When I was a graduate student in economics, the social cost of capitalism was a big issue in economic theory. Since those decades ago, the social costs of capitalism have exploded, but the issue seems no longer to trouble the economics profession.
Social costs are costs of production that are not born by the producer or included in the price of the product. There are many classic examples: the pollution of air, water, and land from mining, fracking, oil drilling and pipeline spills, chemical fertilizer farming, GMOs, pesticides, radioactivity released from nuclear accidents, and the the pollution of food by antibiotics and artificial hormones.
Some economists believe that these traditional social costs can be dealt with by well defined property rights. Others think that benevolent government will control social costs in the interests of society.
Today there are new social costs brought by globalism. For developed countries, these are unemployment, lost consumer income, tax base, and GDP growth, and rising trade and current account deficits from the offshoring of manufacturing and tradable professional service jobs. The trade and current account deficits can result in a falling exchange value of the currency and rising inflation from import prices. For underdeveloped countries, the costs are the loss of self-sufficiency and the transformation of agriculture into monocultures to feed the needs of international corporations.
Economists are oblivious to this new epidemic of social costs, because they mistakenly think that globalism is free trade and that free trade is always beneficial.
Economists are also unaware of the social costs of deregulation. The ongoing financial crisis which requires massive public subsidies to “banks too big to fail” is a social cost resulting from government accommodating Wall Street pressure to deregulate the financial system by repealing the Glass-Steagall Act, by removing the position limits on speculators, by preventing the CFTC from regulating derivatives, and by turning the Anti-Trust Act into dead-letter law and permitting massive economic concentrations. The social costs of successful corporate lobbying is enormous. But economists who believe that markets are self-regulating imagine that an enormous gain in efficiency has occurred, not massive social costs.
In order to keep the deregulated financial system afloat, the Federal Reserve has monetized trillions of dollars of debt over the last several years. Real interest rates have been driven into negative territory. Retirees are unable to earn any interest income on their savings and have to draw down their capital in order to cover their living expenses.
The liquidity injected into financial markets by the Federal Reserve’s policy of quantitative easing has produced huge bond and stock market bubbles. When they pop, more American wealth will be wiped out and more jobs will be lost.
Consider just one example of the social costs of jobs off-shoring. When US corporations produce abroad the goods and services that they market to Americans, the goods and services that flow into the US arrive as imports. Thus, the trade deficit rises dollar for dollar.
The trade deficit means that the US has imported more than it has earned in foreign currencies by exporting. For most countries this would be a problem, but not for the US. The US dollar is the world reserve currency, which means that it is the means of international payment and that foreign central banks hold US dollars as reserves to secure the values of their own currencies.
With the passage of time, this advantage becomes a disadvantage, because foreigners use the dollars gained from their trade surpluses to buy up American income-producing assets. They buy US Treasury bonds and US corporate bonds, and the interest income leaves the country. They purchase US companies, and the profits, dividends and capital gains leave the country. They lease Chicago’s parking meters and American toll roads, and the revenues flow abroad.
The enormous outflow of income streams creates a large current account deficit for the US, which means that foreigners have even more surplus dollars with which to buy up more US assets. In other words, a chronic trade deficit is a way to redirect a country’s revenues and profits into overseas hands.
The ownership of a country changes from its own citizens to foreigners. According to Reuters, in 1971 foreign companies owned 1.3% of all corporate US assets.
By 2008 foreigners owned 14.2 percent of all US industries, including 21.5% of mining, 25% of manufacturing, 30.2% of wholesale trade, 12% of information industries, 12% of real estate, 15% of finance and insurance, 25% of professional, scientific, and technical services, 11% of entertainment and recreation and 11% of accommodation and food services, according to a report from Economy In Crisis.
Numerous famous American brand names now are companies owned by foreigners. Budweiser belongs to a Dutch company. Alka Seltzer belongs to a German company. Firestone belongs to a Japanese company. The magazines Car and Driver and Woman’s Day are owned by a French company. Gerber baby food and Purina dog food belong to Swiss companies. Hellman’s Mayonnaise and Ben & Jerry’s ice cream belong to UK companies. Many thousands of former US companies have moved into foreign control as a result of the US trade deficit, which is swollen by the off-shored production of US corporations.
