Late last month, the Fed declared that six of the country’s biggest banks needed to scale back their plans for returning cash to shareholders to strengthen their capital buffers, a striking reminder that banks shouldn’t be overeager to put the legacy of the financial crisis behind them. Perhaps this is why, during a private round table discussion last week that Timothy Geithner, Henry Paulson and Ben Bernanke, three officials who helped combat (and many would argue also helped cause) the financial crisis warned that the lessons of the financial crisis are already being forgotten, according to the Associated Press,
Paulson, who was Treasury Secretary when Lehman Brothers filed for bankruptcy in September 2008, said that as banks scramble to return money to their investors, “it’s important that people focus on the lessons” of the crisis. “We are not sure people remember everything they need to remember.”
The roundtable took place ahead of a meeting in September at the Brookings Institution (former Fed Chair Bernanke’s current employer) where officials from the Fed, Treasury and other federal agencies will discuss how the US can prepare for the next crisis. The meeting appears to be a counterbalance to the Trump administration’s “deregulatory zeal” as lawmakers and leaders of federal agencies work to undo or sideline some aspects of the Dodd-Frank Wall Street reform bill. Though all three men agreed that the reversal implemented so far by the Trump administration had been “sensible.”
Still, while the safeguards implemented by the law will help the banking system fend off smaller crises, an extreme crisis could pose an existential threat.
“We’ve got better defenses against the more mild, typical sets of shocks that happen to economies and financial systems but in the extreme crisis probably less degree of freedom, more constraints than would be ideal,” former Treasury Secretary and New York Federal Reserve Bank President Geithner said.
Bernanke and Paulson complained that, if another serious crisis were to break out, Congress hasn’t allowed the FDIC and the Treasury’s Exchange Stabilization Fund enough flexibility to respond adequately, per Bloomberg.
“There is some concern there,” said former Fed Chairman Bernanke, who is now a distinguished fellow at the Brookings Institution in Washington, though he also noted that regulators are now more attuned to potential systemic risks.
And that’s extremely important, because there’s nothing more dangerous than failing to act, Paulson said.
“If we don’t act, that is the most certain fiscal or economic crisis we will have,” said Paulson, who chairs his own institute in Chicago. “It will slowly strangle us.”
Bernanke also took a few minutes to defend his handling of the crisis, while warning about the social ructions that often result from economic downturns.
The resulting economic discontent, fed by widening financial inequality, contributed to Trump’s presidential victory. Similarly weak recoveries fueled populist backlashes in other nations, too.
“Financial crises, particularly big ones, do tend to get followed by a population reaction; that was certainly the case in the 1930s,” Bernanke said, alluding to the rise of Hitler in Germany and other fascist movements.
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The three agreed that one of their mistakes during the crisis was failing to adequately explain publicly why billions in bailout dollars were being provided to the big banks, whose executives were able to keep their huge bonuses even though they ran the institutions that caused the crisis.
The three asserted that they had no choice but to use taxpayer money to stabilize the financial institutions — money that was eventually repaid — because the only alternative would have been to allow the entire banking system to collapse, with far graver consequences for the country.
“The public was angry; they wanted to see us, if not punish the banks, (then) put limits on bonuses,” Paulson said. “I was totally ineffective at having the American people understand that what we were doing was for them and not for Wall Street.”
Geithner, who was the head of the New York Fed during the crisis and later served as Treasury Secretary under Obama, said that one of the most enduring lessons from the crisis was that preventative measures (like, say, the Glass-Steagall Act) are absolutely vital. Yet, it doesn’t appear that the federal government has learned this lesson.
“We let the financial system outgrow the protections we put in place in the Great Depressions and…made the system very fragile and vulnerable to panic,” Geithner said. “One of the most powerful lessons from this crisis should be that you want to work very hard to make sure that your defenses are robust.”
While the government has tightened its oversight of the banking system, a ballooning budget deficit has caused public debt to swell. And soon, the Trump tax cuts will pile on even more debt. On the Fed side, interest rates remain low, limiting the central bank’s ability to respond if a crisis were to break out tomorrow. Meanwhile, “elevated valuation pressures” (in everything from equities to home valuations) and extreme levels of consumer debt provide myriad risks for the economy.
With all of this in mind, it doesn’t seem like the banking system has “forgotten” the lessons of the financial crisis. It’s more like they were never learned in the first place.
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