Amid the turmoil of the 2008 financial crisis a myriad of events unfolded that the general public knew nothing about, writes New York Times reporter Andrew Ross Sorkin in a new book titled “Too Big to Fail.”

Wall Street fell from the dizzying heights of good fortune to calamity in a matter of months. To a large degree it’s still to early to tell whether financiers and politicians involved made the right choices.

“At its core ‘Too Big to Fail’ is a chronicle of failure — a failure that brought the world to its knees and raised questions about the very nature of capitalism,” writes Sorkin in his behind-the-scenes account.

He spoke with Reuters before giving a lecture at the London School of Economics on Thursday.

So much for Barclays' ambitions to be a magnet for banking talent. When the British bank hired Frits Seegers, the Dutchman arrived with a big reputation and an even larger price tag -- the cost of buying him out of his previous job at Citigroup. Three years on, he's on his way, the main casualty of a management shake-up that leaves his main rival, Barclays president Bob Diamond, looking stronger than ever.

As ever, the reorganisation is not entirely without strategic merit. Barclays is shifting responsibility for the corporate bank from the retail side of the business to its Barclays Capital investment banking arm. The logic is that even small companies want to hedge foreign exchange and commodity risks -- products they are more likely to find in Barclays Capital. Besides, most rival banks have combined corporate and investment banking. There is something in this. Though it is hard to see Barclays' investment bankers wasting much time on small British businesses with a few million pounds in turnover.

The other argument for the move is that Barclays wants to give some of the thrusting managers coming through the organisation a place at the top table. So Barclays' executive committee, which previously had just four members, will now need to find another eight chairs for its meetings. This gives more executives direct access to the board, and provides plenty of choice when drawing up a shortlist of potential candidates to replace chief executive John Varley.

It is also true that Seegers' tenure was mixed. Several of Barclays' retail businesses, such as its Barclaycard credit card division, had already installed strong management teams before he arrived. His main achievement has been to expand Barclays in far-flung countries like Indonesia and Pakistan. Whether this flag-planting approach survives his departure remains to be seen.

The shake-up also speaks volumes about where Barclays sees its future growth. Diamond's empire used to include the Barclays Global Investors fund management arm until it was sold earlier this year to raise capital. But even after the successful acquisition of Lehman Brothers' U.S. operations, Varley still wants the investment bank to account for no more than a third of the bank's income. The latest reshuffle gives Diamond a bigger share of Barclays' remaining businesses. It also removes one of his few rivals for the top job.

Lloyds seems to be taking a leaf out of Vito Corleone's book: if you need someone to do something that they don't want to, you have to make them an offer they can't refuse. For the mafia boss in The Godfather, that meant decapitating a horse. For Lloyds, the UK bank whose logo is a black horse, it means threatening to cut off interest payments on your own debt.

Lloyds' plan is to convert subordinated debt into 7.5 billion pounds of contingent capital. These new-fangled securities pay out fixed coupons, but can be converted into shares in times of need. The exchange is part of Lloyds' efforts to avoid the government's asset protection scheme. Lloyds is likely to pull off this deal, but the jury is still out on whether this kind of capital will be widely used by other banks.

Regulators like the idea of contingent capital because it is better able to absorb losses than subordinated debt. The new Lloyds bonds are classified as lower tier two capital, but the Financial Services Authority includes them as part of the bank's core capital when conducting stress tests.

However, contingent capital is untested. It is not clear what price investors will demand to hold debt that carries a risk of turning into equity if things go wrong. The proposed exchange could also be problematic. Many fixed income investors aren't allowed to buy equity-linked debt.

As a result, Lloyds is paying up to get investors on board. They get to switch out of their existing debt into the new contingent capital at par, and get a coupon that is up to 2.5 percent higher than the one they're getting at the moment. For investors who bought the debt below par -- some Lloyds bonds traded as low as 15 percent of face value last March -- this means a healthy pay day.

The sweeter coupon alone probably wouldn't clinch it. Many investors would rather stick with what they have rather than accept an untested instrument which may trade poorly and could be forcibly converted into shares at a later date.

