Lehman, Resolution Regime Failure, and Credentialism as a Mask for Weak Arguments

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It’s telling in extended blogosphere debates when one side starts resorting to cherry picking, distortions, ad hominem attacks, and projection as its main lines of attack. In his last offering on the FDIC’s paper which uses Lehman to show how it would use its new Dodd Frank resolution authority, Economics of Contempt proves only one thing: that he’s not interested in open or fair-minded discussion (see here to see what that might look like) and that he wants to put a stop to it.

So, mindful of the possibility that I might simply be feeding a modestly upmarket troll, it seems that all I can do now is illustrate how he has misrepresented my arguments; for instance, by absurdly suggesting that I missed the fact that the FDIC would be on site, in its Lehman counterfactual, when I raised a completely different issue, that their presence would become too large and too intrusive to keep secret (EoC seems blissfully unaware of the fact the word was all over the markets when the FDIC went in to kick the tires of Citi’s portfolio of loans to see-through buildings in the early 1990s).

Or I can point out that that he distorts the reason that Barclays did not buy and almost certainly never would have bought Lehman in toto ex a very large subsidy or unsecured creditor cramdown. The bank and the FSA were agreed that they’d do a deal only if it made economic sense, and the FSA was certain to be conservative on that front in the wake of the RBS-ABN-Amro fiasco. This wasn’t a matter, as EoC asserts, echoing Administration PR, of failure to communicate, nor of FSA’s stubborn insistence on UK shareholder procedures. Barclays was not about to buy a pig in the poke and the liquidity backstop in combination with the mechanics of the shareholder approval process, would allow the deal to be retraded if need be. That’s a very sensible precaution (especially for a non-US bank). Similar issues arose for BofA, which bought the believed to-be-much-sounder Merrill. When more horrors came to light, BofA threatened to exit its acquisition to secure more subsidies.

And what, pray, is EoC’s evidence that the FSA report which sets out these matters is “dubious”? It’s certainly inconvenient for EoC; in fact, it wrecks his argument: is that what he means by “dubious”? It may indeed be that the FSA’s director, Sants is a liar, and content to publish a lie (that’s something EoC’s “dubious” definitely implies); and it may be that Barclays’ then-CEO Varley simply goes along with the lie. But without the evidence for such a large claim, EoC’s affirmation is just bluster.

Another example of his method of operation: in a previous post, EoC wrote,

Criticism #2: Egregious underestimation of Lehman losses

This is a non-sequitur, and not even a good one. For one thing, Yves confuses creditor claims with creditor losses, so her so-called “gap” analysis is fundamentally flawed.

Except, it isn’t: the $300Bn of claims is a reasonably good number, and comes straight from the bankrupt estate. Against that, there are about $60Bn of assets after the derivatives counterparties got first dibs. We wrote about it here: the original claims totalled north of $1.1 trillion, and all the double claiming, negotiation and estimating has already been taken into account to reach that $300Bn figure. EoC omits that fundamental point, adding “That’s Bankruptcy 101“, to complete the slur. But he never bothers to show why he knows better than the Lehman bankruptcy overseers Alvarez & Marsal, to the tune of hundreds of billions of dollars. That reticence is either because it’s a commercial secret, or because it’s just tripe (hint: it’s tripe).

And of course, EoC also simply ignores other issues we raised, any one of which also renders the Lehman counterfactual inoperative: politics (that the Administration would find it hard to pull the trigger, and would never have done so in March 2008); the fantasy of Fuld agreeing to put Lehman on the block (he’d have to be fired, which implies a process more like that of putting Fannie and Freddie into conservatorship, which again rules out a leisurely marketing process) and the unheard of process of shopping a distressed company widely to candidates who are not only direct competitors but also significant counterparties/creditors (just imagine what would happen to Lehman’s repo haircuts if this were done without Lehman already being a ward of the state, which is what the FDIC paper sets forth). Or how about FDIC’s due diligence assumption, when that effort would simply uncover the true magnitude of the hole in Lehman’s balance sheet and the mess of Lehman’s derivatives books?

But there isn’t any point in unpacking this in further detail, because EoC’s last two posts have shown him to be relying, in lieu of substantive arguments, on the worst sort of credentialism: that as a putative insider, his jibes, in lieu of real refutation, should be treated as definitive. EoC continues to huff and puff that Dodd Frank Article II will work….basically because he and the FDIC say so. We are to take it from him: appeals to foreign regulators would trump the actions of foreign creditors. He might familiarize himself of the nasty consequences under UK law of being a director of a company found to be “trading insolvent”.

