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Sunday
September 23
from 7 pm
The Big Short
Adam McKay
2015, 130 min
The Wolf of Wall Street
Martin Scorsese
2013, 180 min
Pirate Cinema Berlin
U Kottbusser Tor
E-mail for directions
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April 2, 2009
The Big Takeover
How Wall Street Is Using the Bailout to Stage a Revolution
By Matt Taibbi
It's over – we're officially, royally fucked. No empire can survive being
rendered a permanent laughingstock, which is what happened as of a few weeks
ago, when the buffoons who have been running things in this country finally
went one step too far. It happened when Treasury Secretary Timothy Geithner was
forced to admit that he was once again going to have to stuff billions of
taxpayer dollars into a dying insurance giant called AIG, itself a profound
symbol of our national decline – a corporation that got rich insuring the
concrete and steel of American industry in the country's heyday, only to
destroy itself chasing phantom fortunes at the Wall Street card tables, like a
dissolute nobleman gambling away the family estate in the waning days of the
British Empire.
The latest bailout came as AIG admitted to having just posted the largest
quarterly loss in American corporate history – some $61.7 billion. In the final
three months of last year, the company lost more than $27 million every hour.
That's $465,000 a minute, a yearly income for a median American household every
six seconds, roughly $7,750 a second. And all this happened at the end of eight
straight years that America devoted to frantically chasing the shadow of a
terrorist threat to no avail, eight years spent stopping every citizen at every
airport to search every purse, bag, crotch and briefcase for juice boxes and
explosive tubes of toothpaste. Yet in the end, our government had no mechanism
for searching the balance sheets of companies that held life-or-death power
over our society and was unable to spot holes in the national economy the size
of Libya (whose entire GDP last year was smaller than AIG's 2008 losses).
So it's time to admit it: We're fools, protagonists in a kind of gruesome
comedy about the marriage of greed and stupidity. And the worst part about it
is that we're still in denial – we still think this is some kind of unfortunate
accident, not something that was created by the group of psychopaths on Wall
Street whom we allowed to gang-rape the American Dream. When Geithner announced
the new $30 billion bailout, the party line was that poor AIG was just a victim
of a lot of shitty luck – bad year for business, you know, what with the
financial crisis and all. Edward Liddy, the company's CEO, actually compared
it to catching a cold: "The marketplace is a pretty crummy place to be ight
now," he said. "When the world catches pneumonia, we get it too." In a pathetic
attempt at name-dropping, he even whined that AIG was being "consumed by the
same issues that are driving house prices down and 401K statements down and
Warren Buffet's investment portfolio down."
Liddy made AIG sound like an orphan begging in a soup line, hungry and sick
from being left out in someone else's financial weather. He conveniently forgot
to mention that AIG had spent more than a decade systematically scheming to
evade U.S. and international regulators, or that one of the causes of its
"pneumonia" was making colossal, world-sinking $500 billion bets with money it
didn't have, in a toxic and completely unregulated derivatives market.
Nor did anyone mention that when AIG finally got up from its seat at the Wall
Street casino, broke and busted in the afterdawn light, it owed money all over
town – and that a huge chunk of your taxpayer dollars in this particular
bailout scam will be going to pay off the other high rollers at its table. Or
that this was a casino unique among all casinos, one where middle-class
taxpayers cover the bets of billionaires.
People are pissed off about this financial crisis, and about this bailout, but
they're not pissed off enough. The reality is that the worldwide economic
meltdown and the bailout that followed were together a kind of revolution, a
coup d'état. They cemented and formalized a political trend that has been
snowballing for decades: the gradual takeover of the government by a small
class of connected insiders, who used money to control elections, buy influence
and systematically weaken financial regulations.
The crisis was the coup de grâce: Given virtually free rein over the economy,
these same insiders first wrecked the financial world, then cunningly granted
themselves nearly unlimited emergency powers to clean up their own mess. And so
the gambling-addict leaders of companies like AIG end up not penniless and in
jail, but with an Alien-style death grip on the Treasury and the Federal
Reserve – "our partners in the government," as Liddy put it with a shockingly
casual matter-of-factness after the most recent bailout.
The mistake most people make in looking at the financial crisis is thinking of
it in terms of money, a habit that might lead you to look at the unfolding mess
as a huge bonus-killing downer for the Wall Street class. But if you look at it
in purely Machiavellian terms, what you see is a colossal power grab that
threatens to turn the federal government into a kind of giant Enron – a huge,
impenetrable black box filled with self-dealing insiders whose scheme is the
securing of individual profits at the expense of an ocean of unwitting
involuntary shareholders, previously known as taxpayers.
* * *
The best way to understand the financial crisis is to understand the meltdown
at AIG. AIG is what happens when short, bald managers of otherwise boring
financial bureaucracies start seeing Brad Pitt in the mirror. This is a company
that built a giant fortune across more than a century by betting on
safety-conscious policyholders – people who wear seat belts and build houses on
high ground – and then blew it all in a year or two by turning their entire
balance sheet over to a guy who acted like making huge bets with other people's
money would make his dick bigger.
That guy – the Patient Zero of the global economic meltdown – was one Joseph
Cassano, the head of a tiny, 400-person unit within the company called AIG
Financial Products, or AIGFP. Cassano, a pudgy, balding Brooklyn College grad
with beady eyes and way too much forehead, cut his teeth in the Eighties
working for Mike Milken, the granddaddy of modern Wall Street debt alchemists.
Milken, who pioneered the creative use of junk bonds, relied on messianic
genius and a whole array of insider schemes to evade detection while wreaking
financial disaster. Cassano, by contrast, was just a greedy little turd with a
knack for selective accounting who ran his scam right out in the open, thanks
to Washington's deregulation of the Wall Street casino. "It's all about the
regulatory environment," says a government source involved with the AIG
bailout. "These guys look for holes in the system, for ways they can do trades
without government interference. Whatever is unregulated, all the action is
going to pile into that."
The mess Cassano created had its roots in an investment boom fueled in part by
a relatively new type of financial instrument called a collateralized-debt
obligation. A CDO is like a box full of diced-up assets. They can be anything:
mortgages, corporate loans, aircraft loans, credit-card loans, even other CDOs.
So as X mortgage holder pays his bill, and Y corporate debtor pays his bill,
and Z credit-card debtor pays his bill, money flows into the box.
The key idea behind a CDO is that there will always be at least some money in
the box, regardless of how dicey the individual assets inside it are. No matter
how you look at a single unemployed ex-con trying to pay the note on a
six-bedroom house, he looks like a bad investment. But dump his loan in a box
with a smorgasbord of auto loans, credit-card debt, corporate bonds and other
crap, and you can be reasonably sure that somebody is going to pay up. Say $100
is supposed to come into the box every month. Even in an apocalypse, when $90
in payments might default, you'll still get $10. What the inventors of the CDO
did is divide up the box into groups of investors and put that $10 into its own
level, or "tranche." They then convinced ratings agencies like Moody's and S&P
to give that top tranche the highest AAA rating – meaning it has close to zero
credit risk.
Suddenly, thanks to this financial seal of approval, banks had a way to turn
their shittiest mortgages and other financial waste into investment-grade paper
and sell them to institutional investors like pensions and insurance companies,
which were forced by regulators to keep their portfolios as safe as possible.
Because CDOs offered higher rates of return than truly safe products like
Treasury bills, it was a win-win: Banks made a fortune selling CDOs, and big
investors made much more holding them.
The problem was, none of this was based on reality. "The banks knew they were
selling crap," says a London-based trader from one of the bailed-out companies.
To get AAA ratings, the CDOs relied not on their actual underlying assets but
on crazy mathematical formulas that the banks cooked up to make the investments
look safer than they really were. "They had some back room somewhere where a
bunch of Indian guys who'd been doing nothing but math for God knows how many
years would come up with some kind of model saying that this or that
combination of debtors would only default once every 10,000 years," says one
young trader who sold CDOs for a major investment bank. "It was nuts."
Now that even the crappiest mortgages could be sold to conservative investors,
the CDOs spurred a massive explosion of irresponsible and predatory lending. In
fact, there was such a crush to underwrite CDOs that it became hard to find
enough subprime mortgages – read: enough unemployed meth dealers willing to buy
million-dollar homes for no money down – to fill them all. As banks and
investors of all kinds took on more and more in CDOs and similar instruments,
they needed some way to hedge their massive bets – some kind of insurance
policy, in case the housing bubble burst and all that debt went south at the
same time. This was particularly true for investment banks, many of which got
stuck holding or "warehousing" CDOs when they wrote more than they could sell.
And that's were Joe Cassano came in.
Known for his boldness and arrogance, Cassano took over as chief of AIGFP in
2001. He was the favorite of Maurice "Hank" Greenberg, the head of AIG, who
admired the younger man's hard-driving ways, even if neither he nor his
successors fully understood exactly what it was that Cassano did. According to
a source familiar with AIG's internal operations, Cassano basically told senior
management, "You know insurance, I know investments, so you do what you do, and
I'll do what I do – leave me alone." Given a free hand within the company,
Cassano set out from his offices in London to sell a lucrative form of
"insurance" to all those investors holding lots of CDOs. His tool of choice was
another new financial instrument known as a credit-default swap, or CDS.
The CDS was popularized by J.P. Morgan, in particular by a group of young,
creative bankers who would later become known as the "Morgan Mafia," as many of
them would go on to assume influential positions in the finance world. In 1994,
in between booze and games of tennis at a resort in Boca Raton, Florida, the
Morgan gang plotted a way to help boost the bank's returns. One of their goals
was to find a way to lend more money, while working around regulations that
required them to keep a set amount of cash in reserve to back those loans. What
they came up with was an early version of the credit-default swap.
