Bring in the Antitrust Division (on Banking)

By Simon Johnson

In early February I suggested there was a showdown underway between the U.S. Treasury and the country’s largest banks. Treasury (with the Fed and other regulators) is responsible for the safety and soundness of the financial system, the banks are mostly looking out for their own executives, and the tension between these goals is - by now - quite evident.

As we’ve been arguing since the beginning of the year, saving the banking system - at reasonable cost to the taxpayer - implies standing up to the bankers. You can do this in various ways, through recapitalization if you are willing to commit more taxpayer money or pre-packaged bankruptcy if you want to try it with less, but any sensible way forward involves Treasury being tough on the biggest banks.

The Administration seems to prefer ”forbearance”, meaning you just ignore the problem, hope the economy recovers anyway, and wait for time or global economic events to wash away banking insolvency concerns. But this strategy is increasingly being undermined by the banks themselves - their actions threaten financial system stability, will likely force even greater costs on the taxpayer, and demonstrate fundamentally anti-competitive practices that inflict massive financial damage on ordinary citizens.

As the NYT reported yesterday, the Federal Reserve - on behalf of all bank supervisors - recently requested banks in no uncertain terms (1) not to reveal stress test results, (2) not to give other indications of their financial health, and (3) most of all, not to announce capital raising plans immediately. The point, of course, is to manage the flow of information so that plans can be made to help the weaker banks at the same time that the market realizes exactly who needs what kind of help.

Amazingly, the biggest banks are defying the federal authorities on this point, insisting on signaling their soundness and - in the case of Goldman Sachs - rushing to raise capital. In the case of Goldman, the explicit intention is to pay back TARP funds and to escape all government-imposed limitations on compensation. This would obviously be good for Goldman and the people who run it. Anything that strengthens their advantage over competitors and increases market share will presumably raise their profits and compensation, making it easier to attract even more good people. (See my discussion with Terry Gross yesterday for more on these dynamics.)

Such developments would worsen the business prospects of other large banks and potentially threaten their financial situation. The government’s forbearance strategy is fragile unless big banks do as the supervisors tell them. But Goldman and other major players apparently think they have so much political power - and this may be more about connections on Capitol Hill than links with the Administration - that they can ignore the supervisors.

Treasury can try to refuse repayment of TARP funds, but Goldman would hardly have made its move unless repayment (particularly after announcing the intention) is essentially a done deal. Supervisors can send more assertive emails, but these are hardly likely to have any effect. The President himself can call on leading bankers to behave better, but didn’t he just do that (and isn’t that what Valerie Jarrett is working hard on)?

My practical friends in the Administration like to emphasize that “we are where we are” and that we need to understand the limitations of the policy tools in hand and the realities of our political constraints. I completely agree.

The Department of Justice’s Antitrust Division should be called in to investigate the increasing market share of major banks (remember that Bear Stearns and Lehman are gone), the anti-competitive practices of some market leaders (there’s more than one predatory way to force your rivals into bankruptcy and to move closer to monopoly power), and the broader increase in economic and political power of the biggest financial services players over the past 20 years and the last 6 months - this is potentially damaging to all consumers and, obviously, to all taxpayers.

Think of the costs arising from the market power of major banks - and it is financial market power that makes them “too big to fail”; the FDIC has no trouble handling the failure and liquidation of small banks. We started this crisis with privately held government debt at around 40% of GDP. My baseline view is that we will end up closer to 80% of GDP. This means higher taxes for all of us, and this is absolutely not a “left vs. center” or “left vs. right” issue. This is left, right, and center against those parts of the center who insist that we should go back to having the same organizations, essentially unchanged compensation schemes (and all they imply about “Wall Street owns the upside and taxpayers own the downside”), and even more concentrated market power in our financial system.

Probably we need to modernize our thinking about the exact nature of threats arising from financial trusts. Perhaps we need, at some point, new legislation that reflects this thinking. But we can make a great deal of progress, here and right now, with appropriate enforcement of our existing antitrust laws.

The pushback, of course, will be: you can’t do this in the middle of a recession - it will slow the recovery. Honestly, as my colleague Mike Mussa emphasized last week, banking is more likely to follow than lead the recovery; in fact, this is the exact logic that underpins the Administration’s forbearance strategy.

The goal of this antitrust action is to prevent some big banks from further destabilizing the system, hence reducing a serious downside risk. It’s also to limit the taxpayer costs arising from this crisis; for all major bank rescues, the cost is not just the bailout, it’s also the higher fiscal deficit, increased debt, taxes down the road and - given today’s predicament - the very real inflation risks arising from even more monetary expansion. The overarching goal, of course, is to (re)build a more sustainable, sound, and - in all senses - competitive financial system.

