Lehman Brothers Anniversary

It has been a year since Lehman Brothers went bankrupt after the government refused to bail them out as it had with Bear Stearns. There has been a spate of articles and essays on the events that have occurred in the last year. Several interesting columns appeared recently in the Financial Times. Niall Ferguson wrote on why a Lehman deal would not have prevented the financial crisis and the recession. In fact, he argues, it took the collapse of Lehman Brothers and the credit freeze to get Congress to act and pass a huge, across-the-board bail out. Martin Wolf wrote on the wrong lessons from Lehman's fall. Wolf argues that we cannot allow the too-big-to fail doctrine continue, and that an ambitious overhaul of the financial system is in order. John Kay writes that changes are needed in what assets are required to stand behind deposits at banks.

The essay I like best is buy William White, "Some Fires are Best Left to Burn Out." He raises the question of whether the constant effort at preventing any and all recessions from occurring or from continuing increases the ultimate cost of a later severe recession. He uses an analogy from fighting forest fires. Fires thin out undergrowth and rejuvenate the forest. If all forest fires are prevented or immediately put out, it leads to a larger more dangerous forest fire later. The focus tends to be on the short term and causes problems in the long term.

White's point is important. It is common to hear laments in the financial press about businesses being too concerned about the profits of the next quarter. This short-term emphasis comes at the expense of long-term planning and profitability. But the same tendency exists in the public sector. Every recession that has taken place since I have been a professional economist has been seen as requiring immediate action to stop and get the economy growing again. This has been true of recessions that turned out to be relatively short or mild. The Obama administration argued that the end was near and the stimulus package was needed to prevent a depression. Never mind the huge deficits; we have to fix things now! I am not arguing for or against the stimulus package at this point. I am just noting the similarity between the private and public sectors. But what if firms that focus on the next quarter end up reducing their long-term viability? And what if the government's efforts to forestall or prevent any economic downturn ensure that there will be eventually a severe downturn? White says, "Just as good forest management implies cutting away underbrush and selective tree-felling, we need to resist the credit-driven expansions that fuel asset bubbles and unsustainable spending patterns."

(Note: I did not link the opinion pieces from the Financial Times since a subscription is required to upload the articles.)