In its simplest form, a CDS is just a bet on an outcome. Say Bank A writes a
million-dollar mortgage to the Pope for a town house in the West Village. Bank
A wants to hedge its mortgage risk in case the Pope can't make his monthly
payments, so it buys CDS protection from Bank B, wherein it agrees to pay Bank
B a premium of $1,000 a month for five years. In return, Bank B agrees to pay
Bank A the full million-dollar value of the Pope's mortgage if he defaults. In
theory, Bank A is covered if the Pope goes on a meth binge and loses his job.
When Morgan presented their plans for credit swaps to regulators in the late
Nineties, they argued that if they bought CDS protection for enough of the
investments in their portfolio, they had effectively moved the risk off their
books. Therefore, they argued, they should be allowed to lend more, without
keeping more cash in reserve. A whole host of regulators – from the Federal
Reserve to the Office of the Comptroller of the Currency – accepted the
argument, and Morgan was allowed to put more money on the street.
What Cassano did was to transform the credit swaps that Morgan popularized into
the world's largest bet on the housing boom. In theory, at least, there's
nothing wrong with buying a CDS to insure your investments. Investors paid a
premium to AIGFP, and in return the company promised to pick up the tab if the
mortgage-backed CDOs went bust. But as Cassano went on a selling spree, the
deals he made differed from traditional insurance in several significant ways.
First, the party selling CDS protection didn't have to post any money upfront.
When a $100 corporate bond is sold, for example, someone has to show 100 actual
dollars. But when you sell a $100 CDS guarantee, you don't have to show a dime.
So Cassano could sell investment banks billions in guarantees without having
any single asset to back it up.
Secondly, Cassano was selling so-called "naked" CDS deals. In a "naked" CDS,
neither party actually holds the underlying loan. In other words, Bank B not
only sells CDS protection to Bank A for its mortgage on the Pope – it turns
around and sells protection to Bank C for the very same mortgage. This could go
on ad nauseam: You could have Banks D through Z also betting on Bank A's
mortgage. Unlike traditional insurance, Cassano was offering investors an
opportunity to bet that someone else's house would burn down, or take out a
term life policy on the guy with AIDS down the street. It was no different from
gambling, the Wall Street version of a bunch of frat brothers betting on Jay
Feely to make a field goal. Cassano was taking book for every bank that bet
short on the housing market, but he didn't have the cash to pay off if the kick
went wide.
In a span of only seven years, Cassano sold some $500 billion worth of CDS
protection, with at least $64 billion of that tied to the subprime mortgage
market. AIG didn't have even a fraction of that amount of cash on hand to cover
its bets, but neither did it expect it would ever need any reserves. So long as
defaults on the underlying securities remained a highly unlikely proposition,
AIG was essentially collecting huge and steadily climbing premiums by selling
insurance for the disaster it thought would never come.
Initially, at least, the revenues were enormous: AIGFP's returns went from $737
million in 1999 to $3.2 billion in 2005. Over the past seven years, the
subsidiary's 400 employees were paid a total of $3.5 billion; Cassano himself
pocketed at least $280 million in compensation. Everyone made their money – and
then it all went to shit.
* * *
Cassano's outrageous gamble wouldn't have been possible had he not had the good
fortune to take over AIGFP just as Sen. Phil Gramm – a grinning, laissez-faire
ideologue from Texas – had finished engineering the most dramatic deregulation
of the financial industry since Emperor Hien Tsung invented paper money in 806
A.D. For years, Washington had kept a watchful eye on the nation's banks. Ever
since the Great Depression, commercial banks – those that kept money on deposit
for individuals and businesses – had not been allowed to double as investment
banks, which raise money by issuing and selling securities. The Glass-Steagall
Act, passed during the Depression, also prevented banks of any kind from
getting into the insurance business.
But in the late Nineties, a few years before Cassano took over AIGFP, all that
changed. The Democrats, tired of getting slaughtered in the fundraising arena
by Republicans, decided to throw off their old reliance on unions and interest
groups and become more "business-friendly." Wall Street responded by flooding
Washington with money, buying allies in both parties. In the 10-year period
beginning in 1998, financial companies spent $1.7 billion on federal campaign
contributions and another $3.4 billion on lobbyists. They quickly got what they
paid for. In 1999, Gramm co-sponsored a bill that repealed key aspects of the
Glass-Steagall Act, smoothing the way for the creation of financial megafirms
like Citigroup. The move did away with the built-in protections afforded by
smaller banks. In the old days, a local banker knew the people whose loans were
on his balance sheet: He wasn't going to give a million-dollar mortgage to a
homeless meth addict, since he would have to keep that loan on his books. But a
giant merged bank might write that loan and then sell it off to some fool in
China, and who cared?
The very next year, Gramm compounded the problem by writing a sweeping new law
called the Commodity Futures Modernization Act that made it impossible to
regulate credit swaps as either gambling or securities. Commercial banks –
which, thanks to Gramm, were now competing directly with investment banks for
customers – were driven to buy credit swaps to loosen capital in search of
higher yields. "By ruling that credit-default swaps were not gaming and not a
security, the way was cleared for the growth of the market," said Eric Dinallo,
head of the New York State Insurance Department.
The blanket exemption meant that Joe Cassano could now sell as many CDS
contracts as he wanted, building up as huge a position as he wanted, without
anyone in government saying a word. "You have to remember, investment banks
aren't in the business of making huge directional bets," says the government
source involved in the AIG bailout. When investment banks write CDS deals, they
hedge them. But insurance companies don't have to hedge. And that's what AIG
did. "They just bet massively long on the housing market," says the source.
"Billions and billions."
In the biggest joke of all, Cassano's wheeling and dealing was regulated by the
Office of Thrift Supervision, an agency that would prove to be defiantly
uninterested in keeping watch over his operations. How a behemoth like AIG came
to be regulated by the little-known and relatively small OTS is yet another
triumph of the deregulatory instinct. Under another law passed in 1999, certain
kinds of holding companies could choose the OTS as their regulator, provided
they owned one or more thrifts (better known as savings-and-loans). Because the
OTS was viewed as more compliant than the Fed or the Securities and Exchange
Commission, companies rushed to reclassify themselves as thrifts. In 1999, AIG
purchased a thrift in Delaware and managed to get approval for OTS regulation
of its entire operation.
Making matters even more hilarious, AIGFP – a London-based subsidiary of an
American insurance company – ought to have been regulated by one of Europe's
more stringent regulators, like Britain's Financial Services Authority. But the
OTS managed to convince the Europeans that it had the muscle to regulate these
giant companies. By 2007, the EU had conferred legitimacy to OTS supervision of
three mammoth firms – GE, AIG and Ameriprise.
That same year, as the subprime crisis was exploding, the Government
Accountability Office criticized the OTS, noting a "disparity between the size
of the agency and the diverse firms it oversees." Among other things, the GAO
report noted that the entire OTS had only one insurance specialist on staff –
and this despite the fact that it was the primary regulator for the world's
largest insurer!
"There's this notion that the regulators couldn't do anything to stop AIG,"
says a government official who was present during the bailout. "That's
bullshit. What you have to understand is that these regulators have ultimate
power. They can send you a letter and say, 'You don't exist anymore,' and
that's basically that. They don't even really need due process. The OTS could
have said, 'We're going to pull your charter; we're going to pull your license;
we're going to sue you.' And getting sued by your primary regulator is the kiss
of death."
When AIG finally blew up, the OTS regulator ostensibly in charge of overseeing
the insurance giant – a guy named C.K. Lee – basically admitted that he had
blown it. His mistake, Lee said, was that he believed all those credit swaps in
Cassano's portfolio were "fairly benign products." Why? Because the company
told him so. "The judgment the company was making was that there was no big
credit risk," he explained. (Lee now works as Midwest region director of the
OTS; the agency declined to make him available for an interview.)
In early March, after the latest bailout of AIG, Treasury Secretary Timothy
Geithner took what seemed to be a thinly veiled shot at the OTS, calling AIG a
"huge, complex global insurance company attached to a very complicated
investment bank/hedge fund that was allowed to build up without any adult
supervision." But even without that "adult supervision," AIG might have been OK
had it not been for a complete lack of internal controls. For six months before
its meltdown, according to insiders, the company had been searching for a
full-time chief financial officer and a chief risk-assessment officer, but
never got around to hiring either. That meant that the 18th-largest company in
the world had no one checking to make sure its balance sheet was safe and no
one keeping track of how much cash and assets the firm had on hand. The
situation was so bad that when outside consultants were called in a few weeks
before the bailout, senior executives were unable to answer even the most basic
questions about their company – like, for instance, how much exposure the firm
had to the residential-mortgage market.
* * *
Ironically, when reality finally caught up to Cassano, it wasn't because the
housing market crapped but because of AIG itself. Before 2005, the company's
debt was rated triple-A, meaning he didn't need to post much cash to sell CDS
protection: The solid creditworthiness of AIG's name was guarantee enough. But
the company's crummy accounting practices eventually caused its credit rating
to be downgraded, triggering clauses in the CDS contracts that forced Cassano
to post substantially more collateral to back his deals.
By the fall of 2007, it was evident that AIGFP's portfolio had turned
poisonous, but like every good Wall Street huckster, Cassano schemed to keep
his insane, Earth-swallowing gamble hidden from public view. That August, balls
bulging, he announced to investors on a conference call that "it is hard for
us, without being flippant, to even see a scenario within any kind of realm of
reason that would see us losing $1 in any of those transactions." As he spoke,
his CDS portfolio was racking up $352 million in losses. When the growing
credit crunch prompted senior AIG executives to re-examine its liabilities, a
company accountant named Joseph St. Denis became "gravely concerned" about the
CDS deals and their potential for mass destruction. Cassano responded by
personally forcing the poor sap out of the firm, telling him he was
"deliberately excluded" from the financial review for fear that he might
"pollute the process."