Enter the European Commission, with which Lloyds has been negotiating over state aid. The Commission is compelling Lloyds to cut off coupon payments for up to two years on bonds where it has the right to defer interest. This should help investors with any lingering doubts to make up their minds.

A healthy appetite for the bonds will be a boon for Lloyds, but it doesn't necessarily mean contingent capital will catch on. For one, it is very expensive: Lloyds is paying interest of up to 16 percent on its bonds. Not every bank will want to pay that.

The capital has other advantages: interest payments are likely to be tax-deductible, and is less dilutive to shareholders than issuing ordinary shares. Moreover, as regulators push banks to improve the quantity and quality of their capital, they will need to explore every possible source of funding.

Still, not every bank is in as dire a situation as Lloyds. Without mafia-style coercion, these kind of large-scale debt exchanges will be harder to pull off.

- Laurence Copeland is a professor of finance at Cardiff University Business School and a co-author of “Verdict on the Crash” published by the Institute of Economic Affairs. The opinions expressed are his own. -

There is so much talk of a new regulatory framework for the financial sector, anyone would think it was an important issue.

Unfortunately, it is almost irrelevant, for the simple reason that, however sophisticated the new regime, experience shows it will be bypassed and/or captured by banks of one kind or another, possibly by novel types of institution invented specially for the purpose.

This is true even in the unlikely event that the whole world – with the possible exception of North Korea – embraces the new regulations and enforces them with vigour.

The only type of intervention which has a hope in hell of success is one based on size. As Mervyn King has said, when a bank is TBTF (Too Big To Fail), it is just too big.

What is needed is breakup along functional (and, where necessary, geographic) lines, separating the boring but essential utility business of deposit-taking and payment-transfer from the exciting risk-taking of investment banking. A once-and-for-all breakup would have to be followed by continual monitoring, to ensure that takeovers and mergers did not breach the size limit and take us back to the TBTF dilemma.

The aim should be straightforward. If banks were cut down to manageable size, the taxpayer’s liability could be limited to deposit insurance alone. Banks could be allowed to fail in the same way as firms in other industries and would no longer be able to hold Governments or central banks to ransom, as they have repeatedly done in the last twenty or thirty years.

Moreover, break-ups would bring other benefits. Without an implicit taxpayer guarantee, there would be more incentive for institutional shareholders to insist on responsible management behaviour and to impose remuneration packages consistent with it. This mechanism of shareholder vigilance, which failed totally in the run-up to the current crisis, in my view offers the best hope for the long term. By their shameful passivity, institutional shareholders must carry a major share of the responsibility for the existing mess, and everything should be done to shame them into activism in future.

Will breaking up the banks eliminate systemic risk altogether? Of course not. But it will mean that the world economy will no longer be hostage to the irresponsible behaviour of a handful of bankers consciously pushing the banking system to the limit, or, as has recently been confirmed in accounts of the demise of Lehman Brothers, indulging in brinkmanship with the authorities.

The difficulty is how to get from here to there. As I said in an earlier blog, we need governments too big to be captured, and it is now plain that they exist neither in Washington nor in London. Predictably, the UK Government has shown no stomach whatever for the fight, even though it effectively owns two of the country‘s largest banks. It is a catastrophic error – one is reminded of the first Gulf War, when, with Saddam Hussein at their mercy, the Allies fell back on technicalities to justify leaving him in power.

It would be ridiculous to compare the evil of tyranny with the excesses of bankers, but in pure monetary terms the current crisis has already cost several times as much as the two Gulf Wars added together. Yet not only are Western Governments running away from confronting the banks, they appear determined to take on almost anyone else involved in finance. In particular, the EU’s hostility to so-called Alternative Investments (hedge funds and private equity) is, if anything, likely to make institutional investors as a whole even more reluctant to intervene than they were before.

As ever, it seems there is no situation so bad that our endlessly creative politicians cannot make it worse.

Barclays has come up with an interesting way to solve an optical problem. Concerned that the bank's shareholders are nervous about possible future writedowns of wobbly assets with a value of $12.3 billion, it has sold them to its own employees.

