The Alchemists: Three Central Bankers and a World on Fire (31 page)

The Basel club, complete with great food and wine and intimate conversation on Sunday nights, has existed since 1930. “
These people have been concerned with their own problems
without regard for the rights of anyone else,” said an American attendee in 1931. “As they sat down around the table for two days you could almost see their point of view change as they began to realize the effects of their own actions . . . the greatest use of the BIS is not in the specific action it may take but in the opportunity which it may afford for the gathering together of these central bank people and the development, as it were, of social pressure upon them to appreciate the problems of other countries.” It was just down the road from the present-day building where, soon after the creation of the BIS in 1930, the central bankers of that day failed to act with the decisiveness and mutual goodwill needed to combat the great panic of that day. And it was in Basel where Trichet would face his own greatest test.

Throughout the 2008 phase of the crisis, the leaders of the Federal Reserve often found themselves scrambling to come up with a major decision on a Sunday night, before financial markets in Tokyo, Hong Kong, and Sydney opened for their morning sessions.
It happened so often
that Ben Bernanke joked that he would title his memoir
Before Asia Opens.
Now it was the Europeans’ turn to race against the clock through a long weekend of talks.

The finance ministers were in Brussels; ECB vice president Lucas Papademos, who would later serve a turn as Greek prime minister, was in there monitoring the talks, reporting back by cell phone to Trichet in Basel. Other ECB officials were in the Eurotower in Frankfurt. An open-line conference call connected finance ministries and central banks in capitals including London, Washington, and Tokyo to the action. Geithner made a series of private calls to European officials, attempting to apply whatever weight came by virtue of his being an experienced crisis manager and the finance minister of the world’s largest economy. Early in the conference call, there was discussion of putting together an emergency fund of perhaps €60 billion. Geithner, flabbergasted at the paltry amount, suggested that it wasn’t nearly enough. To persuade markets they were serious, the officials would need ten times as much, something on the order of the U.S. government’s TARP bank bailout during 2008. The Europeans reluctantly came to agree and set to work on a bigger package.

Geithner was also in frequent touch with Trichet
, speaking with him once at 1:30 p.m. Washington time Friday and again at 9:55 a.m. Sunday. Neither Geithner nor Trichet would discuss the substance of those calls. But other officials said that by the weekend it was well known within the U.S. government, among those who worked for or with Geithner, that the ECB had all but decided to begin buying bonds and was holding off any decision in order to push the governments toward action. Indeed, the Americans played an odd role of helping ensure that European finance ministers properly understood the coded messages Trichet had sent them. Did Trichet tell Geithner explicitly what he had planned? Only the two men know. But it is the case that Trichet and Geithner had a great deal in common as noneconomists who were nonetheless among the most important economic policymakers of their generation, immensely skilled at economic diplomacy and bureaucratic maneuvering. They’d spent countless dinners together in Basel during Geithner’s time at the New York Fed. Between two men who understand each other so well, a great deal can be said without very many words at all being exchanged.

Bernanke had dispatched his vice chairman, Donald Kohn, to represent the Fed in Basel while the chairman gave a commencement speech at the University of South Carolina, in his home state (topic: The Economics of Happiness). Around the time Bernanke was finishing his speech that Saturday, at 12:55 p.m. on the East Coast, he received an e-mail from an aide about a pressing message from Italy’s central bank governor, Mario Draghi, who was among the more respected and influential of the European central bankers. “Governor Draghi asked me to forward this to the chairman with suggestions that a statement like the following be issued jointly late Sunday or early Monday morning by the Fed, ECB, SNB, BOE, BOJ, BOC.” That is, the central banks of Switzerland, Britain, Japan, and Canada. “Major central banks stand ready to supply the financial system with adequate and immediate liquidity in the days ahead. Let’s work together to address foreign currency funding shortages.” The Europeans were looking for the Americans to step up and show their commitment to keeping the financial system from again coming unglued.