In the absence of sound logic or facts, any one can appeal to status and credentials. But when it comes to international bank resolution, one is always on sounder footing appealing to the factual existence of actual players and authorities who, however inconveniently, exist ‘abroad’. These authorities don’t agree with EoC and the FDIC at all. Inconvenient? Yes. But there it is.

For one, the Bank of International Settlements, which has access to perfectly good securities and bank regulatory experts, worldwide, begs to differ. In its Report and Recommendations of the Cross-border Bank Resolution Group the BIS said that even if cross border resolution regimes were better coordinated, (which, of course, Dodd Frank does not achieve), it “recognizes the strong likelihood of ring fencing in a crisis” due to the failure to implement cross-border burden sharing and the national nature of legal and bankruptcy regimes. It thus recommends a framework that “helps ensure that home and host countries as well as financial institutions focus on needed resiliency within national borders.” In other words, it accepts a national process as inevitable and recommends dealing with that reality.

And note also: FDIC asserts, in their Lehman counterfactual (and, they assume, in Title II resolutions generally), that the local regulator would have cooperated. Yet the FSA, in its Turner Review, has fallen in line with the BIS ring-fencing notion. The FSA is moving towards requiring local entities be better capitalized and is placing little faith in yet to be realized greater international coordination. Both documents pre-date the finalization of Dodd-Frank, which, in its obliviousness to the international dimension, simply confirms the prior BIS/FSA line.

Similarly, the Institute for International Finance, a blue chip group from the industry (meaning it has every reason to depict Article II as workable, since the alternative is structural remedies, aka breaking up banks, and/or much higher capital levels for national entities, would have a disruptive impact on their operations) has been on the same page as the BIS and has seen nothing in Dodd-Frank to change its mind: see pages 31-2 of their latest on this subject:

Title II remains problematic in the limited attention that it pays to cross-border issues…

…cooperation and coordination is, under Dodd-Frank, dependent upon the goodwill of the different parties and perceived common interest in the circumstances…

Much, accordingly, remains to be done to render the Dodd-Frank approach appropriate for application in the context of cross-border financial groups.

If EoC can persuade the BIS Cross-border Bank Resolution Group and the Institute for International Finance that he knows better than they do, he might be worth listening to. Until then, if they’re channelling anyone, it’s ‘Naked Capitalism”, not “Economics of Contempt”

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  1. George999x

    My two cents:

    A fascinating debate and one which working-level regulators (ok, me and my copy list) are following quite closely. Is there no chance of
    (i) a live action debate? Also, you both have quite confrontational styles, it would be a shame if the animosity got in the way of robust, ongoing head-to-head stuff such as this, so
    (ii) going out for drink afterwards (the “british finish”)..

  2. Sam


    EoC said in his last post that he hasn’t mentioned his credentials at all in this exchange, and it appears he’s right. So why would you accuse him of “credentialism”? It makes your argument look desperate.

    1. Yves Smith Post author

      He has indicated repeatedly that he is a securities lawyer and has specifically mentioned certain regulators (if I recall, the New York Fed) in a way that strongly implies that he has dealt with them personally).

      In addition. the title of his last post was clear credentialism, despite his attempt to distance himself from that in the body of the post.

      Credentialism via innuendo as opposed to overt statement is still credentialism. His posture is that his status as an attorney (which he’d made abundantly clear) makes him more credible.

      1. Sam


        That’s some really, really tortured logic. Because EoC has stated before that he’s a securities lawyer, and because he may or may not have implied in the past that he’s had personal dealings with the New York Fed (not unusual for a securities lawyer), that means that now, in a completely separate set of posts, he’s guilty of “credentialism”?

        I don’t know, it sounds to me like you’re just mad that he debunked a bunch of your initial arguments.

        1. bystander

          So which parts of EoC’s debunking came off then, Sam? If you don’t spell that bit out, what you’re saying makes no sense.

        2. Yves Smith Post author


          If you are not capable of reading and interpreting the headline to Eoc’s last post, I really can’t help you. It’s pretty basic and you seem to be the only one incapable of grasping his abundantly clear message.

          And as we’ve explained ad nauseum in the post before last and in terser form here, his responses do not constitute a “debunking”. They don’t meet that standard. They are dismissive and invoke specialist language, but they have consistently failed to address our issues.

  3. Dan Duncan

    I have 2 questions:

    1. How did you even become aware of the EoC post?
    I went to the blog–courtesy of your link–and seriously…DownSouth has a larger following than this guy.

