Harvard derivatives bets may play key role in fed chair race
The competition to become the next head of the Federal Reserve has been brewing in the court of public opinion for months, with many giving the nod to former White House adviser Larry Summers, due mainly to his close ties to the Obama administration. But don’t count out Janet Yellen just yet. Come vetting time, Summers will have plenty more questions to answer than the Fed’s vice chairwoman.
The most obvious parts of his background that require vetting are the relationships that Summers has built with Wall Street since leaving Washington, particularly his ties to Citigroup and hedge fund D.E. Shaw. But plenty of top central bankers have cultivated relationships the Street. The fact is, the ability to view the economy from both sides of the ledger can be a strength – if of course you have the right person at the helm.
No, the most curious aspect of his background revolves around the five tumultuous years he spent as the president of Harvard University. Among several missteps, including the infamous comments he made regarding women’s aptitude for science, Summers ran the university into a serious financial problem, one that eventually cost Harvard nearly $1 billion.
In 2004, Summers made the decision to finance a $2.3 billion expansion effort with instruments near and dear to Wall Street bankers: financial derivatives known as interest-rate swaps. He was hedging against the risk of interest rates rising. They did not. Rates nosedived. .
Four years later, with Summers gone and the economic crisis tearing at the university’s endowment, Harvard faced a liquidity issue, arguably due to the manner in which Harvard invested – a policy endorsed by Summers. At the end of 2008, with losses mounting, Harvard pulled the plug, paying J.P. Morgan and Goldman Sachs $923 million to unwind the derivatives.
Summers bet the wrong way on interest rates. President Obama will surely need to take that decision into consideration when making his choice.
Read the full Bloomberg article here.
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