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Lehman Brothers one year on

15 Sep 2009

Peadar o Broin

 

One year ago today, US bank Lehman Brothers filed for bankruptcy. The event – the biggest bankruptcy in history – was a pivotal moment in accelerating the spread of an economic cancer throughout the global financial system.
 
The idea of a major financial institution being allowed to collapse, especially one as large and as old as Lehman Brothers, was practically unthinkable twelve months ago. Banks such as Lehman Brothers were considered “too big to fail”. Indeed, allowing the bank to fail is a decision that remains deeply contested, with many economists contending that it provoked (or at least deepened) the worst global financial crisis since the 1930s.
 
Of course, this overlooks the roots of the crisis that lie in unregulated financial innovation. The creation of subprime mortgages in the United States fuelled a gold rush for mortgage-backed securities – something that turned out to be nothing more than “fool’s gold”.
 
But the collapse of Lehman Brothers nonetheless stands as a seminal moment in the current economic and financial crisis – perhaps a day that will be remembered in history as just as much a turning point as Black Thursday of 24 October 1929, which marked the beginning of the Great Depression.
 
The ensuing policies of central banks, coupled with hefty intervention in the economy by national governments (such as the Irish government’s decision to guarantee banking deposits) and coordination at international level within the G-20 may have calmed the flames. But much remains to be done if systematic reform of financial markets is to be achieved.
 
The proposed capping of banker’s bonuses and the haranguing of tax havens, both areas being pursued within the G-20, are reforms that, although almost universally accepted, will not, however, “reform capitalism”.
 
It is instead reform of regulatory regimes at both national and international levels that will constitute a significant step in this direction. On Monday, President Barack Obama called for lawmakers and members of the financial sector to accept his proposed reforms, but he is facing growing opposition to his plans.
 
In the European Union, plans to develop a new system of financial supervision at EU level were released by the European Commission in May this year and agreed to by national finance ministers at a meeting of the ECOFIN Council on 9 June. The proposed reforms are largely based on the report of a high-level expert committee chaired by Jacques de Larosière, a former head of the IMF and ex-governor of the Bank of France.
 
To this end, the European Commission has drafted a package of regulations, based on Article 95 of the EC Treaty (which provides for harmonising national laws). The regulations, if adopted, will lead to the creation of a European Systematic Risk Board (ESRB) and a European System of Financial Supervisors (ESFS).
 
The ESRB will be at the centre of the new system, but will have only a consultative role (the granting of binding powers to such a body are not possible under the EU treaties) and will be based in and will rely closely on the services of the European Central Bank, which places control firmly in the hands of central bankers as opposed to political control from national finance ministers.
 
The creation of the ESFS is more complicated. The current system requires considerable reform, as the ESFS shall be responsible for planning the harmonising of national rules and procedures to ensure common supervisory practices and a strengthening of coordinated responses.
 
The European Commission has proposed Article 95 of the EC Treaty (approximation or harmonisation of national laws to regulate the EU internal market) as the legal basis upon which such measures are to be adopted. This means that the European Parliament will be an equal co-legislator with the Council of Ministers will be in the driving seat when it comes to adopting this new EU regulatory system.
 
The plans are likely to come before the European Parliament in the autumn of 2009, possibly during October. The two bodies in the European Parliament that will play a key role in scrutinising the legislation are the Internal Market Committee and the Economic and Monetary Affairs Committee. Both committees are chaired by British MEPs – Malcolm Harbour (Conservative, member of the ECR group) and Sharon Bowles (Liberal Democrat, member of the ALDE group), respectively.
 
The European Parliament, recently re-elected in June this year, is ready to begin a new five-year legislative term. However, proposals to carry EU financial reform into the coming months may have to be put on hold until the appointment of a new European Commission, the term of which comes to an end on 31 October. There is speculation that a new department of the European Commission may be created specifically to deal with financial services. This may provide in turn for the creation of a European Commissioner specially mandated to look after financial services in the internal market. However, all talk of Commission posts and portfolios seems to be on hold until after the Irish referendum on the Lisbon Treaty, meaning that EU financial reform will proceed at a slow pace until the result of the referendum is known.
 
Further info:
 
BBC coverage of the global recession:
http://bbc.co.uk/aftershock
 
Timetable and stories on the EU’s financial regulation agenda: http://www.euractiv.com/en/financial-services/financial-regulation-eu-agenda/article-180851
 
Information on proposed regulatory reform in the UK, US and EU:
http://www.ft.com/cms/s/0/313aeca4-7864-11de-bb06-00144feabdc0.html
 
New York Times coverage of the Lehman Brothers aftershock:
http://www.nytimes.com/pages/business/businessspecial4/index.html
 
FT’s coverage of the Lehman Brothers aftershock:
http://www.ft.com/indepth/lehman-aftershock

 


As an independent forum, the Institute does not express any opinions of its own. The views expressed in the article are the sole responsibility of the author.


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