Comments

[MarkTwain:]

While I agree that the concentration of the banking system is a valid area for further consideration (although our system is far less concentrated than most European countries or Canada where banks have been managed well), I disagree with your overall implication that it is unAmerican as a healthy bank to announce you are healthy and intend to repay TARP asap.

Due to circumstances that no one could avoid -- Paulson's need to destigmatize TARP 1 and Obama's need to stigmatize the bankers to avoid popular revolt -- the TARP program was in retrospect a classic case of "bait and switch." The new administration has changed the terms to such an extent that there is clear adverse selection for TARP recipients. To hold the healthier banks "captive" within TARP, is just unfair and in the longer term will only make taxpayers less well off and more pissed off. Better to let those who can stand on their own return the TARP funds and focus the efforts on the weaker banks. That's an approach that the taxpayer can understand!

Apr 16 07:48 AM

[Repsonsible...:]

We All want to see is that $180 Billion Given to Goldman thru the back door By the Goverment Via the AIG Bailout to Pay Off Goldmans BAD CDSs at 100% on the Dollar while others have lost everything . Goldman Owes The US Taxpayers $180 Billion , Yes Mr. Paulson and Timmy We're Wise to what was done . So with the Tarp money of $45 Billion plus the $180 Billion , You owe the Taxpayers $225 Billion looks like You'll have to do a Few MORE stock offerings to raise that much money Till You Pay Up ,The U.S. Taxpayers OWN GOLDMAN !

Apr 16 07:57 AM

[Lilguy:]

I agree absolutely with Dr. Johnson's analysis. If the banks are "too big to fail" for the sake of our financial system and economy, then they are too big to exist.

I know it will would be difficult to show outright collusion--two Ibank CEOs negotiating prices or turf or whatever to the exclusion of others--but the effects of their actions has been to corner the financial system market. Moreover, they appear to have done so in a fraudulent manner with vastly over-priced assets misleadingly sold to unwary investors.

Some CEOs and other senior executives need to go to jail, and their banks split up (just like ATT a generation ago) or dissolved to avoid the TBTF potential. We all are better served by a more competitive banking environment.

What is most irksome at the moment is that Treasury & the Fed are actually facilitating and financing the the centralization of banking system thru deals such as JPM-BearStearns and BAC-Wachovia-ML. This is precisely the wrong direction to go.

Apr 16 09:05 AM

[History Buf...:]

In banking as in many other fields, the old maxim applies: Power corrupts. And absolute power corrupts absolutely.

Apr 16 10:02 AM

[DonFurio:]

Wah, wah, wah. There is still plenty of competition and now that some of the banks are making money, the stocks have rallied, and are on pace to repay TARP, the losers have issues.

Keep the short busting rolling. I don't know what I like better, busting institutional shorts or retail shorts...

Apr 16 10:12 AM

[John Lounsbury:]

Simon - - -

Good job keping this discussion going.

Lilguy - - -

Reading your comment prompted me to think we need to change "too big to fail" into "too big to tolerate". Instead of the government taking over banks (nationalization), this situation could evolve into "reverse nationalization", the banks taking over the government. Perhaps this is a little facetious, but we really do face significant risk from super banks having undue influence over Washington. Some have said we have already realized some of that risk.

Responsible Citizen - - -

Good comment, but couldn't it also be argued that "Goldman owns the taxpayer"?

Apr 16 10:54 AM

[Alan Young:]

John L---
I like "too big to tolerate."
But "could evolve into 'reverse nationalization'"? No, that process has been evolving for decades, and is now about 75% complete already, I think, judging from who runs treasury policies.

Apr 16 05:12 PM

[TinyTim:]

I suspect the long term plan is for the Antitrust Division to be called in after things settle a bit more. BHO has mentioned the "Wall St mentality" especially with regard to compensation many times.

Apr 16 05:36 PM

[satguru:]

Agree with American Citizen on this. Goldman talking sh't after the TARP and the billions they got thru the back door from AIG for their bailout through Paulson. If they can pay all the money back then they can walk. This whole bailout of AIG was to save Goldman. Everything about this financial collapse is about Goldman.

Apr 16 07:05 PM

[Minlita:]

The market cap of the banks is a meaningless measure of Wall Street’s health; common stock is for little people.
After GS and Morgan reports very good Q1 figures. I wonder, does this so called Financial Crisis really exist??

Apr 16 07:37 PM

[THofler:]

If Mr. Johnson had followed the legislative shenanigans in Washington during their orgy of populist panderings, he would know that Goldman is following the exact prescription that Barney Frank wrote into the New-&-Improved TARP law from February. If Mr. Johnson doesn't like that law he should write his congressperson.

