James Pethokoukis

Politics and policy from inside Washington

Get ready to celebrate Free Market Day

September 14, 2009

At a House Financial Services Committee hearing just after Lehman Brothers filed for bankruptcy protection a year ago, the committee chairman, Barney Frank, suggested that September 15, 2008 be commemorated as Free Market Day, since Lehman was allowed to fail and free markets allowed to work. Frank then added that because AIG was bailed out the next day, “the national commitment to the free market lasted one day.”

Funny guy, the chairman — but probably not to Ben Bernanke, Hank Paulson, or Timothy Geithner. They’re the folks, obviously, who get the blame for not ginning up some way — any way — to bail out the investment bank and avoid a dangerous escalation of the financial crisis.

At last check, both Bernanke and Paulson steadfastly maintain that legally their hands were tied, thus the need for expanded authority to take over and wind down failing financial firms. If such authority had existed, Bernanke said a month after Lehman’s implosion, “we could have saved it. We would have saved it.”

Of course, that explanation seems to have evolved a bit over time. There are plenty of hints that a way would have been found to save Lehman, had Bernanke and Paulson anticipated the breaking of the buck by the Reserve Primary Fund and the flabbergasted reaction by international investors who had expected a repeat of the Bear Stearns bailout.

Yet in the year since the Lehman collapse, the consensus that it was an unmitigated disaster may be starting to shift. Free Market Day may be worth celebrating after all.

There are a couple of main arguments here. Call one of them the No Real Harm Theory. This has two aspects. First, economist and former Treasury official John Taylor argues that credit spreads didn’t really blow out until the market got a look at the government’s reaction to Lehman’s demise — the hasty construction and apocalyptic selling of the TARP.

At the same time, others argue that given the fragile state of the market, saving Lehman would merely have shifted the spotlight to some other endangered firm.

Then there’s what we’ll call the Worse the Better Theory. It holds that the severe market reaction to Lehman is what persuaded Congress and the Fed that it was time to do whatever it took to stabilize the financial system through bailing out AIG and passing the TARP.

Without Lehman, a continuation of piecemeal fixes would have allowed the financial system to erode further, heightening the chance of depression. What’s more, Lehman exposed the dangerous fragility of our interconnected financial system, serving as a catalyst for reform.

So is the case for letting Lehman die a clear-cut one? No. But it is a reasonable one, and even more so if the government had spent the time between March’s Bear Stearn rescue and Lehman’s chaotic bankruptcy creating a predictable and transparent resolution protocol.

So celebrate Free Market Day? You bet, but make it a quiet dinner rather than a wild party.

Comments

The world has shades of grey.

The Lehman decision was not an either/or choice.
It was not “Rescue them” or “Let them die” decision.

I have said — and I am still saying — that the best option would have been a more Bear Stearns approach (w/o the Fed’s $29B) — Essentially, a prepackaged, orderly bankruptcy sale/liquidation. The problem with lehman wsn’t that it was allow to suffer for its own sins –t he problem was they were allowed to do a header onto the sidewalk and splatter everyone else around. They should have been gently euthanized, their body parts sold off.

More here:
http://www.ritholtz.com/blog/2009/09/fre e-market-day-but-just-a-day/

 

Face it, Fuld was an arrogant SoB and was holding out for a better BO offer thinking he had gov’t assurances that they wouldn’t let Lehman die. I don’t think the gov’t had any intention of ‘saving’ Lehman, much like they didn’t have any intention of saving Bear Stearns earlier that year. What they did was arrange a shotgun wedding and help facilitate the terms. They tried the same thing with Lehman and Fuld balked. End of story. And while people like to point fingers at the people in gov’t that they don’t like, or people associated with administrations they didn’t like, the truth is the only ‘blame’ you can point to in Lehman failing is the CEO of Lehman.

And as far as Lehman causing the crisis… whoever thinks that is a moron. Lehman is an effect of the crisis, not the cause. All Lehman’s collapse proved was that without gov’t backstopping debt for all America’s financial institutions there is exactly ZERO confidence in American banks. And by extension the American economy. You cry socialism, but it’s all that’s saving America – for now. Hopefully America can get past that because the gov’t guarantees will need to stop soon (tops two more years) or there will be no confidence in the American economy for worse reasons.

Posted by the Shah | Report as abusive
 

“Free Market” my ying yang! It was Barney and the rest of the Apple Dumpling Gang, as well as BO, PELO, and REIDO that implemented all this “progressive change” (read SOCIALISM!) into the system.
The only thing “free” is this whole mess is the “ride” that these dufus’s are getting while they pull the wool over the heads of the taxpayer.
Well,…that ride’s coming to an end in 2010!
You hear me, Washington?!
The Ride Ends in 2010!