On one hand, Bernanke and Kohn were eager to do whatever they could to help ease the financial pressures in Europe and signal the joint resolve of the global central banks to combat the crisis, but they also were in a delicate spot. They viewed the problems as fundamentally Europe’s to solve, with any globally coordinated steps as much symbolism as substance. And it came at a supremely delicate time politically, as the Senate was set to vote on a series of amendments in the following week on key aspects of the Dodd-Frank Act that affected the Fed. Headlines about the Fed offering billions of dollars in new loans to foreigners would hardly help things. Bernanke couldn’t even very well make a round of calls to key lawmakers in advance of a decision either, in hopes of receiving their blessings; the very principle he was fighting for was that the Fed must make its decisions separate from politics, away from interference by elected officials.

Bernanke called a meeting of the Federal Open Market Committee for Sunday morning, by videoconference; the Washington-based Fed governors gathered in the “Special Library,” an intimate but ornate conference room down the hall from the chairman’s office, and the rest of the Fed officials joined in from their respective cities. Kohn, from Basel, explained the state of play among the Europeans. The committee agreed with Bernanke and Kohn’s recommendation: that the Fed reopen swap lines, but if, and only if, the Europeans could agree on a sweeping response of their own.

Essentially, all the actors in the crisis were linking hands and agreeing to jump at the same time: the European governments, the ECB, and the global central bankers. They each refused to go unless the others would do their part as well.

After the FOMC call ended, Nathan Sheets, the Fed’s top international economist and the staffer who had joined Kohn in Basel, went around to the offices set aside for use of visiting central bankers, to see which of them would join in the announcement of swap lines. He was a door-to-door salesman, and his product was billions of dollars.

As the finance ministers gathered in Brussels that Sunday
, the day began with misfortune. Wolfgang Schäuble, the German finance minister, who had been confined to a wheelchair ever since being shot in a 1990 assassination attempt for his role in the reunification with East Germany, fell ill on his way to the meeting and was taken to a hospital in Brussels. Europe’s largest economy would initially be represented by a relatively junior official, Jörg Asmussen, state secretary at the finance ministry. Chancellor Merkel quickly dispatched a plane to pick up her interior minister, Thomas de Maizière, in Dresden and fly him to Brussels. Asmussen wasn’t in a position to negotiate on behalf of the government, so the hours it took to get Maizière to the meetings were essentially wasted.

The basic dispute to be resolved among the finance ministers was over how a rescue fund would be organized. France and most of the other European nations wanted to create a new entity controlled from Brussels and funded by the members of the eurozone. It would stand ready to lend money to countries that fell into trouble—by issuing “eurobonds,” new debts ultimately backed by all European governments—and enforce conditions attached to the aid. Germany, Austria, and Finland preferred an approach that would leave them with greater power to influence the details of any aid packages and the strings attached. They saw the French solution as one that would require them to send checks to Brussels but have little power over how their money was deployed. This division was crystal clear by the afternoon of Sunday, May 9, and it would take many hours, an implied threat by Trichet to withhold any ECB aid, and the deadline of the Asian markets opening to force a resolution.

Sunday evening, Trichet again assembled the Governing Council, some in person in a conference room at the Bank for International Settlements in Basel, some in Frankfurt, and a few in their respective countries around Europe. It was time to make a formal decision on the idea they’d been discussing off and on since Thursday night in Lisbon. Would the ECB engage in some targeted purchases of Greek, Irish, and Portuguese bonds in order to push rates in those countries down a bit, ease the sense of crisis, and ensure that it maintained control over monetary policy? Or would it stick with a more doctrinaire view of its powers and avoid violating the spirit of its treaty in order to keep all the pressure on elected officials to rescue Europe? Trichet argued forcefully for the former.

He proposed that even as the ECB bought government bonds on the open market, it should withdraw an identical amount of money out of the eurozone economy through other tools, so the purchases would be “sterilized”—that is, not increase the overall number of euros in existence. Weber and Stark argued with equal vehemence against the move, using logic similar to that Weber had expressed in his e-mail two days earlier. The ECB should intervene in the bond market only if things got even worse—bad enough to force government leaders into more decisive action than anything they were cooking up over in Brussels that weekend.