    As to his work–it was worse than bad: It was boring.

    There is literally nothing worthy of comment, except for the fact that…there is literally nothing worthy of comment. And that’s something I suppose.

    Hell, EoC is 3 years into his “blogging adventure” and still–even on a good day–he’ll be lucky to fetch 5 comments.

    The more I think about it…maybe this guy is really quite remarkable after all. He’s put up over 600 posts and not one of them elicits any trace of a thought or an emotion. Monkeys with typewriters think he’s way overdue for that “To be or not to be” moment.

    Pick a post at random. Let’s go back to the 4th post in 2009….http://economicsofcontempt.blogspot.com/2009/12/making-tbtf-policy-work-prompt.html

    [Oh my…do not do in there! I swear I almost didn’t make it back.

    The post is a single, gigantic run-on paragraph. When I first entered, I was awestruck by sentence after sentence in a heaped up mass.

    I began to compulsively press my Page Down button…I pressed so many times, I got mini-carpel-tunnel syndrome in my index finger…yet it-did-not-end.

    I stepped back from my computer in utter astonishment. It was as if the Richard Dryfuss character from Close Encounters of the 3rd Kind returned to Earth from that spaceship and channeled his obsession with mountainous heaps away from mashed potatoes on the dinner table and ceiling high mud in the living room into a K-2-esque Sentence-Mound on his computer screen. F*ckin A…]

    [Yeah I know: Kettle, meet Black. But still, if I’m commenting on another’s prolixity, you know it’s bad.]

    And on to Question #2:

    Why on earth are you responding to it?

    The only thing I can think of is that someone in the incestuous little group of financial bloggers alerted you to the post.

    Not that you need my help…but in the future, instead of validating EoC, you might consider something along the lines of:

    “Thanks for the heads-up. I tried to read the offending post, but to be honest, I couldn’t make it through the damn thing. I’m sure it was a zinger and that he ‘got me really good’. But frankly, I was too bored to be insulted.

    “I do, however, appreciate the fact that he was thinking me. As a show of gratitude, please inform EoC that if he’s interested in any eye-balls actually seeing his words, he is more than welcome to comment on my site. You know…the site with over 10,000 posts and 100,000,000 million page views.

    “Yeah, that site.


    1. Yves Smith Post author

      Thanks for taking the interest and the trouble to give a hard look at EoC (hard in both senses of the word).

      EoC’s audience may be small but he is read by people who are interested in financial regulation and policy.

    2. JamesH

      EoC is widely read by financial regulators (I work at the SEC) and Wall Street lawyer types. He’s also highly respected among financial regulators.

      I suspect he doesn’t much care about maximizing pageviews.

  4. Hugh

    There seems to be a logical contradiction in the notion that a systemically important player, a TBTF, could be resolved without a reset of the whole system. You see if it could be, then it wasn’t systemically important or a TBTF. We already saw how this played out in 2008 when such a systemic reset, albeit a bad and largely temporary one, was necessary.

    And let’s be real clear. It wasn’t just Lehman. Lehman took place in the larger framework of interventions with Fannie and Freddie, Merrill, Goldman, Morgan Stanley, and AIG, and it still nearly took the whole system out. Put simply, you cannot resolve any TBTF without resolving all the TBTF. Reset all the TBTF, and leave one out as we saw in 2008, and the whole system will still go kerblooey. So isn’t it rather obvious that if you reset one TBTF but not the others, you have just made it that much more likely the system is going to go splat?

  5. Eagle

    This exchange would have been better without the accusations of bad faith from both sides – I doubt anyone is trying to intentionally mislead here.

    I don’t view Dodd-Frank (or the Lehman hypothetical) as a guarantee that things will/would’ve gone smoothly. But I take EoC’s point to be that it’s a vast improvement over the current framework, and is a plausible solution given the level of international cooperation we’ve saw in the last crisis (which, FSA rejecting the Barclays deal aside, was high).

    It is always going to be possible for someone committed to politically infeasible paths such as breaking up the banks to criticize any proposal that falls short of that ultimate solution.

    1. Yves Smith Post author


      As we indicated in the current post, the FDIC assets that there is more international cooperation and the success of Title II resolution depends on it, but the BIS and the IIF beg to differ, and the actions of the FSA described in the post also belie that cheery assumption.

      Further confirmation of the lack of international cooperation comes in today’s Financial Times:

      Financial regulation: A shield asunder


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