This isn't necessarily a bad idea. But there are two things to dislike about this deal. First, it looks pretty cozy to sell to your own workers. And second, the deal looks potentially very favourable for the purchasers.

The deal does not remove the assets from Barclays' balance sheet. What it does is allow the bank to pull them out of its mark-to-market book, where their carrying value is contingent upon the financial health of some monolines with whom Barclays has taken out credit insurance.

To do this it makes a loan to an entity, which then buys these assets. The loan still sits on Barclays' books but does not have to marked to market. Even so its value is ultimately still tied to the performance of the assets.

This, the bank argues, will allow the shareholders to sleep easily at nights, knowing that a credit downgrade at some obscure monoline will no longer bring writedowns crashing down upon their heads.

This may seem fair enough. But to achieve this optically pleasing outcome, the bank has cut a deal that offers real upside for Protium Finance -- the entity that has purchased the assets -- and a group of its own ex-employees that will manage them.

Consider the terms of the deal that Barclays has disclosed.

The bank will sell $12.3 billion of assets to Protium, a fund whose backers are not identified. To fund the purchase, Barclays is lending the entity $12.6 billion for 10 years and Protium's backers are contributing a further $450 million. The loan and the external capital injection exceed the amount that Protium is actually paying Barclays. This excess capital will be used by Protium to buy other distressed assets.

Protium intends to repay the loan out of the cashflows generated by the assets.
So far so clear. But here there's a bit of a twist. The Barclays loan ranks junior to the $450 million of external capital Protium is raising. This means that almost all of the risk seems to remain with the Barclays shareholders. Yet all of the upside after the loan is repaid goes to Protium.

So if the assets, which have already been heavily written down, ultimately turn out to be worth $14 billion, say, rather than $12.3 billion, Protium would take home $1.4 billion. Not a bad return on its $450 million. But if the assets were to fall in value by a similar amount, to $10.6 billion, Protium would still get its $450 million back.

What's more, Protium gets a fixed 7 percent return on its senior capital contribution, while the Barclays subordinated loan is struggling on at 2.75 percent over Libor -- which would at present imply an interest rate of about 4 percent.

This all seems a bit back to front.

Indeed it all looks very juicy for Protium and C12, the management company staffed with ex-Barcap employees (who left as the deal was announced) that will run its exposures.
It is quite astonishing that Barclays would choose to complete such a large and complex deal with its former employees without conducting a beauty-parade with other asset managers -- as it seems to have done.

There's no shortage of asset managers looking to commit capital to distressed ABS. An auction would have at least ensured that whoever won paid a fair price.

No doubt the argument will be made that to go outside would have risked the deal being leaked and that the Barcap bankers were best placed to evaluate the assets, but  frankly those arguments look pretty thin.

This is not a senseless deal. But whatever comfort shareholders may have obtained from the optical certainty will have been eroded by its cozy nature.

Jose Manuel Barroso promised the European Parliament that as re-elected president of the European Commission he will have more authority to fight for Europe and defend its single market against economic nationalism.

But after five years of toadying to the big member states, he will need to show more spine to enforce state aid and competition rules on Germany, Britain and France in the teeth of strong national financial or commercial interests.

The conservative former Portuguese prime minister, backed by all 27 EU governments, won an impressive absolute majority of EU lawmakers -- more than the simple majority he required. That
gives him a stronger hand when facing inevitable pressure from the big boys over the carve-up of key Commission portfolios.

Recent Commission moves to query state aid to banks (such as Dutch guarantees for ING) and scrutinise public funding of auto industry rescues (Germany's bung for Opel) are encouraging. But it remains to be seen whether Barroso, now he is no longer reliant on them for re-appointment, has the character to stand up to Angela Merkel, Nicolas Sarkozy or Gordon Brown on politically sensitive cases. In his first term, he often appeared to be a trimmer, a multilingual chameleon.

On paper, the Commission has the power to force the break-up or shrinkage of state-aided banks and prevent governments using public funds for industry to distort competition.

