Hank Paulson and the Treasury Department's 2007 Financial Crisis Response

Key figures: Henry M. “Hank” Paulson Jr., President George W. Bush, Federal Reserve Chairman Ben Bernanke, Treasury Deputy Secretary Robert M. Kimmitt

Summary

Henry M. “Hank” Paulson Jr. served as the 74th Secretary of the U.S. Department of the Treasury from July 2006 through January 2009, overseeing the Treasury’s early response to the subprime mortgage crisis during 2007. A former CEO of Goldman Sachs (1999–2006), Paulson brought Wall Street experience to the Treasury at the moment when the financial system faced its most severe stress since the Great Depression. Throughout 2007, as Bear Stearns hedge funds collapsed in July, credit markets froze, and housing prices began their precipitous decline, Paulson worked in concert with Federal Reserve Chairman Ben Bernanke to contain systemic financial risk through emergency lending facilities, liquidity injections, and coordination with international central banks. Though the most dramatic interventions—including the creation of the Troubled Asset Relief Program (TARP) and the rescues of Bear Stearns and Lehman Brothers—came in 2008, Paulson’s foundational crisis-management strategies and public messaging were shaped and tested during the volatile summer and fall of 2007.

Paulson’s Path to the Treasury

Paulson graduated from Dartmouth College in 1968 and earned an MBA from Harvard Business School. He began his career at the investment bank Goldman Sachs in 1974, rising through the ranks to become Partner in 1982. During his 27 years at Goldman Sachs, Paulson became known for his expertise in mergers and acquisitions and his emphasis on risk management. He served as co-president beginning in 1994, then became president in 1998, and was named chief executive officer and chairman in 1999—a position he held for seven years. Under Paulson’s leadership, Goldman Sachs went public in 1999, and the firm expanded its global operations and derivative trading operations. In May 2006, President George W. Bush announced Paulson’s nomination as Secretary of the Treasury; the Senate confirmed him in June 2006, and he took office on July 10, 2006.

The 2007 Financial Crisis Onset

When Paulson assumed the Treasury post in mid-2006, the U.S. housing market had begun to show signs of weakness, but most policymakers and market participants did not yet recognize the systemic threat. By early 2007, however, the subprime mortgage sector was visibly deteriorating. New Century Financial Corporation, the second-largest U.S. subprime mortgage lender, filed for bankruptcy on April 2, 2007, with $8.4 billion in debt—the first major institutional failure signaling broader market stress.

During the spring of 2007, Paulson watched as credit conditions tightened and hedge funds holding mortgage-backed securities faced cascading margin calls. The crisis came to a head in mid-July 2007. On July 16, Bear Stearns disclosed that two of its major hedge funds had lost “essentially all” their value, with investor losses estimated at $1.6–1.8 billion. This was a pivotal moment: Bear Stearns was one of the largest and most prestigious fixed-income trading operations on Wall Street, and the failure of its funds signaled that the losses were not confined to marginal institutions but extended to the core of the global financial system.

Following the Bear Stearns fund collapse, credit markets experienced what later became known as the “August 2007 credit crunch.” The ABX index—measuring the cost of insuring subprime mortgage-backed securities—declined sharply, signaling that institutional investors worldwide were repricing risk. On August 9, 2007, BNP Paribas, France’s largest bank, froze three investment funds worth approximately €2 billion, citing an inability to calculate the fair value of U.S. mortgage-backed securities due to the seizure of trading in those assets. The statement effectively confirmed that the pricing problem had spread globally. The European Central Bank injected €94.8 billion into European money markets that day—the largest single-day liquidity injection in ECB history. The Federal Reserve responded with $38 billion in emergency open market operations on August 10, 2007.

Paulson’s Policy Response in 2007

Throughout 2007, Paulson worked closely with Federal Reserve Chairman Ben Bernanke to manage the escalating crisis. Their strategies included:

Liquidity and Market Stabilization

The Federal Reserve took the lead on monetary policy, but Paulson’s Treasury coordinated fiscal and financial system oversight. The Fed cut the discount rate (the interest rate charged to banks borrowing directly from the Fed) by 50 basis points on August 17, 2007, bringing it from 5.75 percent to 5.25 percent—a signal that the Fed would provide abundant liquidity to solvent institutions facing funding pressures. The Fed also created the Term Auction Facility (TAF) in December 2007 to allow banks to borrow against a broader collateral pool. Paulson supported these moves and worked to ensure that capital markets did not seize up entirely due to loss of confidence.

Housing and Foreclosure Prevention

In August 2007, Paulson convened meetings with the CEOs of major mortgage servicers — including Countrywide Financial, Washington Mutual, IndyMac, and Bank of America — to negotiate voluntary modifications to the most at-risk adjustable-rate mortgages. He promoted the “Hope Now Alliance,” formally launched in October 2007 and comprised of more than 20 mortgage servicers, investors, and counselors. By the end of 2007, the Alliance reported it had made approximately 545,000 contact calls to distressed borrowers and negotiated roughly 200,000 loan repayment plans. Critics argued the program fell far short of need — over 1.5 million foreclosure filings were recorded in 2007, a 79 percent increase over 2006 — and that it relied too heavily on voluntary industry participation rather than compulsory government standards. Paulson acknowledged the limitations but resisted calls for mandatory loan modifications, arguing they could destabilize the secondary mortgage market. As a complement to Hope Now, Paulson and the Treasury also began preparing legislation that would eventually become the Housing and Economic Recovery Act of 2008, which included the HOPE for Homeowners program providing FHA refinancing for distressed borrowers.

