According to Sheila Bair, former head of the FDIC, the reason that the banks didn’t collapse during the financial crisis was not, as the present wisdom would suggest, because of swift and prudent government intervention, first by the Bush Administration and subsequently by the Obama Administration, but because they were never in any real danger of collapsing.
Excerpts from her book. Get them while they’re hot.
The reason that the Bush and Obama Administrations leapt into the fray was political damage control. They didn’t want to take the risk that the banks would collapse on their watch and they’d get blamed for it. If they didn’t collapse and they did intervene, they’d get credit for it. That’s a formula for ever-increasing intervention.
“That’s a formula for ever-increasing intervention.”
Exactly.
I need to put out a proviso, before my comment. I have not studied in detail either the capital positions or the portfolios of the major banks at the time of the crisis.
However, I was at one point a banker, intimately involved in portfolio issues. And my business today is capital allocation and position.
So I read her comments, and it probably will spur me to buy the book. But it put a smile on my face.
I think at the time all my comments were at OTB. I questioned the actions being taken.
None of it made sense to me. We had commercial banks, whose portfolios were comprised of things like credit card debt, healthy mortgages, large corporate C&I loans and so on. And the toxic assets had been syndicated. Explain to me why these banks had to have government capital contributions?? And let’s set aside why we were bailing out bad decisions at taxpayers, and not shareholder, expense.
My question was WTF????
I was repeatedly taken to task. In particular, by a certain JP, told me we were within hours (hours!!!!) of complete financial ruin. Really?
The Obamafiles were in full force, taking credit for what was perceived to be good policy, started under Bush, but attributed to Obama, for saving the world.
I don’t buy it for a second. I know, in general, what bank portfolios look like, and what those bank income streams look like. I’ll reserve final judgment until reading the book. But this persons comments seem correct.
This is the very definition of rent seeking. Shameful. But if this essay reaches OTB, the Obama knee pad crowd will go berserk.
My reaction at the time (as usual) was ambivalent. My view, essentially, was that if it were necessary to bail out the banks for the financial system to survive then they should have been nationalized (as in Sweden).
The banks are either private enterprise or they are public utilities. Take your pick. If they’re private enterprise, they must be allowed to fail as a consequence of bad business decisions. If they are public utilities, they should be run like, say, the Department of Commerce, with the same restrictions on compensation as the DoC has.
What we’ve got is the worst of all possible worlds with profits privatized and losses nationalized.
I couldn’t agree more, Dave.
I may have to get her book. I like Sheila Bair, and I am “on her d*ck.
The crisis should be broken into two parts. The first part was a run on the mutual funds, and they were within 48 hours or less of failing. This was going to start a downward cascade, and it would have been bad. The initial actions were to stabilize the situation.
The second part was to fix the problem. Depending upon how “fix” and “problem” are defined explains the follow-on actions. This explanation is neither an endorsement nor a justification.
The problem to Sheila was the mutual funds, and the fix was to use the FDIC playbook. The FDIC was capable of managing failed banks, and she had been getting the banks ready for the foreseeable problems. If she had been allowed to manage the problem, the fix would have been relatively simple.
The problem to Hank Paulson and the rest was the CDS’s. As the primary assets began to fail, these would begin to be called to cover the loses. The CDS’s for the primary asset holder was not “the problem”, but they were a problem. One layer was leveraged, and then that layer was leveraged. This was the 48 hour collapse.
The fix to Hank and crew was to stabilize the investment banks to prevent the cascade. AIG held many of the CDS’s, but they did not have enough money to cover the potential loses. AIG was used as the conduit to funnel money to the investment banks. The other schemes were to stabilize the investment banks. I am sure that the political donations to both parties and the incestuous relationship between Wall St. and the government had nothing to do with how the “problem” and “fix” were defined.
There was a mutual fund problem, and Hank and crew used it as cover for the financial problem. “Never let a good crisis go to waste.”
I think, from what I understand, this is basically correct, Tasty. Although I think you mean money market funds, not mutual funds.
