by Neil Irwin
Bernanke called a meeting of the Federal Open Market Committee for Sunday morning, by videoconference; the Washington-based Fed governors gathered in the “Special Library,” an intimate but ornate conference room down the hall from the chairman’s office, and the rest of the Fed officials joined in from their respective cities. Kohn, from Basel, explained the state of play among the Europeans. The committee agreed with Bernanke and Kohn’s recommendation: that the Fed reopen swap lines, but if, and only if, the Europeans could agree on a sweeping response of their own.
Essentially, all the actors in the crisis were linking hands and agreeing to jump at the same time: the European governments, the ECB, and the global central bankers. They each refused to go unless the others would do their part as well.
After the FOMC call ended, Nathan Sheets, the Fed’s top international economist and the staffer who had joined Kohn in Basel, went around to the offices set aside for use of visiting central bankers, to see which of them would join in the announcement of swap lines. He was a door-to-door salesman, and his product was billions of dollars.
As the finance ministers gathered in Brussels that Sunday, the day began with misfortune. Wolfgang Schäuble, the German finance minister, who had been confined to a wheelchair ever since being shot in a 1990 assassination attempt for his role in the reunification with East Germany, fell ill on his way to the meeting and was taken to a hospital in Brussels. Europe’s largest economy would initially be represented by a relatively junior official, Jörg Asmussen, state secretary at the finance ministry. Chancellor Merkel quickly dispatched a plane to pick up her interior minister, Thomas de Maizière, in Dresden and fly him to Brussels. Asmussen wasn’t in a position to negotiate on behalf of the government, so the hours it took to get Maizière to the meetings were essentially wasted.
The basic dispute to be resolved among the finance ministers was over how a rescue fund would be organized. France and most of the other European nations wanted to create a new entity controlled from Brussels and funded by the members of the eurozone. It would stand ready to lend money to countries that fell into trouble—by issuing “eurobonds,” new debts ultimately backed by all European governments—and enforce conditions attached to the aid. Germany, Austria, and Finland preferred an approach that would leave them with greater power to influence the details of any aid packages and the strings attached. They saw the French solution as one that would require them to send checks to Brussels but have little power over how their money was deployed. This division was crystal clear by the afternoon of Sunday, May 9, and it would take many hours, an implied threat by Trichet to withhold any ECB aid, and the deadline of the Asian markets opening to force a resolution.
Sunday evening, Trichet again assembled the Governing Council, some in person in a conference room at the Bank for International Settlements in Basel, some in Frankfurt, and a few in their respective countries around Europe. It was time to make a formal decision on the idea they’d been discussing off and on since Thursday night in Lisbon. Would the ECB engage in some targeted purchases of Greek, Irish, and Portuguese bonds in order to push rates in those countries down a bit, ease the sense of crisis, and ensure that it maintained control over monetary policy? Or would it stick with a more doctrinaire view of its powers and avoid violating the spirit of its treaty in order to keep all the pressure on elected officials to rescue Europe? Trichet argued forcefully for the former.
He proposed that even as the ECB bought government bonds on the open market, it should withdraw an identical amount of money out of the eurozone economy through other tools, so the purchases would be “sterilized”—that is, not increase the overall number of euros in existence. Weber and Stark argued with equal vehemence against the move, using logic similar to that Weber had expressed in his e-mail two days earlier. The ECB should intervene in the bond market only if things got even worse—bad enough to force government leaders into more decisive action than anything they were cooking up over in Brussels that weekend.
In the end, the council was overwhelmingly in favor of buying bonds—but also of keeping that a secret from the finance ministers and heads of state until they’d reached their own deal. If they found out that the ECB had decided to intervene, it would remove the pressure on them to act. The vote was a triumph of pragmatism over principle. Weber and Stark led the opposition, joined by Nout Wellink of the Dutch central bank.
Less controversial were steps the Governing Council agreed to take to pump money into the European banking system—making six-month loans available to banks and reactivating the swap lines with the Federal Reserve that had proved so useful in combating the 2008 crisis.