The following February, when AIG posted $11.5 billion in annual losses, it
announced the resignation of Cassano as head of AIGFP, saying an auditor had
found a "material weakness" in the CDS portfolio. But amazingly, the company
not only allowed Cassano to keep $34 million in bonuses, it kept him on as a
consultant for $1 million a month. In fact, Cassano remained on the payroll and
kept collecting his monthly million through the end of September 2008, even
after taxpayers had been forced to hand AIG $85 billion to patch up his
fuck-ups. When asked in October why the company still retained Cassano at his
$1 million-a-month rate despite his role in the probable downfall of Western
civilization, CEO Martin Sullivan told Congress with a straight face that AIG
wanted to "retain the 20-year knowledge that Mr. Cassano had." (Cassano, who is
apparently hiding out in his lavish town house near Harrods in London, could
not be reached for comment.)
What sank AIG in the end was another credit downgrade. Cassano had written so
many CDS deals that when the company was facing another downgrade to its credit
rating last September, from AA to A, it needed to post billions in collateral –
not only more cash than it had on its balance sheet but more cash than it could
raise even if it sold off every single one of its liquid assets. Even so,
management dithered for days, not believing the company was in serious trouble.
AIG was a dried-up prune, sapped of any real value, and its top executives
didn't even know it.
On the weekend of September 13th, AIG's senior leaders were summoned to the
offices of the New York Federal Reserve. Regulators from Dinallo's insurance
office were there, as was Geithner, then chief of the New York Fed. Treasury
Secretary Hank Paulson, who spent most of the weekend preoccupied with the
collapse of Lehman Brothers, came in and out. Also present, for reasons that
would emerge later, was Lloyd Blankfein, CEO of Goldman Sachs. The only
relevant government office that wasn't represented was the regulator that
should have been there all along: the OTS.
"We sat down with Paulson, Geithner and Dinallo," says a person present at the
negotiations. "I didn't see the OTS even once."
On September 14th, according to another person present, Treasury officials
presented Blankfein and other bankers in attendance with an absurd proposal:
"They basically asked them to spend a day and check to see if they could raise
the money privately." The laughably short time span to complete the mammoth
task made the answer a foregone conclusion. At the end of the day, the bankers
came back and told the government officials, gee, we checked, but we can't
raise that much. And the bailout was on.
A short time later, it came out that AIG was planning to pay some $90 million
in deferred compensation to former executives, and to accelerate the payout of
$277 million in bonuses to others – a move the company insisted was necessary
to "retain key employees." When Congress balked, AIG canceled the $90 million
in payments.
Then, in January 2009, the company did it again. After all those years letting
Cassano run wild, and after already getting caught paying out insane bonuses
while on the public till, AIG decided to pay out another $450 million in
bonuses. And to whom? To the 400 or so employees in Cassano's old unit, AIGFP,
which is due to go out of business shortly! Yes, that's right, an average of
$1.1 million in taxpayer-backed money apiece, to the very people who spent the
past decade or so punching a hole in the fabric of the universe! "We, uh,
needed to keep these highly expert people in their seats," AIG spokeswoman
Christina Pretto says to me in early February.
"But didn't these 'highly expert people' basically destroy your company?" I ask.
Pretto protests, says this isn't fair. The employees at AIGFP have already
taken pay cuts, she says. Not retaining them would dilute the value of the
company even further, make it harder to wrap up the unit's operations in an
orderly fashion.
The bonuses are a nice comic touch highlighting one of the more outrageous
tangents of the bailout age, namely the fact that, even with the planet in
flames, some members of the Wall Street class can't even get used to the
tragedy of having to fly coach. "These people need their trips to Baja, their
spa treatments, their hand jobs," says an official involved in the AIG bailout,
a serious look on his face, apparently not even half-kidding. "They don't
function well without them."
* * *
So that's the first step in Wall Street's power grab: making up things like
credit-default swaps and collateralized-debt obligations, financial products so
complex and inscrutable that ordinary American dumb people – to say nothing of
federal regulators and even the CEOs of major corporations like AIG – are too
intimidated to even try to understand them. That, combined with wise political
investments, enabled the nation's top bankers to effectively scrap any
meaningful oversight of the financial industry. In 1997 and 1998, the years
leading up to the passage of Phil Gramm's fateful act that gutted
Glass-Steagall, the banking, brokerage and insurance industries spent $350
million on political contributions and lobbying. Gramm alone – then the
chairman of the Senate Banking Committee – collected $2.6 million in only five
years. The law passed 90-8 in the Senate, with the support of 38 Democrats,
including some names that might surprise you: Joe Biden, John Kerry, Tom
Daschle, Dick Durbin, even John Edwards.
The act helped create the too-big-to-fail financial behemoths like Citigroup,
AIG and Bank of America – and in turn helped those companies slowly crush their
smaller competitors, leaving the major Wall Street firms with even more money
and power to lobby for further deregulatory measures. "We're moving to an
oligopolistic situation," Kenneth Guenther, a top executive with the
Independent Community Bankers of America, lamented after the Gramm measure was
passed.
The situation worsened in 2004, in an extraordinary move toward deregulation
that never even got to a vote. At the time, the European Union was threatening
to more strictly regulate the foreign operations of America's big investment
banks if the U.S. didn't strengthen its own oversight. So the top five
investment banks got together on April 28th of that year and – with the helpful
assistance of then-Goldman Sachs chief and future Treasury Secretary Hank
Paulson – made a pitch to George Bush's SEC chief at the time, William
Donaldson, himself a former investment banker. The banks generously volunteered
to submit to new rules restricting them from engaging in excessively risky
activity. In exchange, they asked to be released from any lending restrictions.
The discussion about the new rules lasted just 55 minutes, and there was not a
single representative of a major media outlet there to record the fateful
decision.
Donaldson OK'd the proposal, and the new rules were enough to get the EU to
drop its threat to regulate the five firms. The only catch was, neither
Donaldson nor his successor, Christopher Cox, actually did any regulating of
the banks. They named a commission of seven people to oversee the five
companies, whose combined assets came to total more than $4 trillion. But in
the last year and a half of Cox's tenure, the group had no director and did not
complete a single inspection. Great deal for the banks, which originally
complained about being regulated by both Europe and the SEC, and ended up being
regulated by no one.
Once the capital requirements were gone, those top five banks went hog-wild,
jumping ass-first into the then-raging housing bubble. One of those was Bear
Stearns, which used its freedom to drown itself in bad mortgage loans. In the
short period between the 2004 change and Bear's collapse, the firm's
debt-to-equity ratio soared from 12-1 to an insane 33-1. Another culprit was
Goldman Sachs, which also had the good fortune, around then, to see its CEO, a
bald-headed Frankensteinian goon named Hank Paulson (who received an estimated
$200 million tax deferral by joining the government), ascend to Treasury
secretary.
Freed from all capital restraints, sitting pretty with its man running the
Treasury, Goldman jumped into the housing craze just like everyone else on Wall
Street. Although it famously scored an $11 billion coup in 2007 when one of its
trading units smartly shorted the housing market, the move didn't tell the
whole story. In truth, Goldman still had a huge exposure come that fateful
summer of 2008 – to none other than Joe Cassano.
Goldman Sachs, it turns out, was Cassano's biggest customer, with $20 billion
of exposure in Cassano's CDS book. Which might explain why Goldman chief Lloyd
Blankfein was in the room with ex-Goldmanite Hank Paulson that weekend of
September 13th, when the federal government was supposedly bailing out AIG.
When asked why Blankfein was there, one of the government officials who was in
the meeting shrugs. "One might say that it's because Goldman had so much
exposure to AIGFP's portfolio," he says. "You'll never prove that, but one
might suppose."
Market analyst Eric Salzman is more blunt. "If AIG went down," he says, "there
was a good chance Goldman would not be able to collect." The AIG bailout, in
effect, was Goldman bailing out Goldman.
Eventually, Paulson went a step further, elevating another ex-Goldmanite named
Edward Liddy to run AIG – a company whose bailout money would be coming, in
part, from the newly created TARP program, administered by another Goldman
banker named Neel Kashkari.
* * *
There are plenty of people who have noticed, in recent years, that when they
lost their homes to foreclosure or were forced into bankruptcy because of
crippling credit-card debt, no one in the government was there to rescue them.
But when Goldman Sachs – a company whose average employee still made more than
$350,000 last year, even in the midst of a depression – was suddenly faced with
the possibility of losing money on the unregulated insurance deals it bought
for its insane housing bets, the government was there in an instant to patch
the hole. That's the essence of the bailout: rich bankers bailing out rich
bankers, using the taxpayers' credit card.
The people who have spent their lives cloistered in this Wall Street community
aren't much for sharing information with the great unwashed. Because all of
this shit is complicated, because most of us mortals don't know what the hell
LIBOR is or how a REIT works or how to use the word "zero coupon bond" in a
sentence without sounding stupid – well, then, the people who do speak this
idiotic language cannot under any circumstances be bothered to explain it to us
and instead spend a lot of time rolling their eyes and asking us to trust them.
That roll of the eyes is a key part of the psychology of Paulsonism. The state
is now being asked not just to call off its regulators or give tax breaks or
funnel a few contracts to connected companies; it is intervening directly in
the economy, for the sole purpose of preserving the influence of the megafirms.
In essence, Paulson used the bailout to transform the government into a giant
bureaucracy of entitled assholedom, one that would socialize "toxic" risks but
keep both the profits and the management of the bailed-out firms in private
hands. Moreover, this whole process would be done in secret, away from the
prying eyes of NASCAR dads, broke-ass liberals who read translations of French
novels, subprime mortgage holders and other such financial losers.
Some aspects of the bailout were secretive to the point of absurdity. In fact,
if you look closely at just a few lines in the Federal Reserve's weekly public
disclosures, you can literally see the moment where a big chunk of your money
disappeared for good. The H4 report (called "Factors Affecting Reserve
Balances") summarizes the activities of the Fed each week. You can find it
online, and it's pretty much the only thing the Fed ever tells the world about
what it does. For the week ending February 18th, the number under the heading
"Repurchase Agreements" on the table is zero. It's a significant number.
