The Great Debate

The credit rating agency, Standard & Poors, announced Monday that it was the target of a civil lawsuit by the Justice Department for its actions in rating the complex securities that played a major role in the 2008-2009 financial collapse.  The company also said that it had not been apprised of the details.  It is interesting that the other two major rating agencies, Moody’s and Fitch made no announcements.

There is much that all the agencies should worry about.  What is publicly known — and it is a great deal — was laid out in the two-year Senate investigation led by Senator Carl Levin (D-Mich.), which ended with the release of a final report in spring, 2011.

The committee staff laid out a formidable case. As early as 2004 and 2005, and increasingly by 2006, the email chatter among the rating agency staffs suggested they were expecting a crisis.  One email said: “This is frightening. It wreaks of greed, unregulated brokers and ‘not so prudent’ lenders.” Staff analysts asked why the regulatory agencies hadn’t “come down harder on these guys.”  One wrote worriedly about the possibility of “another banking crisis.”

One damning sequence occurred in spring, 2007.  Early that year, it became clear that the subprime mortgage market was in serious trouble. Two major subprime issuers failed in December 2006, and in the first quarter of the new year, another 20 failed, including the giant New Century. This was also the period, as we now know, that Goldman Sachs embarked on an aggressive internal clearing of its inventory, or “The Big Short” as it was called, which was largely accomplished by selling to greater fools.

But for the most part, Wall Street and the credit agencies shrugged off the worries and carried on with business as usual. The agencies issued triple-A ratings even on booby traps like the security that Goldman devised for the hedge fund manager John Paulson, so he would have a $1 billion plus security that he could bet against with confidence in its shakiness.

1. Crash Winners

Here’s a new entry for the lists of winners and losers that get published this time of year: The ten lawyers, bankers, consultants or accountants who reaped the most from the financial disaster of the last three years.

The poster-boy would likely be Irving Picard, a partner at the Cleveland-based international law firm of Baker & Hostetler. Picard is the court-appointed trustee responsible for recovering money for Bernie Madoff’s victims. From the sketchy clips I’ve seen, it appears that Picard and his firm have already received more than $200 million in fees for their work from the court overseeing the cases. Is that true?

Then there are the lawyers involved in bringing and defending all those multi-hundred million-dollar and billion-dollar claims against the banks that packaged and re-sold troubled mortgages and other securities. Or the accountants, lawyers and bankers sorting out the assets and liabilities in the wake of the Lehman Brothers bankruptcy and and other implosions.

By Nicholas Dunbar
The opinions expressed are his own.

Much of the financial crisis can be blamed on bankers who created complex products that allowed them to exploit and monetize less sophisticated investors, borrowers and bank shareholders. However, no account of the financial crisis is complete without an account of the inept regulators who permitted these activities to flourish, causing the crisis to become much worse than it might have been. Among these regulators, most surprising is the story of the New York Fed, supposedly the most sophisticated in its approach to risk. As I recount in this excerpt from my book, The Devil’s Derivatives and as staff at the Federal Reserve Board in Washington DC discovered, the New York Fed was in thrall to what in 2007 was the largest US bank – Citigroup – with disastrous results. -Nicholas Dunbar

The Federal Reserve may have been at the top of the U.S. regulatory pecking order, but within the Fed itself, the New York branch was top dog when it came to regulating banks. This was hardly surprising given the dual importance of Wall Street as the engine room of the bond markets and as the base for the largest multinational U.S. banks. It was only natural that industry risk-management innovations like VAR were first identified by staff in the New York Fed’s markets divi- sion, such as Peter Fisher, who transmitted the ideas to the rest of the regulatory community.

Ever since the regulatory blessing of VAR in the mid-1990s, the New York–based multinational banks had been growing rapidly. By 2003, when William McDonough retired as New York Fed president and was replaced by Timothy Geithner, an ambitious former Treasury and International Monetary Fund bureaucrat, bank supervision was equally important to markets.

By John Lloyd
The opinions expressed are his own.

Vladimir Putin, Prime Minister of Russia, claimed the Presidency, the supreme leadership of his country, once more last week with – at least in public – an assurance which amounted to nonchalance. The man whom he had made current President of Russia, Dmitri Medvedev, proposed to the party he had created, United Russia, that he be its candidate for the next presidential elections, to be held next year.

He told the party congress that, should he be elected, he would appoint Mr. Medvedev as Prime Minister. A straight switch, requiring only the imprimatur of the people – who, grateful for stability, rising prices and an increase in the status of their country – are expected to give it.