In the end, the council was overwhelmingly in favor of buying bonds—but also of keeping that a secret from the finance ministers and heads of state until they’d reached their own deal. If they found out that the ECB had decided to intervene, it would remove the pressure on them to act. The vote was a triumph of pragmatism over principle. Weber and Stark led the opposition, joined by Nout Wellink of the Dutch central bank.

Less controversial were steps the Governing Council agreed to take to pump money into the European banking system—making six-month loans available to banks and reactivating the swap lines with the Federal Reserve that had proved so useful in combating the 2008 crisis.

The ECB had decided. It would buy bonds under what it called the Securities Markets Programme, or SMP. Early Monday morning, the Rubicon would be crossed. Now the ECB just had to keep quiet until the politicians did their part. If word of the bank’s decision leaked in Brussels, after all, suddenly the finance ministers might no longer feel quite the same sense of urgency.

With the ECB in action, the Fed was ready to move on swap lines as well. At 7:46 p.m. Basel time, 1:46 p.m. Washington time, Kohn sent Bernanke an e-mail, with the subject line “Swaps are a go.”

In Brussels, the talks had bogged down amid the delay in finding a negotiator for the Germans. It was getting late, and no deal would gel. “
With all due respect to Australia
,” French finance minister Christine Lagarde said, “let’s forget about Sydney, concentrate on Tokyo, and take a break.” In other words, they were going to miss the 1 a.m. deadline before the Australian stock market was to open, so would focus on getting a deal in place by the 2 a.m. opening of the Japanese market. It was a proposal from the Dutch that became the compromise: The bailout funds would be managed initially by a newly created institution known as the European Financial Stability Facility, backed by the entire European Union and authorized to borrow as much as €440 billion to aid governments in trouble. It was to last only three years, to be replaced at that point by a more permanent “European Stability Mechanism.”

The French didn’t get their eurobonds, but the Germans won enough concessions to feel that they’d made no commitment to write a blank check. The IMF pledged €250 billion, keeping the two-to-one ratio of European to IMF funds that’d been a part of the Greek deal. This helped assure the Germans that there would be tough budget-cutting conditions placed on the recipients of bailout money. It also was something of a mirage: While Dominique Strauss-Kahn pledged the money, he had no authority to actually do so; that would require a vote of the IMF Executive Board, on which countries around the world have representatives. Besides being evidence of how on-the-fly this trillion-dollar bailout package was, it was an example of the supremely confident Strauss-Kahn getting the theater right and worrying about the bureaucratic niceties later.

At 3:15 a.m., the finance ministers had finally finished their hard-fought series of compromises and announced their measures. They missed the Japanese market deadline as well, but apparently the sense that European leaders were furiously working toward a deal was enough to assuage the markets. The ECB followed shortly thereafter with its announcement, as did the Fed and the other central banks participating in swap lines. “The Governing Council . . . decided on several measures to address the severe tensions in certain market segments which are hampering the monetary policy transmission mechanism,” the announcement said, the first of countless moments in which ECB leaders argued that their action wasn’t about rescuing troubled governments at all, but about ensuring it had control over the value of the euro.

For Axel Weber, losing the argument over bond buying wasn’t the end of things. The rules under which ECB Governing Council members operate call for them to keep quiet about how they vote. Unlike the Fed and the Bank of England, which release minutes of their meetings that detail how different committee members voted, the ECB keeps such information secret for thirty years. The theory, of course, is that this should make it easier for officials to make decisions that are in the best interest of the eurozone as a whole, rather than represent the interest of their own native countries. Another fundamental principle is that the national banks of Europe—the Bundesbank and Banque de France, for example—would carry out the orders of the ECB Governing Council and buy and sell securities accordingly. Like the twelve U.S. Federal Reserve banks, it is these institutions that actually carry out policy set by the committee.