Surviving Black Monday


As this was going on, we were careful to keep supplying liquidity to the system. The FOMC ordered the traders at the New York Fed to buy billions of dollars of treasury securities on the open market. This had the effect of putting more money into circulation and lowering short-term rates. Though we’d been tightening interest rates before the crash, we were now easing them to keep the economy moving.

Despite our best efforts, there were a half dozen near disasters, mostly involving the payment system. A lot of transactions during the business day on Wall Street aren’t made simultaneously: companies will do business with each another’s customers, for instance, and then settle up at day’s end. On Wednesday morning Goldman Sachs was scheduled to make a $700 million payment to Continental Illinois Bank in Chicago, but initially withheld payment pending receipt of expected funds from other sources. Then Goldman thought better of it, and made the payment. Had Goldman withheld such a large sum, it would have set off a cascade of defaults across the market. Subsequently, a senior Goldman official confided to me that had the firm anticipated the difficulties of the ensuing weeks, it would not have paid. And in future such crises, he suspected, Goldman would have second thoughts about making such unrequited payments.

We also went to work on the political front. I spent an hour Tuesday at the Treasury Department as soon as Jim Baker returned (he’d been able to catch the Concorde). We huddled in his office with Howard Baker and other officials. President Reagan’s initial reaction to Wall Street’s calamity on Monday had been to speak optimistically about the economy. “Steady as she goes,” he’d said, later adding, “I don’t think anyone should panic, because all the economic indicators are solid.” This was meant to be reassuring, but in the light of events sounded disturbingly like Herbert Hoover declaring after Black Friday that the economy was “sound and prosperous.” Tuesday afternoon we met with Reagan at the White House to suggest he try a different tack. The most constructive response, Jim Baker and I argued, would be to offer to cooperate with Congress on cutting the deficit, since that was one of the long-term economic risks upsetting Wall Street. Even though Reagan had been at loggerheads with the Democratic majority, he agreed that this made sense. That afternoon he told reporters that he would consider any budget proposal Congress put forward, short of cutting Social Security. Though this overture never led to anything, it did help calm the markets.

We manned the operations center around the clock. We tracked markets in Japan and Europe; early each morning we’d collect stock quotes on U.S. companies trading on European bourses and synthesize our own Dow Jones Industrial Average to get a preview of what the New York markets were likely to do when they opened. It took well over a week for all the crises to play out, though most of them were hidden from public view. Days after the crash, for example, the Chicago options market nearly collapsed when its biggest trading firm ran short of cash. The Chicago Fed helped engineer a solution. Gradually, prices in the various markets stabilized, and by the start of November the members of the crisis management team returned to their regular work.

Contrary to everyone’s fears, the economy held firm, actually growing at a 2 percent annual rate in the first quarter of 1988 and at an accelerated 5 percent rate in the second quarter. By early 1988 the Dow had stabilized at around 2,000, back where it had been at the beginning of 1987, and stocks resumed a much more modest, and more sustainable, upward path. Economic growth entered its fifth consecutive year. This was no consolation to the speculators who had lost their shirts, or to the scores of small brokerage houses that failed, but ordinary people hadn’t been hurt.

In retrospect, it was an early manifestation of the economic resilience that would figure so prominently in the coming years.