The policy of chasing lowest labor cost abroad, that is, of pursuing absolute advantage, the antithesis of comparative advantage which is the basis of free trade, is the redirection of US profits, capital gains, rents, interest, parking meter and toll road fees into foreign hands.
Thus, there is a high social cost from corporate executives pursuing short-term profits in order to maximize their performance bonuses. The profits from off-shored production are not indications of economic efficiency and social welfare. Most likely, the social costs to the US of off-shored production are larger than the profits gained, making jobs off-shoring a net loss to the US economy. There is little doubt that the social costs of GMOs exceed the profits of Monsanto.
But don’t expect mainstream economists to pay any attention. They are still waxing eloquently about the advantages of Globalism’s gift of the New Economy of high unemployment and low wages, financial crisis and dollar erosion.
‘During a period of immense financial market upheaval and Government bailouts of banks and financial insurance companies, Friedman was Chairman of the New York Federal Reserve Board (which implements the Federal Reserve’s Wall Street policies) while simultaneously serving Goldman Sachs (a company impacted by the quasi Governmental policies of the Federal Reserve) as a Board Director. The AIG bailout, an historically large controversial bailout, directly benefitted Goldman Sachs who had one of the largest counterparty claims against AIG. On May 7, 2009 Friedman resigned as Chairman of the Federal Reserve Bank of New York in response to criticism of his December 2008 purchase of $3 million of stock in Goldman Sachs. Friedman, who remains a member of Goldman Sachs’ board, came into violation of Federal Reserve policy when Goldman was converted to a bank holding company in September 2008, thereby placing it under the regulatory authority of the New York Fed. Friedman requested a waiver from this violation when the conversion occurred, which was granted roughly two and a half months later. In his resignation letter, Friedman stated that the Fed did not need the “distraction” caused by his “public service motivated continuation on the Reserve Bank Board…being characterized as improper.”‘ (Wikipedia)
So we should not be surprised that Friedman is presently making exceptionally high compensation as a director of Goldman Sachs (and that is not the only board on which he presently serves):
Goldman Sachs Group Inc., JPMorgan Chase & Co. (JPM) and Morgan Stanley (MS) lagged behind peers in a key measure of capital strength used by U.S. regulators to stress- test their resiliency in a severe recession.
The three firms submitted more-optimistic estimates of their capital strength and ability to avoid losses on trading and lending than Federal Reserve projections released yesterday for the 18 biggest U.S. banks. Of the three, the gap was widest for Goldman Sachs, which predicted that its Tier 1 common ratio may fall as low as 8.6 percent in a sharp economic downturn, compared with the central bank’s 5.8 percent estimate.
The disparities — including a gap of 1.3 percentage points for JPMorgan — raise the risk that some banks may have been too aggressive while seeking Fed approval to distribute capital to investors through dividends and share repurchases. The companies must maintain Tier 1 common ratios of at least 5 percent under their capital plans. The Fed is set to release the results of those requests next week.
“If you came in with rosier assumptions than the Fed’s own baseline, then you’re definitely at risk of failure” in the capital request, said Christopher Whalen, executive vice president at Carrington Investment Services LLC. “The Fed is going to push back on those banks.”
Spokesmen for JPMorgan, Goldman Sachs and Morgan Stanley, all based in New York, declined to comment.
Goldman Sachs dropped 2.3 percent to $152.98 in New York, the second-biggest decline in the Standard & Poor’s 500 Index. (BBSTI) The Bloomberg Banks Stress Test Index, which includes all 18 firms subject to yesterday’s test, declined 0.2 percent. JPMorgan fell 0.9 percent to $50.20 and Morgan Stanley dropped 0.8 percent to $23.03.
Auto lender Ally Financial Inc. (ALLY) had a capital ratio of 1.5 percent, the lowest of the firms tested. Detroit-based Ally, which is majority-owned by the U.S., disputed the Fed’s results, calling the analysis “inconsistent with historical experience” and “fundamentally flawed.” The company predicted its capital ratio would be 5.7 percent under the Fed’s scenario, according to a filing.
