Stress test reflections on financial crises

[...]... that U.S taxpayers would pay an astronomical price to repair our financial system, too Simon Johnson, a former chief economist of the International Monetary Fund, warned that the government’s price tag could be $1 trillion to $2 trillion, “in line with the experience” of other nations An IMF study estimated the final tab at nearly $2 trillion “If we spent a million dollars a day every day since the... Geithner needs is someone else treating him like a fire hydrant.” And the outrage has endured Conventional wisdom still holds that we abandoned Main Street to protect Wall Street—except on Wall Street, where conventional wisdom holds that President Obama is a radical socialist consumed with hatred for moneymakers The financial reform law that we wrote and pushed through a bitterly divided Congress after the... a lot in common, and there are lessons to learn from this extreme one that can help policymakers and the public during the next one I hope this story can help illuminate them I start with my own education in financial crises during my first stint at Treasury, as I helped former secretaries Robert Rubin and Larry Summers confront a series of emerging-market messes Many lessons of those crises would... its financial establishment But Washington could be a bit captured, too When Hank Greenberg, the feisty chief executive of American International Group (AIG), threatened to go to war against the Clinton administration and the World Trade Organization if we didn’t extract some insurance concession, I told the Japanese we needed the concession or we would block the entire global agreement—and they conceded... explain The centerpiece of our approach was a stress test, ” which sounded more like analysis than action Regulators would delve into the books of major financial firms to calculate how much additional capital they would need to survive a truly catastrophic downturn, just as doctors stress- test patients to see how their bodies would respond to strenuous conditions The firms would then be required to raise... of financial rules since the Depression, is widely viewed as too weak, except in the financial world, where it is described as an existential threat Those perceptions are partly my fault, failures of communication and persuasion I’m proud of most of the decisions we made to try to save the economy And I’m under no illusions that better marketing or better speechmaking could have made those decisions... reality and abandoned the unsustainable fixed exchange rate But as the peso plummeted in value, so did confidence in the country By the end of 1994, Mexico had clearly lost control of its finances The government had only $6 billion left in reserves, with $30 billion worth of tesobonos coming due over the next year And markets no longer considered it creditworthy, so it couldn’t raise money to pay its... congressional opportunism made it harder to restore confidence in Mexico, because it damaged confidence in our ability to keep our commitments In fact, once the crisis was over, Senator D’Amato pushed legislation through Congress that temporarily restricted our ability to use the ESF to fight future crises And we knew there would be future crises Globalization had unleashed enormous sums of “hot money”... to cushion against sudden losses But those recommendations were purely voluntary We couldn’t force sovereign nations to follow them, and our ideas didn’t get a lot of traction in those days Alongside our crisis prevention efforts, we also worked to improve our crisis response options for the next Mexico I came up with the idea of a new $50 billion IMF reserve fund, which seemed like a lot of money at... additional research on Japan When I explained that I worked for the government now, and couldn’t continue to work for him on the side, he didn’t sound happy and didn’t prolong our conversation We didn’t have any contact for another fifteen years or so, until I was chosen to run the New York Fed, when he invited Carole and me to a private dinner He joked that he had played an important role in my education . astronomical price to repair our financial system, too. Simon Johnson, a former chief economist of the International Monetary Fund, warned that the government’s price tag could be $1 trillion. their money at a higher interest rate, confident that everyone wouldn’t want their money back at the same time. But when people lost confidence in a bank—sometimes because of rational concerns. Reform ELEVEN: Aftershocks EPILOGUE: Reflections on Financial Crises TRIBUTE TO THE CRISIS TEAM Photo Insert ACKNOWLEDGMENTS AUTHOR’S NOTE NOTES INTRODUCTION The Bombs On the morning of January 27,