Why? In the pre-crisis days, the Fed used to manage the money supply by
periodically buying and selling securities on the open market through so-called
Repurchase Agreements, or Repos. The Fed would typically dump $25 billion or so
in cash onto the market every week, buying up Treasury bills, U.S. securities
and even mortgage-backed securities from institutions like Goldman Sachs and
J.P. Morgan, who would then "repurchase" them in a short period of time,
usually one to seven days. This was the Fed's primary mechanism for controlling
interest rates: Buying up securities gives banks more money to lend, which
makes interest rates go down. Selling the securities back to the banks reduces
the money available for lending, which makes interest rates go up.
If you look at the weekly H4 reports going back to the summer of 2007, you
start to notice something alarming. At the start of the credit crunch, around
August of that year, you see the Fed buying a few more Repos than usual – $33
billion or so. By November, as private-bank reserves were dwindling to
alarmingly low levels, the Fed started injecting even more cash than usual into
the economy: $48 billion. By late December, the number was up to $58 billion;
by the following March, around the time of the Bear Stearns rescue, the Repo
number had jumped to $77 billion. In the week of May 1st, 2008, the number was
$115 billion – "out of control now," according to one congressional aide. For
the rest of 2008, the numbers remained similarly in the stratosphere, the Fed
pumping as much as $125 billion of these short-term loans into the economy –
until suddenly, at the start of this year, the number drops to nothing. Zero.
The reason the number has dropped to nothing is that the Fed had simply stopped
using relatively transparent devices like repurchase agreements to pump its
money into the hands of private companies. By early 2009, a whole series of new
government operations had been invented to inject cash into the economy, most
all of them completely secretive and with names you've never heard of. There is
the Term Auction Facility, the Term Securities Lending Facility, the Primary
Dealer Credit Facility, the Commercial Paper Funding Facility and a monster
called the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity
Facility (boasting the chat-room horror-show acronym ABCPMMMFLF). For good
measure, there's also something called a Money Market Investor Funding
Facility, plus three facilities called Maiden Lane I, II and III to aid bailout
recipients like Bear Stearns and AIG.
While the rest of America, and most of Congress, have been bugging out about
the $700 billion bailout program called TARP, all of these newly created
organisms in the Federal Reserve zoo have quietly been pumping not billions but
trillions of dollars into the hands of private companies (at least $3 trillion
so far in loans, with as much as $5.7 trillion more in guarantees of private
investments). Although this technically isn't taxpayer money, it still affects
taxpayers directly, because the activities of the Fed impact the economy as a
whole. And this new, secretive activity by the Fed completely eclipses the TARP
program in terms of its influence on the economy.
No one knows who's getting that money or exactly how much of it is disappearing
through these new holes in the hull of America's credit rating. Moreover, no
one can really be sure if these new institutions are even temporary at all – or
whether they are being set up as permanent, stateaided crutches to Wall
Street, designed to systematically suck bad investments off the ledgers of
irresponsible lenders.
"They're supposed to be temporary," says Paul-Martin Foss, an aide to Rep. Ron
Paul. "But we keep getting notices every six months or so that they're being
renewed. They just sort of quietly announce it."
None other than disgraced senator Ted Stevens was the poor sap who made the
unpleasant discovery that if Congress didn't like the Fed handing trillions of
dollars to banks without any oversight, Congress could apparently go fuck
itself – or so said the law. When Stevens asked the GAO about what authority
Congress has to monitor the Fed, he got back a letter citing an obscure statute
that nobody had ever heard of before: the Accounting and Auditing Act of 1950.
The relevant section, 31 USC 714(b), dictated that congressional audits of the
Federal Reserve may not include "deliberations, decisions and actions on
monetary policy matters." The exemption, as Foss notes, "basically includes
everything." According to the law, in other words, the Fed simply cannot be
audited by Congress. Or by anyone else, for that matter.
* * *
Stevens isn't the only person in Congress to be given the finger by the Fed. In
January, when Rep. Alan Grayson of Florida asked Federal Reserve vice chairman
Donald Kohn where all the money went – only $1.2 trillion had vanished by then
– Kohn gave Grayson a classic eye roll, saying he would be "very hesitant" to
name names because it might discourage banks from taking the money.
"Has that ever happened?" Grayson asked. "Have people ever said, 'We will not
take your $100 billion because people will find out about it?'"
"Well, we said we would not publish the names of the borrowers, so we have no
test of that," Kohn answered, visibly annoyed with Grayson's meddling.
Grayson pressed on, demanding to know on what terms the Fed was lending the
money. Presumably it was buying assets and making loans, but no one knew how it
was pricing those assets – in other words, no one knew what kind of deal it was
striking on behalf of taxpayers. So when Grayson asked if the purchased assets
were "marked to market" – a methodology that assigns a concrete value to
assets, based on the market rate on the day they are traded – Kohn answered,
mysteriously, "The ones that have market values are marked to market." The
implication was that the Fed was purchasing derivatives like credit swaps or
other instruments that were basically impossible to value objectively – paying
real money for God knows what.
"Well, how much of them don't have market values?" asked Grayson. "How much of
them are worthless?"
"None are worthless," Kohn snapped.
"Then why don't you mark them to market?" Grayson demanded.
"Well," Kohn sighed, "we are marking the ones to market that have market
values."
In essence, the Fed was telling Congress to lay off and let the experts handle
things. "It's like buying a car in a used-car lot without opening the hood, and
saying, 'I think it's fine,'" says Dan Fuss, an analyst with the investment
firm Loomis Sayles. "The salesman says, 'Don't worry about it. Trust me.' It'll
probably get us out of the lot, but how much farther? None of us knows."
When one considers the comparatively extensive system of congressional checks
and balances that goes into the spending of every dollar in the budget via the
normal appropriations process, what's happening in the Fed amounts to something
truly revolutionary – a kind of shadow government with a budget many times the
size of the normal federal outlay, administered dictatorially by one man, Fed
chairman Ben Bernanke. "We spend hours and hours and hours arguing over $10
million amendments on the floor of the Senate, but there has been no discussion
about who has been receiving this $3 trillion," says Sen. Bernie Sanders. "It
is beyond comprehension."
Count Sanders among those who don't buy the argument that Wall Street firms
shouldn't have to face being outed as recipients of public funds, that making
this information public might cause investors to panic and dump their holdings
in these firms. "I guess if we made that public, they'd go on strike or
something," he muses.
And the Fed isn't the only arm of the bailout that has closed ranks. The
Treasury, too, has maintained incredible secrecy surrounding its implementation
even of the TARP program, which was mandated by Congress. To this date, no one
knows exactly what criteria the Treasury Department used to determine which
banks received bailout funds and which didn't – particularly the first $350
billion given out under Bush appointee Hank Paulson.
The situation with the first TARP payments grew so absurd that when the
Congressional Oversight Panel, charged with monitoring the bailout money, sent
a query to Paulson asking how he decided whom to give money to, Treasury
responded – and this isn't a joke – by directing the panel to a copy of the
TARP application form on its website. Elizabeth Warren, the chair of the
Congressional Oversight Panel, was struck nearly speechless by the response.
"Do you believe that?" she says incredulously. "That's not what we had in mind."
Another member of Congress, who asked not to be named, offers his own theory
about the TARP process. "I think basically if you knew Hank Paulson, you got
the money," he says.
This cozy arrangement created yet another opportunity for big banks to devour
market share at the expense of smaller regional lenders. While all the bigwigs
at Citi and Goldman and Bank of America who had Paulson on speed-dial got
bailed out right away – remember that TARP was originally passed because money
had to be lent right now, that day, that minute, to stave off emergency – many
small banks are still waiting for help. Five months into the TARP program, some
not only haven't received any funds, they haven't even gotten a call back about
their applications.
"There's definitely a feeling among community bankers that no one up there
cares much if they make it or not," says Tanya Wheeless, president of the
Arizona Bankers Association.
Which, of course, is exactly the opposite of what should be happening, since
small, regional banks are far less guilty of the kinds of predatory lending
that sank the economy. "They're not giving out subprime loans or easy credit,"
says Wheeless. "At the community level, it's much more bread-and-butter
banking."
Nonetheless, the lion's share of the bailout money has gone to the larger,
so-called "systemically important" banks. "It's like Treasury is picking
winners and losers," says one state banking official who asked not to be
identified.
This itself is a hugely important political development. In essence, the
bailout accelerated the decline of regional community lenders by boosting the
political power of their giant national competitors.
Which, when you think about it, is insane: What had brought us to the brink of
collapse in the first place was this relentless instinct for building
ever-larger megacompanies, passing deregulatory measures to gradually feed all
the little fish in the sea to an ever-shrinking pool of Bigger Fish. To fix
this problem, the government should have slowly liquidated these monster,
too-big-to-fail firms and broken them down to smaller, more manageable
companies. Instead, federal regulators closed ranks and used an almost
completely secret bailout process to double down on the same faulty,
merger-happy thinking that got us here in the first place, creating a
constellation of megafirms under government control that are even bigger, more
unwieldy and more crammed to the gills with systemic risk.
In essence, Paulson and his cronies turned the federal government into one
gigantic, half-opaque holding company, one whose balance sheet includes the
world's most appallingly large and risky hedge fund, a controlling stake in a
dying insurance giant, huge investments in a group of teetering megabanks, and
shares here and there in various auto-finance companies, student loans, and
other failing businesses. Like AIG, this new federal holding company is a firm
that has no mechanism for auditing itself and is run by leaders who have very
little grasp of the daily operations of its disparate subsidiary operations.
In other words, it's AIG's rip-roaringly shitty business model writ almost
inconceivably massive – to echo Geithner, a huge, complex global company
attached to a very complicated investment bank/hedge fund that's been allowed
to build up without adult supervision. How much of what kinds of crap is
actually on our balance sheet, and what did we pay for it? When exactly will
the rent come due, when will the money run out? Does anyone know what the hell
is going on? And on the linear spectrum of capitalism to socialism, where
exactly are we now? Is there a dictionary word that even describes what we are
now? It would be funny, if it weren't such a nightmare.
