Transcripts show Federal Reserve’s struggle to deal with 2008 financial crisis as it unfolded


In this Sept. 2008 photo, Henry Paulson, Treasury secretary, at left in center, and Ben S. Bernanke, chairman of the Federal Reserve, meet with Congressional leaders to seek support for an agency that will buy back bad debt to address the deepening credit crisis. (David Brody/Bloomberg News)
February 21

The nation was nearly a year into the Great Recession before then-Federal Reserve Chairman Ben S. Bernanke accepted the magnitude of the country’s economic distress.

The financial system was rapidly unraveling in September 2008. Investment bank Lehman Brothers had collapsed, and the Fed was rescuing insurance giant AIG from the brink of insolvency with an $85 billion bailout. Wall Street was panicking, with stock markets falling more than 4 percent in a day. More than a million workers had lost their jobs.

Even so, Bernanke thought the Fed had probably done enough, according to newly released transcripts. So he recommended that the central bank leave its key interest rate unchanged — a move the Fed would come to regret.

“I think that our policy is looking actually pretty good,” he told his colleagues around the mahogany table at the Fed’s headquarters in Washington.

The transcripts of Fed meetings in 2008 released Friday shed new light on the darkest days of the financial crisis inside one of the nation’s most secretive institutions. The documents reveal the level of caution with which officials approached the gathering storm. Bernanke’s own grasp of the crisis appeared to come in fits and starts. But even after he forcefully pushed the Fed to take unprecedented steps to keep the financial system afloat after the September meeting, he faced skepticism from some of his colleagues.

The transcripts also reveal that Janet Yellen, then president of the San Francisco Fed and now Bernanke’s successor at the central bank, was one of the strongest proponents for aggressive action. As early as January, she said that “the risk of a severe recession and credit crisis is unacceptably high.”

Bernanke also sounded an alarm in January 2008, according to the transcripts, starting the year with an unusual emergency conference call to discuss a surprising jump in the unemployment rate. The Fed’s top brass include a seven-member board of governors based in Washington and a dozen regional Fed bank presidents from across the country. Bernanke apologized for the “awkward” timing but said his concerns could not wait.

“The concern I have is not just a slowdown, but the possibility that it might become a much nastier episode,” Bernanke said on the call. “If economic conditions worsen notably, the effects on bank capital, on credit risk, and so on will create a more severe credit situation, which could turn a garden variety downturn into something more persistent.”

Bernanke made his name in academia by studying the Great Depression, particularly the dynamics of financial markets that can amplify recessions. His fears played out in the spring as the mortgage industry began to implode and investment bank Bear Stearns toppled. Overnight lending markets froze up, forcing the Fed to pump money into the financial system to keep credit flowing.

By March 2008, Bernanke worried that there was little more the central bank could do to stabilize the system. The official Fed forecast at that point indicated that a mild recession might have been underway, but Bernanke’s outlook was more dour.

“I do think that the downside risks are quite significant and that this so-called adverse feedback loop is currently in full play,” he said at a March meeting.

But Bernanke struggled throughout the year to convince other Fed officials of the need for forceful action — and his consensus-building approach might have slowed the central bank’s response time. Several officials hoped that the spillover from the financial crisis could still be contained. Some also worried that the Fed’s aggressive moves would be difficult to unwind in the future. Dallas Fed President Richard Fisher said in late January that the central bank’s reactions were not reassuring markets but scaring investors.

“My CEO contacts tell me that we’re very close to the ‘creating panic’ line,” Fisher said. “They wonder if we know something that they do not know.”

Some officials said that the fall of Lehman Brothers in September signaled the worst was over. They argued it was time for the Fed to rein in its extraordinary powers and focus on its core mission: fighting inflation.

“I also encourage us to look beyond the immediate crisis, which I recognize is serious. But as pointed out here, we also have an inflation issue,” Federal Reserve Bank of Kansas City President Thomas Hoenig said.

Yet those views remained a minority at the Fed. Among the most staunch advocates for aggressive action were Boston Fed President Eric S. Rosengren and Yellen.

“The downward trajectory of economic data has been hair-raising,” Yellen said in October. “It is becoming abundantly clear that we are in the midst of a serious global meltdown.”

Despite the internal debates, the Fed voted to cut interest rates eight times in 2008, slashing them to zero by the end of the year. The move was unprecedented and put the Fed squarely in uncharted waters.

“I think the best thing we can do for confidence is to say that we’re going to do whatever it takes, even if it involves extraordinary actions, to get this economy back onto a path where it can begin to grow in a reasonable way again,” Bernanke said in October. “Signaling coyness, being cute, is not a safe strategy right now. We just need to be straightforward and say that we’re going to do what it takes.”

And as the recession deepened, Bernanke — who took office as an unassuming Princeton professor — seemed to adopt a hard-line approach with his contrarian colleagues.

At the Fed’s last meeting of 2008, Richmond Fed President Jeffrey Lacker started to express his reservations a new program designed to restart consumer lending before Bernanke cut him off:

“You must be thinking whether this means that in every moderate-sized recession henceforth we’ll view the Federal Reserve’s best policy as extending . . .” Lacker began.

“It’s not a moderate recession,” Bernanke retorted. “And it’s not a normal financial downturn.”

Jia Lynn Yang contributed to this report.

Ylan Q. Mui is a financial reporter at The Washington Post covering the Federal Reserve and the economy.
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