really wasn't solvent, do you need the government to put in capital, realize the losses, clean it up, and then put it back into private hands?
So that was the most anyone was talking about, is that kind of a cleanup.
Clarify, because this is a contentious thing, and I think you are in a great position to clarify it. The [Ron] Suskind book [Confidence Men] raised it, which was that the way that the story is defined is that there was a decision made to do two things. The stress would be running at the same time as looking at one bank because that was less expensive, and that is something that could be done. Citigroup was the one because they were such a basket case. And the story is -- and then just knock it down or whatever. Tell us what the reality is, that what happened was that was the agreement, but that Geithner slow-walked the bank --
I know that was his allegation.
So what's --
In all the discussions I saw of the financial rescue, the nationalization versus breakup and sale versus recapitalize, there was active debate among a lot of people of which of those is more sensible. But my experience was all of those were about what are we going to do once the stress test is done and someone has failed badly, which we presumed Citi and maybe others would do.
But the issue of trying to break up a bank before you had the stress test results is that you could lead to another run on all banks in which they look and said: "Well, wait a minute! They are not even waiting to see how big the losses are. Therefore, let's get our money out of all the banks." That fear of contagion, it was a very real possibility. And that's why the story that the president ordered them to be broken up and Tim Geithner just said no and just didn't do it, I don't think that that is accurate. I think that is absolutely not accurate.
And what were you saying?
So I think I was on the side of more definitive cleanup, I think is the right way to say it. So this is the sense that the financial system was sitting on a lot of bad loans, and that maybe we needed to be more aggressive in dealing with them.
And this is actually an example of a really good and strong economic debate. We had some -- Secretary Geithner, who has good people skills -- I think what's true is probably Larry Summers and I were both on the side of we need a more definitive cleanup of the financial system, and the way Tim dealt with that is he said, "Let's have some big meetings." We'd get in his big conference room at Treasury. He'd have dinner sent in, and we'd just argue for the next three or four hours about what's the right way forward.
And what was always -- the things we were balancing off were if you're more aggressive, that is more likely to really clean them up. The other side of that is the more aggressive you are, the more likely you are to freak people out, and maybe we could start another downward spiral or another financial panic.
So it was never some people liked the banks and some didn't. It was always a question of what's the best way to make this financial system really healthy and weighing off we don't want to rock the boat too much that you might set off another panic.
So I would put myself on the side of saying I think we can go further without rocking the boat too much.
And the reason why there was some debate within the group, [among Council of Economic Advisers, 2009-2010, Christina] Romer and Summers and others, that maybe it would be a good idea to send a message, and Citigroup is a mess and has been a mess for a long time, maybe the weaker banks should be looked at as possibly takeover candidates?
I don't know about all the different perspectives that were taking place, what Christina's view was versus Larry's versus Tim's versus the president's versus Austan's. My guess is they had very heavy debates on that. But I do think at the end of the day you don't take nationalizing one of the top five largest institutions in the country that is in over 100 countries, that's intertwined in so many different ways, and say, "OK, let's nationalize," and not [be] sure what [will happen]. Like I said, Citi or whoever it may be, UBS, all the different firms, we are in 25 to 50 jurisdictions, so when you make that type of statement you need to know local laws; you need to know how the derivatives are going to be handled; you need to know how the debt holders are going to be handled. So it's not something that's so easily done, which is why today the large institutions will have living wills, and there will be a resolution authority to understand how you wind down those that were deemed "too big to fail" institutions.
I think that what we learned from Lehman and that scenario is that we as an industry did not have the right tools, the regulators did not have the right tools, and we all needed to move there quickly to get the right tools. And I think Secretary Geithner saw that.
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