And the notion that a publicly traded company is supposed to hide its financial accounting from its own shareholders is, ... is, ... Oh heck, I give up.

Apr 16 11:47 PM

[Chris B:]

Goldman is obviously taking advantage of its position to gain market share here. Now that the taxpayer has ensured their survival, they want to jump on their weaker rivals, buy out their top employees and their accounts, and achieve monopoly status.

Also I wouldn't be surprised if these claims of fine health were accompanied with profitable trading activity on Goldman's part.

Apr 17 02:31 PM

[doubleguns:]

They are not too big to fail. That is a myth to get us dumb sheeple to go along with the bail out. We can simply let them fail and have the fed buy the assets that MUST be cared for. We have already done this but we kept the banks standing which ment it cost us a lot more than it should have.

Congress is taking care of its donors for the next election.

We need to take care of congress at the next election.

Demicans and Republicrats should tremble when the voters enter the polls next election.

Let them know we are NOT fooled and we wont be fools!!!!

Apr 17 02:37 PM

[Chris B:]

"The Department of Justice’s Antitrust Division should be called in..."
----------------------...
If we rely on the judgement of bureaucrats to determine when Goldman has become a monopoly, and then wait a dozen more years for the lawsuits to be cleared up, we will already be living in a new Guilded Age, with national finances dominated by one corrupt company similar to the situation with JP Morgan 100 years ago.

Here's a better alternative. Reinstate the Glass-Steagal Act. Isolate commercial banking, which facilitates economic activity, from investment banking, which facilitates asset trading. Heavily regulate commercial banks and step in with the FDIC to protect depositors when needed. Then we could let the investment banks fail without having to worry about reducing the availability of commercial and consumer credit. Require strict mark-to-market accounting for investment banks and strict mark-to-present value of cash flow accounting for commercial banks.

Basically, reset the bank regulatory structure to what it was prior to 1999.

The pre-1999 model of national financial regulation has over 60 years of banking stability and world-leading economic growth to it's credit. The idea of combining investment banking and commercial banking, on the other hand, has been tried twice. Once in the 1920's and once in the 2000's. Each attempt resulted in a nationwide financial crisis and massive unemployment.

I fear that the administration will try to get through this crisis without reinstating this basic, vital reform. I fear that they will declare victory in the short term with a brief spurt of economic growth, but leave the flawed system in place. The results of such a mistake are predictable.

Apr 17 02:47 PM

[mac123449:]

I thought it said bring in the antichrist division when i first read it. The only way this market would make sense to me is if i go in the bath room and literally shit my brains out and then look at the banks numbers and go oh alright that makes sense now.

Apr 17 03:03 PM

[doubleguns:]

You are right about the administration not doing anything to prevent another crisis if they can just get us through this present crisis.

Politicians love crisis since as I have said before it gives them the opportunity to shove thier agendas down the tax payers throats. Both parties will be in for the quick fix in hopes that they will be able to use the next crisis to pay back the political contributors with ear marks and pork. They ought to call it what it is.... Kickbacks.

Apr 17 04:12 PM

[Moon Kil Woong:]

Whether there be an oligopoly of banks or a single bank it is irrelevant. The main problem is the fact all banks areincreasingly becoming entrall to the Federal Reserve which is either the head of an oligopoly of big banks or will inevitably be the only bank remaining. It is already asking for all the functions of a bank, issuing bonds, making direct loans, insuring deposits, etc.

If you wish to prevent too big to fail in the banking sector and ignore the role of the Federal reserve you are ignoring the whale in the fish tank.

Apr 19 01:43 AM

[ron_paulite:]

Agree. How can any corporation to allowed to become so big that it can hold the whole world ransom? How can any organization be Too Big To Fail? This is not what capitalism is about.

But anti-trust on the banks is wishful thinking. The banks control the US government because they control the Federal Reserve (which is a private corporation owned by the big banks. It was JP Morgan and the other bankers who forced the government to create the Fed in 1913). Fed is in effect the central bank for the world. So by extension the big banks control the world. Yes, there could be some charade of downsizing the banks, but the big banks will always be too big to fail because they control the world. Nobody can challenge them. They are the Masters of the Universe. Remember Rothschild words: "Let me issue and control a nation's money and I care not who writes the laws."


en.wikipedia.org/wiki/...

Apr 19 08:50 AM

[dcb:]

I would ask you how many of you are writing your congressman, the white house, governors, Andrew cuomo, the office of the inspector general, etc.

I know I have been. It isn't enough to complain. The only way things are going to change is if those elected in washington think they will suffer in the next election cycle.

Apr 19 11:23 AM