The stock market crash of 1929 exposed Wall Street's excesses and helped cause the "Great Depression." The term "banksters" was born. Wall Street mightily resisted efforts to put a cop on its corner. But with the need to protect the rest of us, Congress adopted investor protection laws and separated investment banking and commercial lending to eliminate conflicts of interest.
Pittsburgh native William S. Lerach
is a longtime shareholder advocate and pioneering plaintiffs' lawyer who was sentenced to two years in federal prison for his role in a kickback scheme involving class-action lawsuits against some of the nation's biggest corporations. He can be reached at WilliamLerach@gmail.com
However, the Street's huge banks used their power to shape the laws and regulations governing them. They kept their hands on the levers of regulation by sending their insiders to Washington, D.C. to take policymaking positions. The Bear Stearns fiasco -- and bailout -- show just how powerful Wall Street's influence remains. But first, some history.
While the post-1929 crash investor protections helped restore the health of America's economy and markets, making both the envy of the world, Wall Street never accepted them. In the 1990s -- at the Street's insistence -- lawmakers weakened investor protections and repealed Glass-Steagall, which had broken apart the big banks' commercial banking and Wall Street operations. Supreme Court decisions restricting investors' rights followed. So did pro-business rule changes by the Securities and Exchange Commission. All this made it easier for Wall Street to do whatever it wanted to do.
We were assured this roll-back would enhance capital formation and U.S. global competitiveness. More jobs and prosperity were to follow. But, in truth, it represented a dangerous "race to the bottom." These masters of capital constantly seek laxer standards by exploiting competition between nation states to achieve a progressive dismantling of the regulatory framework that protects the rest of us.
But, instead of more growth, jobs and prosperity, we have witnessed waves of fraudulent conduct bearing Wall Street's fingerprints -- harming ordinary workers and investors -- the rest of us.
First, the dot.com bubble and the crash. Wall Street merchandized the stocks of a thousand new companies with nonexistent business models or track records and phony revenues and balance sheets. They pocketed billions selling worthless stock hyped by conflicted analysts. Street insiders profited when venture capital funds they and their preferred clients owned bailed out of these dubious enterprises at inflated prices. When this blew apart in 2000-2001, trillions in losses for investors, a huge stock market fall and recession followed.
Next was the fraud wave epitomized by Enron and WorldCom, but which included scores of telecommunications and broadband companies with bloated income statements and balance sheets. The bankers structured phony deals to hide billions in Enron debt and boost its earnings. They peddled billions in worthless WorldCom bonds to keep that Ponzi scheme going. Again, the bankers raked off huge profits. When this imploded, countless jobs were lost. Investors saw tens of billions more go down the drain.
Then there were the Wall Street-arranged and blessed megamergers, many of which failed. Chrysler/Daimler Benz, Qwest/US West, Lucent/Alcatel and AT&T/TCI/Media One are examples. AOL/Time Warner was the worst merger in 100 years. Yet the bankers took the largest fee in history -- $136 million. Huge shareholder losses and more lost jobs followed these misadventures.
Now, the subprime catastrophe. This follows the Street's newest gimmick -- "securitization" -- bundling home mortgages into packages called "collateralized debt obligations" -- which they peddled to investors. These overvalued CDO securities have collapsed. Huge losses are rippling through the economy. Public shareholders of the banks have been hit with $300 billion in losses so far -- with more on the way. Stockholders in mortgage lenders, debt insurers and the like have also suffered huge losses. Pension funds -- watching over our life savings -- will ultimately see trillions in losses. A recession, likely the worst of this generation, is under way.
Cheap credit drove our greatest-ever housing boom. Trillions in loans made millions of new homeowners. Wall Street sold the mortgages to investors as CDOs. Then lenders could make more loans. More new homes, more mortgages, more CDOs. Cheap credit also seeded 10,000 hedge funds, which financed scores of "private equity" firms. All this drove Wall Street into an orgasmic frenzy.
In 2007, home sales slowed, prices began falling and foreclosures surged. The Federal Reserve did nothing. Then came an accelerating collapse. Hedge funds went belly-up. Massive big bank write-downs of CDOs erupted. The stock market plummeted. Credit froze up. Fears of a financial crisis swept the Street. Now the Fed acted. It cut interest rates three times in a few weeks. Several more market liquidity infusions followed -- all mainlining relief to big banks, helping them and their hedge fund and private equity customers.
Despite the pain, these kinds of corrections are not supposed to be all bad. Is this not the natural cycle of "risk capitalism" -- a purge of speculative excesses -- an inevitable consequence of our free market system? This collective pain disciplines those who binged and sets the stage for a recovery. But that's not the way it's playing out.
The Wall Street CEOs who have been booted out got huge exit payments. The former CEO of Merrill Lynch, who came close to killing that firm, costing the stockholders half of the value of the stock, walked away with $160 million in severance monies. Thousands of other bank executives pocketed billions in bonuses for 2007 -- $50 billion to $90 billion, depending on who you believe. The top executives at Goldman Sachs racked up $20 billion. And remember, this year's record take comes on top of record 2006 bonuses, which were based on profits inflated by the then-ongoing CDO scam.
