Too Big to Fail - Art Imitates Life in the Financial Crisis of 2008 - Movie Review Example

Too Big to Fail: Art Imitates Life in the Financial Crisis of 2008 Introduction The HBO movie Too Big to Fail is a dramatization of the most critical period of the financial crisis of 2008, and is an adaptation of the book by the same title by New York Times reporter Andrew Ross Sorkin. (Kinsley, 2011) The movie depicts the events of the crisis between March and October, 2008, mainly from the point of view of Treasury Secretary Henry M. Paulson, Jr. (played by William Hurt), who is the hero of the story, at least to the extent ‘hero’ is applicable to a murky and often confusing tale of complex financial systems and high-level negotiations. This paper will review the timeline of the financial crisis in the critical months of August through October 2008, and present a brief review of the film’s faithfulness to actual events. We then take a look at legislative initiatives intended to prevent the crisis from happening again, and offer some insights into the implications of the crisis and its aftermath for the profession of industrial engineering. To conclude the essay, the ethical problems revealed by the crisis and the attempts to mitigate it are discussed. Timeline of the Financial Crisis According to the Federal Reserve Bank of St. Louis (2011), the financial crisis really began in February 2007, when the Federal Home Loan Mortgage Corporation (Freddie Mac) announced it would stop purchasing many high-risk subprime mortgages and mortgage-backed securities. About three weeks earlier, however, the very first sign of trouble was an announcement by HSBC that they would raise loan-loss provisions on mortgages, a signal that they were having more mortgages default than they had expected. (“Credit Crisis Timeline,” 2009) The critical period began in the latter half of July 2008, when Federal regulators took control of the Independent National Mortgage Corporation (IndyMac) bank in California following a run on deposits, at the time the second-largest bank failure in US history. (Kristof & Chang, 2008) In rapid succession, a number of large financial institutions began revealing serious cash shortages, including Barclay’s of England, HBOS bank in Scotland, the National Australia Bank, and Merrill Lynch. (“Credit Crisis Timeline,” 2009) On 30 July 2008, President Bush signed the Housing and Economic Recovery Act of 2008, which enabled the Treasury to buy the assets of government-backed institutions and created a new regulatory agency, the Federal Housing Finance Agency (FHFA). On the same day, the Federal Reserve Board took steps to provide more credit to at-risk institutions by extending the Term Securities Lending Facility (TSLF) and the Primary Dealer Credit Facility (PDCF) through the end of January 2009, introducing 84-day loans through the Term Auction Facility (TAF), putting up for auction $50 billion in options against TSLF loan draws, and raising the currency exchange limit (“swap line”) between the Federal Reserve and the European Central Bank to $55 billion. (Federal Reserve Bank of St. Louis, 2011) The month of August 2008 began relatively quietly, at least outwardly, until panic began to erupt around 20 August, when shares in the Federal National Mortgage Association (FNMA, or “Fannie Mae”) and the Federal Home Loan Mortgage Corporation (FHLMC, or “Freddie Mac”) fell sharply in price after rumors the two government-supported lenders would have huge losses. At the same time, supposedly-secret talks between the troubled investment bank Lehman Brothers and Chinese and Korean investors were revealed to have failed; Lehman had been hoping to rescue its critical financial situation by selling off a 50% ownership stake. (Sender & Guerrera, 2008) Fannie Mae and Freddie Mac only lasted until 7 September, when the FHFA placed both corporations in government conservatorship. A significant feature of the move by the government was an announcement from the Treasury that it would purchase the government-backed corporations toxic mortgage-backed securities, the assets that were at the heart of most of the financial problems that were by now sweeping across the entire world. (Federal Reserve Bank of St. Louis, 2011) 15 September 2008 was in many ways the worst day of the financial crisis. Lehman Brothers filed for Chapter 11 bankruptcy protection, the biggest bankruptcy case in US history. At almost the same time, Bank of America announced it was buying out Merrill Lynch & Co. for $50 billion, likely averting a second huge bankruptcy. (Mildenberg & Keoun, 2008) The following day, the Federal Reserve Board authorized the Federal Reserve Bank of New York to lend $85 billion to the American International Group, in exchange for an 80% stake in the company; this marked the first of the significant government “bailouts” of the “too big to fail” institutions. Alarmed at the developments and with equity markets