Examining The Torture Of Ken Lewis

The House Oversight Committee has subpoenaed the Fed to get information relating to the Bank of America (BAC) buyout of Merrill Lynch. Ken Lewis, the bank’s CEO, claims that former Treasury Secretary Henry Paulson and Fed chief Ben Bernanke coerced him into completing the transaction by threatening to throw him and his board out. It is not entirely clear how they would have accomplished this since the financial firm is a public company. Lewis gave in anyway. Bank of America lost billions of dollars in the fourth quarter because of Merrill’s deteriorating balance sheet.

Paulson has as much as admitted to forcing Lewis to make this decision.  Bernanke says he was not involved in the assault. Members of Congress clearly mean to get to the bottom of the story. No one has said what will happen if the two federal officials forced the bank into closing a risky acquisition. Paulson’s defense of his actions is based on the fact that the national interest was at risk. There may have been a failure of the global credit system if Merrill had suffered the same fate that Lehman did.

Lewis really does not have much excuse for his actions whether he was put in a tough spot or not. His recourse was very simple. He could have told his board that what was apparently in the national interest was not in the bank’s interest and if the government wanted a deal that needed to be made clear to the public. On behalf of B of A’s shareholders, Lewis should have gotten some compensation for the fact that his company was saving the world.

Congress may be more than a little curious about whether Paulson and Bernanke violated any laws, any codes of ethics, or The Boy Scout Handbook. They probably did. That leaves the issue of whether a disaster at Merrill would have meant a disaster across the industry. The answer is probably “yes.” The shuttering of Lehman nearly scuttled the credit markets. Panicked investors sold shares in companies including Citigroup (C) and Morgan Stanley (MS) down to multi-decade lows. If Mitsubishi UFJ had not stuck to its agreement to put $9 billion into Morgan, it might have gone under.  The Morgan’s stock, which had traded at $46 in September of 2008, dropped to under $7, and much of that drop happened in a period of less than a month.

It will never be possible to know whether there would have been a “systemic failure” of the financial system if Bank of America had walked away from Merrill. The level of confusion and fear in the market in the period from last October until the end of the year was unprecedented in the modern era of finance, an era that has gone on for almost seven decades. The world was ending, to some extent, because so many people believed that it was.

Bernanke and Paulson have a “get out of jail free” card. Congress can claim that they violated a law or a statute and they meddled in the affairs of a bank which was properly run by its board and owned by its shareholders. But, a reasonable claim that the men saved the world trumps all of that and the claim has the strength that it may well be true.

Douglas A. McIntyre