Corporate Fraud + Government Intervention = Bailout Nation 26 comments
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The U.S. financial system appears to be crumbling. Politicians and Washington bureaucrats are scrambling to make it appear like they are actually doing something. When politicians and Washington bureaucrats scramble, that means that taxpayers will be getting screwed again. They are throwing our money at mismanaged corporations and providing handouts to people who thought they were going to get rich buying and selling houses.
The people who are getting screwed are the citizens who have lived within their means, those who did not take unreasonable risks and senior citizens who are now stuck with 1.5% interest rates on their savings while inflation exceeds 8%.
One of the largest mortgage lenders in the country IndyMac has been taken over by the FDIC. Some 10,000 people will lose $500 million that is not covered by insurance. The FDIC estimates that this takeover will cost the American people between $4 billion and $8 billion. If that is their estimate, you can be sure the cost will exceed $20 billion.
Phil Gramm, one of John McCain’s chief economic advisors and a chief architect of deregulating the banking industry while a US Senator, has called us a nation of whiners. This is a man who is currently the vice chairman of UBS bank, making in excess of $500,000 per year in compensation.
I wouldn’t be whining if I made more money than 99.9% of all Americans, either. He has certainly earned that pay. His employer has written off $37 billion of mortgage debt so far. Stockholders are probably thrilled with his performance, as the stock has collapsed from $62 to $19 in the last year. Sounds like he is Treasury Secretary material in a McCain administration.
Of course, there are Democrats who are at least as financially illiterate as Mr. Gramm. Senator Chris Dodd from Connecticut showed his financial acumen when questioned about Fannie Mae (FNM) and Freddie Mac (FRE).
They have more than adequate capital, in fact more than the law requires. They have access to capital markets. They're in good shape. To suggest somehow they're in major trouble is not accurate.
Later that day, Hank (Mr. Bailout) Paulson committed our tax dollars to save these horribly run institutions. Fannie Mae has lost $7.7 billion in the last 9 months. Freddie Mac has lost $5.2 billion in the last 9 months. They are leveraged 60 to 1.
As the current housing crisis continues to expand, these two companies will have to write off billions more in loans and are effectively insolvent. Is Mr. Dodd lying to the American people because he doesn’t think we can handle the truth? The taxpayer will again be responsible for bailing out two of the worst run organizations on the planet. This bill will be a whopper.
Jim Rogers, famed investor, said:
They’re ruining what has been one of the greatest economies in the world. Bernanke and Paulson are bailing out their friends on Wall Street but there are 300 million Americans that are going to have to pay for this.
Congress has passed a bill (attempt to bribe potential voters) that will throw billions of our tax dollars at banks, homebuilders, and reckless homeowners. President Bush, who threatened a veto, buckled and signed the bill. This bill will shift greater responsibility to Fannie Mae and Freddie Mac.
That is very comforting.
Ron Paul, in mid-May, described the situation in his usual straightforward fashion:
Lending standards were relaxed, or even abandoned altogether, creating an exaggerated pool of homebuyers that led to ballooning home prices that many, especially real estate investors, expected to continue forever. Now that the bubble has burst, the losses are staggering.
However, many in Washington fail to realize it was government intervention that brought on the current economic malaise in the first place. The Federal Reserve’s artificially low interest rates created the loose, easy credit that ignited a voracious appetite in the banks for borrowers. People made these lending and buying decisions based on market conditions that were wildly manipulated by government. But part of sound financial management should be recognizing untenable or falsified economic conditions and adjusting risk accordingly. Many banks failed to do that and are now looking to taxpayers to pick up the pieces. This is wrong-headed and unfair, but Congress is attempting to do it anyway. These housing bills address the crisis in exactly the wrong way, by seeking to hide the problem with more disastrous government bail-outs and interventions.
Politicians and pundits have been trying to place blame for the current crisis. There is much to go around. Alan Greenspan enabled the bubble to start with 1% interest rates. The government agencies, SEC and Treasury vacated their regulatory responsibilities to the free market. Homeowners believed that home prices would go up forever. Rating agencies sold their souls by rating toxic waste as AAA credits. Poor people, who had nothing to lose, accepted the free money being handed out by banks.
I think the majority of the blame should fall on the financial institutions and their leaders who should have known better. What they did constitutes fraud in my book. I think the following definition fits what these institutions have done - Intentional misrepresentation or concealment of information in order to deceive or mislead. The MBA, Masters of the Universe running the biggest financial institutions in the world created the playing field that deceived stockholders, rating agencies, and ultimately themselves. Now they beg for bailouts from the government.