The results are a prelude to the Fed’s capital-plan review of the same banks scheduled for release on March 14. Yesterday’s results don’t forecast next week’s because the first test excludes management’s plans, a Fed official said yesterday on a conference call with reporters.
Banks have said they were coming into this year’s process more cautious even as investors of the six biggest U.S. lenders were anticipating capital payouts that could total $41 billion.
Goldman Sachs Chief Financial Officer Harvey Schwartz told analysts in January that the firm works closely with regulators to ensure it has a “conservative capital plan.”
JPMorgan scaled back its $15 billion share-buyback program by at least 20 percent and hopes to boost the bank’s 30-cent quarterly dividend, Chief Executive Officer Jamie Dimon said this year. The bank’s buyback request was about half of last year’s program, the Financial Times reported today, citing unidentified people familiar with the matter. Joe Evangelisti, a company spokesman, declined to comment.
Morgan Stanley CFO Ruth Porat said in January that her firm only requested approval for buying the remaining 35 percent of its brokerage venture from Citigroup Inc.
Not asking for a lot won’t help lenders if the assumptions they use aren’t appropriately cautious, said Richard Bove, a bank analyst with Rafferty Capital Markets LLC.
“Even if they were conservative in their request, the capital plans will be turned down if the assumptions were too aggressive,” Bove said in a phone interview. “The Fed risks looking like it caved to pressure” if it doesn’t reject those plans, he said.
Goldman Sachs and Morgan Stanley both cited market risk rules under new international capital requirements, which increased risk-weighted assets, as a reason their capital ratios fell in the test.
“We were surprised that the brokers’ capital ratios came so close to the 5 percent minimum requirement, which could limit capital returns,” Brennan Hawken, an analyst at UBS AG, wrote in a research note.
Hawken had estimated that Goldman Sachs would request a $5 billion buyback. That amount would be larger than the firm’s buffer above the 5 percent minimum, he said. Morgan Stanley’s 5.7 percent ratio makes a capital return less likely in the second half of the year, Hawken said.
The banks were hurt by their trading risk, analysts said. The six biggest firms were projected to lose $97 billion on trading in nine quarters through 2014, compared with $116.5 billion in losses estimated in last year’s test, the central bank said. Goldman Sachs and JPMorgan had the most such risk, with the Fed projecting losses of $24.9 billion and $23.5 billion, respectively. JPMorgan said its trading losses would be $17.5 billion.
“It’s a much more volatile business,” said Jennifer Thompson, an analyst at Portales Partners LLC. “In a stressed environment you will have potentially massive losses. The offset should be that they are getting better returns from those businesses. Theoretically, it should all equal out.”
Citigroup, the only U.S. bank among the six biggest to have its capital plan rejected last year, saw its Tier 1 common ratio fall to 8.3 percent under the central bank’s projections. The company sought permission to repurchase $1.2 billion of its shares without seeking a dividend increase, Citigroup said in a presentation after the Fed posted its report.
The planned buyback would “offset estimated dilution created by annual incentive compensation grants,” the New York- based lender said in the presentation.
Since the 2008-2009 financial crisis, U.S. regulators have tried to minimize the odds of another taxpayer rescue, compelling banks to retain some earnings and reinforce their buffers against possible losses. The Fed said the aggregate Tier 1 common capital ratio for the 18 banks would fall from an actual 11.1 percent in the third quarter of 2012 to 7.7 percent in the fourth quarter of 2014 under its scenario.
The Tier 1 common ratio measures a bank’s core equity, made up of common shares and retained earnings, divided by its total assets adjusted for risk using global banking guidelines.
JPMorgan, the biggest U.S. bank, projected that its key capital ratio wouldn’t fall below 7.6 percent, compared with 6.3 percent estimated by the central bank. The lender said pretax losses through 2014 would total $200 million while the Fed said they would be $32.3 billion. JPMorgan also was more optimistic than the Fed in estimating net revenue, loan losses and provisions it would need to cover those losses.
