How did Lehman et al survive the Great Depression?

Jeremy Stein, Wharton Univ Professor has given excellent insights on the crisis:

What was the true cause of the worst financial crisis the world has seen since the Great Depression? Was it excessive greed on Wall Street? Was it mark-to-market accounting? The answer is none of the above, says Jeremy Siegel , a professor of finance at Wharton. While these factors contributed to the crisis, they do not represent its most significant cause.

Here is the real reason, according to Siegel: Financial firms bought, held and insured large quantities of risky, mortgage-related assets on borrowed money. The irony is that these financial giants had little need to hold these securities; they were already making enormous profits simply from creating, bundling and selling them. “During dot-com IPOs of the early 1990s, the firms that underwrote the stock offerings did not hold on to those stocks,” Siegel says. “They flipped them. But in the case of mortgage-backed securities, the financial firms decided these were good assets to hold. That was their fatal flaw.”

The cause of the crisis was identified in Bretton Woods

Mervyn King in his recent speech (this speech has been quite popular in media as King discusses Bank of England move to buy corporate bonds in this, see this):

It is also clear that at the heart of the crisis was the problem identified but not solved at Bretton Woods – the need to impose symmetric obligations on countries that run persistent current account surpluses and not just on countries that run deficits. From that failure stemmed a chain of events, no one of which alone appeared to threaten stability, but which taken together led to the worst financial crisis any of us can recall.

This is quite interesting. Bretoon Woods led to the formation of  many key institutions (World Bank, IMF, GATT) and was a result of collapse in the world economy post world wars and economies needed an international monetary and payment system after collapse of gold standard. However, am not clear with the connection King is making here. As far as I remember it was US that was running surpluses then and transferred the same to the deficit economies (mainly war torn European economies). I guess, all the deficit economies to receive the funds had certain conditions but the same did not apply to the US.  If it was identified why wan’t it solved?

What is the linkage to this crisis? On the highest macro-level it is the global imbalances (see this paper; wrote it exactly an year ago) which are sort of correcting (though capital still flowing to US, I am not sure whether they would correct completely). These imbalances have been created by US importing capital and Emerging Economies (and Middle East) exporting the same. Now, what should have been the “symmetric obligation” which King refers to. Should there have been restrictions (self imposed or imposed by the imporing economies??) on emerging economies?  And since he calls for symmetric obligation it seems asymmetric obligation was in place (just like post Bretton Woods) on importing economies (developed – US, UK etc.) But what were they?

I am quite perplexed and it will be interesting to read political economy literature on Bretton Woods to get some clarity. Anybody has come across any useful papers?

Policy Coordination: Fiscal vs Monetary

I have written a new paper explaining the issues with policy coordination in economies. Let me know your comments.

Assorted Links

1. Krugman compares Obama with Keynes.

2. WSJ Blog points Fed as risk regulator. It also has live blogging of Geithner swearing

3. Mankiw points to questions for Tim Geithner. He also points to incentives for studying economics

4. IGMB points to discussion on Obama package

5. ACB ponders over future scenario

6. Urbanomics has some wall street humor