* * *
The real question from here is whether the Obama administration is going to
move to bring the financial system back to a place where sanity is restored and
the general public can have a say in things or whether the new financial
bureaucracy will remain obscure, secretive and hopelessly complex. It might not
bode well that Geithner, Obama's Treasury secretary, is one of the architects
of the Paulson bailouts; as chief of the New York Fed, he helped orchestrate
the Goldman-friendly AIG bailout and the secretive Maiden Lane facilities used
to funnel funds to the dying company. Neither did it look good when Geithner –
himself a protégé of notorious Goldman alum John Thain, the Merrill Lynch chief
who paid out billions in bonuses after the state spent billions bailing out his
firm – picked a former Goldman lobbyist named Mark Patterson to be his top aide.
In fact, most of Geithner's early moves reek strongly of Paulsonism. He has
continually talked about partnering with private investors to create a
so-called "bad bank" that would systemically relieve private lenders of bad
assets – the kind of massive, opaque, quasi-private bureaucratic nightmare that
Paulson specialized in. Geithner even refloated a Paulson proposal to use TALF,
one of the Fed's new facilities, to essentially lend cheap money to hedge funds
to invest in troubled banks while practically guaranteeing them enormous
profits.
God knows exactly what this does for the taxpayer, but hedge-fund managers sure
love the idea. "This is exactly what the financial system needs," said Andrew
Feldstein, CEO of Blue Mountain Capital and one of the Morgan Mafia. Strangely,
there aren't many people who don't run hedge funds who have expressed anything
like that kind of enthusiasm for Geithner's ideas.
As complex as all the finances are, the politics aren't hard to follow. By
creating an urgent crisis that can only be solved by those fluent in a language
too complex for ordinary people to understand, the Wall Street crowd has turned
the vast majority of Americans into non-participants in their own political
future. There is a reason it used to be a crime in the Confederate states to
teach a slave to read: Literacy is power. In the age of the CDS and CDO, most
of us are financial illiterates. By making an already too-complex economy even
more complex, Wall Street has used the crisis to effect a historic,
revolutionary change in our political system – transforming a democracy into a
two-tiered state, one with plugged-in financial bureaucrats above and clueless
customers below.
The most galling thing about this financial crisis is that so many Wall Street
types think they actually deserve not only their huge bonuses and lavish
lifestyles but the awesome political power their own mistakes have left them in
possession of. When challenged, they talk about how hard they work, the 90-hour
weeks, the stress, the failed marriages, the hemorrhoids and gallstones they
all get before they hit 40.
"But wait a minute," you say to them. "No one ever asked you to stay up all
night eight days a week trying to get filthy rich shorting what's left of the
American auto industry or selling $600 billion in toxic, irredeemable mortgages
to ex-strippers on work release and Taco Bell clerks. Actually, come to think
of it, why are we even giving taxpayer money to you people? Why are we not
throwing your ass in jail instead?"
But before you even finish saying that, they're rolling their eyes, because You
Don't Get It. These people were never about anything except turning money into
money, in order to get more money; valueswise they're on par with crack
addicts, or obsessive sexual deviants who burgle homes to steal panties. Yet
these are the people in whose hands our entire political future now rests.
Good luck with that, America. And enjoy tax season.
This story is from the April 2nd, 2009 issue of Rolling Stone.
--------------------------------------------------------------------------------
January 4, 2013
Secrets and Lies of the Bailout
The federal rescue of Wall Street didn't fix the economy – it created a
permanent bailout state based on a Ponzi-like confidence scheme. And the worst
may be yet to come
By Matt Taibbi
It has been four long winters since the federal government, in the hulking,
shaven-skulled, Alien Nation-esque form of then-Treasury Secretary Hank
Paulson, committed $700 billion in taxpayer money to rescue Wall Street from
its own chicanery and greed. To listen to the bankers and their allies in
Washington tell it, you'd think the bailout was the best thing to hit the
American economy since the invention of the assembly line. Not only did it
prevent another Great Depression, we've been told, but the money has all been
paid back, and the government even made a profit. No harm, no foul – right?
Wrong.
It was all a lie – one of the biggest and most elaborate falsehoods ever sold
to the American people. We were told that the taxpayer was stepping in – only
temporarily, mind you – to prop up the economy and save the world from
financial catastrophe. What we actually ended up doing was the exact opposite:
committing American taxpayers to permanent, blind support of an ungovernable,
unregulatable, hyperconcentrated new financial system that exacerbates the
greed and inequality that caused the crash, and forces Wall Street banks like
Goldman Sachs and Citigroup to increase risk rather than reduce it. The result
is one of those deals where one wrong decision early on blossoms into a lush
nightmare of unintended consequences. We thought we were just letting a friend
crash at the house for a few days; we ended up with a family of hillbillies who
moved in forever, sleeping nine to a bed and building a meth lab on the front
lawn.
But the most appalling part is the lying. The public has been lied to so
shamelessly and so often in the course of the past four years that the failure
to tell the truth to the general populace has become a kind of baked-in,
official feature of the financial rescue. Money wasn't the only thing the
government gave Wall Street – it also conferred the right to hide the truth
from the rest of us. And it was all done in the name of helping regular people
and creating jobs. "It is," says former bailout Inspector General Neil
Barofsky, "the ultimate bait-and-switch."
The bailout deceptions came early, late and in between. There were lies told in
the first moments of their inception, and others still being told four years
later. The lies, in fact, were the most important mechanisms of the bailout.
The only reason investors haven't run screaming from an obviously corrupt
financial marketplace is because the government has gone to such extraordinary
lengths to sell the narrative that the problems of 2008 have been fixed.
Investors may not actually believe the lie, but they are impressed by how
totally committed the government has been, from the very beginning, to selling
it.
* * *
Today what few remember about the bailouts is that we had to approve them. It
wasn't like Paulson could just go out and unilaterally commit trillions of
public dollars to rescue Goldman Sachs and Citigroup from their own stupidity
and bad management (although the government ended up doing just that, later
on). Much as with a declaration of war, a similarly extreme and expensive
commitment of public resources, Paulson needed at least a film of congressional
approval. And much like the Iraq War resolution, which was only secured after
George W. Bush ludicrously warned that Saddam was planning to send drones to
spray poison over New York City, the bailouts were pushed through Congress with
a series of threats and promises that ranged from the merely ridiculous to the
outright deceptive. At one meeting to discuss the original bailout bill – at 11
a.m. on September 18th, 2008 – Paulson actually told members of Congress that
$5.5 trillion in wealth would disappear by 2 p.m. that day unless the
government took immediate action, and that the world economy would collapse
"within 24 hours."
To be fair, Paulson started out by trying to tell the truth in his own
ham-headed, narcissistic way. His first TARP proposal was a three-page
absurdity pulled straight from a Beavis and Butt-Head episode – it was
basically Paulson saying, "Can you, like, give me some money?" Sen. Sherrod
Brown, a Democrat from Ohio, remembers a call with Paulson and Federal Reserve
chairman Ben Bernanke. "We need $700 billion," they told Brown, "and we need it
in three days." What's more, the plan stipulated, Paulson could spend the money
however he pleased, without review "by any court of law or any administrative
agency."
The White House and leaders of both parties actually agreed to this
preposterous document, but it died in the House when 95 Democrats lined up
against it. For an all-too-rare moment during the Bush administration,
something resembling sanity prevailed in Washington.
So Paulson came up with a more convincing lie. On paper, the Emergency Economic
Stabilization Act of 2008 was simple: Treasury would buy $700 billion of
troubled mortgages from the banks and then modify them to help struggling
homeowners. Section 109 of the act, in fact, specifically empowered the
Treasury secretary to "facilitate loan modifications to prevent avoidable
foreclosures." With that promise on the table, wary Democrats finally approved
the bailout on October 3rd, 2008. "That provision," says Barofsky, "is what got
the bill passed."
But within days of passage, the Fed and the Treasury unilaterally decided to
abandon the planned purchase of toxic assets in favor of direct injections of
billions in cash into companies like Goldman and Citigroup. Overnight, Section
109 was unceremoniously ditched, and what was pitched as a bailout of both
banks and homeowners instantly became a bank-only operation – marking the first
in a long series of moves in which bailout officials either casually ignored or
openly defied their own promises with regard to TARP.
Congress was furious. "We've been lied to," fumed Rep. David Scott, a Democrat
from Georgia. Rep. Elijah Cummings, a Democrat from Maryland, raged at
transparently douchey TARP administrator (and Goldman banker) Neel Kashkari,
calling him a "chump" for the banks. And the anger was bipartisan: Republican
senators David Vitter of Louisiana and James Inhofe of Oklahoma were so mad
about the unilateral changes and lack of oversight that they sponsored a bill
in January 2009 to cancel the remaining $350 billion of TARP.
So what did bailout officials do? They put together a proposal full of even
bigger deceptions to get it past Congress a second time. That process began
almost exactly four years ago – on January 12th and 15th, 2009 – when Larry
Summers, the senior economic adviser to President-elect Barack Obama, sent a
pair of letters to Congress. The pudgy, stubbyfingered former World Bank
economist, who had been forced out as Harvard president for suggesting that
women lack a natural aptitude for math and science, begged legislators to
reject Vitter's bill and leave TARP alone.
In the letters, Summers laid out a five-point plan in which the bailout was
pitched as a kind of giant populist program to help ordinary Americans. Obama,
Summers vowed, would use the money to stimulate bank lending to put people back
to work. He even went so far as to say that banks would be denied funding
unless they agreed to "increase lending above baseline levels." He promised
that "tough and transparent conditions" would be imposed on bailout recipients,
who would not be allowed to use bailout funds toward "enriching shareholders or
executives." As in the original TARP bill, he pledged that bailout money would
be used to aid homeowners in foreclosure. And lastly, he promised that the
bailouts would be temporary – with a "plan for exit of government intervention"
implemented "as quickly as possible."