The ECB had decided. It would buy bonds under what it called the Securities Markets Programme, or SMP. Early Monday morning, the Rubicon would be crossed. Now the ECB just had to keep quiet until the politicians did their part. If word of the bank’s decision leaked in Brussels, after all, suddenly the finance ministers might no longer feel quite the same sense of urgency.
With the ECB in action, the Fed was ready to move on swap lines as well. At 7:46 p.m. Basel time, 1:46 p.m. Washington time, Kohn sent Bernanke an e-mail, with the subject line “Swaps are a go.”
In Brussels, the talks had bogged down amid the delay in finding a negotiator for the Germans. It was getting late, and no deal would gel. “With all due respect to Australia,” French finance minister Christine Lagarde said, “let’s forget about Sydney, concentrate on Tokyo, and take a break.” In other words, they were going to miss the 1 a.m. deadline before the Australian stock market was to open, so would focus on getting a deal in place by the 2 a.m. opening of the Japanese market. It was a proposal from the Dutch that became the compromise: The bailout funds would be managed initially by a newly created institution known as the European Financial Stability Facility, backed by the entire European Union and authorized to borrow as much as €440 billion to aid governments in trouble. It was to last only three years, to be replaced at that point by a more permanent “European Stability Mechanism.”
The French didn’t get their eurobonds, but the Germans won enough concessions to feel that they’d made no commitment to write a blank check. The IMF pledged €250 billion, keeping the two-to-one ratio of European to IMF funds that’d been a part of the Greek deal. This helped assure the Germans that there would be tough budget-cutting conditions placed on the recipients of bailout money. It also was something of a mirage: While Dominique Strauss-Kahn pledged the money, he had no authority to actually do so; that would require a vote of the IMF Executive Board, on which countries around the world have representatives. Besides being evidence of how on-the-fly this trillion-dollar bailout package was, it was an example of the supremely confident Strauss-Kahn getting the theater right and worrying about the bureaucratic niceties later.
At 3:15 a.m., the finance ministers had finally finished their hard-fought series of compromises and announced their measures. They missed the Japanese market deadline as well, but apparently the sense that European leaders were furiously working toward a deal was enough to assuage the markets. The ECB followed shortly thereafter with its announcement, as did the Fed and the other central banks participating in swap lines. “The Governing Council . . . decided on several measures to address the severe tensions in certain market segments which are hampering the monetary policy transmission mechanism,” the announcement said, the first of countless moments in which ECB leaders argued that their action wasn’t about rescuing troubled governments at all, but about ensuring it had control over the value of the euro.
For Axel Weber, losing the argument over bond buying wasn’t the end of things. The rules under which ECB Governing Council members operate call for them to keep quiet about how they vote. Unlike the Fed and the Bank of England, which release minutes of their meetings that detail how different committee members voted, the ECB keeps such information secret for thirty years. The theory, of course, is that this should make it e
asier for officials to make decisions that are in the best interest of the eurozone as a whole, rather than represent the interest of their own native countries. Another fundamental principle is that the national banks of Europe—the Bundesbank and Banque de France, for example—would carry out the orders of the ECB Governing Council and buy and sell securities accordingly. Like the twelve U.S. Federal Reserve banks, it is these institutions that actually carry out policy set by the committee.
To Weber, the Governing Council had so thoroughly ignored its own rules and orthodoxies that those principles were now in question.
Shortly after the Governing Council meeting Sunday evening, Weber convened a conference call of the Bundesbank Executive Board. He and colleague Andreas Dombret were still in Basel, the other board members in various locations in Germany. Officially he wasn’t supposed to tell anyone of what the Governing Council had just decided, but this was so momentous that he posed a quite serious question to the board members: Should we do it? Should the Bundesbank follow its marching orders from the ECB and buy billions of euros’ worth of Greek and Portuguese bonds, violating its long-cherished principle of not using the printing press to fund governments?
