It Takes a Pillage: An Epic Tale of Power, Deceit, and Untold Trillions

by Nomi Prins

  Even if bonuses slide another 30 percent in 2009, which, given the positive projections at the beginning of the year, is likely, they would still return to 2007 levels by 2010. Besides, there are many ways to get around the $500,000 cash cap: giving out restricted shares and stock options, creating an offshore company, whose exercisable shares are directly related to the shares of the main company, or repaying TARP out of drastically reduced tax payments (that is, pay back Uncle Sam with Uncle Sam’s money). Goldman’s 2008 taxes, for instance, dropped to $14 million from $6 billion in 2007.91

  In late June 2009, Citigroup had the gall to announce that it would get around its bonus caps by increasing some employees’ base salaries by as much as 50 percent.92 Around the same time, the Guardian reported that Goldman would pay its biggest bonuses ever, after posting a $3.4 billion profit less than eight months after it took its first government (read: public) cent.93

  But, in the end, Wall Street bankers won’t even have to wait that long. Change a few category titles here and reported losses there, and bonuses have a way of perking right back up.

  It’s the Complexity, Stupid!

  On February 11, 2009, yet another congressional hearing was held, this time by the House Committee on Financial Services, to attempt to understand the gap between executive pay and the dissolving banking industry.

  Congressman Paul E. Kanjorski framed the situation. “As executives of large companies, you once lived behind a one way mirror, unaccountable to the public at-large and often sheltered from shareholder scrutiny. But when you took taxpayer money, you moved into a fish bowl. Millions are watching you today, and they would like some degree of explanation and responsibility. I do, too.”94

  The concept that companies took the money from the public didn’t sit well with the CEOs. It was a point of professional pride to set the record straight. Like Mozilo, Lloyd Blankfein of Goldman Sachs blamed “complexity” for the failure of the financial system, in an op ed attached to his prepared statement: “Complexity got the better of us. The industry let the growth in new instruments outstrip the operational capacity to manage them. As a result, operational risk increased dramatically and this had a direct effect on the overall stability of the financial system.”95

  This was really rich, coming from a man whose firm boasts the ability to “anticipate the rapidly changing needs of our clients” and stresses “creativity and imagination in everything we do.”96

  “We understand that the old model no longer works and the old rules no longer apply,” Vikram Pandit, the CEO of Citigroup, stated in his prepared statement. Don’t count on Pandit and his friends to make a new model and new rules that in any way benefit you, however.

  Still, my favorite comment came from JPMorgan CEO Jamie Dimon, a firm that, as I mentioned, took government money only for the good of the country.

  “As this committee is aware, JPMorgan Chase did not seek the government’s investment,” Dimon said. “But we agreed to support the government’s goal of obtaining the participation of all major banks.”97 Taking one for the team was apparently part of the TARP deal in the first place. Even Ken Lewis tried to go there early on when his bank was part of the first nine TARP recipients.

  “Now explain, why was it so important to the government that everybody agreed, that the nine largest banks are all in this?” Leslie Stahl of 60 Minutes asked Ken Lewis in an October 2008 interview. Lewis has made $165 million in total compensation during the last five years.

  “If you have a bank in that group that really, really needed the capital, you don’t want to expose that bank,” Lewis said.

  “In other words, stigmatize it,” Stahl said.

  “Right, exactly.”

  “So everybody knows that they’re not as good as somebody else.”

  “Exactly.”98

  So basically, Lewis, like the rest of his compatriots, would opt for secrecy over restraint every time. And that secrecy let him keep his money, even as his bank flirted with low single digit stock prices on the back of nearly a quarter of a trillion dollars’ worth of government money six months after that interview.

  Take V

  And the hearings kept going. On March 25, 2009, Geithner told the House Financial Services Committee that the administration had proposed legislation to allow the government to regulate nonbank financial activity as stringently as it regulates banks.99 He also pointed out limits already in place on executive pay for TARP recipient banks going forward, but so far there has been no mention of a system ensuring that executives are appropriately paid for performance.

  That sounds uplifting, except the black cloud that remains is that at the same hearing, Fed Chairman Ben Bernanke basically advocated keeping the compensation system the way it is, with the public impotent to do anything legal about it. “We have pressed AIG to ensure that all compensation decisions are covered by robust corporate governance, including internal review, review by the Compensation Committee of the Board of Directors, and consultations with outside experts,” Bernanke said. “Operating under this framework, AIG has voluntarily limited the salary, bonuses, and other types of compensation for 2008 and 2009 of the CEO and other senior managers.”100

  This whole notion of voluntary regulation is abhorrent. There should be no voluntary regulation when public funds are involved. I don’t have the voluntary right not to disclose my income to the IRS. I accept that, even though I don’t respect the general inequities in the tax code for mere mortals against intensively staffed companies.

