Yesterday I discussed some of the events surrounding the bankruptcy filing on Sept. 15 by Lehman Brothers, including the roles of J.P. Morgan, Citibank and the Federal Reserve -- specifically, how one might look at the reported facts and infer that the Fed was assuming $138 billion in bond obligations which were in default upon Lehman's bankruptcy. (Read yesterday's article)
That bankruptcy remains very much relevant to the proposed $700 billion bailout plan now under debate in Congress. In his testimony to the Joint Economic Committee of Congress on Sept. 24, Fed Chairman Bernanke said:
"Government assistance should be given with the greatest of reluctance and only when the stability of the financial system, and, consequently, the health of the broader economy, is at risk."
Then he described the recent instances of:
1) A large financial company that did receive government assistance, and
2) A large financial company that did not receive government assistance.
"In the case of AIG, the Federal Reserve...provided an emergency credit line to facilitate an orderly resolution....The Federal Reserve took this action because it judged that, in light of the prevailing market conditions and the size and composition of AIG's obligations, a disorderly failure of AIG would have severely threatened global financial stability and, consequently, the performance of the U.S. economy."
"In the case of Lehman Brothers...the Federal Reserve...declined to commit public funds to support the institution. The failure of Lehman posed risks. But the troubles at Lehman had been well known for some time, and investors clearly recognized--as evidenced, for example, by the high cost of insuring Lehman's debt in the market for credit default swaps--that the failure of the firm was a significant possibility. Thus, we judged that investors and counterparties had had time to take precautionary measures."
To update yesterday's discussion: Other facts I've learned present even more questions and possible inferences. For example:
- Why did the Federal Reserve make no public statement regarding the reported $138 billion that Lehman received, and that the Fed transferred via J.P. Morgan? Its press releases from the 14th, 15th and 16th of September are silent on this. A separate press release on Sept. 16 explained the $85 billion bailout of AIG.
- Are Chairman Bernanke's statements quoted above consistent with the Federal Reserve's apparent assumption of $138 billion in defaulted bond obligations? One could infer that the statement is not consistent with undertaking such an obligation.
- Why was the dollar value of the unsecured asset claims against Lehman dated from July 2, 2008, some 10 weeks before the bankruptcy filing? One could infer that the bonds lost value during those 10 weeks, even as the cost of credit default insurance skyrocketed, as this chart from the Sept. 15 Wall Street Journal makes clear:
Finally, Citibank's "indenture trustee" status likely means it was an unsecured creditor in name only regarding the $138 billion bond debt. Citi was administering the interest payments to the real -- but still unidentified -- bondholder(s). If so, one should not infer any bailout of Citibank.
There's more to learn about this story, and I'll continue to post what I discover on this page. In the meantime, click here to read tomorrow's news today.