Morgan Stanley estimated its Tier 1 common ratio could fall to as low as 6.7 percent, 1 percentage point higher than the Fed’s projection. The bank’s estimate for net revenue in the stressed period was $5.1 billion higher than the Fed’s.
“Managements probably need to be a little bit more optimistic, the Fed’s a regulator,” Stifel Financial Corp. (SF) CEO Ronald Kruszewski told Matt Miller in an interview on Bloomberg Television’s “Fast Forward” program. “That’s not unusual.”
The Fed’s minimum projected ratio for Bank of America Corp. (BAC), which didn’t request buybacks or a dividend increase last year, would drop to 6.8 percent in the most adverse scenario while Wells Fargo & Co.’s would be 7 percent.
Losses for the 18 firms, which represent more than 70 percent of the assets in the U.S. banking system, would total $462 billion over nine quarters, according to the Fed.
Under the Fed’s worst-case scenario — where U.S. gross domestic product doesn’t grow or contracts for six straight quarters, unemployment peaks at 12.1 percent and real disposable income falls for five consecutive periods — the 18 companies would lose $316.6 billion on soured loans, led by Bank of America. The Charlotte, North Carolina-based firm would lose $57.5 billion, followed by $54.6 billion for Citigroup and $54 billion each for Wells Fargo and JPMorgan.
Home loans were the largest source with $60.1 billion in projected losses on first mortgages and $37.2 billion on junior liens and home-equity loans. Bank of America would face $24.7 billion in losses, as San Francisco-based Wells Fargo would incur $23.7 billion, the Fed estimated.
The next-largest source of bad debt was credit cards, which the Fed estimated would cost banks $87.1 billion. Citigroup, the world’s biggest credit-card lender, led loss estimates with $23.3 billion. Capital One Financial Corp. (COF), which gets more than half its revenue from credit cards, would lose $16.4 billion. The lender’s own analysis estimated credit card losses at $13.5 billion.
“The stress analysis and underlying assumptions are informed by a number of factors, including our experience in the 2008 financial crisis and subsequent recession,” McLean, Virginia-based Capital One said in a presentation on its website.
As a share of a company’s loans, Capital One’s portfolio performed worst, with losses amounting to 13.2 percent of its holdings, according to the Fed. That compares with 6.9 percent for Bank of America and 7.7 percent for JPMorgan.
Dimon, 56, expressed confidence about the outcome of the stress test when he spoke to analysts and investors last week.
“Whatever happens, the company will be fine, as long as we can freely compete with everybody else in the world,” Dimon said Feb. 26 at the company’s investor day. “That, to me, is the most important thing of all.”
The following shows how the 18 biggest U.S. banks performed under the Fed’s preliminary stress test results, which didn’t take into consideration new capital proposals. They are ranked by their lowest projected minimum Tier 1 common ratio under the Fed’s severely adverse economic scenario:
Ally Financial Inc. 1.5 Morgan Stanley 5.7 Goldman Sachs Group Inc. (GS) 5.8 JPMorgan Chase & Co. 6.3 Bank of America Corp. 6.8 Wells Fargo & Co. 7.0 SunTrust Banks Inc. 7.3 Capital One Financial Corp. 7.4 Regions Financial Corp. 7.5 KeyCorp 8.0 Citigroup Inc. 8.3 U.S. Bancorp 8.3 Fifth Third Bancorp 8.6 PNC Financial Services Group Inc. 8.7 BB&T Corp. 9.4 American Express Co. 11.1 State Street Corp. 12.8 Bank of New York Mellon Corp. 13.2
Originally, regulators in April 2011 had asked Goldman Sachs to find errors and mistakes in their foreclosure process for years 2009-2010 using an independent consulting firm. The consultants were not so independent but that no longer matters. The investigative process proved to be too time consuming and too expensive. (Really, the search for justice for homeowners must be stopped when it is too expensive and too slow-moving!)
So the independent review process was stopped and new rules are being applied. Rather than investigate individual homeowners improperly treated in foreclosure, the new rule just puts a monetary value on the process and Goldman Sachs will pay $135 million to borrowers and offer $195 million worth of relief. Thus is fraud and illegal activity interpreted as being solved by means of a cash payment. Goldman does not have to admit or deny wrongdoing or worry about a civil monetary penalty.
