Executive Roadmap to Fraud Prevention and Internal Control: Creating a Culture of Compliance, 2nd Edition

CHAPTER 10

Not Too Big to Fail

EXECUTIVE SUMMARY

There has not been a universal name given to the financial crisis that occurred in 2007–2008. It has been referred to as “the Great Recession,” “the financial crash of 2008,” as well as “the TARP bailout,” short for Troubled Asset Relief Program. David Wessel, in his book In Fed We Trust, calls it “the Great Panic.” This seems to describe it quite well. To be clear, the Great Panic refers to the economic events that led to the collapse of Lehman Brothers, the fire sale of Bear Stearns and Merrill Lynch, the near collapse of American International Group (AIG), and the conversion of Morgan Stanley and Goldman Sachs from investment banks into bank holding companies under the greater influence of the Federal Reserve. Accepting Wessel's terminology, we analyze the perfect storm of events that created the Great Panic. There was no single cause, rather there were multiple, interrelated causes that converged:

• The government's visible hand influencing the invisible hand of the market, creating a “moral hazard” with “Too Big to Fail” policy
• Deregulation of the banking industry
• The rise of securitization of debt into investment vehicles and Collateralized Debt Obligations (CDOs)
• Questionable conflicts of interest at the ratings agencies, which rated CDOs and mortgage-backed securities
• The rise of subprime mortgages
• The housing bubble bursts and falling home prices
• Misaligned incentives in the bonus structures at the investment banks, which ...