Lehman Brothers: 10 Years After

Adam Tooze has a whole new 700-page book on the financial and economic history of the last decade (aptly titled “Crashed”). The book revolves around four themes: the immediate post-crisis response; the euro-zone crisis; the shift in the developed world after 2010 to a more austere fiscal policy; and the rise of populist politics in Europe and America. You can find a review of the book here (among others), and Tooze’s blog has many interesting entries that draw on the themes discussed in the book.

Christine Lagarde writes on the IMF blog that the anniversary gives us an opportunity to evaluate the response to the crisis over the past decade. Lagarde says that we have come a long way, but not far enough: the system is safer, but not safe enough; and growth has rebounded but is not shared enough. Complicating matters, the landscape of the political economy has shifted, with a fading commitment to international cooperation. Too many banks – especially in Europe – remain weak, and bank capital should probably rise further.

Culture, values, and ethics also have not changed much, as the financial sector still prioritises immediate profit over long-range prudence, short-termism over sustainability. In this context, Lagarde thinks that a key ingredient of reform would be more female leadership in finance, for two reasons. First, greater diversity always sharpens thinking, reducing the potential for groupthink. Second, this diversity also leads to more prudence, with less of the reckless decision-making that provoked the crisis. If it had been “Lehman Sisters” rather than “Lehman Brothers”, the world might well look a lot different today.

Martin Wolf says that, since the crisis, politicians and policymakers have tried to get us back to the past rather than into a different future. To be fair, they have tried to go back to a better past, in a manner similar to that of 1918. In 1918, they mostly wanted to go back to a better version of the past in international relations; after the crisis of 2008, they wanted to go back to a better version of the past in financial regulation. In both cases, all else was to stay the way it was. The chief aim of post-crisis policy-making was rescue: stabilise the financial system and restore demand. This was delivered by putting sovereign balance sheets behind the collapsing financial system, cutting interest rates, allowing fiscal deficits to soar in the short run while limiting discretionary fiscal expansion, and introducing complex new financial regulations.

This prevented economic collapse, unlike in the 1930s, and brought a (weak) recovery. The financial crisis was a devastating failure of the free market that followed a period of rising inequality within many countries. Yet, contrary to what happened in the 1970s, policymakers have barely questioned the relative roles of government and markets. It is little wonder that populists are so popular, given this inertia – which Wolf thinks is more due to the power of vested interests than to the absence of new ideas.

Harold James writes that, for policymakers and opinion-shapers, the 2008 financial crisis produced three new grand narratives. First, after Lehman, Charles Kindleberger’s 1978 book “Manias, Panics, and Crashes” – drawing on Hyman Minsky’s work on financial cycles – met with a new-found popularity. The second narrative was that Lehman’s failure had made the Wall Street crash of 1929 and the Great Depression newly relevant. The third narrative held that Lehman’s collapse augured the end of American capitalism. Neither of the first two popular narratives is really correct. The crisis was not a market failure, but rather the product of opaque, dysfunctional non-market institutions that had become perversely intertwined. It exposed the problem of complexity – not of markets as such.

The third narrative actually happens to be true: America’s financial and political pre-eminence has in factwaned. The global primacy of the US was based on economic and political power, but it also depended on something more fundamental: trust in America’s capacity to deliver on its promises over the long term. The crisis undermined that trust, even though US economic and political power remained only slightly diminished. The deeper contagion was intellectual, not financial. Financial behaviour also does not occur in a vacuum and the same kind of short-term, hyperactive mindset that felled Lehman was taking root in the rest of society, too, at the time.

Howard Davies wonders whether the financial crisis has been wasted. There has been a very significant change: most large banks now have three to four times as much capital, and capital of far higher quality, than they had in 2007; additional buffers are required in systemic institutions; risk management has been greatly strengthened; and regulatory intervention powers are far more robust. Political support for tough regulation also remains strong, at least everywhere except the United States. There is one area, however, where far less has been achieved. While financial regulation has been materially strengthened since the 2008 crisis, its implementation remains in the hands of a patchwork quilt of national agencies. The resulting structural diversity of post-crisis reforms does not help ensure consistency in the implementation of global standards.

Philip Stephens writes in the FT that the legacy of the global financial crisis might have been a re-imagination of the market economy. But the process set in motion by the September 2008 collapse of Lehman Brothers has produced two big losers: liberal democracy and open international borders. The culprits – who include bankers, central bankers and regulators, politicians and economists – have shrugged off responsibility and, despite initial regulatory reforms, life on Wall Street and in the City of London has gone on much as before. The world has certainly changed, but not in the ordered, structured way that would have been the hallmark of intelligent reform.

After a decade of stagnant incomes and fiscal austerity, no one can be surprised that those most hurt by the crash’s economic consequences are supporting populist uprisings against elites. Stephens think that historians will look back on the crisis of 2008 as the moment the world’s most powerful nations surrendered international leadership, and globalisation went into reverse. The rest of the world has understandably concluded it has little to learn from the West. Many thought at the time that the collapse of communism would presage the permanent hegemony of open, liberal democracies. Instead, what really will puzzle the historians is why the ancien régime was so lazily complacent – complicit, rather – in its own demise.