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Moral hazard revisited.

January 29, 2011

My own personal experience with Moral hazard involved my older brother Joe.   Joe was the local tough guy who had likely beaten up half the dirt bags south of Hempstead tpk in Levittown.   So on account of our shared last name, I enjoyed a certain privilege on my block.  The pot smoking dirt balls knew not to so much cock an eye in my direction.

One rainy day I was kicking around my front yard and I noticed this fat guy on a ten speed talking to my dirt bag neighbor.  Unfortunately this dude (whom I had never seen before) so happened to be standing adjacent to a large mud puddle which I was itching to throw some rocks into.  I would not be denied.  I started throwing some small pebbles into the puddle and understandably, the stranger took exception to the mud being splashed onto his newish looking pants.   “throw another fucking rock and Im going to shove your face in that puddle”  This poor bastard obviously didn’t know who he was messing with.  (My brother was but 20 yards away watching football with my dad).  I sized him up.  He was sitting on a ten speed and he looked big and slow and had little chance of catching me before I reached my front door – so I proceeded to pick up a big ass rock and fired that sucker right at his feet.  SPLASH! before I could even take a step towards the door he was on top of me -apparently anticipating my actions.  He was a fast fat body but I nimbly avoided his initial lunge and headed for the house.    I was nearly home free when he pounced on me as I was about to open the door.   Head lock.  I could feel the blood rushing to my face and could no longer breathe, but I had just barely enough energy to wrap the front door twice.    About a split second from unconscienceness he released my neck from his hefty arms.  I looked up to see my brothers face through the screen door.  I ran past him into the house and turned around to see this fat guy airborne.  Joe body slammed into the hood of the car and then proceeded to punch him is the face and broke his glasses.  I was pleased until my brother came back inside.

He proceeded to BEAT the living SHIT outa me!!??

What the hell?  It turned out my brother spoke to my neighbor who told him what happened.  It also didnt help that the front hood of my brothers car was dented by the fat kids head.

Moral of the story ?  The majority of financial firms should have the snot beaten out of them by my big brother.

“Firms perceived as likely to be saved by the government face limited market discipline, allowing them to obtain funding on better terms than the quality or riskiness of their business would merit and giving them incentives to take on excessive risks.”  -Bernanke

Watch the hands, not the mouth.

For those of you who dont recall, the world as we know it nearly ended 2 years ago primarily due to the actions of financial institutions mainly in the United States.  They knew damn well they could splash mud on people and dash behind big brother.   But certainly all the bail outs and debt guarantees and equity injections would come at a price as big brother realized the shenanigans the banks were up to.  Right?

It certainly  appeared that way when Obama was on TV berating the fat cat bankers, telling em the days of “reckless behavior were over!”  My man Obama would seize the moment and accomplish what  no other pussy president would do,  Break up the to big banks,  prosecute those responsible for fraud and theft and implement meaningful regulation while preserving the free markets.

Im still waiting….

Nothing has changed and in fact, things are far far far worse setting the stage for another financial collapse.  We did nothing to address the systemic dangers posed by large, highly leveraged U.S. banks that gamble with house money and hold the public hostage with threats of “if you do not bail me out, we wont be able to lend.”  “regulation will inhibit bank lending and stifle job creation”

Jamie diamond can take a shit on the front lawn of the white house and Obama would bow down and pick it up.

Bloomberg Opinion: “The Big Get Bigger. At the end of the third quarter of 2010, by my calculation, the assets of our largest six bank holding companies were valued at about 64 percent of gross domestic product — compared with about 15 percent in 1995. – Barofsky quotes Thomas Hoenig, president of the Kansas City Federal Reserve, who draws the same conclusion: The big banks have undoubtedly become bigger.”

“Neil Barofsky,  the best official articulation yet of why too big to fail is here to stay.  “perhaps TARP’s most significant legacy, the moral hazard and potentially disastrous consequences associated with the continued existence of financial institutions that are ‘too big to fail.’  Barofsky credits Henry Paulson and Timothy Geithner with making it clear that TARP funds would be used to prevent any of the country’s largest banks from failing during the global financial crisis.  Treasury actions had undeniable side effects by effectively guaranteeing these institutions against failure, they encouraged future high-risk behavior by insulating the risk-takers who had profited so greatly in the run-up to the crisis from the consequences of failure.”

