At the height of the 2008 financial crisis, Larry McDonald wrote a book on the fall of Lehman Brothers. A Colossal Failure of Common Sense: The Inside Story of the Collapse of Lehman Brothers details his experience working as vice president at Lehman Brothers and provides a behind-the-scenes look on why one of the most prominent investment banks failed. Published in 2009 by Random House, Colossal Failure hit The New York Times bestseller list in its first five days, and is now considered one of the bestselling business books in the world.
McDonald is a frequent guest contributor on Bloomberg, CNBC, Fox Business and the Huffington Post. He was a special advisor to the Financial Crisis Inquiry Commission (FCIC), created by Congress in 2009 to investigate the causes, domestic and global, of the economic and financial crisis in the United States.
Additionally, McDonald has participated in three major financial crisis documentaries: Sony Pictures’ Academy Award-winning documentary The Inside Job, the BBC’s The Love of Money and CNBC’s House of Cards.
He recently spoke with Banking New York on a number of topics pertaining to the financial industry.
BNY: What do you think about the state of the industry today?
Larry McDonald: Something fascinating is going on, from both a historical and a risk perspective. Twenty-first century financial products have evolved so fast with such power and risk, but the regulatory regimes are back in the 1980s. If we had a spreadsheet and tracked where the FDIC and SEC are spending most of their time, it would be on arcane Ivan Boesky-type cases. We live in a post-Lehman world of much systemic risk.
Is there a place for academics in the financial industry?
McDonald: After I wrote my book, I worked with numerous academic types. There is nothing wrong with being an academic, but society gets a false sense of security around academics. Elizabeth Warren is a perfect example. She is highly respected and highly regarding, but she has never been in the game, and never taken risks. We don’t have anyone who has been risk taker on the regulatory side. The regulatory regimes are chock-full of academics. Society embraces their academic backgrounds. It’s very impressive, but it means less when you look at what happened.
Have regulators fallen down on the job in recent years?
McDonald: One bizarre aspect about the 2008 crisis is that Hank Paulson was calling all the shots. The New York Times did a study of his phone records and found he was devoting a ton of time with both Lloyd Blankfein and Jamie Dimon. Chris Cox, [Ben] Bernanke and Geithner were not making decisions. And Sheila Bair was left out of important discussions. I believe they negotiated part of the [Washington Mutual] deal without her.
Was there a bit of a “not my problem” attitude?
McDonald: When you say “Lehman” or “Bear,” it is clear that the SEC thought the New York Fed had certain responsibilities and the New York Fed thought the FDIC had certain responsibilities. The grey lines were part of danger. The problem is we have come so far from Glass-Steagall. You can’t quickly create Glass-Steagall again. We should create a five- to 10-step process that would get these [major] banks closer to where they used to be. It will take a long time to accomplish getting totally back to Glass-Steagall without our risking our system.
What’s your opinion on
McDonald: I think the whole Jamie Dimon thing is a shame. He is a hell of fame risk-taker. It’s like Arnold Palmer losing a tournament by making one big mistake. Dimon was one of the best risk managers during the financial crisis.
What do you see as the Consumer Financial Protection Bureau’s role?
McDonald: The CFPB should be focused on mortgage brokers. Instead, they’re regulating local banks. It’s nuts. And the reason it’s nuts is that this isn’t the 1980s or 1990s. We have a colossal systemic problem in Europe. But we are focusing on local banks and their credit card fees.
In hindsight, what do you think about the Troubled Asset Relief Program (TARP)?
McDonald: TARP was a defibrillator. When a person is having heart attack, you need to shock the heart. We needed a massive injection of capital into the system. There was a ton of poorly spent money in the TARP plan. But the intent and what it accomplished went a long way to reviving the system in a relatively fast period of time. If you look at Europe and what is happening, our system is systemically safer. The TARP plan and our ability to handle a systemic problem in a collective way was very important.
If you could, what would you tell President Obama?
McDonald: Why is your administration using the financial crisis to spray gun rules and regulations into corners of American finance that had nothing to do with the crisis? Why aren’t you laser-focused on the problems that could really damage our country and the banking system? Take the top five most systemic problems and address them one by one, in order of priority. ■