International Coordination

Paulson coordinated with central banks and finance ministers worldwide to prevent the crisis from triggering a global financial collapse. He participated in emergency meetings with the International Monetary Fund (IMF) and at the G7 Finance Ministers summit in Washington in October 2007, where leaders agreed on a coordinated set of principles for managing complex financial instruments and improving transparency in structured credit markets. Paulson also worked bilaterally with Chinese officials — a relationship cultivated through the Strategic Economic Dialogue he had launched in 2006 — to ensure that China’s enormous holdings of U.S. agency bonds (particularly Fannie Mae and Freddie Mac securities) would not trigger a panic in the event of those agencies’ distress. This concern proved prescient; Treasury would place Fannie and Freddie into conservatorship in September 2008.

The oil price spike of 2007 — crude oil climbed past $100 per barrel by late 2007 — complicated Paulson’s economic messaging, as rising energy costs threatened to tip an already strained consumer economy into recession even while Paulson was trying to convey stability. The concurrent fiscal pressure of the Iraq War troop surge, which added tens of billions in supplemental appropriations to the federal budget, further constrained the Treasury’s room for direct fiscal stimulus.

Warning on Systemic Risk

By October 2007, Paulson was publicly warning about the systemic risks posed by the housing crisis. In a November 2007 statement, he acknowledged that “the current housing correction and credit stress are among the most significant economic challenges in a generation.” His candid assessment, while alarming, helped prepare Congress and the public for the likelihood of more dramatic interventions to follow.

Key Moments and Decisions in 2007

The December 2007 ARM Rate-Freeze Plan

On December 6, 2007, President Bush announced a voluntary plan — brokered by Paulson — under which mortgage servicers would freeze the interest rates on certain subprime adjustable-rate mortgages for five years, preventing scheduled rate resets that had been driving foreclosures. The plan, informally called “Project Lifeline” or “teaser-freezer,” applied to ARMs originated between January 2005 and July 2007 with rates that were scheduled to reset between January 2008 and July 2010, where borrowers were current on payments but unlikely to afford the reset. Estimates suggested the plan would help between 1.2 million and 1.8 million borrowers. However, implementation was uneven: servicers struggled to identify eligible mortgages quickly in the complex securitization structures that had dispersed loan ownership across hundreds of investment vehicles. The December ARM freeze plan illustrated both the reach and the limits of Paulson’s voluntarist approach to housing market stabilization — effective at conveying government engagement but insufficient in scale to offset the systemic housing correction then underway.

Memoirs and Historical Assessment

Paulson documented his tenure in his 2010 memoir On the Brink: Inside the Race to Stop the Collapse of the Global Financial System, which covers the arc from his 2006 appointment through the 2008 crisis peak. The book provides a firsthand account of the decision-making process during the most volatile periods of the financial crisis, including contemporaneous notes and accounts of conversations with Bernanke, Geithner, and key congressional leaders. Historians of the financial crisis — including those who contributed to the Federal Reserve Bank’s Financial Crisis Inquiry Report (2011) — have generally concluded that Paulson and Bernanke’s 2007 actions delayed but could not prevent the full financial collapse that occurred in September–October 2008, when the failure of Lehman Brothers and the near-collapse of AIG required far more dramatic interventions. The question of whether more aggressive action in 2007 — including mandatory loan modifications or earlier capital requirements for financial institutions — might have averted the worst of the 2008 crisis has been a persistent subject of scholarly and policy debate.

Significance

Hank Paulson’s tenure as Treasury Secretary in 2007 marked the beginning of the most intensive federal government involvement in financial markets since the Great Depression. Although the most dramatic and costly measures—including the $700 billion Troubled Asset Relief Program (TARP) and the emergency rescues of major financial institutions—came in late 2008, the policy frameworks, crisis-management protocols, and public-private coordination mechanisms were developed and tested during 2007’s volatile summer and fall.

Paulson’s Goldman Sachs background proved both an asset and a liability. His deep knowledge of how financial institutions function, the structure of complex securities, and the mechanics of leverage enabled him to understand the systemic threat faster than many policymakers. However, his prior role as a Wall Street CEO also made him a target of criticism from those who believed the financial industry had contributed to the crisis and that industry insiders should not direct the rescue response.

By year-end 2007, the crisis was far from over—in fact, the worst was yet to come—but the institutional responses and policy innovations initiated under Paulson’s direction would reshape U.S. financial regulation, banking practice, and the relationship between government and the financial sector for the following decade. His role in 2007 laid the groundwork for the emergency lending facilities, asset-purchase programs, and systemic-risk monitoring frameworks that became hallmarks of 21st-century financial crisis management.

Sources

• Hank Paulson — Wikipedia
• United States Secretary of the Treasury — Wikipedia
• Timeline: The U.S. Financial Crisis — Council on Foreign Relations
• Bear Stearns — Wikipedia
• The 2007–2008 Financial Crisis — Federal Reserve History
• Subprime Mortgage Crisis — Wikipedia