The reassurances worked. Once again, TARP survived in Congress – and once
again, the bailouts were greenlighted with the aid of Democrats who fell for
the old "it'll help ordinary people" sales pitch. "I feel like they've given me
a lot of commitment on the housing front," explained Sen. Mark Begich, a
Democrat from Alaska.
But in the end, almost nothing Summers promised actually materialized. A small
slice of TARP was earmarked for foreclosure relief, but the resultant aid
programs for homeowners turned out to be riddled with problems, for the
perfectly logical reason that none of the bailout's architects gave a shit
about them. They were drawn up practically overnight and rushed out the door
for purely political reasons – to trick Congress into handing over tons of
instant cash for Wall Street, with no strings attached. "Without those
assurances, the level of opposition would have remained the same," says Rep.
Raúl Grijalva, a leading progressive who voted against TARP. The promise of
housing aid, in particular, turned out to be a "paper tiger."
HAMP, the signature program to aid poor homeowners, was announced by President
Obama on February 18th, 2009. The move inspired CNBC commentator Rick Santelli
to go berserk the next day – the infamous viral rant that essentially birthed
the Tea Party. Reacting to the news that Obama was planning to use bailout
funds to help poor and (presumably) minority homeowners facing foreclosure,
Santelli fumed that the president wanted to "subsidize the losers' mortgages"
when he should "reward people that could carry the water, instead of drink the
water." The tirade against "water drinkers" led to the sort of spontaneous
nationwide protests one might have expected months before, when we essentially
gave a taxpayer-funded blank check to Gamblers Anonymous addicts, the
millionaire and billionaire class.
In fact, the amount of money that eventually got spent on homeowner aid now
stands as a kind of grotesque joke compared to the Himalayan mountain range of
cash that got moved onto the balance sheets of the big banks more or less
instantly in the first months of the bailouts. At the start, $50 billion of
TARP funds were earmarked for HAMP. In 2010, the size of the program was cut to
$30 billion. As of November of last year, a mere $4 billion total has been
spent for loan modifications and other homeowner aid.
In short, the bailout program designed to help those lazy, job-averse,
"water-drinking" minority homeowners – the one that gave birth to the Tea Party
– turns out to have comprised about one percent of total TARP spending. "It's
amazing," says Paul Kiel, who monitors bailout spending for ProPublica. "It's
probably one of the biggest failures of the Obama administration."
The failure of HAMP underscores another damning truth – that the Bush-Obama
bailout was as purely bipartisan a program as we've had. Imagine Obama
retaining Don Rumsfeld as defense secretary and still digging for WMDs in the
Iraqi desert four years after his election: That's what it was like when he
left Tim Geithner, one of the chief architects of Bush's bailout, in command of
the no-stringsattached rescue four years after Bush left office.
Yet Obama's HAMP program, as lame as it turned out to be, still stands out as
one of the few pre-bailout promises that was even partially fulfilled.
Virtually every other promise Summers made in his letters turned out to be
total bullshit. And that includes maybe the most important promise of all – the
pledge to use the bailout money to put people back to work.
* * *
Once TARP passed, the government quickly began loaning out billions to some 500
banks that it deemed "healthy" and "viable." A few were cash loans, repayable
at five percent within the first five years; other deals came due when a bank
stock hit a predetermined price. As long as banks held TARP money, they were
barred from paying out big cash bonuses to top executives.
But even before Summers promised Congress that banks would be required to
increase lending as a condition for receiving bailout funds, officials had
already decided not to even ask the banks to use the money to increase lending.
In fact, they'd decided not to even ask banks to monitor what they did with the
bailout money. Barofsky, the TARP inspector, asked Treasury to include a
requirement forcing recipients to explain what they did with the taxpayer
money. He was stunned when TARP administrator Kashkari rejected his proposal,
telling him lenders would walk away from the program if they had to deal with
too many conditions. "The banks won't participate," Kashkari said.
Barofsky, a former high-level drug prosecutor who was one of the only bailout
officials who didn't come from Wall Street, didn't buy that cash-desperate
banks would somehow turn down billions in aid. "It was like they were trembling
with fear that the banks wouldn't take the money," he says. "I never found that
terribly convincing."
In the end, there was no lending requirement attached to any aspect of the
bailout, and there never would be. Banks used their hundreds of billions for
almost every purpose under the sun – everything, that is, but lending to the
homeowners and small businesses and cities they had destroyed. And one of the
most disgusting uses they found for all their billions in free government money
was to help them earn even more free government money.
To guarantee their soundness, all major banks are required to keep a certain
amount of reserve cash at the Fed. In years past, that money didn't earn
interest, for the logical reason that banks shouldn't get paid to stay solvent.
But in 2006 – arguing that banks were losing profits on cash parked at the Fed
– regulators agreed to make small interest payments on the money. The move
wasn't set to go into effect until 2011, but when the crash hit, a section was
written into TARP that launched the interest payments in October 2008.
In theory, there should never be much money in such reserve accounts, because
any halfway-competent bank could make far more money lending the cash out than
parking it at the Fed, where it earns a measly quarter of a percent. In August
2008, before the bailout began, there were just $2 billion in excess reserves
at the Fed. But by that October, the number had ballooned to $267 billion – and
by January 2009, it had grown to $843 billion. That means there was suddenly
more money sitting uselessly in Fed accounts than Congress had approved for
either the TARP bailout or the much-loathed Obama stimulus. Instead of lending
their new cash to struggling homeowners and small businesses, as Summers had
promised, the banks were literally sitting on it.
Today, excess reserves at the Fed total an astonishing $1.4 trillion."The money
is just doing nothing," says Nomi Prins, a former Goldman executive who has
spent years monitoring the distribution of bailout money.
Nothing, that is, except earning a few crumbs of risk-free interest for the
banks. Prins estimates that the annual haul in interest on Fed reserves is
about $3.6 billion – a relatively tiny subsidy in the scheme of things, but one
that, ironically, just about matches the total amount of bailout money spent on
aid to homeowners. Put another way, banks are getting paid about as much every
year for not lending money as 1 million Americans received for mortgage
modifications and other housing aid in the whole of the past four years.
Moreover, instead of using the bailout money as promised – to jump-start the
economy – Wall Street used the funds to make the economy more dangerous. From
the start, taxpayer money was used to subsidize a string of finance mergers,
from the Chase-Bear Stearns deal to the Wells Fargo-Wachovia merger to Bank of
America's acquisition of Merrill Lynch. Aided by bailout funds, being Too Big
to Fail was suddenly Too Good to Pass Up.
Other banks found more creative uses for bailout money. In October 2010, Obama
signed a new bailout bill creating a program called the Small Business Lending
Fund, in which firms with fewer than $10 billion in assets could apply to share
in a pool of $4 billion in public money. As it turned out, however, about a
third of the 332 companies that took part in the program used at least some of
the money to repay their original TARP loans. Small banks that still owed TARP
money essentially took out cheaper loans from the government to repay their
more expensive TARP loans – a move that conveniently exempted them from the
limits on executive bonuses mandated by the bailout. All told, studies show,
$2.2 billion of the $4 billion ended up being spent not on small-business
loans, but on TARP repayment. "It's a bit of a shell game," admitted John
Schmidt, chief operating officer of Iowa-based Heartland Financial, which took
$81.7 million from the SBLF and used every penny of it to repay TARP.
Using small-business funds to pay down their own debts, parking huge amounts of
cash at the Fed in the midst of a stalled economy – it's all just evidence of
what most Americans know instinctively: that the bailouts didn't result in much
new business lending. If anything, the bailouts actually hindered lending, as
banks became more like house pets that grow fat and lazy on two guaranteed
meals a day than wild animals that have to go out into the jungle and hunt for
opportunities in order to eat. The Fed's own analysis bears this out: In the
first three months of the bailout, as taxpayer billions poured in, TARP
recipients slowed down lending at a rate more than double that of banks that
didn't receive TARP funds. The biggest drop in lending – 3.1 percent – came
from the biggest bailout recipient, Citigroup. A year later, the inspector
general for the bailout found that lending among the nine biggest TARP
recipients "did not, in fact, increase." The bailout didn't flood the banking
system with billions in loans for small businesses, as promised. It just
flooded the banking system with billions for the banks.
* * *
The main reason banks didn't lend out bailout funds is actually pretty simple:
Many of them needed the money just to survive. Which leads to another of the
bailout's broken promises – that taxpayer money would only be handed out to
"viable" banks.
Soon after TARP passed, Paulson and other officials announced the guidelines
for their unilaterally changed bailout plan. Congress had approved $700 billion
to buy up toxic mortgages, but $250 billion of the money was now shifted to
direct capital injections for banks. (Although Paulson claimed at the time that
handing money directly to the banks was a faster way to restore market
confidence than lending it to homeowners, he later confessed that he had been
contemplating the direct-cash-injection plan even before the vote.) This new
let's-just-fork-over-cash portion of the bailout was called the Capital
Purchase Program. Under the CPP, nine of America's largest banks – including
Citi, Wells Fargo, Goldman, Morgan Stanley, Bank of America, State Street and
Bank of New York Mellon – received $125 billion, or half of the funds being
doled out. Since those nine firms accounted for 75 percent of all assets held
in America's banks – $11 trillion – it made sense they would get the lion's
share of the money. But in announcing the CPP, Paulson and Co. promised that
they would only be stuffing cash into "healthy and viable" banks. This, at the
core, was the entire justification for the bailout: That the huge infusion of
taxpayer cash would not be used to rescue individual banks, but to kick-start
the economy as a whole by helping healthy banks start lending again.