If they had answered nein, it’s nearly certain that the euro would have unraveled within days, the ECB would have lost all credibility, and Germany would have been forced to reinstitute the Deutschmark as its currency. The global financial markets would have entered a tailspin more dramatic than what followed the Lehman bankruptcy. Staring at that precipice, the Bundesbank concluded it was better to hold its nose and violate orthodoxy than to unleash such dangerous consequences. But that the action was discussed at all suggests the world came closer to financial catastrophe that night than all but a few insiders knew at the time.
Weber, as he had threatened in his Friday morning e-mail, decided to ignore the principle of ECB secrecy further still and make his discontent known to the world. Trichet only obliquely acknowledged the internal dissent. “On some decisions there was unanimity,” he said in a Bloomberg Television interview on May 10. “On bond purchases we had an overwhelming majority.” Weber wanted his opposition known more explicitly than that. His staff arranged a Monday morning interview with Börsen-Zeitung. “The purchase of government bonds poses significant stability risks,” Weber told the Frankfurt-based financial publication. “And that’s why I’m critical toward this part of the ECB council’s decision, even in this extraordinary situation.”
And Weber was just the most prominent of the German critics. As Die Welt wrote the day after the announcement, “What was carved in stone the day before no longer has any validity, and nothing symbolizes this more than the ECB’s loss of independence.” People who worked with Trichet said that he took the criticism from German economists and journalists that followed the bond-buying decision personally. The consummate European, who had spent a career winning respect as a hard-nosed, German-style central banker, was deeply hurt that his dedication to stable prices would come under doubt.
Trichet was also furious at Weber’s open insurrection, people close to him said. To the Frenchman, it was an affront not only to the rules of the ECB and the idea of European unity, but also to the obligations that central bankers, the Boys in Basel, owe to one another.
FOURTEEN
The King’s Speech
The official name of the gathering is “The Lord Mayor’s Banquet for Bankers and Merchants of the City of London.” Everyone knows it, however, simply as the Mansion House Dinner, for the official residence at which it occurs, at the intersection of Threadneedle and Lombard Streets. For the grandees of British finance, it’s among the most important events of the annual calendar, an evening on which they don tuxedos, drink wine, and hear what the chancellor of the exchequer and the governor of the Bank of England have to say about the state of their world. For the speakers, it’s the highest-profile speech of the year, the one they use to broadcast their biggest ideas, ensuring that they’re heard not only by the financiers in the room, but also by the many more around the globe who know to pay particular attention to what happens at the lord mayor’s Corinthian-columned Georgian palace each June.
So it seemed rather odd, just two days before the 2009 dinner, when Mervyn King’s aides told Alistair Darling’s that the governor’s speech wasn’t yet finished. “This I found curious,” Darling said in his memoir. After all, King was known for his thoughtful, carefully reasoned speeches. He didn’t leave them to the last minute. When Darling finally received a copy of the talk, a couple of hours before it was to be delivered, he saw why King had been keeping it under wraps.
“It has been a quite a year,” King began, on a note of understatement. “A year to remember, but not to repeat.”
He gave a tour d’horizon of the crisis and its aftermath and expressed his view that “fiscal policy too will have to change,” to develop a “clear plan to show how prospective deficits will be reduced.” He then said a few things about how Britain’s regulation of the financial industry ought to change to reflect the lessons of the crisis. Noting that the Bank of England had rather limited powers to oversee the financial sector, a legacy of the Labour government’s 1997 reforms, he offered a rather deft metaphor to make his point: “The Bank finds itself in a position rather like that of a church whose congregation attends weddings and burials but ignores the sermons in between,” he said with a twinkle in his eye. “Experience suggests that attempts to encourage a better life through the power of voice is not enough. Warnings are unlikely to be effective when people are being asked to change behavior which seems to them highly profitable.
“So it is not entirely clear how the Bank will be able to discharge its new statutory responsibility if we can do no more than issue sermons or organize burials.”
