According to Bloomberg News, the top 18 banks in America are receiving what, in practical terms, amounts to a welfare check in the amount of $76 billion dollars each and every year. This number is approximately the same as the entire profits of the banking industry over the past 12 months. About $14 billion went to JP Morgan Chase alone. Tens of billions went to Bank of America (NYSE:BAC), Citigroup (NYSE:C), Goldman Sachs (NYSE:GS), Morgan Stanley (NYSE:MS), Wells Fargo (NYSE:WFC) and many others.
These numbers do not include extraordinary benefits given during the bailouts of 2008, such as FDIC insurance guarantees on bank-issued bonds, Fed purchases of then-nearly-worthless mortgage backed bonds at much higher than market rates, near zero interest loans directly from the Fed, etc. Add all that and the number would be a lot bigger. The $76 billion arises solely out of the implicit guarantee that the government will not allow "too-big-to-fail" banks to go under. A study by the IMF, cited by Bloomberg, showed that the expectation of government support shaves about 0.8 percentage point off large banks' borrowing costs.
Using the sum of assets owned by the 18 biggest banks in the USA, the collective government welfare check, each year, amounts to about $76 billion. For those of us who believe in free enterprise, markets and fair competition, this is disheartening. How banking executives can justify typically excessive pay rates, when all their profits are coming from the government? They are, essentially, the highest paid "civil servants" in the history of the world. Some bank CEOs are pulling down "civil service" salaries of $20-$60 million a year!
Recent banking scandals have brought this issue into the light of day, but it is nothing new. The banks have been subsidized for many decades. But, the extent of the subsidy has gotten bigger and bigger over time. Banking "entrepreneurs" like JP Morgan Chase (NYSE:JPM) CEO Jamie Dimon and his underlings, as well as others with similar propensities, abuse the subsidy even more, by gambling big with taxpayer backed FDIC guaranteed deposits. They've learned that they can flip the coin, and tell us: "heads I win, tails you lose. We keep the profits. You keep the losses."
It was disheartening to watch our "elected representatives" prostrate themselves when Mr. Dimon testified before a Senate subcommittee. The Senators were supposed to be cross examining him on severe losses taken on derivatives housed in JP Morgan's FDIC insured depository division. A handful of Senators asked some pointed questions. But, far more fawned, begging for advice on how to legislate and one even suggested that his state would be an attractive spot for one of JP Morgan Chase's back-office operation.
Of the 18 biggest banks in America, five can be characterized as running full-fledged "casino-banking" divisions, wherein a multitude of speculative bets are made and taken, using derivatives. These are among the most dangerous banks in the world. JP Morgan Chase is king of that hill with over $70 trillion worth of derivatives stored in an FDIC insured depositary division. Thanks to the generous giveaway programs, described in paragraph 2, that saved its counter-parties from bankruptcy, Dimon's bank managed to get through the Panic of 2008 better than many other banks. But, recently losses that may total almost $9 billion were taken on just one tiny subset of the derivatives book. JPM's previous success appears to have been a combo of pure luck and political pull.
We are led to one inevitable conclusion. There is only one way to protect the US and the world economy from casino-banking. We MUST break up the "too-big-to-fail" casino banks, including JP Morgan Chase. Neither fantasy numbers, nor stricter measurement of the so-called "value at risk" (NYSE:VAR) metric, nor changes to so-called "tier 1 capital", nor passage of so-called "Volcker Rules", will ever solve this problem. Clever people, like Mr. Dimon, will always find a way around every one of them.
America has laws these days about nearly everything. Too many laws. Too much regulation. It is almost impossible to do business without falling afoul of some obscure law or regulation, no matter how innocent the intent. The passage of a host of new laws won't do much more than provide jobs for newly minted lawyers. The rule of law is critical for the smooth operation of any economy. But, excessive regulation inhibits the entry of new blood into highly regulated industries. That does the opposite of what is intended. It enhances the ability of legacy players to exclude others, and increase already hefty profits.
Only two new sets worth of laws are needed, and they aren't the ones that have been created by Congress. First, we need much tougher anti-trust laws. They need to be strong enough to break the back of the banking oligopoly. It would be much better if the UK followed in America's footsteps and broke up its own mega-banks. To the extent that foreign mega-banks continue to exist, they must be prohibited from operating in the USA. Otherwise, the more honest banking system we create in America will face unfair competition. Furthermore, our own casino bankers will just move across the Atlantic to ply their trade from bases overseas.
All big banks, including but not limited to ones that run hefty derivatives casinos, must be broken into parts that are too small to pose a risk to the financial system. Breaking up banks would be a favor to their shareholders. The problem of waste, inefficiency and dupication of effort which often characterize mega-institutions would be solved. Huge unmanageable banks are a drag on the economy. Their existence concentrates financial power and facilitates corrupt practices. Ill conceived government sponsored market rigging schemes, like the one we see unfolding in the Barclays Libor scandal, would become more difficult to put together.
Some argue that large bank size is essential, in order to adequately serve large customers. That isn't necessarily true. Plenty of large customers existed before the age of runaway derivatives, international casino-banking, and multi-trillion dollar banks. The business world functioned perfectly well without them. Groups of banks have always participated in sharing (syndication) of large loans, and the need to cooperate in making large loans may increase. Certainly, in a world of much smaller banks, syndication will be much more important, and grow more popular.
Fund raising for highly speculative activities may become harder. More decision-makers means more discussion and the need for broader agreement. With many players holding power, who may have different opinions, getting them to agree may become more difficult. But, that will simply serve to stop a lot of bad loans from being made. It would be a check and balance upon unbridled optimism and stupidity. The system would be safer.
A second set of new laws must address the revolving employment door. Too many alleged "regulators" move to and from the US Treasury/CFTC/SEC and Wall Street's banks. Regulators should not slip back and forth from government service into well-paid positions inside those they are supposed to be regulating. That is a recipe for corruption. The door needs to be sealed shut. We have minor controls now, but they don't work. Laws against such conflicts of interest need to be much stronger.
Many economists are now saying that the world of finance is not rational, and this led to the World Financial Crisis. That is foolish to say, without first acknowledging that western finance is characterized by oligopoly and crony capitalism, not perfect competition. The oligopoly enjoys the benefits of central planning at the expense of everyone else. After mega-banks are broken up, and the revolving door closed, the financial system won't be perfect, but it will be a lot more rational, cleaner and more efficient than it is now.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.