The Fed and Lehman Brothers
Academic rebuttal to the claim that rescue was legally impossible.
Summary
Laurence Ball, an economist at Johns Hopkins, spent years examining whether the Federal Reserve could legally have prevented Lehman Brothers from failing in September 2008. The official position, stated repeatedly by Ben Bernanke, Timothy Geithner and Henry Paulson, is that Lehman lacked sufficient collateral to secure a loan and that the Federal Reserve therefore had no legal authority to lend.
Ball's finding is that this position is not supported by the evidence. He examines Lehman's balance sheet in detail, including the collateral available at the holding company and at its broker-dealer subsidiaries, and concludes that the firm had ample collateral to secure a loan large enough to meet its liquidity needs. He also shows that no legal analysis supporting the official position was performed at the time; the claim of insufficient collateral was constructed afterward. He documents the contemporaneous record, including Federal Reserve staff assessments and the absence of any memorandum concluding that lending would be unlawful.
His alternative explanation is that the decision was made by Paulson on political grounds, that Bernanke and Geithner deferred to him despite the Federal Reserve's legal independence in lending decisions, and that the collateral argument was developed subsequently to defend the outcome. The work is careful, quantitative and heavily documented. Bernanke has disputed it and Oonagh McDonald reaches a different conclusion on the collateral question. Ball's is the strongest statement of the case that the failure was chosen rather than unavoidable.
Key takeaways 7
- Ball concludes that Lehman had sufficient collateral to secure a Federal Reserve loan large enough to meet its liquidity needs.
- No legal analysis concluding that lending to Lehman would be unlawful was performed at the time of the decision.
- The insufficient collateral argument was constructed after the failure to defend the decision that had been made.
- Ball argues that Paulson made the decision on political grounds and that the Federal Reserve deferred despite holding the legal authority.
- The Federal Reserve's emergency lending authority in 2008 was broad and had been used days earlier for Bear Stearns.
- Lehman's broker-dealer subsidiaries held collateral that the holding company's reported position did not reflect.
- Bernanke disputes Ball's conclusion and other analysts reach different findings on the collateral, so the question remains contested.
Who should read it
Investors and policymakers who want a rigorous forensic examination of the most consequential discretionary decision of the 2008 crisis.
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