That is how fraud and corruption is papered over by the Federal Reserve and the Federal Reserve Bank of New York and no one is investigated or prosecuted for control fraud. Individuals who caused the crisis continue in their roles. The bank becomes the “person” responsible by paying a token fine decided upon by the regulators. The individual homeowners who were mistreated are not given their day in court.
Justice is now construed as throwing money at the problems caused by the control fraud committed by the banks. Only Injustice is Being Served!
Occupy the SEC, Frustrated With Regulatory Defiance of Volcker Rule Implementation Requirements, Sues Fed, SEC, CFTC, FDIC and Treasury « naked capitalism
If you read the claim below, you’ll see that the various regulators were given specific dates as to when to complete the rulekmaking. Not only are the out of compliance, they appear to have no intent of finalizing the Volcker Rule.
Occupy the SEC Volcker Rule Lawsuit 2/26/13 by
It is easy to dismiss this sort of undertaking as quixotic or agitprop, but that misses the point. If you look at effective opposition movements in other countries, such as Otpor in Serbia, they used stunts and humor to, as the BBC put it,
…dispel fear among those who want to show their opposition to the government.
And for long periods of time, while the rest of the opposition was in a state of slumber, Otpor demonstrated that there was a group of people who were prepared to overcome an all-pervasive apathy and demonstrate against the regime. Whatever the methods used, Otpor has always given proof of a seriousness of purpose.
In the US, the challenge is somewhat different. While the issue of widespread apathy is the same, one critical difference is that much of the public still fails to understand the degree to which the ruling classes no longer represent their interests. Oh, they may resent the banks, and they may also hate Congress, but most people deeply need to believe they live in a system that is fair and where business and political leaders (some if not all) still deserve respect and admiration. So efforts like this suit, which in a few short pages sets forth regulators have simply refused to do their job, whether out of intellectual laziness or due to their indulgence of bank stymieing tactics, puts another chink in the official defenses of cronyism.
Mark Carney has been the Governor of the Bank of Canada since 2007. During his time as Governor, the main chartered banks were injected with “liquidity” totaling about $114 billion because of the financial crisis of 2008. The Prime Minister denied that this injection was a “bailout.” The Canadian banks also borrowed from the US Federal Reserve discount window–one bank alone borrowed $10 billion.
Canadian banks have gradually been deregulated and now are getting bigger than ever before. They can sell insurance, make investments and take deposits where previously they had been just boring depository banks. They are also getting bigger through acquisitions of other banking institutions.
Mark Carney gets credit for keeping Canadian banks from failing during the crisis but it was mostly luck (“horsehoes”) or previous regulation that actually kept the financial system stable. Carney and Finance Minister Flaherty frequently warn Canadians to get out of debt even though savings earn very little interest with our low interest rate policy and wages are stagnant or decreasing while prices continue to increase. Debt levels in Canada reflect the conditions of our economy. At the same time, the government has decided to impose austerity on the population by reducing expenditures across the board by 10% including loss of government jobs.
Here’s a little song for Mark Carney as he leaves Canada to become Governor of the Bank of England:
“When I was a Lad” (Carney Style)
By Polemic – Macro Man
After prompting from a reader and getting bored of guessing Italian election outcomes, we have adapted Messrs Gilbert and Sullivan’s “When I was a Lad” from “HMS Pinafore“. Instead of the Queen’s Navy, we think the B.o.E is more topical.
“When I was a Lad” (Carney Style)
When I was a lad I served a term
As a junior trader at the Goldman firm.
I cleaned the books and soon wasn’t poor,
As I traded debt and made the profits soar.
He traded debt and made the profits soar.
I traded debt so carefully
That now I am the Governor of the B.o.E
He traded debt so carefully
That now he is the Governor of the B.o.E
As trading boy I made such a fee
That they gave me a post in the ministry
As Canadian minister with no recourse
I introduced a tax on income trusts at source.