So the large banks are granted a competitive advantage in the form of govt backing and access to cheaper capital.  Who else enjoyed this privilege ?  Freddie and Fannie mac – and just how did that end ??????

Bankruptcy and an orderly liquidation need to be a feasible options but they currently are not.   The failure of even a mid tier bank would not be permissible regardless of  what the Dodd-Frank Resolution authority says.  If you think for one second that even a wells fargo would be “wound down” using the “resolution authority” your dumb.  You are really dumb.  And you can run and tell that.  Homeboy.

The big banks need to be broken up.  Nuff said.

“Unfortunately, there is no sign that the Treasury Department is inclined to move in that direction. The quotes from Geithner are all about preserving his freedom of action in future crises, including the ability to determine that which financial institution are “systemic” and need to be protected.

“The incentives for large private banks are similar to those faced  by Fannie Mae and Freddie Mac, which had too little capital and took on too much risk when they had an implicit government guarantee.  As the Barofsky report puts it, “TARP has thus helped mix the same toxic cocktail of implicit guarantees and distorted incentives.”

Politicians are making like the financial crisis has become an inconvenient memory – slashing budgets at regulators such as the SEC and the CFTC.  The US treasury threw over 10 trillion in guarantees, loans and direct cash injections at banks during the crisis.  The budget at the SEC is $1billion.  If we doubled that budget and increased oversight of lending and other financial tom foolery – perhaps we could have avoided the shit that went on at these institutions which led to a near collapse.

“Congress has overseen the SEC and its budget through the fiasco of Bernard Madoff and the biggest financial crisis in 80 years, and where did that get us?”

The CFTC is charged with writing rules and providing oversight to the 600 trillion derivatives market and they dont nearly have the budget to get this done.  They recently went to Congress and asked for a 60% increase and were told their budget may be slashed instead…  WTF?

Bloomberg Opinion: “We’re losing interest in, which would be no problem if only we had finished the nasty job of fixing the system’s flaws before the party got going again. While the affluent resume their collective beauty rest, though, some of the reforms we cheered when the imperfect, better-than-nothing Dodd-Frank Act became law last July are being quietly undone.” — Investor protection is out. Remember all the talk about making the markets safe ? -Dodd-Frank instructed  the Securities and Exchange Commission to set up five new offices, including one to handle whistleblower cases, and a committee to represent the interests of investors on issues like fees and disclosure. But on Dec. 2, the agency put those efforts on hold because of “budget uncertainty.

“A frozen budget has also forced the SEC to scale back its plans to get up to speed with the dynamics that resulted in the so-called flash crash on May 6, 2010, when the Dow Jones Industrial Average fell almost 1,000 points in a matter of minutes. The agency had planned to hire five math whizzes acquainted with the sorts of financial algorithms involved in the instant meltdown. Instead, it’s settled for one.”

— Pandering to business instead.

“The California Republican who is chairman of the House Oversight and Government Reform Committee, sent letters to 150 companies and business trade groups in December asking them which regulations and rules might be restraining job growth. He didn’t really have to ask, because we all know that the answer, of course, is:

“All of them.”

The banks have us by the balls.  Regulation hurts profits which hurts lending which hurts the economy which hurts job growth.

So by hurting the banks we hurt ourselves.

We have diverted our attention to the ‘curses of regulation’ away from the true enemy and employment destructor which is the unregulated lending, financial engineering and products and a 650 trillion dollar derivatives mkt which helped fuel the meltdown (and destroyed jobs)

— Obama —  Why have you forsaken me ?

Out With Volcker

“Obama recently replaced the board’s chairman, former Federal Reserve boss Paul Volcker, with General Electric Co. Chief Executive Officer Jeffrey Immelt, whose company enjoyed bailouts during the crisis. “

“An excellent choice,” said big business and the banks.

That Volker guy was for limiting the banks ability to gamble with FDIC funds thus diminishing banks profits (and job growth).  He had to go.

I see it first hand at my job.  Things are going right back to where they were.  Its deja vu all over again.

Another article this morning in Bloomberg – “(BN) Citigroup Ignored 2005 CDO Alarm”

The only thing between banks ramping up risk and taking home fat bonuses are in bonuses are their bank examiners – therefore we need to be able to trust our regulators – Apparently somebody fell asleep at the switch.

The government questioned whether Citigroup can be left alone to manage its risks. Neil Barofsky disclosed.   A repeat failure of Citigroup could again imperil the global financial system –

IMO – A dependable proxy of the effectiveness of regulation is bank bonuses and CEO pay.  Countrywide CEO Angelo Mozilo, Merrill Lynch CEO Stanley O’Neal and Citigroup chief Charles Prince – Between 2002 and the close of 2006 – the three executives were paid $460 million.

Bloomberg –

“In 2005 Citigroup Inc.’s bond-trading desk was warned that it was taking too much risk, three years before mortgage losses in the unit led to a near collapse of the bank and a $45 billion U.S. bailout.  The warning from the Office of the Comptroller of the Currency came as Citigroup’s trading chief Thomas Maheras collected $34 million in salary and bonus in 2006 as his division took increasing risks.  “The findings of this examination are disappointing, in that the business grew far in excess of management’s underlying infrastructure and control processes,” bank examiner Ronald Frake wrote in the letter. “Transaction risk is high. Management oversight is considered less than satisfactory.” – the OCC’s Frake said risk management in Citigroup’s credit-derivatives business was “disappointing, in that the business grew far in excess of management’s underlying infrastructure and control processes.  The FCIC cited an internal May 2005 faulting the Federal Reserve Bank of New York for staffing its Citigroup team at a level that “has not kept pace with the magnitude of supervisory issues that the institution has realized.”

What went wrong?  Regulators seemed they had acknowledged the risks at Citi and just in time as as the HUGE bubble in the real estate mkt was obvious to all and about to POP!

According to documents labeled confidential and released by the FCIC, Citigroup overhauled its risk management in 2006 after being faulted the prior year for lapses. The Federal Reserve raised its rating to “satisfactory”.

What the?

In a hand-delivered letter to then-Citigroup Chairman Sanford “Sandy” Weill in April of that year, New York Fed Assistant Vice President Dianne Dobbeck acknowledged “improvements in the compliance structure and its effectiveness as a result of substantial management effort expended.” The same month, New York Fed Executive Vice President William Rutledge informed Prince in a letter that a March 2005 that the ban on “significant expansion” had been lifted.

Dobbeck has since been promoted to senior vice president in January 2009, according to a Fed statement. Job well done boy!  Job well done!

Dobbeck and the boys at the FED proved they should have their authority expanded.  Yup.  They are on top of the situation.

Citigroup’s CDO desk proceeded to churn out billions in CDOs in 2006, double the amount in 2005.

The OCC now believes a “key turning point” for Citigroup came in 2006 when regulators lifted sanctions imposed on the bank earlier in the decade, according to the FCIC. The freedom allowed the company, then led by CEO “Chuck” Prince, to embark on an “aggressive” expansion.

Surge in Assets

In two and a half years, the bank’s balance sheet ballooned by 58 percent to $2.36 trillion as of Sept. 30, 2007, just before Prince was fired.

“With the removal of  the previous focus on risk and compliance gave way to business expansion and profits,” OCC Examiner “The board and senior management have not ensured an effective and independent risk-management process is in place,”

“In this case, too-big-to-fail meant too-big-to-manage,” the FCIC’s concluded in its report.

The Fed makes good :  (Just a little late)

On April 15, 2008, New York Fed Assistant Vice President John Ruocco informed Pandit in a hand-delivered letter that Citigroup’s risk-management rating was again being cut to “fair.”  due in part to “serious deficiencies” in the prior management’s oversight and controls.

“Senior management at the firm allowed its drive for additional revenue growth to eclipse proper management of risk,”  – “The New York Fed continuously seeks to refine its supervisory process and is incorporating the lessons of the crisis,” spokesman Jack Gutt said.

Roger T. Cole, former head of bank supervision at the Federal Reserve, told the FCIC that supervisors “did discuss issues such as whether banks were growing too fast and taking too much risk, but ran into pushback.”

(“Pushback” is Fed speak for a bribes)

“Citigroup was earning $4 to $5 billion a quarter, and that is really hard for a supervisor to successfully challenge,” Cole said

But lets fast forward to today:   “Citigroup spokeswoman Molly Meiners said Pandit has overhauled risk management and runs a “fundamentally different company today than it was before the crisis.”

“When the regulatory handcuffs were taken off, then Citi had a whole new set of problems, so perhaps now the handcuffs will stay on longer” Mayo.
Recently Pandit and the vast majory of CEO’s on wall st. received fat raises…
This time its different..
One Comment leave one →
  1. A. Strung permalink*
    January 30, 2011 12:42 pm

    Bad juju

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