Transcript: 435 Wall Street Rules

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Next week we will move on to more interesting economics, starting with “Is the supply curve flat?” This week we are going to continue our theme of the year so far, also known as beating a dead horse. That is, “Why do we let the financial sector, the bankers, run the economy?”

Does it work? No. We have entered a period of continuous near-crisis.

Do they know what they are doing? I suppose they know they are enriching themselves. But we all did better back when it was boring banking, 3-6-3, borrow at three percent, lend at six and be on the golf course at three o’clock.

Are they the adults in theroom? Hardly. Robert Rubin plays one on TV, but there are no adults in the room. There are the crackpot theorists, primarily academics like Milton Friedman, Eugene Fama, Robert Barro, John Taylor, and many others, but also including Alan Greenspan and Ben Bernanke. There are the hard pragmatists of business, who insist the industrial machine has to run over everybody for the economy to work right. This would include the brain trust of the Reagan era, led by Don Regan, whose influence has crippled economic health for decades. There are the bond market vigilantes, whose computer screens stream columns of numbes and arcane curves, but who are mostly picking red or black and holding a gun to the head of the house if their bets don’t pay off. And there are the politicians, along with their front-running ideological stooges, who make sure they are not offending too many well-heeled individuals and pretend to manage the flood of lobbyists while avoiding doing the standing up for the people themselves. To this last group, we would like to say, “Do your job.”

When the banking industry effectively avoided the trust-busting of the Teddy Roosevelt era and captured the first version of the Federal Reserve, we got into the speculative insanity of the 1920’s and the bust of the 1930’s. Franklin Delano Roosevelt and his New Deal crew reined them in for awhile. But it was shortly after the war that the Fed broke back into the control of the bankers, in the infamous “Treasury Accord” of 1951. Still, with boring banking the model, thanks to the Glass-Steagall Act, for one thing, there was limited damage they could do. Regulation became a dirty word under “government is the problem” Ronny Reagan, who probably played an adult better than any president ever who didn’t actually knowing what he was doing. The controls on banking were relaxed. Almost immediately came the S&L crisis, multiple disasters in foreign countries, Latin America, Russia, East Asia, the dot.com bust, the housing bust, and now the demise of the peripheral EU area and the wholesale enrichment of the American bankers in full view of everybody.

Ben Bernanke made his academic reputation on the theory that allowing the banks to fail in the Depression caused it to be deeper and longer. He was not convinced, as most are, by the Keynesian demand push from World War II and the New Deal. So Baffled Ben pushed trillions of dollars in outright cash for junk and in guarantees and supports to various markets into the middle of the table on what was, after all, only his unproven hypothesis. Now we can call it his DIS-proven hypothesis. The wherewithall to deal with the problems, however, is now on the other side of the table, secure in the cash balances of the banks and the absurd bonuses they pay their looters, also known as their managers. That is taxpayer money.

So, we spend so much time on the banks and Big Oil because the economy is being run by the banks and Big Oil for the benefit of Banks and Big Oil. Reasonable, solid returns are no longer any good (well, they’re no longer available, either), so risk addicts in the casino reach for yield. Entrenched fossil fuel extracters do very well, so the planet is transitioning into a toxic climate. But hey, we can’t afford to save ourselves.

Some promise came last week, when the Senate’s Permanent Subcommittee on Investigations referred to the Justice Department and SEC findings that indicated Goldman Sachs profited from the financial crisis by criminal means, then lied to Congress and its own investors about it. The Senate panel, led by Carl Levin of Michigan had investigated the matter for two years, before coming up with the conclusions.

"In my judgment, Goldman clearly misled their clients and they misled the Congress," Levin said.

"Goldman was, I think, the only major bank that did well during the recession. We tried to find out, 'How is it they did well?' " Levin said Wednesday. "The tactics that they used … were disgraceful. And sticking it to their own clients violates their own claim that the clients come first."

Was he disappointed that nobody on Wall Street had gone to jail? Levin responded, "There's still time."

"It shows without a doubt the lack of ethics in some of our financial institutions," agreed Sen. Tom Coburn (R-Okla.), the subcommittee's top Republican, who approved the report along with Levin.

Goldman Sachs is just one focus of the subcommittee's probe, according to the LA Times report, into Wall Street's role in the financial crisis. The 639-page report — based on internal memos, emails and interviews with employees of financial firms and regulators — casts broad blame, saying the crisis was caused by "conflicts of interest, heedless risk-taking and failures of federal oversight."

Among the culprits cited by the panel are Washington Mutual, a major mortgage lender that failed in 2008, as well as the Office of Thrift Supervision, a federal bank regulator, and credit rating firms. The subcommittee echoes the conclusions of the Financial Crisis Inquiry Commission, the Angelides Commission, but those were muted by a smokescreen of pushback from the bankers shills, i.e., the Republicans on the panel.

According to the LA Times,

The SEC suit that Goldman settled last year at the cost of in excess of half a billion dollars alleged that the firm had misled investors in a complex mortgage-related security known as Abacus. The Senate report cites three similar securities that it said Goldman betted against, or shorted, without informing its clients.

The report also says Goldman Chief Executive Lloyd Blankfein and other executives misled the subcommittee when they appeared before the subcommittee last April and testified that the investment bank had not consistently tilted its own investments heavily against the housing market — a position known as being "net short."

The subcommittee has estimated that in 2007 Goldman's bets against the mortgage markets more than balanced out the bank's mortgage losses and led to a $1.2-billion profit in the mortgage department alone that year.

Goldman was so focused on shorting the market it even tried a strategy called a "short squeeze" to drive down the price of obtaining short positions, the report said.

In a statement issued Wednesday, Goldman said that during the subcommittee's hearing last year, its executives "repeatedly and consistently acknowledged that we were intermittently net short during 2007. We did not have a massive net short position because our short positions were largely offset by our long positions, and our financial results clearly demonstrate this point."

But the subcommittee report says such denials by Goldman "are directly contradicted by its own financial records and internal communications."

The real situation was described in the best-seller by Michael Lewis, the Big Short, which suggested that Goldman was caught with its pants down holding long positions and when the obvious was upon them muscled or scammed their way into short positions

And we’re going to conclude today with an extended rendition, a portion of the epilog from the Big Short. Hopefully since we don’t do commercial business on this podcast, we’ll be held legally harmless. Consider it a favorable review. Lewis’ book is indeed worth reading, and eminently readable, even compelling. It opens the casino so you can see the big players from the back. The games are rigged. The rules are fixed or floating, depending on the interests of the big players. The drunk guy in the corner gets his pocket picked every time there’s a problem. Oh, that’s Ben Bernanke.

Surprising to me was the psychological stress on those who made the big short pay off for them. Severe stress came not beforehand, but after the bets paid off.

The following is not included in the transcript. You’ll have to buy the book.