plunging, the Securities and Exchange Commission on 17 September issued an emergency order prohibiting the short-selling of any stock of companies in the financial sector, in essence forcing investors to stop betting on losses to prevent a complete market collapse. (Federal Reserve Bank of St. Louis, 2011) The crisis at this point was beginning to spread overseas as well. On 18 September, Lloyds TSB in the UK announced a deal to buy out the troubled HBOS (Bank of Scotland) banking group for £12.2 billion. (Ahira, 2008) Between 29 September and 6 October, British mortgage lender Bradford & Bingley (B & B) was nationalized by the UK, Iceland nationalized the Glitnir Bank, the Dutch portion of the Belgian-Dutch banking and insurance giant Fortis NV was nationalized by the Netherlands, and the German government arranged a € 50 billion rescue of commercial property lender Hypo Real Estate Holding AG. (“Credit Crisis Timeline,” 2009) Back in the US, Washington Mutual Bank was seized by the Office of Thrift Supervision on 25 September, the largest bank failure in US history, after depositors withdrew more than $16 billion from the bank in just 11 days. Under a deal arranged by the Federal Deposit Insurance Corporation (FDIC), Washington Mutual’s branches and banking assets were sold to JP Morgan Chase & Company. The failure of Washington Mutual sparked a panic among banking stocks on Wall Street, with Wachovia – which would find itself in the same sort of trouble as Washington Mutual in just a few days’ time – losing 27% of its value. (Levy & Hester, 2008) On 29 September, the FDIC announced a pending deal with Citigroup to purchase the banking operations of Wachovia Corporation. Under the arrangement, Citigroup would absorb the first $42 billion in losses incurred by Wachovia’s $312 billion pool of loans, while FDIC would take the rest of the losses; Citigroup also agreed to pay FDIC $12 billion in preferred stock and warrants. On 3 October, however, Wells Fargo Bank offered a competing proposal to acquire Wachovia outright, without assistance from FDIC; this proposal was approved by the Federal Reserve Board on 12 October. (Federal Reserve Bank of St. Louis, 2011) The most important development on 3 October, however, was the passage of the Emergency Economic Stabilization Act of 2008, which President Bush immediately signed into law. The law established the controversial Troubled Asset Relief Program (TARP) and provided $700 billion in funding for it. (Federal Reserve Bank of St. Louis, 2011) From this point until the end of October, government interventions to try to end the crisis became more energetic. On 6 October, the Federal Reserve Board announced it would begin paying interest on banks’ required reserve balances. On 7 October, the FDIC announced it was raising the insurance limit on deposits to $250,000 as provided for by the Emergency Economic Stabilization Act, while at the same time the British government announced a TARP-like rescue plan for banks in that country. (“Credit Crisis Timeline,” 2009) On 8 October, a “second bailout” for troubled AIG was announced, with the Federal Reserve Bank of New York being directed by the Federal Reserve Board to borrow as much as $37 billion in securities from AIG in exchange for cash collateral. (Federal Reserve Bank of St. Louis, 2011) On 14 October the details of the TARP program were announced by the Treasury. The basic arrangement was that financial institutions could apply for funds, which would be transferred in the form of the Treasury’s purchasing preferred stock of the companies; $250 billion was set aside for the program. Nine large financial firms announced they would apply for the TARP funds, for a total amount of $125 billion combined. (Federal Reserve Bank of St. Louis, 2011) At the same time in the UK, Lloyd’s, HBOS, and the Royal Bank of Scotland (RBS) received funds under the British government’s plan, in the amount of approximately $64 billion. (“Credit Crisis Timeline,” 2009) The month of October ended with another major bank merger on 24 October when PNC Bank of Pittsburgh acquired National City Bank for $5.2 billion in stock, and the release of the TARP funds by the Treasury on 28 October. (Dash, 2008; Federal Reserve Bank of St. Louis, 2011) How Accurate Was The Film? The financial crisis is a complex topic, one that is likely difficult for most people without some education or experience in finance and investing to understand, and it occurred over a timeframe measured in weeks and months. Despite these challenges, Too Big to Fail accurately depicted the sequence of events, and presented them in a way that made them much easier to understand, not an easy task in the roughly 90-minute running length of the movie. The film, however, does seem to focus more on personalities, in a sense exploring “what were they thinking” more than “what were they doing.” Thus, it is hard to determine how much of the “action” (which mainly