  Basically, Bernanke, the man who regulates the biggest financial firms in the country, said that even under intense public and political scrutiny, the existing compensation system for the top AIG executives should be kept as is. This for a company that after all the ruckus over $165 million in executive bonuses, turned out to have really paid a total of $454 million to six thousand workers.101

  But what bugs me and should bug you even more than the money these guys pocketed is this acceptance of the status quo. Assuming that the economy eventually recovers—or at least that its favorite outside indicators, such as stock market levels, say it has—without significant restructuring of the tax code for all elements of compensation, be they in cash, stock, options, or anything else under any name, we don’t have a snowball’s chance in hell of preventing the kind of risky excess that feeds personal and systemic greed.

  Plus, even though we just went through a whole chapter together about all the personal takeouts of financial leaders and their closest management circles, we should keep in mind that the egregious bailout amounts bestowed upon the industry overshadowed compensation figures by trillions of dollars.

  That’s why, in the end, the only true way to contain the risk that accompanies the most blatant excess is to focus on restructuring the financial system. And Wall Street will fight any revision, tooth and nail. Game on.

  8

  Big Banks Mean Big Trouble

  It is easier to rob by setting up a bank than by holding up a bank clerk.

  —Bertolt Brecht1

  The phrase “too big to fail” came up a lot during the Second Great Banking Crisis. It irritated me more than most expressions because it implied that banks were like these biological organisms with powers of reproduction that couldn’t be stopped. It makes them sound so ominous. Yet the expression raises a larger question: why would anyone, particularly an entity responsible for monitoring and regulating the banking system—like, um, the Federal Reserve—let any company in the system get too big to fail?

  If it were your personal checking account backing a financial institution, wouldn’t you try to stop it from getting “too big to fail”? You know, try to keep Humpty Dumpty from teetering on the edge of the wall, about to splat onto the pavement? It wouldn’t have been that hard.

  Here’s how it could have gone down:

  Commercial Bank says to Investment Bank, “Let’s merge and become Super Bank.”

  Investment Bank says to Commercial Bank, “Great, we ca
n use your deposits as collateral to back my bets.”

  Commercial Bank says, “Cool, let’s ask the Fed if it’s okay and go get us some leverage and market share.”

  And the Fed could have said, “No way, you guys are too big and scary already for us to keep up with. Frankly, we have no idea what it is you do every day.”

  Only, as we’ve discussed, the Fed has a hard time with no. So, time and time again, it said, “Yes. Yes, you can.”2

  Or Congress could have stepped in and said, “You know, it’s not a very good idea, in general, for a consumer oriented commercial bank to merge with a speculative investment bank. That’s the sort of combination that led to the Great Depression in the 1930s and was the reason we passed laws against that kind of thing.”

  Only, as we’ve discussed Congress didn’t. As we’ve seen, it repealed those laws in 1999.

  So Commercial Bank acquired Investment Bank, piled on risk and debt, and wound up taking trillions of dollars from taxpayers to clean up the resulting mess.

  You might be wondering why that happened. After all, banks could have been stopped from getting too big to fail and sucking up mountains of public money, because, despite all the deregulation, leaders and regulators in Washington still had the ability to put on the big bank brakes. Instead, Washington chose to go in the opposite direction. Legislators made these banks too big to fail by not questioning all the shotgun financial marriages. In fact, they encouraged them. In the process, banks gained more control over the market and made massive profits before they tanked. The CEOs who pushed the most mergers made the most money, and you paid for their hubris.

  The consolidated banking system runs counter to the free market competition that so many bank friendly politicians, CNBC hosts, and public leaders talk about. Cornering the market is not only anticompetitive, it’s economically dangerous. Unfortunately, all of the safeguards to keep banks from getting too big to fail were methodically shattered.

  The History of Small Is Better

  Let’s go back one hundred and fifty years and talk railroads—it’ll help clarify the idea of small and stable versus big and dangerous. The first transcontinental railroad was completed in 1869, the same year that began a period of manic investment floated on extensive borrowing from and between banks. Railroads in 1869 were the new hot thing. That is, until someone got hurt. Unexpected cost overruns by the Northern Pacific Railway bankrupted its main investor, Jay Cooke and Company, leading several other major banks to fail. Suddenly, the banks found that no one wanted to buy bonds in railroad companies anymore. Nearly 90 railroad bankruptcies followed, and 101 national banks failed in September 1873.3 The recession that killed public confidence in the market following the Panic of 1873 lasted four years.4

  The overgrowth of the railroad industry was made possible by banks’ eagerness to profit from, and extend huge amounts of credit into, a speculative new market. This financial-zeal-gone-wild contributed to the rise of the trust system and, ultimately, to the Sherman Antitrust Act of 1890. Understand, though, it wasn’t the failure of railroads that brought down the banks or created the market panic. It was the leverage, or borrowing, that screwed everything up. In the same way, it wasn’t the subprime market collapse that wrecked the banks and the greater economy; it was all of the gluttonous borrowing on top of the subprime loans that did the deed.