I’ve selected five companies that represent everything that is wrong with our financial system. I could have picked another 25 companies, but these five will do. It is ironic that Bear Stearns (BSC) was profitable right up to the day they were “saved” by JP Morgan (JPM). The collapse of some of their hedge funds early in 2007 was the canary in a coal mine for the coming financial meltdown. When you use tremendous amounts of leverage it can really juice profits on the way up. But, on the way down excessive leverage can put you out of business. Half of Bear Stearns’ 14,000 employees have lost their jobs in the last 6 months. Ben Bernanke was so worried by the potential collapse of Bear Stearns that he guaranteed $29 billion of their toxic waste mortgage debt. He did this with our tax dollars.
The last Federal Reserve Chairman with any guts, Paul Volcker, had this to say about this intervention by Mr. Bernanke:
The Federal Reserve has judged it necessary to take actions that extend to the very edge of its lawful and implied powers, transcending in the process certain long-embedded central banking principles and practices. What appears to be in substance a direct transfer of mortgage and mortgage-backed securities of questionable pedigree from an investment bank to the Federal Reserve seems to test the time-honored central bank mantra in time of crisis: lend freely at high rates against good collateral; test it to the point of no return.
As you can see in the following charts, these companies generated phenomenal profits in 2005 and 2006. Of course, these profits were a fraud. By taking on tremendous leverage and developing exotic derivative instruments and selling them to people who didn’t understand the risks but relied on the ratings provided by Moody’s (MCO) and S&P (MHP), these firms generated ungodly profits. The rating agencies made millions giving AAA ratings to instruments they didn’t understand. Everyone felt safe, because AMBAC (ABK) and MBIA (MBI) guaranteed many of these sub-slime mortgage pools. The managements of these companies raked in millions in salary, bonuses, and stock options. Stockholders were happy because their stocks were going through the roof. Since last summer, the billions in profits are being erased faster than they were “created”.
click to enlarge images
The prestigious CEOs of these companies made a few bucks on the way up. All of these CEOs, excluding Bob Toll, have been “fired”. When a CEO gets fired these days they receive the greatest payday of their privileged lives. Considering that the profits that their companies generated were fraudulent, these criminals should be forced to reimburse the stockholders. Instead they are at their private golf clubs working on their handicaps.
So, these corporate fat cats are set for life, but the stockholders have lost between 64% and 94% of their investment.
The following quotes are examples of what appears to be lying and manipulation of the public.
Charles Prince in July 2007 (shortly before writing off billions):
When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you’ve got to get up and dance. We’re still dancing.
Stanley O’Neal in January 2007:
We finished the year positioned better than ever to capitalize on the array of opportunities still emerging around the world as a result of what we believe are fundamental and long-term changes in how the global economy and capital markets are developing.
Merrill reported an $8 billion loss in 2007.
Angelo Mozilo in July 2007:
But as I do reflect on it, and I do a lot, that nobody saw this coming. S&P and Moody's didn't see it coming, but they simply just downgrade bonds, they don't take hits. Bear Stearns certainly didn't see it coming. Merrill Lynch didn't see it coming. Nobody saw this coming.
He must have seen something coming because he was selling $138 million of stock that summer.
Ken Thompson in October 2007:
I’m confident our company is in the right businesses for the long term and that our strategy of being in high growth businesses and markets, our laser focus on customer service, our expense discipline, and our commitment to strong credit risk management, will create value for our shareholders in the future.
He was ousted 6 months later as his $26 billion acquisition of Golden West Financial imploded.
You can judge whether these CEOs were criminal or incompetent regarding the actions they have taken in the last few years. At the end of the day, the actions of these men and many others on Wall Street have led our financial system to the brink of collapse. The people who have been hurt by their actions are the thousands of employees getting laid off, homeowners who followed the rules, and senior citizens trying to live off CDs.
Ron Paul, in his common sense rational way, explains the situation:
The net effect of all this new funding has been to pump hundreds of billions of dollars into the financial system and bail out banks whose poor decision making should have caused them to go out of business. Instead of being forced to learn their lesson, these poor-performing banks are being rewarded for their financial mismanagement, and the ultimate cost of this bailout will fall on the American taxpayers. Already this new money flowing into the system is spurring talk of the next speculative bubble, possibly this time in commodities.
Worst of all, the Treasury Department has recently proposed that the Federal Reserve, which was responsible for the housing bubble and subprime crisis in the first place, be rewarded for all its intervention by being turned into a super-regulator. The Treasury foresees the Fed as the guarantor of market stability, with oversight over any financial institution that could pose a threat to the financial system. Rewarding poor-performing financial institutions is bad enough, but rewarding the institution that enabled the current economic crisis is unconscionable.
Don’t worry. Your next rebate check will be in the mail shortly.
