by Bob Woodward
It was a crisis, a financial Vietnam, but it had happened over a single day, not years, creating the potential for a major economic catastrophe. If the stock market continued down, the system—the relationships, rules and theology that Greenspan had built into his head and that had become a part of who he was—would break apart.
• • •
That same day, on the 10th floor of the New York Federal Reserve Bank on the edge of Wall Street, E. Gerald Corrigan, the bank’s president, was troubled. Corrigan, a 46-year-old beefy, profane, smart, Jesuit-educated Irishman, was the vice chairman of the FOMC. The open market operations of the Fed—the buying and selling of U.S. Treasury bonds that caused an increase or decrease in the key fed funds rate—were conducted through his bank. Corrigan had personal relationships with the heads of the banks, the investment banking firms and the brokerage houses in the nation’s financial capital.
Corrigan had spent nearly his entire career at the Fed. He had been Paul Volcker’s aide in D.C. for years and had been president of the Minneapolis Fed before taking over the key New York post on January 1, 1985. He knew without a doubt that the crash was going to cause major problems.
Corrigan and Greenspan finally hooked up by phone.
“Alan, you’re it,” Corrigan said. “Goddammit, it’s up to you. This whole thing is on your shoulders.” Corrigan, an ally, believed there was no time for procrastination and little for analysis. The availability of money in the system would be critical. In one form or another, Wall Street securities and brokerage firms, and their clients, would need bank credit, their lifeline, to cover their losses.
“Thank you, Dr. Corrigan,” Greenspan said.
Greenspan knew how the financial system’s plumbing worked—an elaborate series of networks involving regular banks such as Citibank, investment banks such as Goldman Sachs, and stock brokerage firms such as Merrill Lynch. Payments and credit flowed routinely among them. The New York Fed alone transferred more than $1 trillion a day. If one or several of these components failed to make their payments or to extend credit—or even just delayed payment in a crisis—they could trigger a chain reaction and the whole system could freeze up, even blow up.
Before Greenspan hung up with Corrigan, he told himself, I’m going to find out what I’m made of. The first challenge: Could he sleep? He did, for roughly five hours. He was amazed.
• • •
“Help!” said a new voice on the phone first thing the next morning, Tuesday, October 20. It was Howard Baker, Reagan’s chief of staff.
“Something bothering you, Howard?” Greenspan asked.
Baker was feeling pretty lonely. “You’ve got to get back here,” he said. The other Baker, the treasury secretary, was in Europe on a hunting boondoggle with the king of Sweden. “I looked around and there’s nobody in town but me, and I don’t know what the hell I’m doing.”
Greenspan said he couldn’t get a flight until after his speech.
“Alan,” Baker said, “we’ve still got airplanes and I’m going to get you back up here.” He promised to send a military jet with continuous secure communications to bring Greenspan back to Washington. A Gulfstream was dispatched at once. Greenspan still wanted to give his speech before leaving Dallas to convey a sense of business as usual. Corrigan and Johnson said he had to go to Washington immediately. A routine speech to bankers in the midst of an obvious crisis would send a signal that the chairman was out of touch with reality. Greenspan canceled his speech.
Corrigan had been in his office at the New York Fed since 5 a.m. that Tuesday morning. The 15 phones in his suite of offices were jumping off the hook with calls from the bankers and players in the financial markets. The immediate and pressing question was who would finance or give credit to the banks, the brokerage houses and others in the financial system that needed money. For practical purposes, the Fed was already giving credit in the hundreds of millions of dollars at the current interest rates in routine overnight loans. What were the limits? Would they pull the plug? Would the Fed’s lending system be overwhelmed? There were both technical and policy questions.
In a conference call that morning, Greenspan and his colleagues debated what the Fed should say publicly. The Fed lawyers had come up with a lengthy statement.
Goddammit, Corrigan said emphatically, we don’t need a scholarly, legalistic thing. We’ve just got to say in one sentence, We’re going to put a lot of money in the market. In part, they had a plumbing problem. Everyone needed to be assured they could get money—in other words, liquidity or credit. The Fed also had to address the confidence problem, he urged. They had to show their hand early.
A key question was whether there was a major hole in the system. Was some firm in trouble and maybe insolvent? In the short run, Corrigan argued, there was no way to tell the difference between just short-term liquidity problems and outright insolvency.
They finally agreed on a one-sentence statement. Greenspan issued it in his name at 8:41 a.m., before the markets opened:
“The Federal Reserve, consistent with its responsibilities as the nation’s central bank, affirmed today its readiness to serve as a source of liquidity to support the economic and financial system.”
“Alan,” Corrigan said in a personal follow-up call to Greenspan, “we’re going to have to back this up. I just want you to know that I’m going to start making calls.” His phones were still going crazy. He had to talk to the heads of the banks and brokerage houses.
What are you going to say? Greenspan asked.
Corrigan said that he was going to have to talk very tough, and he was going to have to talk in code. He couldn’t give them orders, and he couldn’t beg.
