WASHINGTON — The day after Lehman Bros. filed for bankruptcy in September 2008, Federal Reserve policymakers hadn't yet grasped the scope of the financial storm blowing overhead.
What was clear to them as they gathered for a regularly scheduled meeting on Tuesday, Sept. 16, was that economic conditions were worsening, according to transcripts released Friday of key Fed meetings that year.
"The markets are continuing to experience very significant stresses this morning," said Ben S. Bernanke, then the Fed chairman, arriving late for the meeting, "and there are increasing concerns about the insurance company, AIG."
But Fed officials weren't ready for the unprecedented steps, such as bailing out the giant insurer, American International Group Inc., that they soon would be taking in a tumultuous year that transformed the central bank from obscure guardian of interest rates to aggressive fighter of financial crises.
"They were in the middle of a battle where they didn't even know which way the enemy was coming from," said Diane Swonk, a Fed expert as chief economist at Mesirow Financial. "I don't think anyone could have imagined how bad it was going to get."
Gary Schlossberg, a senior economist for Wells Capital Management, said the transcripts showed that Bernanke was in an unenviable position: trying to maintain confidence in the nation's financial institutions while also recommending drastic measures to prevent the economy from unraveling.
"There was a lot of confusion at the time. But I think they had a sense big things were happening," Schlossberg said. "I would give Bernanke an A for how he reacted. He saw how this was a major shock and set up a pipeline of liquidity to the banking system."
The hundreds of pages of transcripts from eight meetings and six emergency conference calls held by the policymaking Federal Open Market Committee, show Fed officials struggling from the start of 2008 to assess the economic damage of a steep drop in housing prices and then worrying about the implications of their actions to halt the crisis.
The verbatim transcripts were made from audio recordings of the private meetings. The Fed released them after the conventional five-year delay.
Much of the discussions involved detailed economic presentations from staff members and assessments by Fed officials.
But the transcripts also showed the difficulties and stresses of dealing with the biggest financial fiasco since the Great Depression.
Bernanke and other Fed officials also displayed some gallows humor as they tried to ease the tension of the highly serious meetings.
One economist wondered if his analysis was clouded by "the fact that I've had too many meals out of the vending machines downstairs in the last few days."
And in a late October meeting, Janet L. Yellen, the current Fed chair who then was president of the Federal Reserve Bank of San Francisco, used a series of Halloween analogies — "a witch's brew of news," the "hair-raising" downward trajectory of the economy and "ghastly" conditions in financial and credit markets.
But everyone quickly returned to the sobering statistics and serious stresses on the economy.
"It is becoming abundantly clear that we are in the midst of a serious global meltdown," Yellen said after her Halloween remarks drew laughter.
The transcripts showed Yellen and Bernanke as two of the strongest voices for aggressive action to deal with the crisis in the fall of 2008.
At the September meeting, Bernanke successfully lobbied his colleagues to approve an unlimited ability to exchange dollars for foreign currency with other central banks.
"I prefer not to put a limit on it, so I know I've got my own bazooka here," he said.
Although Fed officials took strong steps early in the year, including cutting the central bank's benchmark interest rate by more than half during the first four months, it took until the fall for them to realize that the economy had fallen into a severe recession.
"I think there are a lot of indications that we may soon be in a recession," Bernanke said during a Jan. 9 conference call. "I think a garden variety recession is an acceptable risk, but I am also concerned that such a downturn might morph into something more serious."
Yellen argued at that time —before anyone knew the nation already was in a recession — that the Fed would have to do more to stimulate the economy.
Economists later dated the start of the Great Recession to December 2007.
Even after Lehman Bros. collapsed, Fed officials did not immediately anticipate the nation was headed for the worst recession since the 1930s.
But there clearly were worries.
"The situation right now is very uncertain, and we are not by any means away from significant systemic risk," Bernanke said.
Still, Fed policymakers opted not to cut interest rates further at their Sept. 16 meeting. Noting the cuts earlier in the year that took the rate down to 2%, Bernanke said it was premature to act again.
"I think that our policy is looking actually pretty good," he said.
Within a few weeks, Bernanke and his colleagues were ready to take more dramatic steps.
"I don't think we know what the bottom is, so we have to remain very flexible and very open to new initiatives as they become necessary," Bernanke said.
Yellen agreed: "We need to do much more and the sooner, the better. We are in the midst of a global economic and financial free fall, and the confidence of households, businesses and investors is in shambles."
By the end of the year, the Fed had reduced interest rates to near zero and had launched controversial programs, such as buying bonds to lower mortgage and other long-term rates to spur borrowing. Three iterations of that stimulus effort have nearly quadrupled the central bank's assets to about $4.1 trillion.
By December, some policymakers weren't comfortable with the unprecedented actions.
"I'm deeply troubled by elements of the steps that we are taking today," said Charles Plosser, president of the Federal Reserve Bank of Philadelphia.
Still, Bernanke managed to get a unanimous vote at the December meeting to reduce interest rates as low as they could go. Plosser said that "with some reluctance, I will vote yes."
Times staff writer Walter Hamilton and David Pierson in Los Angeles contributed to this report.Copyright © 2015, Los Angeles Times