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This article has 26 comments:
However, the story misses one important point. The 650 year old double entry bookkeeping framework of rules has never made it into software code. Our present monetary system has no control language with which we can reconstruct its misuse. Without a proper framework of rules, that monetary system resembles the national museum in Baghdad in 2003. When no one is there to guard the treasure the attitude becomes, "If we don't steal it someone else will."
Nobody will be convicted for these frauds because reconstruction the history of facts is impossible using today's financial data management systems. A proper bookkeeping is designed to record a reusable history. It's called "the audit trail." With an audit trail we could go back and reconstruct the facts in detail. Had we had that for the past 30 years, the problem, of course, would never have occurred because most of us only break the law when we are quite certain there is no accountable way to get caught.
The problem is worse today than it was yesterday, and it will be worse tomorrow. The pattern of decay will continue until we decide as a citizenry that an accounting audit trail, that had served commercial trade for 620 years, would make a good idea to return to as soon as we possibly can.
refer back to the 1981 r.reagan tax code with fast writeoffs & minimal capital gains tax & see what happened to the rental property market. it took 9 yrs to find tenants for the see-thru office buildings, in the meantime the builders went under, the banks foreclosed, the banks went under & seidman & co. had to pickup the pieces.
problem - bank loan officers are paid to make loans. they are not paid to not make loans.
> jack
SUB-SLIME well describes the loan originators, mortgage companies, brokers, bankers, rating agencies and everyone involved, including the politicians, the Fed and Treasury.
It's too bad that the Justice Department doesn't show any interest. It will take a public outcry to get to the bottom of all this.
People were making a lot of money and had no regard for the consequences. And I agree, it's people like Phil Gramm who are more to blame than anyone. I've always considered him to be a joke and a menace to sound financial principles and responsible conduct of our financial markets.
Two cases in point - Gramm led the charge to allow massive fraud and market-rigging behavior in the commodities markets - the result was Enron and significant corruption and volatility that exists to this day. The second example is as described above - the whole "deregulation" effort that destroyed Glass-Steagal and brought in a bunch of crooks and racketeers to run our biggest banks and brokerage houses.
The result of that is insanely huge compensation for criminals and a complete breakdown of responsible conduct, and now the U.S. taxpayers and foreign investors will be hit for several trillions to pay for it, so that a bunch of corrupt jokers like Phil's friends and campaign contributors can enjoy mansions and fleets of expensive luxury cars. What a travesty.
Or you can blame the Banks who "borrowed" huge amount from Fed at very low interest and issued such loans without even proper vetting of clients (in sub prime loans - no details of employment and earning history were provided). Not because they hoped for repayment but simply to show "growth" to the stock market and shareholders. And of course can claim better salary package for the wonder kids of the Board of Directors.
Or you can Blame Fed who issued this funds to Banks at such low interest rates and allowed the rapid uncontrolled bad loans to common people thru credit cards and other loan issues.
What is real problem is that there is something seriously wrong with America. Fed reacted to that problem, Banks reacted to that problem. And common people reacted to that problem. And SOLVED the problem by spending. Because that is what the Government kept saying. Don't worry, keep spending. All will be alright.
The truth is our Financial Giants borrowed much more then they lend to our common people. They invested in huge industry building in China and Vietnam and around the world. Now they find that they cannot recover the money from this investments. Worst the output from this investments cannot be sold in America because American earning power has been stagnant and actually in real terms has been reduced.
To allow for the continued sales of their good from China and other investments, they gave away cheap credit to American people to spend. BUt for how long? what is next?
The real problem is our back boneless corrupt politicians (except Ron Paul ie.)
> jack
Out come the "stimulus checks" and lo and behold we find that about 30% of the money wasn't spent, but was actually saved in a bank account or used to reduce some credit card debt.
The next outcry was bemoaning the fact that people were saving and actually coming to their senses!
The whole world knows that if Americans ever returned to the '60's and saved/invested 5-10% of their incomes the global economy would be down the tubes. The world depends on Americans borrowing and spending themselves and their country into bankruptcy. And they will gladly sell us the junk and loan us the money to do it with.
My question is, where will the world find the next goose to pluck?
The hundreds of billions of dollars of discount window borrowings rewarded to the investment bankers since the Jan/March meltdowns has not gone to ease the liquidity crisis, it has simply gone to creating the biggest day traders on the street... what the IB's don't trade, they lend to the hedge funds they spawned over the past 10 years to trade, and now we see huge volatility that is nothing more than the IB's and hedges jacking futures and stocks in either direction in a concerted effort to make trading profits.
Mortgage rates are higher now than they were a year ago despite the Fed's rate cuts, commercial bank borrowings at the discount window are rising rapidly, and still the culprits dance!
Tick tick tick...
1. Treasuries start dropping in price.
2. rates go up mildly.