He introduced a tax on income trusts at source
I introduced the tax when at the ministry
So now I am the Governor of the B.o.E
He introduced the tax when at the ministry
So now he is the Governor of the B.o.E
In raising tax I made such a name
That a central bank governor I soon became
I saw a crash, chose policies to suit
To prevent Canada becoming destitute.
To prevent Canada becoming destitute.
I passed so well through the G.F.C
That now I am the Governor of the B.o.E
He passed so well through the G.F.C.
That now he is the Governor of the B.o.E
Of central bank skills I acquired such a grip
That they took me into the partnership.
Bernanke, Merve and then Draghi
All showed me the way to play the great Q.E.
All showed him the way to play the great Q.E.
Balance Sheet Constraint won’t apply to me
Now that I am the Governor of the B.o.E
Balance Sheet Constraint won’t apply to he
Now that he is the Governor of the B.o.E.
I grew so known that I was sent
By a select committee into Parliament.
I always voted for the strong growth call,
I never thought of thinking of inflation at all.
He never thought of thinking of inflation at all.
I thought so little, they rewarded me
By making me the Governor of the B.o.E
He thought so little, they rewarded he
By making him the Governor of the B.o.E
Now bankers all, (don’t look at me Moody)
If you want to rise to the top of the tree,
If your soul isn’t bothered by a ratings fall
Be careful to be guided by this golden rule.
Be careful to be guided by this golden rule.
Preach growth, restraint yet huge Q.E.
And you all may be Governors of the B.o.E
Preach growth, restraint yet huge Q.E.
And you all may be Governors of the B.o.E
Why Goldman Sachs Guys Should Not Be Regulators
Do you think that Goldman Sachs guys have taken cognizance of their part in bringing about the financial crisis of 2008? Do you think they really want to reform the financial system when any of their guys are in a position to regulate banks? It appears from the articles below that Goldman have not learned any lessons; they do not plan to change their ethical stance; they still place profit-making above all other things.
Take, for example, the role of William C. Dudley, an economist who spend a decade working at Goldman Sachs, who is now the head of the Federal Reserve Bank of New York. He has faced criticism for his lack of regulation of Wall Street. During the financial crisis the NY Reserve Bank under Geithner “was primarily concerned with saving Wall Street from collapse.”
Problems of regulation at the Federal Reserve Bank of New York have persisted since then.
William Dudley has his own views on how banks should be regulated and what powers should accrue to the Federal Reserve.
Below, Mike Whitney discusses Dudley’s position and makes suggestions for reform of the banking system:
Power Grab at the Fed
by MIKE WHITNEY
Are you ready for a good laugh?
The head of the New York Fed wants Congress to grant the Central Bank extraordinary new powers to deal with future financial system emergencies like the bank run that followed Lehman Brothers collapse in September 2008. Here’s the story from the New York Times:
“[William] Dudley’s concern is about a little-noticed piece of the 2010 Dodd-Frank Act that actually reduced the central bank’s authority in one crucial area: its ability to provide emergency funding to strapped financial firms.
The Fed arrested the 2008 financial crisis by using this authority to create a series of unprecedented programs that offered emergency financing not just to American banks – its traditional flock – but also to foreign banks, and not just to banks but to other kinds of financial companies as well, and indeed to other kinds of companies entirely.” (“Equipping the Fed for a Future Crisis”, New York Times)
It’s true, congress did clip the Fed’s wings after the last great debacle by putting limits on the Fed’s authority to hose down the entire system, regulated or not, with trillions of dollars of taxpayer-funded bailouts. And congress should be applauded for that action, after all, why should the US government underwrite the high-risk trading activities of financial institutions which operate on mere slivers of capital? That’s crazy! If they go bust, tough luck. Here’s more from the Times:
“Congress responded to this performance by making it difficult to repeat. Dodd-Frank imposed new restrictions on the Fed’s ability to make emergency loans, or to keep money flowing, outside the banking industry. One basic reason was that Congress had never really intended to give the Fed such broad power in the first place.” (NYT)
Uh, huh. Is that hard to grasp? TARP was unpopular. The bailouts were unpopular. People don’t like the idea of handing over free money to crooked bankers every time they get themselves into trouble.
