Conventional wisdom has it that the US authorities made a ghastly error in not saving Lehman Brothers Holdings Inc. But was it really such a tragedy?
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Hank Paulson certainly didn’t anticipate the global panic that swept over the financial system after Lehman went bust, causing other banks to collapse like dominoes. And clearly, in the ensuing conflagration, shareholders and speculators have been burnt. Taxpayers across the world have also had to pledge more than $2 trillion (Rs98.6 trillion) to rescue the industry.
But remember that this crisis didn’t come out of a blue sky. Wall Street and the City of London had been on a multi-year borrowing binge. The bubble had to burst. And, after it did last year, the leverage had to come out of the system.
If Lehman had been saved, a cataclysmic month might have been avoided. But there would have still been a series of mini banking crises. Such death by a thousand cuts, similar to the one suffered by Japan in the 1990s, would have been less dramatic, but might, ultimately, have been more debilitating.
Lehman’s bankruptcy may have been precisely the wake-up call that governments needed. It also terrified the banking industry so much that they were prepared to drink some pretty unpleasant medicine. Not everything that the authorities have done has been perfect. But the broad approach of stuffing the banks with capital and getting them off their addiction to short-term borrowing doesn’t just seem to have brought the immediate panic to an end. It has put the industry’s finances onto a healthier longer-term footing. So, Lehman’s bankruptcy may not have been a ghastly error. It’s too early to be sure. But history may conclude it was more like a lucky cock-up.