This announcement marked the beginning of the legend that certain Wall Street
banks only took the bailout money because they were forced to – they didn't
need all those billions, you understand, they just did it for the good of the
country. "We did not, at that point, need TARP," Chase chief Jamie Dimon later
claimed, insisting that he only took the money "because we were asked to by the
secretary of Treasury." Goldman chief Lloyd Blankfein similarly claimed that
his bank never needed the money, and that he wouldn't have taken it if he'd
known it was "this pregnant with potential for backlash." A joint statement by
Paulson, Bernanke and FDIC chief Sheila Bair praised the nine leading banks as
"healthy institutions" that were taking the cash only to "enhance the overall
performance of the U.S. economy."
But right after the bailouts began, soon-to-be Treasury Secretary Tim Geithner
admitted to Barofsky, the inspector general, that he and his cohorts had picked
the first nine bailout recipients because of their size, without bothering to
assess their health and viability. Paulson, meanwhile, later admitted that he
had serious concerns about at least one of the nine firms he had publicly
pronounced healthy. And in November 2009, Bernanke gave a closed-door interview
to the Financial Crisis Inquiry Commission, the body charged with investigating
the causes of the economic meltdown, in which he admitted that 12 of the 13
most prominent financial companies in America were on the brink of failure
during the time of the initial bailouts.
On the inside, at least, almost everyone connected with the bailout knew that
the top banks were in deep trouble. "It became obvious pretty much as soon as I
took the job that these companies weren't really healthy and viable," says
Barofsky, who stepped down as TARP inspector in 2011.
This early episode would prove to be a crucial moment in the history of the
bailout. It set the precedent of the government allowing unhealthy banks to not
only call themselves healthy, but to get the government to endorse their
claims. Projecting an image of soundness was, to the government, more important
than disclosing the truth. Officials like Geithner and Paulson seemed to
genuinely believe that the market's fears about corruption in the banking
system was a bigger problem than the corruption itself. Time and again, they
justified TARP as a move needed to "bolster confidence" in the system – and a
key to that effort was keeping the banks' insolvency a secret. In doing so,
they created a bizarre new two-tiered financial market, divided between those
who knew the truth about how bad things were and those who did not.
A month or so after the bailout team called the top nine banks "healthy," it
became clear that the biggest recipient, Citigroup, had actually flat-lined on
the ER table. Only weeks after Paulson and Co. gave the firm $25 billion in
TARP funds, Citi – which was in the midst of posting a quarterly loss of more
than $17 billion – came back begging for more. In November 2008, Citi received
another $20 billion in cash and more than $300 billion in guarantees.
What's most amazing about this isn't that Citi got so much money, but that
government-endorsed, fraudulent health ratings magically became part of its
bailout. The chief financial regulators – the Fed, the FDIC and the Office of
the Comptroller of the Currency – use a ratings system called CAMELS to measure
the fitness of institutions. CAMELS stands for Capital, Assets, Management,
Earnings, Liquidity and Sensitivity to risk, and it rates firms from one to
five, with one being the best and five the crappiest. In the heat of the
crisis, just as Citi was receiving the second of what would turn out to be
three massive federal bailouts, the bank inexplicably enjoyed a three rating –
the financial equivalent of a passing grade. In her book, Bull by the Horns,
then-FDIC chief Sheila Bair recounts expressing astonishment to OCC head John
Dugan as to why "Citi rated as a CAMELS 3 when it was on the brink of failure."
Dugan essentially answered that "since the government planned on bailing Citi
out, the OCC did not plan to change its supervisory rating." Similarly, the
FDIC ended up granting a "systemic risk exception" to Citi, allowing it access
to FDIC-bailout help even though the agency knew the bank was on the verge of
collapse.
The sweeping impact of these crucial decisions has never been fully
appreciated. In the years preceding the bailouts, banks like Citi had been
perpetuating a kind of fraud upon the public by pretending to be far healthier
than they really were. In some cases, the fraud was outright, as in the case of
Lehman Brothers, which was using an arcane accounting trick to book tens of
billions of loans as revenues each quarter, making it look like it had more
cash than it really did. In other cases, the fraud was more indirect, as in the
case of Citi, which in 2007 paid out the third-highest dividend in America –
$10.7 billion – despite the fact that it had lost $9.8 billion in the fourth
quarter of that year alone. The whole financial sector, in fact, had taken on
Ponzi-like characteristics, as many banks were hugely dependent on a continual
influx of new money from things like sales of subprime mortgages to cover up
massive future liabilities from toxic investments that, sooner or later, were
going to come to the surface.
Now, instead of using the bailouts as a clear-the-air moment, the government
decided to double down on such fraud, awarding healthy ratings to these failing
banks and even twisting its numerical audits and assessments to fit the
cooked-up narrative. A major component of the original TARP bailout was a
promise to ensure "full and accurate accounting" by conducting regular "stress
tests" of the bailout recipients. When Geithner announced his stress-test plan
in February 2009, a reporter instantly blasted him with an obvious and damning
question: Doesn't the fact that you have to conduct these tests prove that bank
regulators, who should already know plenty about banks' solvency, actually have
no idea who is solvent and who isn't?
The government did wind up conducting regular stress tests of all the major
bailout recipients, but the methodology proved to be such an obvious joke that
it was even lampooned on Saturday Night Live. (In the skit, Geithner abandons a
planned numerical score system because it would unfairly penalize bankers who
were "not good at banking.") In 2009, just after the first round of tests was
released, it came out that the Fed had allowed banks to literally rejigger the
numbers to make their bottom lines look better. When the Fed found Bank of
America had a $50 billion capital hole, for instance, the bank persuaded
examiners to cut that number by more than $15 billion because of what it said
were "errors made by examiners in the analysis." Citigroup got its number
slashed from $35 billion to $5.5 billion when the bank pleaded with the Fed to
give it credit for "pending transactions."
Such meaningless parodies of oversight continue to this day. Earlier this year,
Regions Financial Corp. – a company that had failed to pay back $3.5 billion in
TARP loans – passed its stress test. A subsequent analysis by Bloomberg View
found that Regions was effectively $525 million in the red. Nonetheless, the
bank's CEO proclaimed that the stress test "demonstrates the strength of our
company." Shortly after the test was concluded, the bank issued $900 million in
stock and said it planned on using the cash to pay back some of the money it
had borrowed under TARP.
This episode underscores a key feature of the bailout: the government's
decision to use lies as a form of monetary aid. State hands over taxpayer money
to functionally insolvent bank; state gives regulatory thumbs up to said bank;
bank uses that thumbs up to sell stock; bank pays cash back to state. What's
critical here is not that investors actually buy the Fed's bullshit accounting
– all they have to do is believe the government will backstop Regions either
way, healthy or not. "Clearly, the Fed wanted it to attract new investors,"
observed Bloomberg, "and those who put fresh capital into Regions this week
believe the government won't let it die."
Through behavior like this, the government has turned the entire financial
system into a kind of vast confidence game – a Ponzi-like scam in which the
value of just about everything in the system is inflated because of the
widespread belief that the government will step in to prevent losses. Clearly,
a government that's already in debt over its eyes for the next million years
does not have enough capital on hand to rescue every Citigroup or Regions Bank
in the land should they all go bust tomorrow. But the market is behaving as if
Daddy will step in to once again pay the rent the next time any or all of these
kids sets the couch on fire and skips out on his security deposit. Just like an
actual Ponzi scheme, it works only as long as they don't have to make good on
all the promises they've made. They're building an economy based not on real
accounting and real numbers, but on belief. And while the signs of growth and
recovery in this new faith-based economy may be fake, one aspect of the bailout
has been consistently concrete: the broken promises over executive pay.
* * *
That executive bonuses on Wall Street were a political hot potato for the
bailout's architects was obvious from the start. That's why Summers, in saving
the bailout from the ire of Congress, vowed to "limit executive compensation"
and devote public money to prevent another financial crisis. And it's true,
TARP did bar recipients from a whole range of exorbitant pay practices, which
is one reason the biggest banks, like Goldman Sachs, worked so quickly to repay
their TARP loans.
But there were all sorts of ways around the restrictions. Banks could apply to
the Fed and other regulators for waivers, which were often approved (one senior
FDIC official tells me he recommended denying "golden parachute" payments to
Citigroup officials, only to see them approved by superiors). They could get
bailouts through programs other than TARP that did not place limits on bonuses.
Or they could simply pay bonuses not prohibited under TARP. In one of the worst
episodes, the notorious lenders Fannie Mae and Freddie Mac paid out more than
$200 million in bonuses between 2008 and 2010, even though the firms (a) lost
more than $100 billion in 2008 alone, and (b) required nearly $400 billion in
federal assistance during the bailout period.
Even worse was the incredible episode in which bailout recipient AIG paid more
than $1 million each to 73 employees of AIG Financial Products, the tiny unit
widely blamed for having destroyed the insurance giant (and perhaps even
triggered the whole crisis) with its reckless issuance of nearly half a
trillion dollars in toxic credit-default swaps. The "retention bonuses," paid
after the bailout, went to 11 employees who no longer worked for AIG.
But all of these "exceptions" to the bonus restrictions are far less
infuriating, it turns out, than the rule itself. TARP did indeed bar big
cash-bonus payouts by firms that still owed money to the government. But those
firms were allowed to issue extra compensation to executives in the form of
long-term restricted stock. An independent research firm asked to analyze the
stock options for The New York Times found that the top five executives at each
of the 18 biggest bailout recipients received a total of $142 million in stocks
and options. That's plenty of money all by itself – but thanks in large part to
the government's overt display of support for those firms, the value of those
options has soared to $457 million, an average of $4 million per executive.
In other words, we didn't just allow banks theoretically barred from paying
bonuses to pay bonuses. We actually allowed them to pay bigger bonuses than
they otherwise could have. Instead of forcing the firms to reward top
executives in cash, we allowed them to pay in depressed stock, the value of
which we then inflated due to the government's implicit endorsement of those
firms.
All of which leads us to the last and most important deception of the bailouts.