involved people having discussions, or talking on the phone) was realistic and how much was drama. One clue that the filmmakers tried to depict the personalities accurately, however, is in the portrayal of Lehman head Richard Fuld (played by James Woods). Fuld in the movie is a foul-mouthed, offensive prima donna who ruins the negotiations to sell part of Lehman to the Koreans by insulting the foreign visitors (after he was told to stay away from the meeting). In the news article describing the failed bid to sell Lehman’s 50% stake (Sender & Guerrera, 2008), the real Fuld is described as “pugnacious,” with one executive commenting, “He still thinks he’s playing with a full deck.” So given the constraints of a short running time and the need to describe a complicated subject in a clear and engaging way, the film seems to do an excellent job. Banking Reform Legislation in Response to the Crisis The legislation developed as a response to the crisis was combined in one massive package known as the Dodd-Frank Wall Street Reform and Consumer Protection Act, signed into law by President Obama on 21 July 2010. The law, which filled over 2,200 pages of text, had six key points (Orol, 2010): A form of the “Volcker Rule,” limiting banks’ proprietary-trading activities and imposing new regulations, reporting, and capital requirements on derivatives trading. The rule is named for its author, former Federal Reserve Chairman Paul Volcker. A new system to gradually dismantle institutions that are “too big to fail,” to prevent the sort of panic caused by the collapse of Lehman Brothers, or the hasty bailout of AIG. The basic intention of the new system is for failing institutions to receive government aid – i.e., taxpayer funds – to keep up payments to sound institutions so they don’t fail as well, and then sell off assets from the failed institution to recover the aid funds. Combining the activities of some bank regulators; this primarily involves abolishing the Office of Thrift Supervision, and transferring its functions to the FDIC. (“Regulatory Implementation Slides,” 2010) Creates a new council of regulators to set major bank capital standards and assess systemic risks. Establishes new rules to give shareholders more control over corporate governance issues and pay for top executives. Directed the Government Accounting Office to conduct an audit of all the emergency funds and special lending facilities set up by the Treasury during the crisis. The main criticisms of the legislation are that it will take several years to fully implement, leaves many issues to the future decisions of regulators rather than establishing clear rules in the law, and will still use taxpayers’ funds to rescue failing institutions, rather than setting up a fund for the purpose from fees charged to banks as originally proposed. Republican lawmakers opposed to the plan, on the other hand, have complained that it would encourage banking and derivative-trading business to move overseas, and present an obstacle to job growth by limiting Americans’ access to credit. (Orol, 2010) Since most of the legislation has not been implemented yet, it seems that only time will tell how effectively it corrects the problems that led to the financial crisis. Implications for the Industrial Engineering Profession In my opinion, the implications of the financial crisis and its aftermath are mixed for the industrial engineering profession. First, the reduction in available credit – during the crisis itself, an inability of lenders to extend credit, and then later, their unwillingness to do so – has negative implications for job availability and job security. Industries and business sectors that rely on credit to pursue projects or expand their businesses have trouble doing so and therefore will not be likely to provide many jobs. Businesses which produce things that customers need credit to purchase have the same problem. Other businesses, such as the petroleum industry or power generation may be less affected by the credit shortfall, but there will be more competition for jobs in those areas. On the other hand, the bad experience for almost everyone because of the financial crisis means that businesses and customers are – or at least should be – more careful in their transactions and the way they do business. The anger that people felt at finding out how badly executives and businesses were misusing funds should serve as a warning; businesses may struggle due to a poor economic environment, but if they struggle because of their own greed and mismanagement, the least they will suffer is a spoiled reputation. As a result of the crisis jobs and projects may be harder to find, but once found, there is a much better chance they will be reliable and ethical. So in that sense, the financial crisis may have had some good outcomes. Finally, however, there is too much uncertainty about the future for industrial engineering, or really any field. The