Wednesday, November 9, 2011

Crash Course. Again.

We learned our lesson following the crash of our marketplace in 1929. In adopting the 1933 Banking Act ... Congress placed “general restrictions upon the operating policy of Federal Reserve banks with the intent to limit the extensions of credit for ordinary business purposes and to make plain that their resources are not to be used to support speculation.” ~FDR

The rules were in response to rampant speculation, one of the principal causes of the stock market crash in the late 1920’s.
For today, speculative investments (wagers) are,  “... more than the gross  domestic product of every country on earth, combined.”  It's the same rampant speculation, updated.
Apparently, we forgot what we learned. Here's how it played out:
May, 1994, Greenspan tells Congress there is "negligible" risk that financial derivatives might someday require a taxpayer bailout.

December, 1994Orange County, California, declares bankruptcy due to the loss of $1.5 Billion in derivatives.

March, 1997the SEC exempted some of Enron's partnerships from accounting controls.

May, 1998, Greenspan, Rubin, and Levitt (SEC) effectively opposed regulating the derivatives market.

October, 1998, Clinton signs into law H.R.4328 prohibiting the restriction or regulation of hybrid instrument or swap agreements.

In 1999 the Congress repealed the 1933 Banking Act, essentially unwinding regulations enacted to curb the rampant speculation that caused the Great Crash of 1929.

In 2005, financial innovation is replacing production as the growth engine. "Global financial assets (bank, stock, bond) were $165 Trillion; nearly four times global GDP."
"The notional value of global derivatives (i.e., imaginary value assets) reaches $454 Trillion, more than three times the size of all financial assets worldwide." ~Unterman, Aaron, INNOVATIVE DESTRUCTION--STRUCTURED FINANCE AND CREDIT MARKET REFORM IN THE BUBBLE ERA, 5 Hastings Bus. L.J. 53,56-58.  These are fictitious assets for which real money was paid.
In 2007Hedge funds account for nearly half the trading volume in the US.

April, 2008, the IMF reports prospective losses reaching the $1 Trillion mark.
Sophisticated methods of speculation arose from the relaxing of the banking rules established in the 1933 Banking Act. Eventually, these new models for speculation morphed into a whole new system of investment vehicles sold over-the-counter to spread, reduce and hedge risks. These new vehicles are called credit derivative products. The markets that spawned these new credit derivative products were “completely lacking in transparency, and virtually unregulated.”

How did this affect the world? Corporate ethical failure (later referred to as the 'moral hazard'), sanctioned abandonment of ethical standards, and knowingly corrupt business practices slammed the entire world with astronomical losses, price increases of 100% and more for food in developing countries, loss of aid revenues, and the death of hundreds of thousands due to starvation and inability to afford medical care. The poor are paying the price.

A UNESCO study highlights wider human development impacts of the '08 financial crisis specifically, including the prospect of an increase of between 200,000 and 400,000 in infant mortality.

"Now a child born in sub-Saharan Africa faces an under-five mortality rate that is 24 times higher than in the industrialized nations." When you live on $2 a day and spend half on food, an increase in the price of food is deadly.

"It's a crisis because this region is still a poor region where half the population and more live below $2 a day," says UNESCO's Fengler. "They spend on average half of their income on food. And obviously if prices go up, then they reduce the food intake."

At best, this is fraud, extortion, insider trading, market manipulation, and negligent homicide. It's not likely that there are many true innocents among the decision makers in the financial industry. Perhaps not any at all.
The failure to properly price these risky investments caused the collapse of the credit derivative market and precipitated a world banking crisis. Former Fed Chair Alan Greenspan explains this in his 23 October 2008 testimony before the U.S. House of Representatives Government Oversight Committee: "It was the failure to properly price such risky assets that precipitated the crisis. In recent decades, a vast risk management and pricing system has evolved, combining the best insights of mathematicians and finance experts supported by major advances in computer and communications technology.
A Nobel Prize was awarded for the discovery of the pricing model that underpins much of the advance in derivatives markets. Professor Robert Merton from Harvard and Professor Myron Scholes from Stanford were awarded the prize in 1997 for their method to determine the value of derivatives.
This modern risk management paradigm held sway for decades. The whole intellectual edifice, however, collapsed in the summer of last year (2007) because the data imputed into the risk management models generally covered only the past two decades, a period of euphoria." ~ Alan Greenspan October 2008.   It's a ponzi scheme that only works as long as new players are entering the market.  At the first hiccup, worldwide crash. A Nobel Prize!
Just a few years earlier, credit derivatives had been trumpeted by Mr. Greenspan and other financial leaders. In May 2003, Mr. Greenspan said credit derivatives as “critical for economic stability.” The promise of the credit derivative pioneers seemed unlimited: “you or your colleagues could produce a nearly riskless security." Five years later, the entire market collapsed under the financial burden of these credit derivatives.