The author seems genuinely puzzled by the fact that our democratic system is not supposed to proffer unlimited “power of the purse” to the swinish agents of the robber class at the central bank. The system has gotten so convoluted that journalists cannot even recall earlier times when policy was set by the elected representatives of the people and the banks played a subordinate role. Today, that all sounds like sentimental gibberish about “America’s idyllic past”. Here’s more from the Times:
“Many – myself included – have drawn from the financial crisis the conclusion that government safety nets should be drawn tightly so that only a very few, very tightly regulated firms get as little liquidity support as possible,” Karen Shaw Petrou, a close watcher of financial regulation who drew my attention to Mr. Dudley’s speech, wrote to clients of her firm, Federal Financial Analytics.
A more inclusive policy, she continued, “will open the safety net, wide, wide open to all sorts of actors who, smiling sweetly, will rob us blind.” (NYT)
Ms. Petrou is a dreamer. The Fed does what it wants, when it wants”. It answers to no one, which is why their books still remain closed to public inspection despite the myriad legal challenges to pry them open.
Sure, the Fed will “rob us blind”; that’s their job, isn’t it? Let me jog your memory a bit: Do you remember the Repo 105 scandal? Think back to April 2010 when the New York Fed (which Dudley now heads) was directly involved in a cover up by the nation’s largest banks that were engaged in shady accounting activities to conceal the amount of debt on their balance sheets. According to the Wall Street Journal:
“Major banks have masked their risk levels in the past five quarters by temporarily lowering their debt just before reporting it to the public, according to data from the Federal Reserve Bank of New York. A group of 18 banks….understated the debt levels used to fund securities trades by lowering them an average of 42 per cent at the end of each of the past five quarterly periods, the data show. The banks, which publicly release debt data each quarter, then boosted the debt levels in the middle of successive quarters.” (“Big Banks Mask Risk Levels”, Kate Kelly, Tom McGinty, Dan Fitzpatrick, Wall Street Journal)
The “repo 105″ flap was further complicated by suspicions that Lehman was assisted in its effort by the Federal Reserve Bank of New York which, at the time, was headed by former Secretary of the Treasury, Timothy Geithner. Here is a short recap of what transpired between the Geithner’s NY Fed and Lehman according to ex-regulator William Black and former NY governor Eliot Spitzer from an article on Huffington Post:
“The FRBNY [i.e., New York Fed] knew that Lehman was engaged in smoke and mirrors designed to overstate its liquidity and, therefore, was unwilling to lend as much money to Lehman…
The Fed’s behavior made it clear that officials didn’t believe they needed to do more with this information. The FRBNY remained willing to lend to an institution with misleading accounting and neither remedied the accounting nor notified other regulators who may have had the opportunity to do so…… We now know from Valukas and from former Treasury Secretary Paulson that the Treasury and the Fed knew that Lehman was massively overstating its on-book asset values.” (Time for the Truth” William Black and Eliot Spitzer, Huffington Post)
Yves Smith over at Naked Capitalism summed it up perfectly at the time:
“The NY Fed, and thus Timothy Geithner, were at a minimum massively derelict in the performance of their duties, and may well be culpable in aiding and abetting Lehman in accounting fraud and Sarbox violations…at a minimum, the NY Fed helped perpetuate a fraud on investors and counterparties. This pattern further suggests the Fed, which by its charter is tasked to promote the safety and soundness of the banking system, instead, via its collusion with Lehman management, operated to protect particular actors to the detriment of the public at large. And most important, it says that the NY Fed, and likely Geithner himself, undermined, perhaps even violated, laws designed to protect investors and markets.” (Naked Capitalism)
Repeat: “Culpable”, “collusion”, “aiding and abetting Lehman in accounting fraud and Sarbox violations.” And these are the guys who want unlimited power to bailout anyone at anytime regardless of the cost?
Don’t make me laugh!
What Dudley really wants is the power to put out the fires which the serial arsonists at the Fed have started with their shabby, easy money policies and “light touch” regulation. They need to get their own house in order before they go asking congress for more favors.