Greenspan wanted the exact words. They couldn’t tell banks to lend to bankrupt institutions; they could be sued for huge amounts of money if shareholders in bank stocks could show that the Fed, a key regulatory agency for banks, had improperly directed unsound loans. How would it work?
Corrigan offered a hypothetical call to the head of a big bank. He would say, “You’ve got to make your own business and credit decisions. . . . But there is this bigger picture out there. If the system becomes unglued, you won’t be insulated. . . . If for God’s sake there’s anything I should know, let me know.” In other words, let him know if you’re not going to make your payments or aren’t getting payments from others, or if you’re in trouble. Corrigan needed immediate, high-quality information if he was to discover a hole that might collapse the system. They couldn’t plug a hole they didn’t know about, so they would have to address everybody.
Greenspan preferred a more subtle approach. The argument should be more calibrated, assuring the banks that the Fed was not trying to force them to lend on an irrational basis or to take extreme risks. The argument should be: Remember that these people who want money have long memories. If you shut off credit to a customer who has been a good customer for a number of years because you’re a little nervous, the customer will remember that. Think of the longer-term interests and the customer relationships. Corrigan should clarify to the banks where their self-interest lay.
Corrigan understood, but he would have to speak in his own voice—and his style was loud and clear. He knew he would have to make sure the payments and credit extensions were voluntary. At the same time, it would be his job to make certain they happened.
Greenspan was aware of how tricky it would be to strike the right balance. With so much power over the banks, they had to be careful about using heavy-handed methods. If they forced actions with implied threats, they could eviscerate the vitality of the banking system, which had to operate freely. At the same time, he knew Corrigan was going to bite off a few earlobes. That was okay. The Federal Reserve needed an enforcer at this moment.
Corrigan, his stomach churning, called Bankers Trust. It was a very tough presentation. Goddammit, you’ve got to fall in line, you’ve got no choice.
The bankers on the other end of the phone felt pressured, but they knew that the
y didn’t really have any choice but to do what Corrigan wanted them to do.
Corrigan’s call to the Bank of New York was also on the tough side. After some negotiation, they fell in line.
One brokerage house owed some $600 million to $700 million to another brokerage house and was delaying the payment, unsure of the other firm’s condition or even its solvency. If they paid, would they in turn be paid what they were owed by other firms?
This was precisely what Corrigan feared—one firm choking, stopping the flow. Rumors were flying.
He argued that there was no insulation for any one bank or firm. If the system came down, everyone would go with it. Clinging to $700 million would not save the firm. Goddammit, he knew what could happen, he said. He tried to sound calm.
The payment was made.
• • •
On his way to Washington, Greenspan considered his options. The entire system could crumble. It could happen in 10 minutes.
He particularly didn’t want anyone from the Fed to sound like Herbert Hoover, president in 1929, declaring with historically memorable stupidity after Black Tuesday that everything was terrific. Everything wasn’t terrific. They were in a real crisis. Failure to acknowledge even this simple state of reality would cause the knowledgeable players in the market to think the Fed ought to go to the loony bin.
After all, the Fed was in charge of the sovereign credit of the United States. They had the legal power to buy up the entire national and private debt, theoretically infusing the system with billions, even trillions, of dollars, more than would ever be necessary to restore liquidity and credit. Of course, the result of that would be Latin American–style inflation.
In addition, there was an ambiguous provision in Section 13 of the Federal Reserve Act, the lawyers told Greenspan, that would allow the Fed, with the agreement of five out of seven members of its board, to loan to institutions—brokerage houses and the like—other than banks. Greenspan was prepared to go further over the line. The Fed might loan money, but only if those institutions agreed to do what the Fed wanted them to do. He was prepared to make deals. It wasn’t legal, but he was willing to do it, if necessary. There was that much at stake. At that moment, his job was to do almost anything to keep the system righted, even the previously inconceivable.
Joseph Coyne, the Fed’s veteran press officer, was along on the flight. He asked Greenspan how he was able to appear so calm.
“You don’t worry about things you can’t do anything about,” the chairman replied. Until they landed there wasn’t much he could do. He returned to his thoughts.
• • •
By about 11:30 a.m. on that same day, stock in IBM, one of the big blue chip firms, stopped trading. All the trade orders were to sell. There were no buyers. Soon dozens of other stocks stopped trading. A stock is worth only what someone is willing to pay at a given moment. If no one was willing to buy, the stock was, on a theoretical level, worth nothing or heading to nothing. By 12:30 p.m., any ground gained during the morning trading had been lost, and the whole market had tanked.
Corrigan spoke with Johnson in Washington. This was the moment of direst need.
We can’t hold it, Corrigan said with real panic in his voice. It’s falling apart. There’s not enough trust in the market, and it’s going to melt down.
He came up with a desperate contingency plan. Instead of just loaning money—guaranteeing liquidity to the banks—the Fed would directly guarantee the payments between brokerage firms. But it would be a last, desperate measure. The plan, and the Fed’s willingness to embrace it, had to remain a deeply guarded secret. If word got out, banks and brokerage houses would just seize on the guarantees and use them instead of their own money. It would give everyone an easy way out.
