Liam Dann 's Opinion

Liam Dann is the business editor of the NZ Herald

Liam Dann: Never forget grim Lehman lesson

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The collapse five years ago of US banking giant has brought about change in the industry but risks still remain.

Markets plunged, inter-bank lending froze and the threat of a meltdown that could seriously cripple the mechanisms of the modern world became real.
Markets plunged, inter-bank lending froze and the threat of a meltdown that could seriously cripple the mechanisms of the modern world became real.

I love nostalgia. Everything seems better viewed through the prism of the past. Big events certainly seem less terrifying.

And so I couldn't miss the chance to reflect on Lehman Brothers, which collapsed on this day five years ago.

It was a very intense time for those anywhere near the capital markets - including business journalists. So much so that I struggle to recall much else from the time, what song was number one, what was on at the movies, how many children I had.

It all seems a blur now. But I recall the long buildup to the collapse. We'd known things weren't right since the credit crunch about a year earlier when the rise in the cost of borrowing spiked suddenly. The squeeze was on heavily leveraged assets - to which many of the big US and British and European banks had become highly exposed. So things were shaky, we knew the global economy was in trouble.

Lehman was the biggest and most shocking failure in a year which saw three of Wall Street's top five independent investment banks wiped out.

All three - Bear Stearns, Lehman Bros and Merrill Lynch - predated the crash of 1929. They had survived the Great Depression and the 1987 crash, but not 2008.

But to watch a bank like Lehman confess to losing so much value so fast - and to watch the US Government let it happen - shocked everyone.

Prior to its crash, the investment bank was a Wall Street giant which claimed to have US$275 billion ($338 billion) of assets under management, revenue of US$19.2 billion and almost 30,000 employees. But the credit crunch took it down and made it clear that the global financial crisis had reached historic proportions.

All the remaining confidence in the system was destroyed and you could see real panic in the eyes of the bankers. That's pretty disconcerting given the typical bullish confidence of high- level finance sector types.

Markets plunged, inter-bank lending froze and the threat of a meltdown that could seriously cripple the mechanisms of the modern world became real.

In New Zealand we looked at the Aussie banks and told ourselves they would be fine. But at that point nobody was certain, there were rumours and Finance Minister Michael Cullen was forced to act and put in place a Government guarantee which would later see the taxpayer carry the can for finance company failures like South Canterbury Finance.

Over the next few weeks there was a sense of impending apocalypse in the media coverage but it was genuine, it reflected the level of fear in the market. No one knew if the situation could be contained.

On October 10, 2008 the so-called TED Spread - the measure of the difference that the US Government lends at compared to the interbank rate - blew out to levels which froze the market.

We held our breath and watched as world leaders gathered that weekend for a crisis summit.

On Saturday, October 11 the Business Herald ran the headline, "Crisis meeting to save the world". And that is pretty much what happened.

The next few days saw governments around the world pledge trillions in bailouts and banking guarantees. After that we saw bailout after bailout - to banks, the US car industry and eventually (in Europe) to nations.

We saw massive stimulus injected through quantitative easing programmes, which effectively printed money.

And it worked. Sort of. Credit markets recovered - albeit tentatively and aided by stimulatory settings which are still in place five years on.

There is a strong case to be made that the right things were done. Capitalism is still in one piece and serving up new smartphones and trinkets. We are looking finally, hopefully, at a new cycle of growth.

But an understandable sense of public anger remains, that those responsible for the crisis got away with it.

The big banks that survived the crisis are making mega bucks again while taxpayers who bailed them are yet to be rewarded with anything other than reminders that it could have been a lot worse. Across the world regulatory regimes have been tightened up and certainly in New Zealand some meaningful changes have been made.

Is the system still vulnerable to another market collapse if, say, the property bubble in China were to burst in an uncontrolled fashion?

Of course it is.

Risk can't be regulated out of the market model - or any model if you really think about. But we can prepare for it and if we are not better prepared after Lehman then we only have ourselves to blame.

As was clear from the Reserve Bank's latest Monetary Policy Statement the outlook for New Zealand is now relatively good and there is no reason to hold interest rates at record low levels for much longer.

Our Governor, Graeme Wheeler, has made it clear he won't tolerate high-risk lending from our banks with his strong stance on applying loan-to-value ratio restrictions. His response to those who complain that it is unfair on first-home buyers is to point out that letting people take such vulnerable debt positions doesn't do them any favours.

In the next year it seems we are about to start dealing with problems associated with good economic growth - rising borrowing costs and inflation.

Ironically, for many New Zealanders this may prove more problematic than the downturn. Household budgets will be squeezed while we wait for the laggards of modern capitalism - wage and employment growth - to join the party.

For those in steady employment - and clear of investments in finance companies - the five years since the GFC haven't necessarily been so bad, especially by global standards.

We've been buffered by Aussie banks and China's growth and our dairy exports.

But the high drama of this day five years ago should remain a warning. To not heed the lessons of the Lehman collapse would be shameful.

Yes we have another property bubble looming. This time around the big difference is that nobody is revelling in it. The risk is more deeply understood by the public. In fact we have a Government actively working to correct it.

We still live in the shadow of Lehman. It may affect an entire generation's attitude to debt. It should do. We might have dodged a bullet. We shouldn't forget.

Twitter: @liamdann

- NZ Herald

Liam Dann

Liam Dann is the business editor of the NZ Herald

Liam Dann is the Business editor of the New Zealand Herald, overseeing all our business content in print and online. He has been a journalist for 20 years, covering business for the last 14 of them. He has also worked in the banking sector in London and travelled extensively. His passion is for Markets and Economics, because they are the engine of the New Zealand economy.

Read more by Liam Dann

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