A somber Alan Greenspan admitted in his October 2008 testimony before the Congress that moral hazard was the core reason for the Derivative Market Crash of 2008:
"The consequent surge in global demand for U.S. subprime securities by banks, hedge, and pension funds supported by the unrealistically positive rating designations by credit agencies was, in my judgment, the core of the problem. Demand became so aggressive that too many securitizers and lenders believed they were able to create and sell mortgage backed securities so quickly that they never put their shareholder’ capital at risk and hence did not have the incentive to evaluate the credit quality of what they were selling. Pressures on lenders to supply more ‘paper’ collapsed subprime underwriting standards from 2005 forward. Uncritical acceptance of credit ratings by purchasers of these toxic assets has led to huge losses."
As time passed, it became clear that home-buyers and homeowners that took these predatory mortgages and loans would never be able to pay back these loans. In turn, it became clear that the securitized mortgages were bad debt. The SEC Chairman made this point in a November 2008 speech and stated that “billions in worthless mortgage paper” had been issued:
"Above all in the current turmoil, the markets and investors need transparency. From the moment that the collapse of lending standards created billions in worthless mortgage paper - and billions more in hidden risk - market participants have had enormous difficulty discovering and pricing that risk. Illiquid instruments that were not long ago rated AAA for credit quality were hidden in off-balance sheet vehicles and elaborately structured securities." -- SEC Chairman 2008
The promise that credit derivatives would hedge risks created a moral hazard zone.  Promoters of mortgage back securities grew careless. Greed took hold and credit derivatives ballooned into a $58 trillion market.
Oh, Magoo, you've done it again.
The derivative business grew “between the gaps and seams of the current regulatory system.” It took the credit derivative market only 10 years to reach $58 trillion. It was “more than the gross domestic product of every country on earth, combined.” Under the weight of $58 trillion in credit derivatives, the market collapsed.

During April 2008International Monetary Fund (IMF) estimated that global losses for financial institutions would approach $1 trillion.[i] One year later, the IMF estimated cumulative losses of banks and other financial institutions globally would exceed $4 trillion.[ii]

No enemy of our country has caused more damage; ever.

And folks complain about the 'Occupy Wall Street' demonstrators, as though there were no adequate reason for such behavior.
No enemy of our country has caused more damage. Ever.
If you have an opinion, join the public conversation. If not, you might want to review the details of your retirement plan. And perhaps read on ...

Greenspan and the U.S. were central but not causal; folks like those listed below are the cause, exclusively. Greed, theft, corrupt business practices, and criminal intent were their guiding structures. They were incredibly effective; they took from each and every household on earth. In most cases, they stole more than the household would make over several years.  

One more time - no enemy of our country has caused more damage; ever.

January 2010 After Goldman Sachs, JPMorgan Chase, and Morgan Stanley announced hefty profits last fall, the Obama administration's pay czar said that he'd cap pay at Citigroup, Bank of America, and five other bailed-out companies. The move was largely symbolic in that it capped salaries for only 25 executives, kept big stock bonuses in place, and did nothing to address the culture of rewarding folks who sowed our economic destruction. Below, some of the players who made out like bandits during the bubble and the bailout.