3. Large banks fail any way.
4. We elect a socialist by our uneducated, functionally illiterate
majority
5. More poor spending from our government as more capital comes under their control, as they force higher taxes to cover their budget shortfalls.
6. More government short falls.
7. More borrowing from other countries on bad terms for us.
8. We lose much of our international leadership.
9. Getting a job teaching English in Asia becomes a great way to take care of yourself.
I know this is all speculative as heck, but I just started my interest in economics last year.
concisetrading.blogspo.../
Ryan
These competitor nations got the best of us and learned fast this last decade. We forgot that we are not the only nation on earth with supercomputers. They had the will, we didn't and Washington made it a heck of a lot easier for these nations to boot. Karl Marx noted in his writings that one day the Marxists will sell the rope for the West to hang itself. He was correct. The mere statement this was made should have forever stayed in our minds, especially considering communism was only recently surpressed by the early 1990's. Globalization was attempted 40 years too early but that didn't prevent the prideful and greedy from trying. Every empire tends to overstrech and receeds. Why are we different? But how we recover from this may be in the end more important to the globe then how we tempoarily fell.
The communists never left, only regrouped as communist light/fascist/socialis... Our friends in Washington seem to really admire Fidels, Hugos, Putin's and Zemin's. But of course, Friedman practically worshipped Pinochet. You liberal sheep are pathetic, but yet almost as pathetic is the semi-liberal sham conservatives. That word has no meaning today except to those visible and not connected whom are now being fleeced into financial extinction and subsequent revolt. Sheep led to the slaughter by a black robed sheppard is a fitting analogy. I guess pandering to liberal minority agendas for votes wasn't such a good idea after all. Ever hear of Judeo Christian values? You know, the ones we founded our nation on?
And meanwhile, the population through pain will learn to come together in sacrifice and change attitudes. Very few of us ran iBanks or were in Congress on the greatest theft of wealth the earth will likely ever see! However, we must demonstrate our leadership. 300 million can correct about 1,000 whom did this. And the 1,000 whom think the military will be firing off rounds at protestors like in Tienemen Square are mistaken.
The Bookeeper, I can help but your office won't make time. You prefer old chronies with no solutions and suffer the unfortunate encapsulation effect. Same as my approach to other older men whom no longer know the way out when the answer is an inch from there nose. I am not all wise, I am humble and spend half my life researching. These men mean well and have some money Bookeeper to educate but no clue how to harnass the collective of the US citizenship and mobilize them. The innovators whom were taught principles will pick up the slack and my job is to connect them all. You money guys just hang out with other money guys. Throwing it up in the air is not a solution. That investment needs to be focused by the entrepenuars. Wasn't this the way America worked at one point?!?! I would have thought you had all heard of a thing called the Internet. I suppose only the Democrat party has. Gee, I wonder why the dumb masses will vote the same House in again this year. I wish you could help, your heart is good. For that, I cannot be critical. If this sounds harsh, it is meant to be for education and action to wake you up. I apologize if you feel my statements are un-gentlemen like but even a gentlemen must strongly point out a weakness here or there in a battle plan.
Finances are a non-partisan issue because both parties suck in different ways. While liberals may be tax and spend, conservatives are borrow and spend. It is the spend part that both parties do and neither should be. Look at the history of national debt - it doesn't exist prior to the late 60's, when Nixon, a conservative, ran a deficit. If you had a balanced budget, every citizen would realize what retarded moves the government made because they would pay for it right away and Crawford's village idiot would have been back entertaining passers by in 2004.
China is Nortel circa 1999 and the US is a pile of dotcoms. China owns over a trillion dollars of US debt and their success is tied to Wal-Mart, the conduit from China to landfill. What happens when they realize they won't get their cash and their market dries up.
Devalue the currency and repay China before coming out with the "new" dollar.
P.S. I'm Canadian - good luck guys:-)
I've read most of your articles on seekingalpha, and must say that your analysis is illuminating and long overdue.
However, in this article, I found the rhetoric to drown the message. Far too much blame for the housing bubble has been placed at the footsteps of the regulators, when we all know well enough that bubbles like this are mainly caused by rampant speculation of the market participants. No one forced the middle class to leverage 110% of their home's value at unbelievable prices. That was mainly due to a total disregard for what the home was actually worth. The regulators are trying to clean up this mess as they always do, but it seems this one was far larger than the last one they had to clean up in the stock market.
However, I do absolutely agree with you on the criminal nature of corporate parachutes. I've heard the argument that salary caps would discourage the very best from seeking these kind of jobs, but let me ask you this - if the very best of us are the ones that are acting in this criminal manner, then let the very worst that currently reside in our prisons take over as CEOs - I'd imagine they would do a better service to the public than the current ones who are destroying our future.