Nel's New Day

September 12, 2013

‘Too Big to Fail’ Will Bring Us Down

This week sees an important anniversary that destroyed millions of people. Some of you may be thinking about the 3,000 people who died when two planes struck the World Trade towers. But the financial disintegration had greater effects on a hugely devastating range of people than what the four airplanes caused on 9/11. In one weekend, Bear Stearns sold to JPMorgan Chase, Washington Mutual and Wachovia and Merrill Lynch were sold, and mortgage giants Fannie Mae and Freddie Mac went into conservatorship. Lehman Brothers was allowed to go bankrupt on September 13, 2007, five years ago on Saturday.

Five years later there is 7.3 percent unemployment, the lowest labor force participation rate since 1978, 49 million people on food stamps, and one in six mortgage holders underwater because they owe more on their houses than they’re worth. The government spent trillions to bail out Wall Street, but ordinary Americans received only token support. And the people responsible for this disaster emerged largely unharmed. Yet nothing has changed; nothing has improved in the financial district.

A group of self-styled innovators caused this crisis when they believed their financial instruments would yield only big returns and never any losses. Their mathematical analysts, known as “quants,” developed a system in which thousands of mortgages of any quality were packaged into a bond and then sold throughout the world. In the structure of the bond (called a collateralized debt obligation, or CDO) attributed losses initially to junior investors.

Quants said that complete safety came from spreading risk across thousands of mortgages. Banks even thought that the riskier lower tranches of the CDO would be completely safe by batching them up and creating new “CDO-squared” products from them. Then credit rating agencies tasked with quality control swallowed the banks’ lies hook, line, and sinker because the agencies were paid to believe these lies. Their income came from banks who issued the financial products, giving them incentives to stamp the product with a triple-A rating.

Incentives also went to mortgage originators who followed Wall Street’s demand for more loans and handed them out to anyone with a pulse. Investment banks wanted to sell loans because they got higher returns than the low interest rates on government bonds. Banks, hedge funds, and investors borrowed more and more to finance these new products and even made bets on top of bets, buying anything that could yield a higher return. This “leverage” got out of control before the crisis; banks were borrowing up to $40 for every dollar they held in assets.

Thus the enormous risk bubble was based almost completely on fraud. Originators faked appraisals to make bigger loans and fudged borrowers’ income statements. Banks sold bonds backed by these mortgages to investors without revealing the loans’ shoddy quality of the loans. They knew the shoddy quality: they hired third parties to examine mortgages. But any negative information was used to get discounts from the originators rather than warning investors. As investments went bad, banks used fraudulent accounting by taking large segments of their toxic assets off the books, pretending risky assets were safe, and hiding the truth from shareholders and regulators. Far beyond unethical, these practices are illegal; petty thieves are indicted and jailed for the same conduct every day of the week.

The quants used the excuse that mortgage markets are regional and cannot fall at the same time to promise that this house of cards would stay standing. But bubbles pop. Extra layers of credit derivatives changed a more manageable crisis like the house crash of the 1980s into a total collapse. People made bets with others, “shadow banking,” invisible to regulators, and then more people bought insurance on the bets. Insurers like AIG had no money in reserve. When Lehman went bankrupt, nobody wanted to lend to anyone else because of the risk of default. Banks relied on short-term lending, and this lending freeze meant that even non-financial companies had no funds to make their payrolls.

The financial industry decided to fund economic growth despite stagnant wages by piling on mountains of debt. But when it all went bad, they didn’t solve the problem by rebalancing the economy through getting money into the hands of workers and preference wages over assets. Instead the money went to the people who caused the problem by inflating their assets to preserve the status quo. The Federal Reserve’s emergency lending and then quantitative easing rescued bank balance sheets. The five biggest U.S. banks are now 30 percent bigger than they were at the height of the crisis, nursed back to health by the government. Banks used the TARP program for foreclosure mitigation as a predatory lending system to trap borrowers, and lending for businesses did not increase.

Most of those criminals walked away with enough money to fund their lavish lifestyles forever. Some of them are still getting munificent bonuses for destroying the people of the United States.

The Dodd-Frank financial reform law and the international Basel III process have made marginal improvements. Banks must maintain a bit more capital to cover their own losses, and  a Consumer Financial Protection Bureau looks out for some victims of predatory behavior. The system’s structure, however, hasn’t changed. Some trouble spots during the crisis, like money market funds, have not been touched. And deregulation, both through lobbyist-led weakening of the laws and regulatory forbearance (where those enforcing the laws simply look the other way), is a proximate cause of the crisis.