  The Standard Oil Trust that sprouted in 1882 was the brainchild of industrialist John D. Rockefeller.5 The concept was that any oil company could join the trust and get a share of its profits or stand alone and die. Bigger was sold as safer. Trusts in cotton oil, linseed oil, sugar refineries, and whiskey copied the idea.6 Senator John Sherman (R OH), however, realized that one company dominating an entire industry was the antithesis of free market capitalist ideology—which it still is—and in 1890 he authored the Sherman Antitrust Act. Not only would the Sherman Act prohibit concentration and control in the hands of a few players, but it would prevent the possibility that the failure of a few big players could lead to another economic downfall. The Sherman Act passed overwhelmingly in both houses of Congress.7 So, I ask you, does any of this sound familiar? Companies too big to fail bringing down the economy? Congress got the joke more than a century ago. It just doesn’t today.

  Alas—sometimes you need a good “alas”—the Sherman Act did not apply to banking. The Supreme Court had ruled decades earlier, in Nathan v. Louisiana in 1850 and Paul v. Virginia in 1868, that Congress had no authority over banks because bank transactions were not considered interstate commerce. Congress can legislate commercial transactions between states but must stay out of transactions within a state.8

  Of course, companies found ways to weasel around the law. In 1914, amid public outcry, Representative Henry de Lamar Clayton (D AL) proposed an amendment to the Sherman Act that became known as the Clayton Antitrust Act.9 Banking again remained nearly untouched, as the Clayton Act’s restrictions applied only to commodities traders, not to financial firms. In one of the first steps in the evolution of the Federal Reserve Board’s power, the Clayton Act did give the Fed regulatory power over banks.

  Although banks remained unencumbered by antitrust restrictions, in 1944 the Supreme Court ruled in U.S. v. South Eastern Underwriters Association that the federal government and the Sherman Act could regulate insurance firms.10 Still, the Bank Holding Company Act of 1956, which I talked about earlier, was enacted to prevent banks from buying up other banks across state lines, thereby keeping them smaller and more manageable.

  Too Big to Do Anything but Fail

  Half a century later, those state boundaries blocking bank expansions were proving to be really annoying. Big bankers just had to find a willing politician to fix this cumbersome regulation.

  One of the main champions of interstate banking was then Bank of America head Hugh McColl.11 In July 1992, presidential nominee Bill Clinton and McColl met at a Holiday Inn in Valdosta, Georgia. Southern comfort food—“rice and butter beans and tomato and okra,” McColl later recalled—was the backdrop, as the two men met to talk about some serious banking deregulation and horse trading.

  In exchange for McColl’s promise to support inner city banks, Clinton agreed to support interstate banking.12 Sure enough, two years later, on September 29, 1994, President Bill Clinton signed the Riegle Neal Interstate Banking and Branching Efficiency Act of 1994 for his banker buddy. The act, which went into effect in 1997, repealed the interstate restrictions of the Bank Holding Company Act. It unleashed a wave of 4,657 bank mergers from 1994 to June 1999.13

  The 1999 Gramm Leach-Bliley Financial Modernization Act—recall, that’s the act that allowed commercial banks to buy investment banks and insurance companies—made mergers even more attractive. 14 The merger mania in the late 1990s was further spurred by the subsequent hyper competition that arose between key industry players. Bigger wasn’t just about getting so big the government would have to support you in case of failure. It was mostly about getting deposits that could be used as collateral for juicier transactions. Banks simply couldn’t post competitive quarterly earnings if they couldn’t borrow against a big pool of capital, which deposits handily provided.

  Mergers and acquisitions between banks became an increasingly high stakes game of one upmanship. Chemical and Chase merged in 1995 in a deal worth 1.4 times book value.15 Just two years later, in 1997, McColl’s NationsBank acquired Barnett for 4 times book value.16 Megadeals were a license to print money.

  Then came the last of McColl’s conquests, a $62 billion merger between Bank of America and NationsBank that went through in late September 1998. At the time, it was the biggest financial merger in the United States.17 But the real poster child for supermarket bank mergers came about a week later when the $70 billion Citicorp- Travelers Group merger was completed in October 1998.18 That deal was followed by several other impressive deals, including the Norwest Corporation acquisition of Wells Fargo in November 1998 for $34 billion; the Chase acquisition of J.P. Morgan in December 2000, a
lso worth $34 billion; the Bank of America acquisition of Fleet Boston in April 2004, worth $49 billion; and, on July 1, 2004, the JPMorgan Chase acquisition of Bank One Corporation, worth $59 billion. The banking landscape was fast becoming a competitive game between a handful of very large banks. Among the teams in the financial big leagues were Citigroup, JPMorgan Chase, Bank of America, Washington Mutual, and Wachovia, which in October 2006 acquired Golden West Financial Corporation for $26 billion.19

  These banks would turn out to have the biggest problems during the latter third of this decade. They overleveraged their subprime loan books, got too involved with collateralized debt obligations and credit derivatives, and came running to the federal government for bailout billions. They would be at the center of the Second Great Bank Depression and would never admit it was their burgeoning debt and risky financial creations that did them in (they blamed the decline of subprime mortgage payments and housing prices).