The Bank of England, in other words, can’t just tell banks what to do. It needs some real power. Got that, Mr. Chancellor?
Darling got it all too well, as he sat on the dais trying with mixed success not to let his annoyance show to the hundreds of bankers staring at him. “Everyone knew what he was getting at,” Darling wrote later. “It was a naked attempt to wrest powers from the [Financial Services Authority, created in 1997 to regulate British banks]. As such—and all those present knew it—it was a direct challenge to government policy, and therefore to me.”
The British press, always quick to shine a spotlight on conflict among high government officials, didn’t disappoint. “King clashes with Chancellor over how to regulate banks” was the headline in the Independent. “King launches shot across Darling’s bow over City regulation,” said the Guardian. “Put your books in order, and soon, King warns Darling,” blared the Conservative-leaning Daily Telegraph, which focused on King’s remarks about fiscal policy in its story about the governor’s “fiercest rebuke yet to the Chancellor.” If King wanted to stick a proverbial knife in Darling’s side, he succeeded.
For the chancellor, struggling with the aftermath of a massive financial crisis and working for a wildly unpopular government in what would prove to be its final year in power, King’s comments were typical of the governor he’d been working with for years. “This was another occasion on which I felt that Mervyn had decided that, because of the government’s weakness, he had license to roam in a way he would never have done if he had thought he would still have to deal with us after the next election,” Darling wrote.
“This is dangerous territory for any Bank Governor . . . he was coming perilously close to crossing a line between legitimate comment and entering the political fray.”
• • •
Central bankers in modern democracies end up playing a role that is bigger than their official responsibilities would suggest. Their job isn’t merely to set monetary policy and oversee banks. They are also their nations’ economists in chief. Ideally, they should be persuasive voices for sound economic thinking, steering politicians away from bad decisions and guiding them toward goo
d ones. At the same time, they’re supposed to stay aloof from politics and leave their countries’ major choices to those officials who were actually elected. Threading the needle is among their greatest challenges.
They might simply appear at the side of a finance minister or president, as Ben Bernanke did during the debate over bank bailouts in 2008. They might lend tacit support to a policy, as Alan Greenspan did with George W. Bush’s tax cuts in 2001. Or they might take a more assertive role in guiding their nations’ policies, as Jean-Claude Trichet did repeatedly starting in 2010. Each of these actions comes at a cost: In each case, the idea of the central banker as a neutral arbiter or member of a high priesthood committed only to technocratic decisions is damaged.
In 2009 and 2010, King, his tongue acid, his elbow sharp, took a consistently aggressive stance toward the politicians—or at least toward the politicians who happened to be in charge. The concerns over deficit spending and bank regulation King expressed in the Mansion House speech put him squarely at odds with the Labour government—and in almost exact alignment with the Conservative Party, which was gearing up for a campaign to return to power in the 2010 general election. The consequences of King’s apparent political alignment would shape both Great Britain’s economic fortunes and the governor’s legacy.
Like the rest of the Western world, Britain emerged from the 2008 panic deeply scarred. After fifteen years of prosperity, during which London had reemerged as a great center of global commerce, the question haunting Britain was what would come next. Unemployment had risen from about 5 percent just before the crisis to nearly 8 percent by the time of the Mansion House Dinner. The nation’s massive banking sector was in shambles, and its government debt was exploding, from 44 percent of GDP in 2007 to 69 percent in 2009. Queen Elizabeth II was sufficiently alarmed that she summoned King for a meeting in March 2009—the first time she’d sat down with a governor of the Bank of England in her then fifty-seven-year reign. After a conversation with the queen, King said later, “one must never breathe a word to another mortal.” But in answer to a question she’d posed publicly, of why, if the looming crisis was so big, nobody saw it coming, he suggested that “everyone did see it coming but no one knew when. It’s like an earthquake zone. You should be trying to build buildings in ways which are more robust.”