Some politicians windbag about this unfairness, but nothing can be done. The corporate interests control Congress.
Ordinary Americans are hurting. Yet the Washington/Wall Street financial elite -- policymakers who rotate between the pillars of power in Washington and the towers of finance in New York (think Robert Rubin -- Goldman Sachs to Chairman of the Council of Economic Advisors to Treasury to Citicorp, and Hank Paulson -- Goldman to Treasury Secretary) is bailing Wall Street out.
Their massive rate cuts and liquidity injections help big banks and their big customers. Panicked Wall Street and hedge fund executives have the opportunity to access needed funds because of where they are positioned. But it looks like a big shot bailout to average people -- watching foreclosures on their homes. What do they get? Some jaw-boning by Mr. Paulson asking banks to go soft and an 800 number to call and get put on hold.
Look how unfairly help is being distributed. Liquidity injections and discount or federal fund rate cuts mean immediate help to banks, hedge funds or private equity firms. But this "high finance" makes no difference to the millions of homeowners facing foreclosure. They can't access the Fed or call a chief lending officer.
The Federal Reserve recently announced it would swap $200 billion in unsaleable subprime assets held by Wall Street banks for U.S. treasuries. More favoritism. This bailout does nothing to help workers who are losing their homes. It actually puts in place a program to protect the ultimate mortgage holder even if the borrower defaults. This will encourage more foreclosures. Struggling homeowners are told by President Bush to seek "mortgage counseling," while his beloved "free markets" crush them.
It is no coincidence that these massive financial handouts to banks came just before they were to report their first-quarter financial results. The billions in write-downs of the dubious assets they swapped with the Fed have been avoided. But those assets are still as impaired. Real financial problems do not go away by sleight of hand -- even if the Fed is complicit. Either the Fed (i.e., the taxpayers) will eat them later when they are not repaid; or when things calm down, they will be quietly sent back to the banks, putting billions of impaired assets back on their balance sheets. If it's the former, it's an outrageous big-shot bailout. If the latter, it's deception, aided by the Fed.
Over the past week, the Fed rescued Bear Stearns, whose financial hijinks rendered it insolvent. As a result, the Fed now stands ready to finance failing investment banks -- for the first time since the 1929 crash. What does Bear Stearns' risk-taking and speculating yield -- a multibillion-dollar taxpayer-backed bailout. The real beneficiaries are Bear Stearns' trading partners -- big banks and hedge funds -- which faced huge losses if the free market had operated and Bear Stearns gone bankrupt.
But what about the millions of families facing hardship but whose financial profligacy pales compared with Bear Stearns'? Unlike poor old J.P. Morgan, they can't call Ben Bernanke and get a lousy $15,000 or $20,000 loan to avoid foreclosure, let alone billions over a weekend to finance a giant -- and what will be -- hugely profitable takeover.
The fundamental problem remains. Millions of homeowners are defaulting on their mortgages. Foreclosures will continue to depress housing values. This will further impair the value of the securitized packages of mortgages. This will continue until market forces create stabilization and an equilibrium is reached.
Why not attack the core problem and put in place a real program to help struggling homeowners meet their mortgages and stabilize the economic system from the bottom up? Why is it OK to loan big Wall Street banks billions and not OK to loan, give, forgive -- I don't care what it's called -- $15,000-$20,000 to struggling homeowners to keep them in their homes.
Wall Street's harmful behavior is encouraged by diminished regulation and reduced accountability. There is no proportionality as to how the resulting harm is distributed. We lose our investment monies, pension savings and jobs. Yet, the Street's bankers pocket billions, profiting from the privations they inflict on the rest of us. The game is rigged.
Socialism actually exists in America -- but only for big banks. If you wonder why economic growth, job creation and real income growth have lagged for a decade, these continuing economic disasters are the reason.
Former SEC chairman Arthur Levitt has warned all this is endangering the retirement savings of millions of workers held in pension funds. Yet Wall Street and the Bush administration -- led by Street alumnus and cheerleader Mr. Paulson and supported by politicians who thrive on the Street's political money, have been pushing for more deregulation -- more limits on litigation -- and less accountability for the Street.
Why should we do what they want? So we can have more of these kinds of disasters? Generations ago, when the son of the Roman Emperor Vespasian, protested his father's new tax on the public toilets in Rome -- making money from urine -- the Emperor replied, "Pecunia non olet" or "money doesn't smell."
Vespasian would have made a perfect Wall Street banker.
As the recession hurts Wall Street's profits, calls for more regulatory rollbacks to meet the global race to the bottom will escalate. We better say no. If we further weaken the impaired oversight of Wall Street and make the bankers less accountable, the rest of us will reap an even more bitter harvest.
What is needed is better regulation and increased accountability to protect the rest of us.
First published on March 23, 2008 at 12:00 am