Wednesday, October 15, 2008

Why did Lehman fail?

As I plow through the ex-posts, I still have NO idea of the proximate cause, do you?

A "run on the bank" is a non-explanation. The "mortgage crisis" is ... too broad. The failed deal doesn't say exactly why they needed a ... deal.

One main contributing factor to their failure was clearly the board and management generally. CLEARLY, right? (read, "We told you so")

Two other finger-pointing factors:

  • -JPChase made an as yet unexplained collateral request (did they put the screws to their competition, unscrupulously, for gain, one way or the other; or was their sound business justification?)
  • -Even after having been "inside Lehman", the Fed and the SEC and the Treasury were ... behind the curve on potential risks and solutions

says Fuld:

On the same day Lehman Brothers prepared to file for bankruptcy, the Federal Reserve significantly broadened the types of collateral all banks were able to pledge to the Federal Reserve to create additional liquidity, the lifeblood of our system, and the Federal Reserve also adopted, on a temporary basis, the type of exemption that Lehman Brothers had applied for earlier. Had these changes been made sooner, they would have been extraordinarily helpful to Lehman Brothers.

I don't know, at this time, which securities were added to the list. It does make it look as if there was a deliberate decision to "pull the plug", however.

The fact that the SEC (and the Fed?) were knowledgeable of Lehman's balance sheet and accounting, at a crisis-heightened level, is also .... a serious concern. Why? So far as I can tell, there are BIS capital guidelines that cover derivatives (of all types) and mortgages. Are the capital guidelines ... inadequate or were they inadequately calculated or what?


No point second-guessing the main decision, however, as either choice would have a combination of salutary and deleterious effects.

Today's FDIC and Office of Thrift Supervision seem to be doing a fantastic job, so far, of quickly cutting up the parts of regular-way banks, so that the system remains orderly.

It seems that regulators need a coherent approach to "processing" the failure of a major money-center bank, one that includes substantial off-balance obligations, including a derivatives book. That might go a long way toward getting around "too big to fail", without necessarily reducing the wanted amount of firm diversity and competition in the industry.

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