Why Paulson Let Lehman Brothers Fail

Why Paulson Let Lehman Brothers Fail

Lehman’s: Where Was Our Bailout?

Reuters
Originally Published October 6, 2008

Richard Fuld, the disgraced head of Lehman Brothers said he would wonder “until they put me in the ground” why the U.S. government did not rescue the 158-year-old Wall Street firm and claimed regulators knew the full scale of its condition far before its collapse.

Fuld said he took full responsibility for his actions ahead of the downfall of Lehman, but said U.S. regulators were aware of everything at the firm and knew how it was pricing its distressed assets in the months prior to its bankruptcy.

Despite his acceptance of his role before the collapse, U.S. lawmakers expressed outrage to Fuld about Lehman on Monday, saying that Fuld, board members, regulators and Congress all shared blame for its downfall. “I want to be very clear. I take full responsibility for the decisions that I made and for the actions that I took based on the information that we had at the time,” Fuld told a congressional panel. “I feel horrible about what has happened to the company and its effects on so many.”

Fuld said he did not know why the U.S. government chose to help other financial companies, but not Lehman as it hurtled toward disaster. Several lawmakers asked why the government stepped in to help insurance company American International Group (AIG). “Until the day they put me in the ground I will wonder,” Fuld said in his first public comments since Lehman filed for bankruptcy protection. “I do not know why we were the only one” that was not rescued.



One day after Lehman filed for bankruptcy protection, U.S. authorities stepped in to rescue AIG with a plan to lend the insurer up to $85 billion. The panel will hear from former AIG executives on Tuesday. Fuld said Lehman took steps to reduce its leverage as market conditions worsened and by September 10 it had reduced its balance sheet by close to $200 billion.

Federal prosecutors in New York are looking into whether Lehman executives misled investors by making upbeat comments during a conference call that day, the Wall Street Journal reported on Monday, and lawmakers grilled Fuld on those comments. Five days later, Lehman filed for Chapter 11 bankruptcy protection, leaving three major investment banks. Since then, Merrill Lynch & Co agreed to be taken over by Bank of America Corp, and Goldman Sachs Group Inc and Morgan Stanley said they would become commercial banks.

The U.S. Securities and Exchange Commission loosely supervised the five largest investment banks, including Bear Stearns, for capital and liquidity levels. However, that supervision was voluntary, and the SEC ended that program given that those banks have either collapsed or reorganized.

In several hours of testimony before Congress, Fuld spoke methodically and at times seemed to preach financial intricacies to lawmakers, losing patience several times with members who pressed him for precise answers. Fuld said that throughout 2008, the SEC and the Federal Reserve “actively conducted regular, and at times daily oversight of both our business and balance sheet... (Regulators) held regular price verification reviews. They were privy to everything as it was happening,” Fuld said in testimony delivered to the House Oversight and Government Reform Committee.

Rep. Henry Waxman, a California Democrat who chairs the panel, is holding hearings to find out what went wrong and what changes are needed in financial services regulation. The committee obtained thousands of pages of e-mails and other internal Lehman documents that “portray a company in which there was no accountability for failure,” Waxman said. Regulators “failed miserably” to prevent Lehman’s collapse and its resulting impact on the U.S. economy, which forced Congress last week to approve a $700 billion bailout for the financial industry, Waxman said.

Lehman’s collapse, the government’s rescue of AIG, Fannie Mae and Freddie Mac, and frozen credit markets contributed to approval of the bailout. The bailout empowered the Treasury Department to buy mortgage-backed securities and was designed to thaw out frozen credit markets and restore confidence in financial markets.

Slings and Arrows

U.S. markets plummeted on Monday as a spate of bank rescues in Europe intensified concerns about the global financial system. Lawmakers on Monday voiced opposition to the bailout bill, blasted Lehman’s actions and took exception with Fuld’s compensation, which the committee calculated as nearly $500 million in cash, stock and options from 2000 through 2008.

Rep. Elijah Cummings, a Maryland Democrat, cited an e-mail exchange in which George Walker, President Bush’s cousin and a member of the Lehman executive committee, mocked a proposal for top company executives to forego their 2008 bonuses. Walker responded to the proposal from a fund manager at Lehman unit Neuberger Berman by saying, “Sorry, team. I’m not sure what’s in the water” at the unit’s headquarters.

Fuld also dismissed the idea. “Don’t worry — they are only people who think about their own pockets,” he said in an e-mail to Walker. “In … my block in Baltimore,” said Cummings, “if they perform poorly, they get fired. They certainly do not get a bonus.”

Rep. Waxman said Fuld’s compensation did not seem fair given the fact that Lehman collapsed, wiping out all shareholder value. “You still got substantial compensation,” Waxman said.

Republicans on the committee also expressed outrage over corporate behavior. After the hearing, top Republicans on the panel asked Waxman to hold a hearing on Fannie Mae and Freddie Mac’s role in the financial crisis. Rep. John Mica, a Florida Republican, also said he asked committee staff to explore the possibility of a special counsel investigation of Fannie Mae and Freddie Mac.



The Federal Reserve and Treasury Secretary Henry Paulson undertook a series of emergency measures to rescue mortgage finance companies Fannie Mae and Freddie Mac. U.S. authorities also orchestrated a deal to sell Bear Stearns to JPMorgan Chase & Co.

However, as Lehman’s stock continued to plummet and the investment bank was unable to secure a buyer, Paulson was adamant that no government money be used to rescue Lehman. “Had that decision been different, further dislocations in the markets might have been avoided,” Fuld said. Fuld blamed several events for Lehman’s downfall, including abusive short selling, false rumors, credit agency downgrades and loss of confidence by clients and counterparties.

Over the summer, Fuld said Lehman discussed with the Fed the possibility of converting to a bank holding company, the structure Goldman Sachs and Morgan Stanley have adopted. Fuld said the Fed acted too late to broaden the types of collateral that banks could pledge to create liquidity. “Had these changes been made sooner, they would have been extraordinarily helpful to Lehman,” Fuld said.

Law enforcement officials have said the FBI is investigating Lehman, Fannie, Freddie and AIG as part of a wider probe into potential corporate fraud.

"Just as in the U.S., the collapse of Lehman Brothers last August helped send Europe into a nosedive. Stock markets tumbled, credit markets seized up, and business confidence plummeted. But the crisis also demonstrates that the European Union's economic problems are almost as diverse as its 27 members, ranging from slumping exports in Germany and Eastern Europe to anemic consumer spending in France to property bubbles in Britain, Ireland and Spain. 'It's the first downturn that affects the whole world with such violence,' says Léo Apotheker, co-CEO of German software maker SAP." -- Jack Ewing, Spiegel Online, February 27, 2009