WASHINGTON (MNI) – The following is the second and final section of
the text of the remarks of Federal Reserve Chairman Ben Bernanke
prepared Thursday for the 43rd Annual Alexander Hamilton Awards Dinner
Center for the Study of the Presidency and Congress:
Then as now, the financial and economic crisis was global,
underscoring the third lesson: International crises require an
international response. Contemporary Americans impressions of the
Depression have been shaped by iconic photos of bread lines, hungry Dust
Bowl migrants, and the milling crowds on Wall Street on Black Monday. We
think of it as an American episode. We forget it was a truly global
event. But the depth of the Depression in Germany exceeded that even of
the United States, and the failure in 1931 of a large Austrian bank,
Credit Anstalt, was an important trigger of a wave of bank failures that
affected many countries, including the United States. Unfortunately,
authorities then were ill-positioned to coordinate an effective
international response, as years of bitter wrangling over World War I
international debts and reparations had all but destroyed the mutual
trust upon which coordination depends.
In the recent episode, policymakers, bankers, and business people
recognized that the worlds economies and financial systems would sink
or swim together. I recall talking with bankers and business people
while attending an international meeting in Brazil. They told me that,
in September 2008, what had been a healthy pace of business activity and
lending in Brazil suddenly plummeted. They described the impact of the
crisis as being like that of a “cold wind” that appeared out of nowhere.
Similar stories, I am sure, can be told in many other countries. Because
the worlds policymakers understood the potentially devastating effect
of the financial crisis for the global economy, they and we worked
urgently to stabilize the situation. In October 2008, in an
unprecedented display of coordination, six central banks — the Federal
Reserve, European Central Bank, Bank of England, Swiss National Bank,
Bank of Canada, and the central bank of Sweden — acted together to cut
short-term interest rates. A few days later, after watershed meetings in
Washington of finance ministers and central bank governors, many
countries, including the United States, announced comprehensive plans to
stabilize their banking systems. And at the Federal Reserve, because we
were well aware that turmoil in dollar funding markets overseas hurts
our own financial markets, we also established temporary liquidity swap
lines that enabled 14 central banks around the world to calm their
markets by lending dollars in their jurisdictions.
I’ll conclude with the cautionary fourth lesson — history is never
a perfect guide. It is a principle acknowledged by the words etched on
the wall of the Centers conference room, attributed to Mark Twain,
“History does not repeat itself, but it can rhyme.” As an example, bank
runs in many countries, including the United States, were common in the
Depression. In the most recent crisis, retail runs — depositors lining
up in the streets — were thankfully rare because of deposit insurance
and other changes in our financial system. Although ordinary small
depositors by and large did not run, we nevertheless experienced the
equivalent of runs on the network of nonbank financial institutions that
has come to be called the shadow banking system. In the shadow banking
system, loans, instead of being held on the books of banks as was
virtually always the case in the 1930s, were packaged together in
complex ways and sold to investors. Many of these complex securities
were held in off-balance-sheet vehicles financed by short-term funding.
When the housing slump shook investors’ faith in the values of the loans
underlying the securities, short-term funding dried up quickly,
threatening the banks and other financial institutions that explicitly
or implicitly stood behind the off-balance-sheet vehicles. This was a
new type of run, analogous in many ways to the bank runs of the 1930s,
but in a form which was not well anticipated by financial institutions
or regulators. In an additional variation on the theme of the bank run,
in September 2008 money market mutual funds saw massive outflows after
one prominent fund suffered losses related to the failure of Lehman
Brothers.
(Exceptions that come to mind are the runs on Great Britain’s
Northern Rock in September 2007 and Californias IndyMac Bank in July
2008.)
The Federal Reserve, with its discount window, was well positioned
to provide liquidity to banks by making short-term, collateralized
loans. (The discount window was the tool the Federal Reserve could have
used, had it chosen, to stem the banking panics of the 1930s.) However,
our traditional tools, developed in an earlier era, were of little use
in addressing panic in the shadow banking system or in the money market
mutual fund industry. So, we engaged in what I call “blue sky
thinking” — generating many ideas. Most were discarded, but, crucially,
some led to the development of new ways for the Federal Reserve to
fulfill the traditional stabilization function of central banks. Using
emergency authority last employed during the Depression, we created an
array of new facilities to provide backstop liquidity to the financial
system (and, as a byproduct, coined many new acronyms). Thus, we were
able to help restore the flow of credit to American families and
businesses by shoring up important financial markets, such as those for
commercial paper and securities backed by consumer loans. Undoubtedly,
researchers and scholars will devote considerable energy in the years
ahead to expanding and refining the lessons this most recent crisis has
provided us. I hope that some of you might contribute to that endeavor.
I congratulate the Center fellows whose work is also being recognized
this evening and thank you, once again, for honoring me with the
Hamilton Award.
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** Market News International Washington Bureau: 202-371-2121 **
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