Posted by Yewbee | Report as abusive
 

Nothing is free and markets are no exception. The American empire is often poorly understood. It espouses the free market concept abroad yet at home it is as protectionist as any economy struggling to meet WTO accession standards. Socialism is not a threat to humanity it is merely a threat to rampant capitalists – that is why it is public enemy number one to the elite who control American. Bankers too are not nationalists they are capitalists, so if they can milk the American taxpayer to pay for their own bonuses they will – and they do. Lehmans was allowed to fail because enough money had been extracted by its leadership that leaving the world and US taxpayers to pay the real cost for their over-leveraging made good business sense.

Rampant capitalism and greed operate well in a free market environment but with greater regulation levels of corruption will therefore likely increase. It is not the end of the free-market, because it perhaps never was.

 

Quite frankly, I like “rampant capitalism” a whole lot better than I do having to pay for your medical care and looking forward to standing in a Russian “bread line” some day waiting for my free portion of mouldy bread and cheese to be handed to me!

Posted by Yewbee | Report as abusive
 

There needs to be some sort of balance. Look at Brazil were the reserve requirements are much higher and their banking system has been stable through out this mess. The fact is that in banking as well as in the commodity markets there are big bucks to be made for taking unreasonable risks. Huge bonuses paid to the risk takers who walk away with millions if not billions after the house of cards collapses and the American tax payer is asked to pick up the tab. In commodities, particularly oil we have the same problem. Speculators driving up the price of oil. The price of oil today has nothing to do with market demand. Americans are paying for this under regulated las vegas style wagering every time they go to the pump or pay higher costs for food and travel because of higher energy costs. There should be rules in place to protect the average American from these heinous activities.

 

The main players were long time (38 years in some cases) ex employees of Goldman Sachs. Who had no desire to save Lehman. Only when Goldman was exposed to AIG did they decide anything had to be done to save Wall street.
Let one go down let them all go down. That is capitalisim.
The sheer audasity of the USA telling China how to manage its financial institutions while letting the likes of Goldman Sachs manipulate the oil and stock markets is totally unbelievable. To many USA regulators are ex GS employee’s. Capitalism was not meant to privatise the profits and socalise the loses. No one has helped New Orleans citizens but rich wall street jews who have been ripping us all off for years they must be saved. Hello is anyone out there in USA that is looking at who was saved.????????????

Posted by Gary Watkin | Report as abusive
 

Hey GMT thanks for paying for my medical care! I have a beauty of a health care plan that, while costing almost as much as a mortgage payment, is a benefit of employment and in turn a tax write-off for my corporation. That’s right – you and the rest of the country are paying for my premiums. $1220/mo per family, group plan (no dental). But, none dare call it socialism. Hey, works for me.

Likewise the interest on my home mortgage. Tax deductible and paid for by guess who… lots of Americans who will probably never own a home.

Personally I would be OK paying my own way – would have to make some hard choices like between having a Cadillac plan and making home payments – but thanks to all of you “free marketers” I don’t think I’ll have to. But remember – it’s not socialism!

Posted by Ryno | Report as abusive
 

Thank about it folks. George W and his cronies at Exxon, et.al. made billions off the speculators driving up the price of oil. On the day that oil hit $150 a barrel there wasn’t a gas station any where on the planet that couldn’t sell you all the gasoline you wanted. Where is the oversight?

 

Oops – I was responding to Yewbee, but I’m not so young any more and my eyes aren’t, either. Good night.

Posted by Ryno | Report as abusive
 

Good point on celebrating with a quiet dinner. However, I feel that unfortunately the govt has done very little to try to change and improve the structural problems in the economy. The govt has tried to prevent the normal business cycle from running its course, in which the recession would clear out the excesses and clear the way for a more sustainable recovery.

They have instead tried to fix a debt problem with more debt, which I believe is very reckless. Unfortunately though, the ones in power are the same people who mismanaged things and helped create the financial crisis.

So in my opinion, one of the few ways for the average person to protect themselves is to invest in gold related assets, because gold should continue to benefit from the Fed’s Keynesian efforts to avoid deflation at all costs. I have been reading some interesting articles on these topics at http://www.goldalert.com that I think are useful for investors to check out. They discuss in depth the inflationary consequences of the money printing, in addition to the potential impact on the dollar, the gold price, and prospects for the international and global economy.

Posted by john turner | Report as abusive
 

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