Barroso should start by appointing strong, independent commissioners in charge of competition and financial regulation. He must rebuff French pressure to take the policing of state aid away from the rigorous EU competition department and give it to a more indulgent super-commissioner for industry.

He cannot choose whom member states send as commissioners, but he can decide what jobs to give them. He should put the most effective survivors of his current team, Spain's Joaquin Almunia
and Finland's Olli Rehn, in key roles to guard the level playing field for business and improve financial regulation, without yielding to special interests or anti-capitalist overkill.

He will also need a strong economics commissioner to coordinate EU countries' fiscal policies and structural reforms as they emerge from crisis, and gradually work towards a single European voice in international financial institutions.

Given conservative dominance of European politics, Barroso will have more centre-right commissioners and fewer socialists than in the outgoing team. Yet paradoxically the public mood is
less economically liberal, and he will face strong pressure to allow subsidies to protect jobs.

Germany's taxpayer-funded rescue of carmaker Opel offers an early test of Barroso II's determination to uphold EU rules.  Will he stand up to Merkel, his political patron, now that he no longer needs her backing for another term?

Regulators are rarely accused of being too candid. But Adair Turner's observation that the financial sector is too large has seen the chairman of Britain's Financial Services Authority swamped by a wave of protest.

Executives, lobby groups and even Boris Johnson, London's Mayor, have responded with dire warnings about the risks of undermining the financial sector. This knee-jerk response shows the industry still fails to understand the consequences of the crisis it helped to cause. It is high time bankers engaged in a proper debate about their future.

The criticism of Turner takes two familiar forms. First, financial services businesses and their employees pay lots of tax. Second, tougher regulation could drive this valuable activity elsewhere. Both arguments have some limited merit. However, this narrow defence fails to address the broader question of the banking industry's function, and its relationship with the state.

It is true that big banks have in the past paid a lot of tax, as have most of their employees. However, these historical receipts must be weighed against the trillions of dollars of public money that governments have been forced to commit to prop up their banking systems.

It is also the case that unilateral action taken by any one country would risk driving business offshore, much as heavy-handed regulation by the U.S. helped create the Eurobond market in the 1960s and 1970s. Moreover, not all the financial sector is equally to blame. Most of the insurance industry operates without direct government support.

But arguments about tax and competitiveness miss the point. There is no realistic prospect of Britain acting alone to rein in its banking sector. Like other regulators, Turner is acutely aware that action must be co-ordinated internationally by governments.

The bankers have also failed to address Turner's central question, which is why the financial services industry has grown so large. Benjamin Friedman of Harvard University points out that, from the 1950s to the 1980s, the finance sector -- excluding insurance and real estate -- accounted 10 percent of U.S. corporate profits. In the first half of this decade it was 34 percent.

If banks exist to intermediate capital flows and allocate credit in the economy, what explains this shift? And if the industry is as fiercely competitive as its proponents often claim, why was it so profitable?

The crisis has revealed that much of the banks' growth was the result not of genuine financial intermediation but a rapid recycling of risk with ever-increasing amounts of leverage. Subsequent catastrophic losses have shown that most of these profits only ever existed on paper.

More fundamentally, taxpayers have been revealed as the ultimate guarantors of the financial system. This is incompatible with a lightly regulated banking system, or one that has the capacity to overwhelm the resources of its home nation.

These complex issues cannot be resolved by any one country or regulator. Nonetheless, the case for reform is overpowering. Shallow arguments about tax and competition are no longer an adequate defence for a swollen financial sector. The banking industry needs to show that it recognises that the debate has been fundamentally recast.

Rating firms and analysts have been lowering high yield default forecasts in recent months, but there’s still plenty of pain in store for the banks, insurers (and taxpayers) who own collateralised loan obligations, funds that package leveraged debt.

Here are some cheery stats from Fitch Ratings, which is busy setting about downgrading more European CLOs.

The average cumulative default rate for European CLOs is now 5.8 percent, double the rate in February this year. During that time there have been fifteen defaults, affecting 26 separate CLO funds, Fitch says. Some lucky CLO funds were exposed to as many as five of those fifteen defaults.