* * *
The bailout ended up being much bigger than anyone expected, expanded far
beyond TARP to include more obscure (and in some cases far larger) programs
with names like TALF, TAF, PPIP and TLGP. What's more, some parts of the
bailout were designed to extend far into the future. Companies like AIG, GM and
Citigroup, for instance, were given tens of billions of deferred tax assets –
allowing them to carry losses from 2008 forward to offset future profits and
keep future tax bills down. Official estimates of the bailout's costs do not
include such ongoing giveaways. "This is stuff that's never going to appear on
any report," says Barofsky.
Citigroup, all by itself, boasts more than $50 billion in deferred tax credits
– which is how the firm managed to pay less in taxes in 2011 (it actually
received a $144 million credit) than it paid in compensation that year to its
since-ousted dingbat CEO, Vikram Pandit (who pocketed $14.9 million). The
bailout, in short, enabled the very banks and financial institutions that
cratered the global economy to write off the losses from their toxic deals for
years to come – further depriving the government of much-needed tax revenues it
could have used to help homeowners and small businesses who were screwed over
by the banks in the first place.
Even worse, the $700 billion in TARP loans ended up being dwarfed by more than
$7.7 trillion in secret emergency lending that the Fed awarded to Wall Street –
loans that were only disclosed to the public after Congress forced an
extraordinary one-time audit of the Federal Reserve. The extent of this "secret
bailout" didn't come out until November 2011, when Bloomberg Markets, which
went to court to win the right to publish the data, detailed how the country's
biggest firms secretly received trillions in near-free money throughout the
crisis.
Goldman Sachs, which had made such a big show of being reluctant about
accepting $10 billion in TARP money, was quick to cash in on the secret loans
being offered by the Fed. By the end of 2008, Goldman had snarfed up $34
billion in federal loans – and it was paying an interest rate of as low as just
0.01 percent for the huge cash infusion. Yet that funding was never disclosed
to shareholders or taxpayers, a fact Goldman confirms. "We did not disclose the
amount of our participation in the two programs you identify," says Goldman
spokesman Michael Duvally.
Goldman CEO Blankfein later dismissed the importance of the loans, telling the
Financial Crisis Inquiry Commission that the bank wasn't "relying on those
mechanisms." But in his book, Bailout, Barofsky says that Paulson told him that
he believed Morgan Stanley was "just days" from collapse before government
intervention, while Bernanke later admitted that Goldman would have been the
next to fall.
Meanwhile, at the same moment that leading banks were taking trillions in
secret loans from the Fed, top officials at those firms were buying up stock in
their companies, privy to insider info that was not available to the public at
large. Stephen Friedman, a Goldman director who was also chairman of the New
York Fed, bought more than $4 million of Goldman stock over a five-week period
in December 2008 and January 2009 – years before the extent of the firm's
lifeline from the Fed was made public. Citigroup CEO Vikram Pandit bought
nearly $7 million in Citi stock in November 2008, just as his firm was secretly
taking out $99.5 billion in Fed loans. Jamie Dimon bought more than $11 million
in Chase stock in early 2009, at a time when his firm was receiving as much as
$60 billion in secret Fed loans. When asked by Rolling Stone, Chase could not
point to any disclosure of the bank's borrowing from the Fed until more than a
year later, when Dimon wrote about it in a letter to shareholders in March 2010.
The stock purchases by America's top bankers raise serious questions of insider
trading. Two former high-ranking financial regulators tell Rolling Stone that
the secret loans were likely subject to a 1989 guideline, issued by the
Securities and Exchange Commission in the heat of the savings and loan crisis,
which said that financial institutions should disclose the "nature, amounts and
effects" of any government aid. At the end of 2011, in fact, the SEC sent
letters to Citigroup, Chase, Goldman Sachs, Bank of America and Wells Fargo
asking them why they hadn't fully disclosed their secret borrowing. All five
megabanks essentially replied, to varying degrees of absurdity, that their
massive borrowing from the Fed was not "material," or that the piecemeal
disclosure they had engaged in was adequate. Never mind that the law says
investors have to be informed right away if CEOs like Dimon and Pandit decide
to give themselves a $10,000 raise. According to the banks, it's none of your
business if those same CEOs are making use of a secret $50 billion charge card
from the Fed.
The implications here go far beyond the question of whether Dimon and Co.
committed insider trading by buying and selling stock while they had access to
material nonpublic information about the bailouts. The broader and more
pressing concern is the clear implication that by failing to act, federal
regulators have tacitly approved the nondisclosure. Instead of trusting the
markets to do the right thing when provided with accurate information, the
government has instead channeled Jack Nicholson – and decided that the public
just can't handle the truth.
All of this – the willingness to call dying banks healthy, the sham stress
tests, the failure to enforce bonus rules, the seeming indifference to public
disclosure, not to mention the shocking lack of criminal investigations into
fraud committed by bailout recipients before the crash – comprised the largest
and most valuable bailout of all. Brick by brick, statement by reassuring
statement, bailout officials have spent years building the government's great
Implicit Guarantee to the biggest companies on Wall Street: We will be there
for you, always, no matter how much you screw up. We will lie for you and let
you get away with just about anything. We will make this ongoing bailout a
pervasive and permanent part of the financial system. And most important of
all, we will publicly commit to this policy, being so obvious about it that the
markets will be able to put an exact price tag on the value of our preferential
treatment.
The first independent study that attempted to put a numerical value on the
Implicit Guarantee popped up about a year after the crash, in September 2009,
when Dean Baker and Travis McArthur of the Center for Economic and Policy
Research published a paper called "The Value of the 'Too Big to Fail' Big Bank
Subsidy." Baker and McArthur found that prior to the last quarter of 2007, just
before the start of the crisis, financial firms with $100 billion or more in
assets were paying on average about 0.29 percent less to borrow money than
smaller firms.
By the second quarter of 2009, however, once the bailouts were in full swing,
that spread had widened to 0.78 percent. The conclusion was simple: Lenders
were about a half a point more willing to lend to a bank with implied
government backing – even a proven-stupid bank – than they were to lend to
companies who "must borrow based on their own credit worthiness." The
economists estimated that the lending gap amounted to an annual subsidy of $34
billion a year to the nation's 18 biggest banks.
Today the borrowing advantage of a big bank remains almost exactly what it was
three years ago – about 50 basis points, or half a percent. "These megabanks
still receive subsidies in the sense that they can borrow on the capital
markets at a discount rate of 50 or 70 points because of the implicit view that
these banks are Too Big to Fail," says Sen. Brown.
Why does the market believe that? Because the officials who administered the
bailouts made that point explicitly, over and over again. When Geithner
announced the implementation of the stress tests in 2009, for instance, he
declared that banks who didn't have enough money to pass the test could get it
from the government. "We're going to help this process by providing a new
program of capital support for those institutions that need it," Geithner said.
The message, says Barofsky, was clear: "If the banks cannot raise capital, we
will do it for them." It was an Implicit Guarantee that the banks would not be
allowed to fail – a point that Geithner and other officials repeatedly stressed
over the years. "The markets took all those little comments by Geithner as a
clue that the government is looking out for them," says Baker. That
psychological signaling, he concludes, is responsible for the crucial
half-point borrowing spread.
The inherent advantage of bigger banks – the permanent, ongoing bailout they
are still receiving from the government – has led to a host of gruesome
consequences. All the big banks have paid back their TARP loans, while more
than 300 smaller firms are still struggling to repay their bailout debts. Even
worse, the big banks, instead of breaking down into manageable parts and
becoming more efficient, have grown even bigger and more unmanageable, making
the economy far more concentrated and dangerous than it was before. America's
six largest banks – Bank of America, JP Morgan Chase, Citigroup, Wells Fargo,
Goldman Sachs and Morgan Stanley – now have a combined 14,420 subsidiaries,
making them so big as to be effectively beyond regulation. A recent study by
the Kansas City Fed found that it would take 70,000 examiners to inspect such
trillion-dollar banks with the same level of attention normally given to a
community bank. "The complexity is so overwhelming that no regulator can follow
it well enough to regulate the way we need to," says Sen. Brown, who is
drafting a bill to break up the megabanks.
Worst of all, the Implicit Guarantee has led to a dangerous shift in banking
behavior. With an apparently endless stream of free or almost-free money
available to banks – coupled with a well-founded feeling among bankers that the
government will back them up if anything goes wrong – banks have made a
dramatic move into riskier and more speculative investments, including
everything from high-risk corporate bonds to mortgagebacked securities to
payday loans, the sleaziest and most disreputable end of the financial system.
In 2011, banks increased their investments in junk-rated companies by 74
percent, and began systematically easing their lending standards in search of
more high-yield customers to lend to.
This is a virtual repeat of the financial crisis, in which a wave of greed
caused bankers to recklessly chase yield everywhere, to the point where
lowering lending standards became the norm. Now the government, with its
Implicit Guarantee, is causing exactly the same behavior – meaning the bailouts
have brought us right back to where we started. "Government intervention," says
Klaus Schaeck, an expert on bailouts who has served as a World Bank consultant,
"has definitely resulted in increased risk."
And while the economy still mostly sucks overall, there's never been a better
time to be a Too Big to Fail bank. Wells Fargo reported a third-quarter profit
of nearly $5 billion last year, while JP Morgan Chase pocketed $5.3 billion –
roughly double what both banks earned in the third quarter of 2006, at the
height of the mortgage bubble. As the driver of their success, both banks cite
strong performance in – you guessed it – the mortgage market.
So what exactly did the bailout accomplish? It built a banking system that
discriminates against community banks, makes Too Big to Fail banks even Too
Bigger to Failier, increases risk, discourages sound business lending and
punishes savings by making it even easier and more profitable to chase
high-yield investments than to compete for small depositors. The bailout has
also made lying on behalf of our biggest and most corrupt banks the official
policy of the United States government. And if any one of those banks fails, it
will cause another financial crisis, meaning we're essentially wedded to that
policy for the rest of eternity – or at least until the markets call our bluff,
which could happen any minute now.
Other than that, the bailout was a smashing success.
This article is from the January 17th, 2013 issue of Rolling Stone.
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