Questioner: I wonder what the criteria were, or Treasury's criteria, in giving out money to some banks but not others, and helping other banks get acquired. Because some banks, like Washington Mutual and Lehman Brothers, were left on their own and did not receive assistance.
Kashkari: This is a very complex question. Remember, in the case of Washington Mutual and Lehman Brothers, the TARP did not exist. So, let me take two examples, to start with. Let's take Bear Stearns, and let's take Lehman Brothers. In neither case did the TARP exist. Lehman Brothers failed on Monday. On Thursday, September 18th, we went to Congress. So, we couldn't have done what we did with TARP there, because we didn't have the legal authority. In the case of Bear Stearns, Bear Stearns happened very quickly. In a matter of a week or two, it went from everything is fine, to tremendous funding pressures, to a near collapse.
Treasury didn't have the legal authorities to intervene. The Federal Reserve has very powerful authority to lend money in exigent circumstances. But the law requires the Federal Reserve to be secured with secured collateral, when they make those loans, so they're not taking much risk. So in the case of Bear Stearns, there was a collateral pool of $30 billion of mortgages and mortgage assets that the Fed lent against, and that collateral secured the loan that they made. And that collateral was available, so they were able to loan against it.
Now, after Bear Stearns failed, the markets -- the expression we use is, the markets turned their attention to the next-slowest deer. Okay? The next-slowest deer was Lehman Brothers. So, Bear failed. All of the market's attention turned to Lehman. Lehman started coming under pressure. Over the course of the next six months, if you watched their stock price, you looked at their CDS spreads, Lehman came under more and more and more and more pressure.
Now, I was not in New York -- I was in New York for the Bear weekend, I was not in New York for the Lehman weekend. So I didn't work on Lehman personally. But it is reasonable to conclude that as Lehman was coming under more and more pressure, whatever quality collateral they had, they were having to pledge to other private-sector funders, to try to keep themselves afloat. So, after six months, Lehman finally runs out of funding and is going into bankruptcy, or about to go into bankruptcy. By then, there was no collateral left for the Fed to then lend against and meet their legal requirements. So Secretary Paulson and Chairman Bernanke have spoken about this a lot, and said very clearly that in the case of Lehman, it was not a question of will and desire. It was a question of legal authority to take the action. In the case of AIG, they lent against assets. Then we got the TARP authority, which, for the first time, enabled us to put in equity, or to really take a risk. I mean, at the end of the day, this is about the government, the taxpayers, taking risk in the financial sector.
The Fed is lending money against secured assets. They're not taking much risk. The private markets were unwilling to take risk. We had to be able to take risk. That's what the TARP was about.
Questioner: Over the last year, you've determined that there are certain institutions that are too big to fail, and obviously that's part of the rescue. As you look ahead maybe five or ten years, one question that's probably being wrestled with now is, are these institutions too big to exist? And as you look ahead, what does the financial landscape look like ten years from now, when hopefully this is in the rear-view mirror?
Kashkari: There will be and should be large regulatory changes that come about as a result of this. There's momentum building in Washington for such regulatory changes. My personal view is, I think we should take our time because these are very complex issues. And we will benefit from getting the crisis behind us, studying it with the benefit of time, to really make the right changes.
You know, you could see how complex this is. If you have some huge global institution that is systemically important -- too big to fail, too interconnected to fail -- then, in a sense, it will always be able to issue debt cheaply because the people who buy that debt believe that the government is standing behind it. So, what do you do about that? You know, there are some people who are proposing that we should put a tax on all of these institutions that are deemed systemically important, to effectively increase their borrowing costs, so that they no longer have a competitive advantage over institutions that are not too big to fail. You could call it a debt tax, or systemic tax. I don't know. I don't know if that's the right answer. But I think that the regulatory changes that come out of Washington over the next several years are going to have a large effect on what the financial landscape looks like in five or ten years, or in 20 years. It's going to take a while.
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