• • •
Greenspan’s plane had landed at Andrews Air Force Base outside Washington, and the car that was bringing him into town didn’t have a secure phone. To hell with it, Greenspan said to himself. He called in to the Fed, even though his conversation might be overheard.
Johnson said that they had just received a call from New York. There was a plan being discussed to shut down the New York Stock Exchange within the hour.
“That would blow it,” Greenspan said. The head of the Securities and Exchange Commission, David Ruder, had gone on television and mused that there was a point at which he would favor a “very temporary” trading halt. Ruder later denied that he’d even contemplated a trading halt, but his statement was fact. Awfully dangerous to go on TV, Greenspan thought, if you didn’t want to be quoted. Closing the New York Stock Exchange was really not an option in Greenspan’s mind. Once it was closed, how would it be opened? What prices would stocks trade at? The Hong Kong exchange had closed once and it had taken a week for it to be reopened. Markets set prices, and if there were no market, there would be no price. It was almost unthinkable.
Johnson worried, if New York shut down, what would happen to the futures market? A futures contract is an agreement to buy or sell something—wheat, gold, bonds, stocks—at a future point. With no basic stock market trading, there would be no future. The stock futures market would collapse. That would trigger general panic, he believed. They were truly about to go over the precipice.
• • •
Howard Baker didn’t have the foggiest notion what was going on. John Phelan, president of the New York Stock Exchange, had been arguing in favor of a suspension of trading. He urged Baker to have President Reagan issue an executive order suspending stock trading. The 1933 Securities Act gave the president the power to do so.
Baker took the proposal to Reagan.
What do you think? Reagan asked.
“What I think is I don’t know,” the chief of staff replied. He said his instincts told him it would be a lot easier to suspend trading than to resume it. He proposed that the White House counsel draft an order to suspend trading, just in case. “I’m going to put it in my desk drawer,” Baker said, “and I’m not going to bring it to you, and we’re going to wait and see how this day goes.”
That’s fine, the president said.
Phelan kept beating the daylights out of Baker on the phone. He was fierce and certain. Suspend trading. Things are out of control. There’s a disconnect. The specialists on the stock exchange floor who kept active trading going for the major stocks were starting to go crazy. If they lost the specialists, they would lose the whole place, Phelan said.
Howard Baker took to the phones. He talked with the heads of General Motors, Salomon Brothers and Merrill Lynch. They all opposed a suspension of trading. Baker reached Donald Stone, one of the most prominent floor specialists on the New York Stock Exchange.
“I owe so much money,” Stone said, “I can’t count it. This place is knee-deep in panic.”
• • •
At the Fed, Greenspan reached a key executive in the Chicago options exchange, who said the market there was about to collapse as well.
“Calm down,” Greenspan said. “It’s containable. Don’t worry, don’t panic.” He was fascinated to see how powerful people functioned under stress. It reminded him of the Apollo 13 astronauts who successfully repaired their spacecraft in outer space by manufacturing a replacement part they had not brought along. Does your mind or psyche freeze over? he wondered. He was going to find out.
He also spoke directly with a number of big players from the largest financial institutions. Their voices were shaking. Greenspan knew that scared people had less than perfect judgment.
He didn’t pray, and he didn’t cry—though he admitted later that he would have wept if he had thought it would keep the markets from deteriorating further. If he didn’t do something, this crash had the potential to devastate the American economy.
Meanwhile, a number of prominent companies had announced that they were entering the market to buy back their own stock at the lower prices, in effect saying that their stock was such a bargain that the company was willing to put up its own cash to purchase t
he stock. It was a message of confidence.
At 12:30 p.m., there was very little trading, a sign the system might be freezing up.
Then, about 1 p.m., only a half hour later, the Major Market Index futures market staged its largest rally in history. Several major Wall Street firms bought a mere $60 million in future contracts on stocks, and the action sent a shock of brief optimism through the market. Because the buyer of futures contracts had initially to put up only a small portion of the money, the cost of these transactions was only a fraction of that $60 million. But the positive movement apparently triggered a significant number of buy orders in the underlying stocks. Some big institutions or wealthy investors had perhaps decided to gamble in order to stabilize or even save the market. Soon the Dow itself rallied, ending the day up 102 points, a record gain.
• • •
Howard Baker had lived through one of the tensest days of his life. He sensed but did not know—not a soul ever told him—that some big companies and investors had gone into the market to buy stocks and drive the prices up. By law and tradition, the White House, Treasury, the Securities and Exchange Commission, the free markets, the New York Stock Exchange and the Fed all had a role in solving the problem. There was no single stock market czar, a person or institution fully in charge. Baker was pretty sure it was one of those moments when fractured responsibility made it as dangerous as it ever got.
But the greatest achievement, Baker believed, was Greenspan’s one-line press release. The Congress could have met in extraordinary session and passed legislation without hearings to reassure the markets, but that would have had little impact. The president could have suspended trading or acted somehow, but that too would have done little. There was only one part of the government that could have turned it around, and that was the Fed offering unlimited credit. In the end, money talked—or, at least, the Fed’s openly stated willingness to provide it.