Here’s a novel idea: Why not just fix the system? Why not create regulations that actually work, that increase stability and make the system safer?
Nah, that would cut into profits, so it’s a non-starter. Isn’t that what’s going on here; Dudley’s trying to shrug the costs onto taxpayers so he doesn’t ruffle feathers on Wall Street. It’s all about the bottom line. Here’s more from the Times:
“[Dudley] argued in his recent speech that it would make no sense to draw a line between banks and other kinds of financial firms if both were playing essentially the same role in the broader economy.
Both should be regulated, and both should be backstopped.
“If we believe that these activities provide essential credit intermediation services to the real economy that could not be easily replaced by other forms of intermediation, then the same logic that leads us to backstop commercial banking with a lender of last resort might lead us to backstop the banking activity taking place in the markets in a similar way,” he told the New York Bankers Association.” (NYT)
Hold on there, Dudley; “essential credit intermediation” can mean anything from issuing short-term loans to productive businesses to off-loading dodgy Collateral Debt Obligations (CDOs) to gullible investor groups. Are we going to throw a lifeline to every snakeoil salesman and scamster in the industry?
Yep. That’s the Dudley method. Bail ‘em all out and start over! What’s a few trillion among friends? It’s all funny money anyway, isn’t it? More from the Times:
“Banks and other financial companies increasingly draw money from sources that do not have similar backstops, including the sale of commercial paper to money market funds and complicated arrangements called “triparty repos” that basically allow financial firms to borrow money by pledging assets as collateral.
These are short-term loans that must be renewed regularly, often daily. As a result, panic among investors can almost instantly undermine financial stability, which is exactly what began to happen in 2007: Panic spread, financing disappeared, and the global financial system came perilously close to complete collapse.
There is broad agreement that something should be done to improve the stability of money-market funds and the triparty repo market. So far, nothing much has happened.” (NYT)
This is really rich. The author of this story knows exactly why “nothing much has happened” to make money markets safer. It’s because the big Wall Street banks–who are the Fed’s primary constituents–have fought any changes to the existing system tooth and nail. They don’t give a ratsass whether the markets crash or not. What they care about is boosting quarterly profits so they can add a few zeros onto the Xmas bonus check. Here’s the story from Bloomberg:
“Money-market fund companies have doubled lobbying efforts to convince regulators and lawmakers that they aren’t a threat to the financial system. The money may have been well-spent…
The companies are seeking to block new rules championed by Securities and Exchange Commission Chairman Mary Schapiro that are headed for a vote before a divided commission as soon as this month…
“If the industry blocks this plan and something else bad happens and people on Main Street lose money, they’ll be kicking themselves for not fixing this,” Douglas W. Diamond, a finance professor at the University of Chicago Booth School of Business, said in a telephone interview. “The current structure does potentially have systemic risk, and it’s the kind of thing that could happen very quickly given the situation in Europe.” (“Doubling Down to Block Money Market Reform”, Bloomberg)
And these are the guys that Dudley wants to save, these self-serving miscreants who’re doing everything in their power to make the system more less safe, more unstable, and more crisis-prone?
The reason the money markets are so vulnerable is NOT because there’s no fix, but because the big money is blocking even modest changes to the existing system. Wall Street would rather put the whole system at risk, then lose even one-thin dime in profits.
More from Dudley: “The sheer size of banking functions undertaken outside commercial banking entities – even now, after the crisis – suggests that this issue must not be ignored. Pretending the problem doesn’t exist, or dealing with it only ex post through emergency facilities, cannot be consistent with our financial stability objectives.”
In other words, the Fed has no idea of how leveraged this gigantic, unregulated shadow banking system really is. All they know is that it poses unseen risks that WILL lead to another disaster. So, rather than implement rules that could improve stability–as one might expect from the nation’s chief regulator–Dudley wants a blank check to spend whatever-it-takes to prop up this ghastly system.
MIKE WHITNEY lives in Washington state. He is a contributor to Hopeless: Barack Obama and the Politics of Illusion (AK Press). Hopeless is also available in a Kindle edition. He can be reached at firstname.lastname@example.org.