crisis, after all, is still continuing, particularly in Europe, and the recovery has been slow in the US. That may be the result of the Dodd-Frank legislation, which in some ways has been disappointing. The package of laws was so large and complicated and is taking so long to put into effect that some of the bad results of the financial crisis are still lingering. That is no good to anyone, no matter what field he or she is in. When there is uncertainty, it is difficult to plan for the future, whether one is planning for a business or just personal needs. Conclusion: The Financial Crisis Is a Lesson in Ethics The biggest ethical lesson from the financial crisis was that individual self-interest, the egoistic philosophy of Ayn Rand which was the guiding principle of business in America for decades, was catastrophically harmful to the public good and completely proven false. (Enderle, 2010) One concept that is quite clear in reviewing the history of the financial crisis and which was illustrated very well by Too Big to Fail is how interconnected everyone has become. Greed, whether it is expressed by pursuing one’s own interest at the expense of someone else’s or by pursuing the short-term gain over long-term stability, is always harmful. The movie dramatized it quite well, and was in a way a morality play; the bankers and executives were only concerned with saving their businesses – but it was the people who were thinking of the greater good who were able to save the day, while the greediest, people like Richard Fuld or John Thain of Merrill Lynch (played by Matthew Modine with a perfectly awful toupee), lost almost everything. Or more accurately, the heroes saved the day at least temporarily; the movie ends with Henry Paulson (William Hurt) wondering if the banks who have received the billions in TARP funds will use it to begin making loans again to help the economy. In real life, of course, we know that did not happen, and as a result, our economy is still in a weak condition. That is how art imitates life in Too Big to Fail; it is a movie, but if we know what’s good for us, perhaps we should not look at it as mere entertainment. References Ahira, K. (2008). “Lloyds TSB seals £12bn rescue deal with HBOS.” Building.co.uk, 18 September 2008. Retrieved 6 December 2011 from http://m.building.co.uk/news/lloyds-tsb-seals-%C2%A312bn-rescue-deal-with-hbos/3122844.article. “Credit Crisis Timeline.” (2009). Credit Writedowns [online], January 2009. Retrieved 6 December from http://www.creditwritedowns.com/credit-crisis-timeline/. Dash, E. (2008). “PNC Gets National City in Latest Bank Acquisition.” The New York Times [online], 24 October 2008. Retrieved 6 December 2011 from http://www.nytimes.com/2008/10/25/business/ 25bank.html. Enderle, G.S. (2010). “Ethics lessons from the financial crisis.” Asking More [website], University of Notre Dame Mendoza College of Business, 3 September 2010. Retrieved 6 December 2011 from http://business.nd.edu/ask_more/commentary.aspx?id=7435. “Regulatory Implementation Slides.” (2010). Davis, Polk & Wardwell, LLP, 2010. Retrieved 6 December 2011 from http://www.davispolk.com/files/Publication/bc70cd4c-c6bd-472d-ad37-0a63481fe36a/Presentation/PublicationAttachment/6a2f81d8-d5c5-4d5d-9b97-fef48b6821e6/070910_Implementation_Slides.pdf. Federal Reserve Bank of St. Louis. (2011). “The Financial Crisis: Timeline of Events and Policy Actions.” Federal Reserve Bank of St. Louis, April 2011. Retrieved 6 December from http://timeline.stlouisfed.org/index.cfm?p=timeline. Kinsley, M. (2011). “Economic Crisis Unfurls in Hushed Suspense,” The New York Times [online], 22 May 2011. Retrieved 6 December 2011 from http://tv.nytimes.com/2011/05/23/ arts/television/too-big-to-fail-on-hbo-review.html?pagewanted=all. Kristof, K.M., and Chang, A. (2008). “Federal regulators seize crippled IndyMac Bank.” Los Angeles Times [online], 12 July 2008. Retrieved 6 December 2011 from http://articles.latimes.com/2008/jul/12/business/fi-indymac12. Levy, A., and Hester, E. (2008). “WaMu Assets Sold to JPMorgan in Record Bank Failure.” Bloomberg News [online], 26 September 2008. Retrieved 6 December 2011 from http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aVA8ErWOAjmI. Mildenberg, D., and Keoun, B. (2008). “Bank of America to Acquire Merrill as Crisis Deepens.” Bloomberg News [online], 15 September 2008. Retrieved 6 December 2011 from http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a9O9JGOLdI_U. Orol, R.D. (2010). “Obama signs sweeping bank-reform bill into law.” MarketWatch [online], 21 July 2010. Retrieved 6 December 2011 from http://www.marketwatch.com/story/obama-signs-sweeping-bank-reform-bill-into-law-2010-07-21-12200. Sender, H., and Guerrera, F. (2008). “Lehman’s secret talks to sell 50% stake stall.” Financial Times [online], 20 August 2008. Retrieved 6 December 2011 from http://www.ft.com/intl/cms/s/0/586ed412-6ee6-11dd-a80a-0000779fd18c.html#axzz1fvNL71fS. Read More