For a country which has been turbulent for a quarter of a century, this promises the smoothest of transitions. Mr. Putin was president – succeeding Boris Yeltsin – for two terms, from 2000 to 2008. Mr. Medvedev kept the seat warm for a further four years: and if re-elected, Mr. Putin can expect two more presidential terms, till 2020 (when he will be 68) – a longer tenure of power than any other major elected leader since the war. This, of course, assumes he remains popular: but while both his own and his party’s ratings have fallen, both easily outstrip every other individual or party in the state.

By Maureen Tkacik
The opinions expressed are her own.

There’s a scene in Ray Nagin’s Hurricane Katrina memoir from the Monday night after the storm in which twenty or thirty mysterious security guards, toting three guns apiece, suddenly descend upon the bombed out Hyatt city officials are using as a command center and commence measuring perimeters, laying down wires and barking orders. “We’re here to protect the mayor!” their apparent leader proclaims. “Everyone else leave!”

Nagin watches, “hallucination-like”, as his two preposterously outmanned bodyguards give the guards their best “Oh, hell no” glares, then politely asks the guards: “Who are you guys, and who sent you?” He has well-founded suspicions they are Blackwater mercenaries hired by the local business community, but the leader won’t divulge anything, so he and his staffers just keep asking the same questions of every guard they can corner, until the entire team suddenly vanishes en masse, “Ninja-like, as quickly and quietly as they arrived.”

Of the unnervingly frequent Bush Administration flashbacks I suffered reading Ron Suskind’s Confidence Men: Wall Street, Washington and the Education of a President, Nagin’s staredown of the elite hired guns is the one Obama never manages to repeat.

Iceland's remarkable return to growth shows once again that in this crisis the best policy is often the one that will make international partners most angry.

Having been reviled and chastised when it refused to make good the outsize debts of its banks, Iceland this week capped a striking turnaround when it announced that its economy expanded by 1.2 percent in real terms in the most recent quarter, its first such rise in two years.

This is in stark contrast to Ireland, whose pliability and inability as a member of the euro zone to act unilaterally leaves it with a still crashing economy which must service ever more debt by making ever deeper cuts to public spending.

By Terra Terwilliger
The opinions expressed are the author's own.

Over two years after the start of the Great Credit Crisis, banks are still not lending money. But big businesses know exactly where to go for a quick, interest-free loan … the little guy. Even as corporate profits recover, big companies continue to squeeze their small vendors, stretching out payment terms and writing late checks. Unfortunately, this blatant exploitation is damaging the small business economic engine that drives half of US GDP.

A friend who owns a small consulting company recently received notice from a Fortune 500 client that henceforth their payment terms would be extended from 90 to 120 days. No discussion, no recourse, just a fancy legalese version of “we’re going to start paying you later because it’s better for us, so get used to it.”

That’s as if your employer casually one day sent you a letter saying that they were going to start paying you 30 days late. Unfortunately, you wouldn’t be able to tell your landlord, the gas company and the supermarket the same thing. Your bills still have to be paid on time.

-Laurence Copeland is a professor of finance at Cardiff University Business School. The opinions expressed are his own.-

Anyone looking for a broader perspective on the events of the last three years could hardly do better than choose for bedtime reading “This Time is Different” by Carmen Reinhart and Kenneth Rogoff.

It is nothing less than a history of financial crises through the ages, starting in late medieval England and continuing via 15th and 16th century Spain and its New World colonies on to the teething problems of Britain’s banks in the industrial revolution and the upheavals of the 20th century, ending in 2008 with the bankruptcy of Lehman Brothers.

- 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. -

Suppose that, instead of appeasing Nazi dictator Adolf Hitler at Munich in 1938, Neville Chamberlain had taken Britain to war, what would today’s history books say about the episode?

It is of course impossible to know. Perhaps something along the lines: “the British prime minister’s stubborn refusal to compromise resulted in a war which dragged on for 6 months at a cost of over 300,000 lives.....” Make up your own scenario.

- 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. -

The awful thing about lynch mobs is they so often hang an innocent man, leaving the guilty totally untouched.  In the case of the banks, the danger is acute.  As I have already argued, hedge funds and private equity are being unfairly targeted, especially in Europe. But there is another, even less popular class which is likely to end up in the firing line, for no good reason and with consequences which could be damaging for all of us.

Broadly speaking, the banks pay 6- and 7-figure bonuses to two quite different sorts of people. First, there is a layer of what we might call technocrats: the striped-shirted traders of legend, with their loud voices and even louder dress codes, along with the managers who try to control them, the quants who invent complex trading strategies and price exotic new instruments, and a variety of others with specialised skills. Since they are rewarded in proportion to the profit they generate for their employer, which can usually be measured with considerable accuracy, their bonuses are often very large indeed. The question is: should we treat these professionals who trade on their expertise and who heavily outnumber senior management in the same way as their bosses? Not as far as I can see.