When–-not if–-the next crisis hits, Wall Street will be rescued while real people won’t. Banks “too big to fail” receive massive subsidies in borrowing and take outsized risks with borrowed money that threaten an interconnected global financial system. They figure that the government will foot the bill. And conservatives protect the banks by giving them this welfare while attacking people who need food and shelter.

Whistleblowers from Bank of America testified in court that they were told to lie to borrowers and given bonuses to push them into foreclosure. Last week a federal judge dismissed the case. Judge Rya Zobel agreed that borrowers faced a “Kafkaesque bureaucracy” when trying to secure loan modifications but decided that the multiple claims were too different to be combined into a single class-action lawsuit. A class action was the best option for homeowners pursuing damages on Bank of America because none of them has the means to sustain a case on their own, but a 2011 Supreme Court ruling made it nearly impossible to sue large companies as a group.

Huffington Post tracked 63 former Lehman Brothers employees named in a report as known about how Lehman disguised the reality of the bank’s deteriorating finances. Of these, 47 still hold senior positions in the financial services industry, including Michael McGarvey, the senior member of the finance group that pushed the dodgy accounting move, known as Repo 105. Conversely, the thousands of people in the support staff are struggling, some of them unemployed for three years.

At the height of the bubble, Lehman had accumulated a huge inventory of mortgage bonds. As the housing market faltered in 2007, Lehman would temporarily sell as much as $50 billion in assets just before the end of each quarter to keep the assets from appearing in disclosures. After the quarter’s close, the bank would buy them back, paying a bit more than the selling price. In that way, the bank looked less indebted. The independent bankruptcy examiner called it “balance sheet manipulation,” but the U.S. government ended an investigation into Repo 105 without bringing any charges.

Five years later, Wall Street is flooded with cash, paying an average of $122,000 in bonuses per banker—up 9 percent from the year before—while wages for average workers are shrinking. Bankers expect a 20-percent bonus for 2013; the median worker salary is about $5,000 less than in 1999, adjusted for inflation.

Only one of the 63 people is now unemployed after being fired from Lehman. In May 2008, he wrote Lehman’s top management a letter describing Repo 105 as deceitful and dangerous. He also told investigators working for Anton Valukas, a former U.S. attorney leading the review of Lehman’s collapse, about Repo 105. Valukas indicated enough evidence for the government to sue top Lehman officers, but the SEC dropped its Lehman probe last year without bringing any charges.

Five years after Lehman’s collapse, financial reformer Eliot Spitzer lost the election for New York City comptroller. He understands Wall Street scams and could have kept public money out of the hands of financial predators. Economist and former regulator Bill Black noted in an email that “Wall Street was obsessed with defeating Eliot Spitzer in the Democratic primary election for Comptroller.” He pointed out that when Spitzer served as New York’s attorney general, “an economic study found that victims of financial frauds received a substantially greater recovery of their losses when Spitzer’s office was involved in cases compared to securities fraud cases where only the SEC brought an action.”

Treasury Secretary Hank Paulson, who helped bring on the last financial crisis five years ago under George W. Bush, has told a group of bankers and economists in Manhattan to expect the next crisis. This time the Democrats will be blamed.


1 Comment »

  1. And the Democrats should be blamed if they are doing nothing to stop it. Why is Hank Paulson the Secretary Treasurer? Why is anyone who had anything to do with that catastrophe in any position of power? When it comes to the financial structure of America, there’s not a lot of difference between the two parties, not when it comes to protecting the consumers. Obama and his Democrats are letting these thieves and liars keep their bonuses and cushy jobs and letting the banks continue to foreclose on people who did nothing wrong except want a home.

    Shame on all of them.


    Comment by gkparker — September 12, 2013 @ 3:30 PM | Reply

RSS feed for comments on this post. TrackBack URI

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )


Connecting to %s

AGR Daily 60 Second News Bites

Transformational News In 60 Seconds; What Works For Seven Future Generations Without Causing Harm?


Res ipsa loquitur ("The thing itself speaks")

Jennifer Hofmann

Inspiration for soul-divers, seekers, and activists.

Occupy Democrats

Progressive political commentary/book reviews for youth and adults

V e t P o l i t i c s

politics from a liberal veteran's perspective

Margaret and Helen

Best Friends for Sixty Years and Counting...


Official news outlet for the Gay, Lesbian, Bisexual, and Transgender Round Table of ALA

The Extinction Protocol

Geologic and Earthchange News events

Central Oregon Coast NOW

The Central Oregon Coast Chapter of the National Organization for Women (NOW)

Social Justice For All

Working towards global equity and equality

Over the Rainbow Books

A Book List from Gay, Lesbian, Bisexual, and Transgender Round Table of the American Library Association

The Blog

The latest news on and the WordPress community.

%d bloggers like this: