Submitted by David Stockman via Contra Corner blog
,
GE’s announcement that its getting out of the finance business
should be a
reminder of how crony capitalism is corrupting and
debilitating the American economy. The ostensible
reason the
company is unceremoniously dumping its 25-year
long build-up of the GE Capital mega-bank is that it doesn’t
want to be regulated by Washington as a systematically important
financial institution under Dodd-Frank. Oh, and that its core
industrial businesses have better prospects.
We will see soon enough about its oilfield equipment
and wind turbine business, or indeed all of its capital goods
oriented businesses in a radically deflationary world drowning in
excess capacity.But at least you can say good riddance to
GE Capital because it was based on a phony business model that was
actually a menace to free market capitalism.
Its deplorable raid on the public purse during the
Lehman crisis had already demonstrated that in spades.
Even MarketWatch’s coverage captured a hint of this illicit
business model:
GE’s news release announcing its latest and greatest reduction
of GE Capital summed up the move beautifully, saying
“the business model for large wholesale-funded financial
companies has changed, making it increasingly difficult to generate
acceptable returns going forward.”
“Wholesale-funded” refers to GE Capital’s traditional reliance
on the commercial paper market for liquidity. The problem with this
short-term funding model for a balance sheet with long-term assets
is that during a financial crisis, overnight liquidity tends to dry
up as it did for GE late in 2008. When the company had difficulty
finding buyers for its paper, the Federal Deposit Insurance Corp.
stepped in and through its Temporary Liquidity Guarantee Program
(TLGP) was covering $21.8 billion of GE commercial paper. GE
Capital registered for up to $126 billion in commercial-paper
guarantees under the TLGP.
General Electric obviously wishes to avoid ever needing another
government bailout…..
Well, its not exactly that “the business model for large
wholesale-funded financial companies
has changed.”
It was never valid in the first place. Indeed, the fact
that GE assembled what was once a $600 billion wholesale
funded bank is a testament to the destruction of honest financial
markets by the Fed and other central banks.
In fact, GE Capital never had any secret sauce or
competitive advantage.At the end of the day, it made its
money by investing in long-dated, illiquid financial assets such as
real estate, equipment leases, term loans, project finance deals
and LBOs, and then funded them with cheaper, shorter term
wholesale money. The assets were cold; the funding was hot.
So doing, it picked up billions of nickels in front of the
proverbial steamroller—–that is, until the jig was
suddenly up in September 2008. What occured next
would was the deplorable $60 billion bailout by
Washington, but that would never have occurred in an honest free
market because the GE Capital house of cards could never have been
erected.
The colossal commercial paper funding meltdown
experienced by GE Capital in September 2008 would not have
happened because an honest market would not have priced
its commercial paper so cheaply.That is, its business
model, which amounted to yield curve arbitrage, would not have been
profitable. As a consequence, even a corporate value destroyer
and crony capitalist plunderer like Jeff Immelt would not have been
positioned to raid the US treasury in September 2008.
As it is, Immelt was given a thumbs up by the market on
Friday for jettisoning GE Capital - even if it was largely for
the wrong reason.Namely, that it was accompanied by
another gigantic $50 billion share buyback promise - a raid on GE’s
balance sheet that makes no sense as the company now plunges
into the epochal deflationary era ahead as a “pure play”
industrial which will need all the clean balance sheet it can
get.
Never mind, through.
Immelt did get GE’s stock price back to... .well, to
its 1998 level! That’s 17 years to nowhere, but its better
than the alternative.
When the next financial meltdown arrives, GE Capital would have
been obliterated. And apparently even Obama’s chief business
booster, General Electric’s CEO and Chairman, could see that
next time even Washington would be coming not with TLGPs
and other dollar-laden acronyms, but with torches and
pitchforks.
GEdata by
YCharts
In the
Great Deformation
, I
singled out Immelt for a special place in the crony
capitalist hall of shame
. On the occasion of making the world (somewhat) safer by
dismantling GE Capital, here is why its good that the
latter is gone and that Immelt deserves everlasting ignominy
for his rape of the US taxpayers last time around:
From The Great Deformation:
By that late hour, however, the Fed was not even remotely
interested in financial discipline. The Greenspan Put had now been
superseded by the even more insidious Bernanke Put. In defiance of
every classic canon of sound money, the new Fed chairman had
panicked in the face of the first stock market tremors in August
2007 (see chapter 23), and thereafter the S&P 500 had become an
active and omnipresent transmission mechanism for the execution of
central bank policy.
Consequently, after the Lehman event the plummeting stock
averages had to be arrested and revived at all hazards.
Accordingly, the bailout of AIG was first and foremost an exercise
in stabilizing the S&P 500.
The cover story, of course, was the threat that a financial
contagion would ripple out from the corpus of AIG, bringing
disruption and job losses to the real economy. As has been seen,
however, there was nothing at all “contagious” about AIG, so
Bernanke and Paulson simply peddled flat-out nonsense in order to
secure Capitol Hill acquiescence to their dictates and to douse
what they derisively called “populist” agitation; that is, the
noisy denunciation of the bailouts arising from an intrepid
minority of politicians impertinent enough to stand up for the
taxpayer.
But this hardy band of dissenters—ranging from Congressman Ron
Paul to Senator Bernie Sanders—was correct. Everyday Americans
would not have lost sleep or their jobs, even if AIG’s upstairs
gambling patrons had been allowed to lose their shirts. Still, the
bailsters peddled a legend which has persisted; namely, that in
September 2008 the nation’s financial payments system was on the
cusp of crashing, and that absent the bailouts American companies
would have missed payrolls, ATMs would have gone dark, and general
financial disintegration would have ensued. But this is a legend.
No evidence has ever been presented to prove it because there isn’t
any.
Take the case of GE Capital...
On the eve of the crisis about $650 billion, or one-third of
prime fund assets, were invested in commercial paper, making these
funds the largest single investor class in the $2 trillion
commercial paper market. Consequently, when the wave of money moved
from prime funds to government- only funds which could not own
commercial paper, open market rates on the A2/P2 grade of
thirty-day commercial paper spiked sharply. Loan paper that had
yielded only 1 percent prior to the spring of 2008 suddenly soared
to over 6 percent during the September crisis.
Any garden variety economist might have suggested that
commercial paper had been seriously overvalued. The flight from
prime funds was living proof that the market had been artificially
buoyed by big chunks of demand from what were inherently
risk-intolerant prime fund investors. Now, the commercial paper
market was in a violent rebalancing mode, causing borrowers to
experience the joys of “price discovery” as interest rates sought a
higher, market-clearing level.
THE REAL BAILOUT CATALYST: JEFF IMMELT’S THREATENED
BONUS
At that particular moment, however, General Electric CEO Jeff
Immelt was apparently in no mood for a lesson in price discovery.
In fact, he was then learning, along with the rest of Wall Street,
an even more painful lesson about the folly of lending long and
borrowing short. Notwithstanding that General Electric was one of
just a handful of AAA-rated American corporations, it was suddenly
discovering that its hugely profitable finance company,
General Electric Capital, was actually an unstable house of
cards.
GE Capital’s financial alchemy rested on a simple but
turbocharged formula straight out of the Wall Street
playbook.At the time of the crisis, GE Capital boasted
$650 billion of financial investments from customized deals in real
estate, equipment leasing, working capital finance, and private
equity. While these highly proprietary investments yielded generous
rates of return, they were also highly illiquid and prone to blow
up at higher than normal loss rates, thus bearing an asset profile
that called for generous amounts of equity capital funding. In
fact, however, GE Capital’s massive balance sheet was leveraged
nearly 10 to 1 and included upward of $100 billion of
short-term commercial paper.
Needless to say, this huge load of commercial paper carried
midget in- terest rates (4.7 percent), which helped fuel impressive
profit spreads on GE’s assets. But this ultra-cheap CP funding also
bore short maturities, meaning that GE Capital had to rollover
billions of commercial paper debts day in and day out.
When commercial paper rates suddenly spiked during the Lehman
crisis, GE was caught with its proverbial pants down. But rather
than manning-up for the financial hit that his company deserved,
Jeff Immelt jumped on the phone to Treasury Secretary Paulson and
yelled “Fire!”
Within days, the sell-off in the commercial paper was stopped
cold by Washington’s intervention, sparing GE the inconvenience of
having to pay market rates to fund its massive pool of assets. The
Republican government essentially nationalized the entire
commercial paper market.
Even a cursory look at the data, however, shows that Immelt’s
SOS call was a self-serving crock. His preposterous message had
been that the commercial paper market was seizing up and that GE
was on the edge of collapse—a risible proposition. Nevertheless,
that assertion quickly became gospel among panic-stricken
officialdom, and from there it rapidly spread to Wall Street and
the financial press.
Not surprisingly, even two years later when the dust had settled
and facts were readily available to refute this horary untruth,
Secretary Paulson insisted upon repeating the GE legend in his
memoirs. Describing round the clock staff activities on Wednesday,
September 17, he noted that “our most pressing issue” had been to
“help the asset-backed commercial paper market before it pulled
down companies like GE.”
That was garbled nonsense. GE was not even a significant
issuer of “asset-backed commercial paper” (ABCP).Those
small amounts it did issue ($5 billion) were non-recourse and
self-liquidating, meaning that GE Capital would have already passed
ownership of the embedded assets to the ABCP conduit and its
investors would have taken a hit, not GE.
By the same token, it was a huge issuer of unsecured
commercial paper (100 billion),but even that was not
remotely capable of felling the mighty GE. The required rollover
funding was less than $5 billion per week, which was petty cash for
a $200 billion (sales) global corporation with an AAA credit
rating.
Although GE was not heading into a black hole, it was facing the
need for a painful bout of liquidity generation which would have
required either a fire sale of some of its sticky assets or a
highly dilutive issuance of long term equity or debt capital. Both
courses were feasible, but each would have resulted in a sharp blow
to earnings and top executive bonuses.
Instead of allowing the free market to resolve the matter,
however, the taxpayers were thrown into the breach in still another
variation of stopping the alleged “run” on Wall Street’s cheap
wholesale funding.Again, a necessary and healthy market
correction was cancelled while the cronies of capitalism were kept
in the clover.
WHY THE ATMS WOULD NOT HAVE GONE DARK: THE SECRET OF “GAIN
ON SALE” ACCOUNTING
The commercial paper bailout incited by Jeff Immelt was utterly
unnecessary. The facts show that the bailsters conjured up still
more economic goblins where none actually existed. What the
commercial paper bailout mainly did was prop up the banking
industry’s “gain on sale” profit scam.
The single most salient fact about the $2 trillion commercial
paper market was that upward of $1 trillion was accounted for by
the aforementioned ABCP, or asset-backed commercial paper segment.
This was just another form of securitization, and it amounted to
the financial equivalent of a twice-baked potato.
In this instance, Wall Street had gone to the banks and credit
card companies and purchased massive volumes of “receivables”
representing payments owed on millions of auto loans, credit cards,
student loans, and other installment credit. These receivables were
then dumped into a “conduit,” which was a legal structure that
existed only in cyberspace; the underlying payments on loans and
credit cards were processed and collected by their bank and finance
company originators.
Nevertheless, the conduits were given a top credit rating by
S&P and Moody’s because they were over collateralized; that is,
they had enough extra assets per dollar of ABCP issued to absorb
any likely defaults by the underlying borrowers. Given these AAA
ratings, the ABCP conduits were thus enabled to issue billions of
commercial paper debt against their “assets,” which were actually,
of course, debts of the American consumer.
The crucial point about this $1 trillion ABCP market,
however, was that it did not originate new loans; it was merely a
mechanism for refinancing debts which already existed. Accordingly,
no consumer anywhere in America needed the ABCP market in order to
swipe their credit card or get a car loan.
Instead, consumer loans of this type were being advanced, day in
and day out, to the public by the likes of JPMorgan, American
Express, Bank of America, and hundreds of other banks and finance
companies. All of the money passing through cash registers from
credit cards and into car purchases from auto loans flowed directly
from these banks, not the ABCP market.
While the ABCP conduits accomplished nothing for the consumer,
they did permit the banks to enjoy the magic of “gain on sale”
accounting. Under the latter dispensation of the accounting
profession, banks could immediately book the lifetime profits on
these consumer loans the minute they were sold to the
securitization conduit, even though such loans were months and even
years from maturity.
The profits on a five-year car loan, for example, could be
booked practically the day it was made. Likewise, credit card
companies essentially had their profits fed intravenously; that is,
within virtually the same digital nanosecond that a consumer’s
credit card was swiped, there also transpired a nonrecourse sale of
this credit card receivable to the conduit. Right then and there,
by means of advanced technology and accounting magic, the bank
issuer of the credit card was able to book the estimated “gain on
sale” directly to its profit column.
So when Bernanke and Paulson regaled Capitol Hill about the
“collapse” of the commercial paper market, what they neglected to
mention was that the main thing collapsing was these quickie “gain
on sale” profits at JP Morgan, Citibank, Capital One, and the rest
of the issuers. No credit card authorization was ever denied nor
was any car loan application ever rejected because the ABCP market
melted down in the fall of 2008.
That the commercial paper market meltdown had never been a
threat to the Main Street economy is now crystal clear: the amount
of ABCP paper outstanding today is 75 percent smaller than in
September 2008, but the banks have had no problem whatsoever
funding credit card and other consumer loans on their own balance
sheets out of their own deposits and other funding sources. In
fact, the banking system is now actually so flush with cash that it
is lending $1.7 trillion of excess reserves back to the Fed at the
hardly measureable interest rate of 0.25 percent annually.
Another $400 billion layer of the $2 trillion commercial
paper market had been issued by industrial companies and was used
to meet working capital needs, including payroll. So it did
not take the Washington bailsters long to conjure up frightening
scenarios about millions of empty pay envelopes at the giant
corporations which were heavy commercial paper users.
Had the bright young Treasury staffers racing around behind Hank
Paulson’s flaming hair come from the loan department of a Main
Street bank rather than the M&A wards of Wall Street, however,
they would have known better. At the time of the crisis, there was
hardly a single industrial company issuer of commercial paper that
did not also have a “standby” bank line behind its program.
Indeed, such back up lines were mandatory features of industrial
company commercial paper programs. They were designed to assure
investors that if issuers could no longer roll over maturing
commercial paper, they would make timely repayment by drawing down
their standby lines at their bank.
Moreover, industrial company issuers paid an annual fee of 15 to
20 basis points on these standby credit lines, precisely so that
banks would have a contractual obligation to fund if requested. In
the event, none of the banks violated their legally enforceable
loan contracts to fund these CP standby lines. There was never a
chance that corporate payrolls would not be met.
CRONY CAPITALIST SLEAZE: HOW THE NONBANK FINANCE COMPANIES
RAIDED THE TREASURY
The final $600 billion segment of the commercial paper market
provided funding to the so-called nonbank finance companies, and it
is here that crony capitalism reached a zenith of corruption.
During the bubble years, three big financially overweight
delinquents played in this particular Wall Street sandbox: GE
Capital, General Motors Acceptance Corporation (GMAC), and CIT. And
all three booked massive accounting profits based on a faulty
business model.
When a financial company lends long and illiquid and funds
itself with short-term hot money, it needs to regularly charge its
income statement with a loss reserve for the inevitable, violent
moments of financial crisis when short-term money rates spike or
funding dries up completely. At that point, a fire sale of assets
at deep losses becomes unavoidable in order to scrounge up cash to
redeem their hot-money borrowings as they come due daily.
The big three nonbank finance companies had not provided
such rainy day reserves.Consequently, when the commercial
paper market seized up, Mr. Market came knocking, intent on rudely
clawing back years’ worth of overstated profits. In short
order, however, the two largest of these giant finance companies,
GE and GMAC, received taxpayer bailouts, proving once again that in
the new régime of crony capitalism the kind of muscle which
ultimately mattered was political, not financial.
The single most malodorous of the big finance companies was
General Motors Acceptance Corporation, which went by the
innocent-sounding acronym of GMAC. But it wasn’t innocent in the
slightest, perhaps hinted at by the fact that its chairman was one
Ezra Merkin, whose major line of business had famously been in the
operation of multibillion-dollar feeder funds for Bernie
Madoff.
GMAC was not only a huge purveyor of some of the worst slime in
the subprime auto loan and home mortgage market, but it was also a
giant financial train wreck waiting to happen. Leveraged at more
than 10 to 1 and funded with massive amounts of short-term
commercial paper, it had no ability to absorb even mild losses in
its loan book.
GMAC was in the business of accumulating truly rotten loans. Its
operating units appear to have scoured subprime America looking for
“twofers.” Thus, the notorious Ditech online mortgage operation put
millions of financially strapped households in homes they couldn’t
afford. Then it compounded the favor by putting a new car in their
garage via a six-year subprime auto loan that was “upside down”
(i.e., greater than the value of the car) nearly from day one.
Many of the “twofer” households lured into unsustainable debt by
GMAC’s subprime predators defaulted on their auto and mortgage
loans when housing prices crashed and the economy buckled. As a
consequence, GMAC ended up writing down $25 billion of loans, or
more than the cumulative profits it had booked during the previous
several years.
By every rule of capitalism, an enterprise as foolish,
dangerous, predatory, and insolvent as GMAC should have been
completely liquidated by a financial meltdown which was functioning
to purge exactly that kind of deformation. Instead, it has remained
on federal life support owing to $16 billion in TARP funding and an
additional $30 billion in guarantees and subventions from FDIC and
the Fed.
Yet there is not a shred of evidence that the Main Street
economy has benefited from GMAC’s artificial life extension
program. There has never been a shortage of solvent banks, thrifts,
and finance companies to serve the auto and housing finance needs
of the nation’s diminished pool of creditworthy borrowers. So when
the Washington bailsters stopped the commercial paper meltdown on
grounds that the likes of GMAC were imperiled, they snatched defeat
from the jaws of victory.
Washington’s $30 billion lifeline to AAA-rated General
Electric was no less gratuitous.At the time of Immelt’s
SOS call to Secretary Paulson a day after the Lehman bankruptcy
filing, the stock and bond markets were in a state of turbulence
and panic. Even under those dire conditions, however, the world’s
capital markets were still valuing GE’s common stock at $200
billion and were trading its $400 billion of term debt at a hundred
cents on the dollar. Thus, as measured by the fundamental metric of
corporate finance known as “enterprise value” (debt plus equity),
the markets were capitalizing General Electric at $600 billion
during the very midst of the meltdown.
This puts the lie to an urban legend assiduously promoted by the
bailsters at the time and repeated endlessly by their apologists
ever since. Their preposterous claim was that the $600 billion
globe-spanning behemoth known as General Electric could not find
replacement financing for the approximate $25 billion of commercial
paper scheduled to mature on a fixed schedule (i.e., it was not
subject to call on demand) between September 15 and the final
months of 2008. The very idea that GE had been incapable of raising
even a billion dollars of funding per business day was ludicrous on
its face.
That this proposition was seriously embraced by mainstream
opinion is undoubtedly a measure of the panic which had been
shamelessly induced by the Washington bailsters. The true facts of
the case, of course, were more nearly the opposite. GE Capital
could have readily generated sufficient cash to meet its CP
redemption obligations by selling only 8 percent of its assets,
even at fire-sale discounts of up to 50 percent of book value, if
that had been necessary.
In the alternative, the GE parent corporation could have raised
new debt and equity capital, again at whatever deep discounts might
have been demanded by the distressed markets of the moment. For
example, a 4 percent increase in its long-term debt would have
raised $15 billion, even if it required a coupon double GE’s
average 5 percent rate. And a mere 10 percent increase in its
outstanding common shares would have raised $10 billion, even had
they been placed at $10 per share or 50 percent below its $20 stock
price at the time.
Thus, the mix of potential asset disposals and stock and bond
issuance available to GE was nearly infinite. Any combination
chosen would have generated sufficient cash to redeem its expiring
commercial paper. Indeed, it is blindingly obvious that the
taxpayer-supported bailout of General Electric was simply about
earnings per share and the threat to executive bonuses that would
have resulted from asset sales or stock and bond offerings.
The fact is, these “self-help” methods of raising cash according
to free market rules would have also have whacked GE’s earnings by
perhaps $2 per share, owing to losses or earnings dilution. Either
way, shareholders would have gotten the beating they deserved for
having so egregiously overvalued GE’s debt-inflated earnings and
for putting such reckless managers in charge of the store.
Instead, GE shareholders were spared any permanent damage.
Likewise, GE and GMAC had combined long-term debt outstanding of
nearly a half trillion dollars, all of which remained worth a
hundred cents on the dollar, thanks to Uncle Sam’s safety nets.
This means that the bond fund managers who were the
“enablers” of these unstable finance company debt pyramids got off
without a scratch. So the pattern was repeated over and
over.The post-Lehman meltdown in the wholesale money
markets, including the various types of commercial paper, was of
consequence only in the canyons of Wall Street. The thin slab of
permanent debt and equity capital that supported these bubble-era
pyramids of inflated assets and toxic derivatives was the only real
target of Mr. Market’s wrathful attack.
Had this attack been allowed to run its course, hundreds of
billions in long-term debt and equity capital that underpinned the
Wall Street–based speculation machines would have been wiped out,
including huge amounts of stock owned by executives and insiders.
Such a result would have been truly constructive from a societal
vantage point. It would have implanted an abiding 1930s style
generational lesson about the deadly dangers of leveraged
speculation.
BERNANKE’S PANICKED DEPRESSION CALL
At the end of the day, the stated purpose of the Wall
Street bailouts—to avoid a replay of the 1930s—was drastically
misguided. It was based on a phantom threat which arose
overwhelmingly from the faulty scholarship of a single official:
the former math professor who had come to head the nation’s central
bank. The analysis was actually not even his own, but was the
borrowed theory of Professor Milton Friedman.
Forty years earlier, Friedman had famously claimed that the
Fed’s failure to run its printing presses full tilt during certain
periods of 1930–1932 had caused the Great Depression. Bernanke’s
sole contribution to this truly wrong-headed proposition was a few
essays consisting mainly of dense math equations. They showed the
undeniable correlation between the collapse of GDP and the money
supply, but proved no causation whatsoever. In fact, as will be
shown in chapters 8 and 9, the great contraction of 1929–1933 was
rooted in the bubble of debt and financial speculation
that built up in the years before October 1929, not from
mistakes made by the Fed after the bubble collapsed. In the fall of
2008, the American economy was facing a different boom-and-bust
cycle, but its central bank was now led by an academic zealot who
had gotten cause and effect upside-down.
The panic that gripped officialdom in September 2008,
therefore, did not arise from a clear-eyed assessment of the facts
on the ground. Instead, it was heavily colored and charged by
Bernanke’s erroneous take on a historical episode that bore almost
no relationship to the current reality.
Nevertheless, the bailouts hemorrhaged into a multi trillion
dollar assault on the rules of sound money and free market
capitalism. Moreover, once the feeding frenzy was catalyzed by
these errors of doctrine, it was thereafter fueled by the
overwhelming political muscle of the financial institutions which
benefited from it.
These developments gave rise to a great irony. Milton Friedman
had been the foremost modern apostle of free market capitalism, but
now a misguided disciple of his great monetary error had unleashed
statist forces which would devour it. Indeed, by the end of 2008 it
could no longer be gainsaid. During a few short weeks in September
and October, American political democracy had been fatally
corrupted by a resounding display of expediency and raw power in
Washington. Every rule of free markets was suspended and any regard
for the deliberative requirements of democracy was cast to the
winds.
Henceforth, the door would be wide open for the entire legion of
Washington’s K Street lobbies, reinforced by the campaign libations
prodigiously dispensed by their affiliated political action
committees (PACs), to
relentlessly plunder the public purse.At the same
time, the risk of failure had been unambiguously eliminated from
the commanding heights of the American economy.
Free market capitalism thus shorn of its vital mechanism to
purge error and speculation had become dangerously unhinged.
Yet the September 2008 meltdown was a financial cyclone which
struck mainly within the vertical canyons of Wall Street, and would
have burned out there in short order. This truth exposes the crony
capitalist putsch that occurred in Washington during the fall of
2008 and invalidates its self serving narrative that America was
faced with a continent-wide flood which would have wracked
devastation across the length and breadth of Main Street
America.
There was never any evidence for Bernanke’s Great Depression
bugaboo, a truth more fully explicated in chapters 28 and 32. So it
is also not surprising that bailout apologists cannot explain the
origins of the Wall Street meltdown. Indeed, they treat it as sui
generis, meaning that the “contagion,” whatever it was, had
suddenly arrived as if on a comet from deep space. And after
hardly a ten-week visit, as measured by the return of speculators
to the beaten-down bank stocks in early 2009, it had adverted once
again to interstellar blackness.
It is not surprising, therefore, that the corporals’ guard of
Treasury and Federal Reserve officials who carried out this
financial coup d’état never once provided any detailed analysis of
why this mysterious “contagion” had struck so suddenly; nor did
they ever lay out the financial system linkages and pathways by
which the contagion was expected to spread; nor did they present
any review of the costs, benefits, and alternatives to bailing out
the major institutions which were rescued. Hardly a single page of
professionally competent analysis and justification for the Wall
Street bailouts was presented to the president or any of the
leaders of Congress at the time.
Indeed, the Bernanke–Paulson putsch was so imperious and
secretive that Sheila Bair, head of the FDIC and the one regulator
who thoroughly understood the balance sheet of the American banking
system, and also did not buy into knee-jerk fear mongering about
“systemic risk,” was simply not consulted, and commanded to fall in
line.As Bair recounted the events, “We were rarely
consulted . . . without giving me any information they would say,
‘You have to do this or the system will go down.’ If I heard that
once, I heard it a thousand times . . . No analysis, no meaningful
discussion. It was very frustrating.”
Sheila Bair was the single best informed and most tough-minded
and courageous financial official in Washington at the time of the
crisis. She had a sophisticated grasp of the manner in which
deposit insurance had been abused to fund excessive risk taking in
the banking system and a resolute conviction that the capital
structure enablers—that is, bank bond and equity holders—needed to
absorb losses ahead of the insurance fund and taxpayers.
None of this was remotely understood by Paulson’s cadre of
former Goldman associates led by Neel Kashkari. He was a
thirty-four-year-old former space telescope engineer who had done
two-bit M&A deals in Goldman’s San Francisco office for two
years before joining the Treasury Department and being assigned the
bailout portfolio.
The fact that the abysmally unqualified Kashkari led the
bailout brigade while Bair was systematically excluded from the
process speaks volumes as to how completely public policy had
fallen into the clutches of Wall Street.
Kashkari and his posse had no sense whatsoever about the
requisites of sound public finance.
So in the fog of Washington’s panic, prevention of private
losses quickly and completely supplanted any reasoned consideration
of the public good.