FIVE CRISIS SCENARIOS 37sense of that. But few people know it also happened in 1998
as a result of the Russia default and the collapse of hedge
fund Long Term Capital Management (LTCM).
I was involved in LTCM. I actually negotiated that bailout.
I was in the room. I saw the $4 billion moved into our bank
accounts to prop up the balance sheet. The money came from
Wall Street.
There was a lot of give and take that almost didn’t happen
and we were literally hours away from markets collapsing. We
muddled through that, but officials learned all the wrong lessons.
Instead of banning derivatives, backing away from overlever-
age and putting a lid on banks, public policy did the opposite.
Congress repealed Glass Steagall, which allowed banks to act like
hedge funds, they repealed Schwab’s regulation, which meant
that you could trade derivatives on anything.
They repealed or increased broker-dealer leverage from 15 :1
to 30:1. The Securities and Exchange Commission (SEC) did that
in 2006. The Basel III capital requirements also allowed greater
bank leverage. Basically, the officials looked at LTCM’s failure
and said, “The games on. You can do whatever you want, with
as much leverage as you want and with as much opaqueness as
you want.”
Is it any surprise that in 2008 we had another collapse?
Then, Bear Stearns went down, then Fanny Mae, then
Freddie Mac, followed by Lehman Brothers and AIG. One by
one the dominos fell.
We were days away from total collapse. Morgan Stanley
would have been next; Goldman Sachs would’ve been right
behind it, then Citibank, Bank of America and then J.P.
Morgan. All the dominos were falling.
What the government did, was drop a steel curtain be-
tween two of the dominos. They stopped the process after
Lehman Brothers and AIG. That’s why Morgan Stanley didn’t
fall — but they were days away from collapse.