Joseph Cassano Joseph Cassano, AIG Financial Products Executive, 1987-2008
 CLAIM TO FAME: Mr. Credit-Default Swap. In 2008, his unit cost AIG $99 billion. (AIG then paid $1.5 billion in bonuses and awards.)
QUOTE: Before the crash: "It is hard for even see a scenario within any kind of realm of reason that would see us losing $1 in any of those transactions."
HIS BONUS, 2008: $34 million
HIS HAUL, 2000-2008: $280 million
AIG'S TARP: $69.8 billion

Vikram Pandit Vikram Pandit, Citigroup CEO, 2007-present

CLAIM TO FAME: Ordered a $50 million private jet, announced huge layoffs, and jacked up credit card APRs—after getting bailed out
QUOTE: Told Congress last February, "My salary should be $1 per year with no bonus." Didn't mention that he took $1.6 million in stock options as Citi lost $18.7 billion in 2008.
HIS HAUL, 2008: $10.8 million


Robert Rubin Robert Rubin, Citigroup Board of Directors, 1999-2009

CLAIM TO FAME: As Clinton's treasury secretary, he pushed to overturn regulations prohibiting finance-bank hybrids such as...Citigroup. QUOTE: Wishes he could have reined in Citi but "I don't know what I could have done" as just a board member.
HIS HAUL, 1999-2009: $124 million
CITI'S TARP: $45 billion ($20 billion repaid)
ADDITIONAL BAILOUT: $328.7 billion


Ken Lewis Ken Lewis, Bank of America CEO and President, 2001-2009

CLAIM TO FAME: Okayed $3.6 billion of Merrill Lynch bonuses when buying the troubled firm. Said he'd return $1 million in past earnings, but still gets a $53 million pension.
QUOTE: He's against regulating "the banks that caused this mess" because they'd been "held accountable by the toughest, most unforgiving master of all: the free market."
HIS HAUL, 2008: $10 million
HIS HAUL, 2001-2007: $145 million
B of A's TARP: $45 billion (repaid)


Jaimie Dimon Jamie Dimon, JPMorgan Chase CEO and President, 2005-present

CLAIM TO FAME: Cutting comments ("That's the dumbest thing I've ever heard!") and cutting perks ("You're a businessman. Pay for your own Wall Street Journal.")
QUOTE: Over lunch at the Four Seasons: "Corporations can waste a tremendous amount of money. It's destructive. It's wrong."
HIS HAUL, 2008: $19.7 million
HIS HAUL, 2005-2007: $95.7 million
JPMC'S TARP: $25 billion (repaid)


Lloyd Blankfein Lloyd Blankfein, Goldman Sachs CEO and Chairman, 2006-present

CLAIM TO FAME: Oversaw Goldman's risky bets on the housing bubble, then turned the investment firm into a bank so it could get TARP money
QUOTE: Says the financial industry looks "self-serving and greedy in hindsight" but that he's been "doing God's work."
HIS HAUL, 2008: $42.9 million
HIS HAUL, 2006-2007: $114.4 million
GOLDMAN'S TARP: $10 billion (repaid)


John G. Stumpf John G. Stumpf, Wells Fargo CEO, 2007-present

CLAIM TO FAME: Made a tidy $12.6 million in first six months on the job
QUOTE: Asked before Congress about his 2007 pay, he conceded that he'd gotten $67 million in stock—but "at the values that pertained in 2007, which wouldn't look familiar to you now."
HIS HAUL, 2008: $13.8 million
WELLS' TARP: $25 billion (repaid)


John J. Mack John J. Mack, Morgan Stanley CEO, 2005-2009, and Chairman, 2005-present

CLAIM TO FAME: Earned the sobriquet Mack the Knife by slashing jobs. His battle cry: "There's blood in the water; let's go kill!"
QUOTE: Told Congress, "If you gave me no bonus in the best year, I would still be here," but later griped that smaller post-bust bonuses led to "an exodus of key people."
HIS HAUL, 2008: $1.2 million
HIS HAUL, 2005-2007: $77.7 million
MORGAN'S TARP: $10 billion (repaid)


John Thain John Thain, Merrill Lynch CEO, 2007-2009

CLAIM TO FAME: Asked for a $10 million-plus bonus as Merrill lost $27.6 billion in 2008. Then redid his office for $1.2 million and approved bonuses all around. As the firm's hidden debts nearly scuttled its sale to B of A, he headed to Vail.
QUOTE: Bonuses were "the right thing to do for...the reward of the people who were performing."
HIS HAUL, 2007: $83.1 million
MERRILL'S TARP: $10 billion


Is it getting better?  Take a look at the major players: