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The Coming Bank Bust
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This weekend is the one-year anniversary of the bailout. But The Daily Beast's Nomi Prins says the too-big-to-fail banks have only gotten bigger—and much worse could be on its way.
Any 5 year old who plays with Legos or blocks could address the issue of "too big to fail" with more logic than most of Washington. What do you actually do about things that are too big and could fail? Well, if you build too high a Lego tower, it has a greater chance of collapsing. So you divide the tower into smaller parts. Same blocks. Different construction. Less crash risk. Simple.
This reasoning remained lost on Federal Reserve Chairman Ben Bernanke, as he testified before the House Financial Services committee last week. Sure, he took a bit of blame for the Fed’s role in not protecting consumers enough. But despite the seismic failure of the Fed to see or do anything about the financial train wreck as it barreled forward at warp speed, Bernanke concluded that the Fed was “well suited to serve as the consolidated supervisor." (Code for, "Keeping the really big banks from tanking the economy again.")
Bernanke chose to approve the banks for marriage, rather than send them to therapy.
This is the same Fed that didn’t think big banks were big enough going into last fall’s crisis, so decided to make them even bigger. Here J.P. Morgan Chase, you take Bear Stearns and Washington Mutual. Bank of America, you take Merrill Lynch. And Wells Fargo, you take Wachovia. Bernanke chose to approve them for marriage, rather than send them to therapy.
There are several members of Congress skeptical about the notion of leaving the keys to the kingdom with the king who didn’t protect it, notably Ron Paul (R-TX) and Alan Grayson (D-FL), leading the march to adopt HR1207, a bill to audit the Fed. Yet, the Obama administration has backed the Fed for chief big-bank watchdog from the get-go.
What they and Bernanke are really saying is, let’s watch over the really big Lego towers and hope they don’t fall. What they should be saying is—cue 5 year old—let’s divide up the tower into mini-towers, which will reduce the possibility of a fall. Meanwhile, the trillions of dollars in bailout support that the big banks have received this year confirms the notion that whoever is watching, they will be protected from failure—with public money and lots of Fed backing.
• Nomi Prins: The Merger That Ruined Ken LewisPaul Volcker, former Fed chairman and one of President Obama’s chief economic advisers, gets the problem with this. A week earlier, he pointed out that this “safety net” approach should, in the future, be restricted to commercial banks—leaving the investment banks, or the speculative divisions within mega-banks, or the AIG derivatives departments of the world on their own. Because as any kid knows, if you reward the bully with extra snacks for disrupting the playground at recess, it’s pretty unlikely he’s going to stop being disruptive. He’ll just get fatter and become more of a bully. Instead, he should be restricted, or even kicked out of the playground for bad behavior.
In the banking arena, removing the safety net for more speculative firms requires breaking up the banks into commercial banks (that deal with consumers’ deposits, savings accounts, and loans), investment banks (that can trade whatever they want—just without public backup when they screw up), and insurance companies (who should stick to their day job of providing insurance, not using insurance policies as capital for credit derivatives trades.)
Effecting these divisions is not as crazy as the banking sector would have you believe. Every year, billions of dollars in merger and acquisition fees are made on the very action of splitting off pieces of companies and moving them somewhere else. We even had legislation that did this in our past. In fact, Volcker evoked the essence of the two words that have never escaped the lips of Obama, Bernanke, or Treasury Secretary Tim Geithner (or for that matter President George W. Bush, or former Treasury Secretary, Hank Paulson): Glass-Steagall.
The Glass-Steagall Act came about in 1933. It changed the rules of the playground. The banking system and its speculative debt-backed practices had trashed the general economy and led to the crash of 1929. Along with Glass-Steagall, President Franklin Roosevelt gave the banks a "time out," or bank holiday, in which they were closed and examined. The FDIC was created to protect consumer deposits in the event of further bank collapses, but it could be effective because it didn’t have to protect losses incurred by ill-suited trading practices.
As intertwined entities, financial firms used deposits and loan payments as collateral with which to accumulate impossible debt, risk, and leverage. Consumer deposits became trading capital. Consumer loan payments became fodder for a $14 trillion global asset-backed securitization pyramid between 2002 and 2007, the toxicity of which brought the world to its knees last year. That the U.S. government did, and still does, condone the current bank landscape and those practices, as evidenced by the trillions in bailout money it has put toward keeping the system’s status quo, is grossly irresponsible.
Breaking up the banks should lie at the crux of the debate in the White House, Congress, and amongst global financial leaders. Reinstating Glass-Steagall, which was repealed in bipartisan euphoria in 1999 (the ceremony for which was emceed by former Treasury Secretary Larry Summers, now Obama's right-hand economic adviser) is the best way to achieve future financial stability. It is the only reform measure that will truly make a difference. As long as commercial banks and investment banks are entangled (and insurance companies, as well), no amount of regulation or oversight will be an absolute deterrent to another financial system meltdown. It will just be damage control.
These "sweeping financial reforms" of which Obama and Geithner speak simply aren’t. Increasing capital limits, putting derivatives on regulated exchanges (96 percent of which are owned by the largest five banks who will be happy to retain their control), and having a systemic risk regulator deal with the fallout (and there will be more fallout) of institutions that are just too damn big will have limited impact as long as the lines between commercial and investment banks and speculative activities remain absent.
Bernanke, Obama, and Geithner should be thanking Volcker profusely for having the guts, and publicly minded fortitude, to bring up the notion of Glass-Steagall. Indeed, the White House PR team should have gotten Volcker on all the Sunday talk shows to alert the public. But it didn’t.
There are a slew of hearings on the topic of financial reform scheduled over the next few weeks in Congress. It’s not too late to put the idea of a modern-day Glass-Steagall on the table. Instead of playing it politically safe and setting us all up for a larger crash later, Congress should take heed of Volcker. And the 5 year olds. Split up banks into commercial and investment bank entities. Make monitoring them easier. Reduce systemic risk. Don’t just debate about who gets to watch it grow.
Nomi Prins is author of It Takes a Pillage: Behind the Bonuses, Bailouts, and Backroom Deals from Washington to Wall Street (Wiley, September 2009). Before becoming a journalist, she worked on Wall Street as a managing director at Goldman Sachs, and running the international analytics group at Bear Stearns in London.
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Nomi Prins is author of It Takes a Pillage: Behind the Bonuses, Bailouts, and Backroom Deals from Washington to Wall Street (Wiley, September, 2009). Before becoming a journalist, she worked on Wall Street as a managing director at Goldman Sachs, and running the international analytics group at Bear Stearns in London.
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Nomi Prins is author of It Takes a Pillage: Behind the Bonuses, Bailouts, and Backroom Deals from Washington to Wall Street (Wiley, September, 2009). Before becoming a journalist, she worked on Wall Street as a managing director at Goldman Sachs, and running the international analytics group at Bear Stearns in London.
W3Research
Washington Mutual was unlawfully seized and gifted by a colluding Shelia Bair of the FDIC to JP Morgan Chase and its corrupt CEO Jamie Dimon in order to keep them afloat ...
Please read the following Websites for the whole story ...
WAMUQ: Shareholder Information ...
http://www.wamu-shareholders-resources.com
http://www.wamurape.org
http://www.wamustory.com
http://www.wamuqd.com
P.S. ...
Just this past week even The Street had this to say ...
WAMUQ: JPMorgan's WaMu Deal: Collateral Damage.
http://www.thestreet.com/story/10603450/1/jpmorgans-wamu-deal-collateral -damage.html
W3Research
Washington Mutual was unlawfully seized and gifted by a colluding Sheila Bair of the FDIC to JP Morgan Chase and its corrupt CEO Jamie Dimon in order to keep them afloat ...
Please read the following Websites for the whole story ...
WAMUQ: Shareholder Information ...
http://www.wamu-shareholders-resources.com
http://www.wamurape.org
http://www.wamustory.com
http://www.wamuqd.com
P.S. ...
Just this past week even The Street had this to say ...
WAMUQ: JPMorgan's WaMu Deal: Collateral Damage.
http://www.thestreet.com/story/10603450/1/jpmorgans-wamu-deal-collateral -damage.html
kognyc
I cannot find a single reference of where "Volcker spoke the two words," Glass-Steagall.
His written statement to the Committee on Banking and Financial Services: Reaffirm the principle separating banking from commerce as our approach to financial regulation. Not reinstate Glass-Steagall. In fact, on Charlie Rose (Thursday, October 9, 2008) he said, when asked if he thought the changing of Glass-Steagall was a mistake, he replied, "technology has changed so much I think it was sort-of inevitable," and, "we have not adapted the regulatory system and regulatory attitudes to the world we have now."
Perhaps it was implied, but saying Volcker "spoke the two words that have never escaped the lips of Obama, Bernanke, or Treasury Secretary Tim Geithner," would be a terrific sentence if it were true. It's not - it's irresponsible and lazy journalism.
DragonScorpion
"In the banking arena, removing the safety net for more speculative firms requires breaking up the banks into commercial banks (that deal with consumers' deposits, savings accounts, and loans), investment banks (that can trade whatever they want-just without public backup when they screw up), and insurance companies (who should stick to their day job of providing insurance, not using insurance policies as capital for credit derivatives trades.)"
Wow. You're hired, Ms. Prins!
Ever since they started talking about "too big to fail" and bailing out the banks I knew that unless we impose drastic regulations and dramatically change our economic structure-including moving away from consumerism and toward substantially increased manufacturing, exporting, and agrarianism-then we will end up creating a far worse disaster than we've ever seen. But will anyone actually manage to do this? I had hopes that the Obama Administration would do the right thing. So far, they have not.
To this day I do not believe that we were on the brink of a total economic collapse. Tough severe, certainly, I think this whole thing was exaggerated to benefit the banking industry-making billions for folks who should, today, be in the poor-house through their carelessness and ineptitude.
Repeatedly, we have seen our economy overinflated due to these "bubbles" that inevitably burst. Actual value is discarded and replaced with speculative worth. Our economy isn't really based on actually creating useful things anymore, it's about repackaging the same things with a higher price tag and keeping ourselves afloat through credit and rampant consumption.
Each time one of these bubbles burst, instead of accepting our losses, learning from our mistakes and genuinely starting over, our solution has been to basically get back to where we were by creating a new, more monstrous bubble to take its place until it, too, goes bust. Lather, rinse, repeat.
I believe we have managed to do so again. At our own peril. Only now, the next time the bubble bursts, there will be no bailouts. There will be no recovery. We didn't save ourselves from an "economic Apocalypse" last year but I think we are about to witness one.
hockeydog
Dragon- you pegged it!
Genni2002
They are too big and we already know that the government, at least, thinks they were too big to fail. They should be left to fail and allow the chips to fall where they may LIKE MOST BUSINESS in a capitalistic society would. But nooooooo, we get the same kind of scare, Y2K type, BS talk and excuse making from the people who should have been taking care of business from the get go.
neverlate
The fact is that for big government to work on the scale that Obama is trying to reach you need "too big to fail" financial institutions. Crony capitalism 101.
cedmiller
Exactly. Any five-year-old does understand the principle. I was fearful when Glass-Steagall was repealed and I still am. My insurance companies are no longer mutuals. My banks are no longer mutuals. The banks and the insurance companies and the investment banks are now, essentially, one and the same. The financial collapse of September, 2008 was a mere warning. The unfettered and unregulated market will burn us all.
xlntcat
The failure of the Federal Reserve is only exceeded by the failure of Congress who discouraged regulation and stepped in to kill investigations. If it weren't so tragic, watching the Federal Reserver testify before the clowns in Congress would be amusing. The majority are clueless and the rest of them are corrupt and trying to deflect blame from themselves.
Dralston
There's still time for us to take back this debate and reorient Congress to represent the people, not the banks. We have smart, clear-thinking people in this USA that know just how close we are to catastrophe and are willing to do something about it. I'm thinking it's time for Bernie Saunders and Ron Paul to link up and form a third party to put us back together.
LbrlCons
I disagree with most comments made except one - Congress repealing Glass-Steagal with the 1999 GLBA act was insane. Removed the barriers without any consideration whatsoever for regulatory oversight of the gaps GLBA created. As for too big to fail, I do not like the concept nor the affects. However, the companies that on the brink of failing for anywhere from 2-5 times bigger - yes BIGGER - than Exxon-Mobil Oil; the world's largest oil company. The number of direct job losses - and indirect job losses through services provided these companies - would have been enormous; much worse than those incurred. While most on this blog say let the chips fall where they may, those chips could very well have fallen on you in ways you can never imagine. Then what?
Elements of Glass-Steagall should be re-implemented. Congressional and Regulatory Agency politics, along with financial services industry lobbyist, should not decide how best to supervise these entities, though that won't happen. Politics will determine the effectiveness/ineffectiveness of regulatory oversight. And, once the economy recovers, few on this blog will remember these discussions until the next blow-up. Why? Because this country lives and thrives on credit - must be some kind of Constitutional right. Our idea of minimum living standards is just out of touch with realty as Congress and businesses they think they supervise.
sonofloud
Get ready for another corporate welfare bill.
Picachu
And we can think our Obama-bashing friends the republicans for repealing glass seagal and setting the stage for the mess we are in. While they hurl their absurdist insults at Obama let's not get distracted from who is really responsible for these things. They have yet to be held accountable on many things, but we can at least vote them into a very small minority to limit the amount of damage they can do in future with the same ridiculous policies they still cling to.
thebeef
Another poorly written article full of analogies and vague points. The daily beast continues to let chippy language and big headlines dominate it's site with articles that really have nothing to do with the headline. Blah Blah Blah legos Blah blah blah. This is just more opinion masquerading as news. The facts to back up any notion of another collapse within the next 5 years is absent.
Meglomania
America is in a combined Depression/ Renaissance era. The general public is becoming more, and more aware of the corporate influence of domestic and world wide foreign entities involved.
But the most depressive systemic dysfunctional players are the secret generational corporate publically tied profiteering high level persons taking tax dollars on through the decades, all since the inception of the Federal Reserve. The secret money that has flowed into the world wide system through national security secrets really done for family fortunes is now being questioned by the electorate.
Tired, exhausted, and now simply asking for our tax dollars back to fix our deteriorating well being to create tranquility is characterized as socialism or communism. Or is it the Wahabbi plan to wipe all the infidels off the earth to keep the public option out of the mainstream. Of course the rich thieves don't want tax dollars to go back to the public; there is no profit in that.
To big to fail is laughable, when actually things simply get too big to mange. One slip and everything goes hooey, and then the electorate pays the tab. American middle class offers instant relief for likely the college educated profiteer, with graduated studies in the Gaussian upper right bell curves fuel the greed giving nourishment for the upper players likely totally complicent and an accomplice without projective honest social growth with the medias help to wildly convince the electorate to go ahead and compensate a dysfunctional system with out over sight or accountability. The media being star players for decades sitting on stories that would stime commercial revenue, the current corrupt cash cow of the Jekyll Island banking society likely done in secrecy with million dollar bonus plans to keep the corruption rolling.
It amazing after many years of corruption in our face America is witness to a very revered stock market guru Bernard Lawrence "Bernie" Madoff who after more than a decade pilfered ten of billions of dollars from the stock market. Who was holding the door open for him? What is screaming at America is the realization that those business people likely are lying at high levels all over the place. Many, many entities actually don't have the stock certificates they say they do.
The dirty big secret oppressed by media is the IRS only looks at audit sheets and has no clue to the asset certificates, legally assigned contracts that verify account holdings, The Ronald Reagan saying "make your play but verify" with Americans. The Bush era entire financial fanatical industry is flying wild like the derivative market that are insured ironically with out preexisting conditions. It is such blast fumy that American tax payer pony up for this stock market industry, but gets refused for simply staying well.
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