Some of the bonds Fitch may downgrade are already firmly in junk territory, though others are still rated as high as single A.

-- Wei Gu is a Reuters columnist. The opinions expressed are her own --

Chinese banks are like enthusiastic runners on an accelerating treadmill. The weakening economy means poor lending decisions are threatening to catch up with them, but the banks are sprinting ahead by expanding their loan books ever faster. They cannot keep this up for ever.

For now things still look fine. China Banking Regulatory Commission (CBRC) this week claimed that Chinese banks were managing credit risk sagely, pointing to record low non-performing loan ratios. Given the massive increase in the number of loans outstanding -- up 24 percent since the start of the year -- it's not surprising that the proportion of them that are non-performing at large commercial banks, which accounts for 60 percent of the lending, has declined from 2.4 percent to 1.8 percent in the past six months.

Chinese banks appear to be focusing their lending on regions which have suffered the most in the crisis. The five regions that have shown the largest increase in new loans are the ones that were hit hardest by the downturn, namely coastal cities such as Guangdong, Jiangsu, Zhejiang, and Shandong, plus Beijing. These are also the regions that have experienced among the slowest growth this year. This suggests that loan growth is being driven by official policy rather than the product of bankers seeking the most attractive investment opportunities.

Chinese banks had double-digit NPL ratios before Beijing cleaned them up in preparation for their listing on foreign exchanges. Foreign banks with risk management expertise were brought in, and offered cheap stakes in Chinese institutions to encourage them to share their knowledge. This led to an improvement in lending standards as Chinese banks installed expensive computer databases and formed central credit offices.

It is not clear however how deeply these reforms have been entrenched. The banks remain very decentralized and lending standards are generally lower than their foreign counterparts.

In the past few years, Chinese bankers were restrained by the regulator from going on lending sprees. Banks were given lending quotas to prevent the economy from overheating. This year, with growth the main concern, there were no ceilings.

Chinese banks have clearly now opened the flood gates and are taking on more credit risk. The chief banking regulator Liu Mingkang said at a closed-door meeting in Tianjiin this April that the maximum Chinese banks should lend out a year is 6 trillion yuan ($878 billion), anything above that would be deemed as risky. During the first half alone, they lent out a whopping 7.37 trillion yuan ($1.08 trillion).

The current NPL statistics are irrelevant. The test for Chinese banks will come in the next 2 to 5 years, as the latest wave of lending shows its worth. True, many infrastructure loans seem to have implicit government backing, but less come with strong underlying cashflows. Instead of celebrating the record-low NPLs, the regulator should take it as a worrying sign that Chinese banks are now running hard to stand still.

-- At the time of publication Wei Gu did not own any direct investments in securities mentioned in this article. She may be an owner indirectly as an investor in a fund --

Earlier today I wrote that Sheila Bair is one of the few financial regulators who gets it. And by getting it, I mean not sucking up to the banks and the big money interests on Wall Street. You know, the guys (and most of them are guys), who got us into this financial mess. Tim Geithner, on the other hand, is a regulator who just doesn't get it.

It's not that the Treasury secretary isn't smart--he is. And it's not that he's not up to job--he is. It's that Geithner is too much of a politician and his views have been molded by people who work on Wall Street.

So, that's why we have Geithner telling The Wall Street Journal today that Wall Street isn't reverting back to its old ways--even though everything indicates that's exactly what is going on. In Geithner's world, things are getting better and the banks are becoming better citizens:

I don't think the financial system is reverting to past practice, and we won't let that happen. The big banks are running with much less leverage now, much more conservative liquidity cushions. There has been a significant shrinking of their balance sheets, getting rid of bad assets and cleaning up. And the weakest parts of the system don't exist anymore.

But Geithner lives in the land of Oz. A land where we should ignore the man behind the screen and all the toxic assets that still line the balance sheets of the nation's banks.

The trouble is the rest of us live in the real world where the roads aren't paved with gold bricks.