The problem becomes, as I think you allude to, a temporary liquidity crisis became the vehicle to save large financial institutions, commercial and investment banks; insurance companies and their shareholders at taxpayer expense.
Now let’s fast forward. What have the taxpayers received in return? Jack squat. What have the executives of these institutions received in return? Continued fat comp packages.
I’m a partner in a private equity firm. If I make dumb decisions my capital dissolves. As it should be. (Not only that, Im subject to liabilty claims from LPs) I’m not too big to fail. So I get hosed. Taxpayers of all income levels who actually pay taxes got hosed. The big financials? “I’m singing in the rain, just singing in the rain……”
The GM bailout hosed the Average Guy, and lenders. For the unions. The bank bailout hosed the Average Guy, for the execs and shareholders. And Obama is running on it as a campaign attribute.
The man has to go. You ain’t seen nothing yet. Give him the ability to consolidate power at collective expense, while telling people he’s working on their behalf? I’m sorry. I’m just not that stupid.
That brings up the other problem with how they’re bailing out banks: they’re only bailing out those that present “systemic risk” rather than all banks. Since 2007 hundreds of small banks have had their doors closed and there are hundreds of more to go. What happens when a small bank is closed? Its business is picked up by bigger banks that present even more systemic risk than they did before.
@Drew
Yes. I can never keep them straight.
… I’m not too big to fail. So I get hosed. …
I understand the feeling.
The problem is that when you are defending what you do, it sounds like you are defending “the system”. I understand that you are not.
These a$$holes have done the “hard work” of rent seeking. They may have done hard work, but I do not think it is honest work. From what I can tell, your hard work is honest work.
I would suggest you change your job description to something different. “Grandma’s income improvement manager”
The writing-style is a bit too cutesy for me (“Dimon, always the grownup in the room . . .”), perhaps someone will blog it for me.
I would like to see a couple of points examined more. She thinks the capital levels seem adquate (except for Citi). I think that fails to consider the role of “confidence” in the system which is an intangible good not subject to a mere accounting function. Was it an issue here and were there alternatives to bolster conficence.
Confidence can also be relative. If its confidence in the system, then loss of confidence removes transactions from the system. But if its loss of confidence in a particular bank or banks, then the alternative is go to the competition. She makes it seem like “the team” took one for Citi, but what if the other banks were allowed to dine on Citi?
For the record I believed it was necessary, though didn’t like the form of it. As Drew said above, the wrong people were forced to pay for mistakes and the wrong people profited from the bailouts. And as Schuler mentions, the “fix” has been to double-down on the systemic risks.
I would love to be proven wrong that some form of bailout was needed in 2008. I would actually be quite happy about that, as it would provide (in a well-run world) knowledge that could that used the next time around, hopefully to not waste shitloads of money propping up people that deserve to fail. We’ll see what the future analyses and counter-analyses show. Anyone want to bet on what the analyses from the big commercial and investment banks will show? 😉
Dave
At my club are two people who work for the bank regulators. Confidentiality considerations preclude full disclosure. they have interesting insights.
You make a good point. All that is happening is a defacto consolidation.
We are ending up with a classic barbell (dumbell??) market structure. Little guys and big guys. Nothing in between. We’ve all seen this before.
The theory of Big Banks was that globally there were big banks who reaped necessary efficiencies for Big Business. The theory of small local banks was the continuation of “character loans” to build small businesses.
Not sure I’ve solved the Rubix Cube.
@PD Shaw
I think the style is strange.
Sheila was concerned about the depositors in the FDIC banks. The money market funds were what she had a plan to address. The investment banking side would have collapsed, and a lot of money would have gone “poof”. The guys getting raises would have been selling apples on the street corner.
I think there would be an increase in confidence. It would be known who was insolvent. Presently, investors need to be concerned with government intervention. Will my bad decision be reversed by the government, or will my good decision be negated by the government?
“The problem is that when you are defending what you do, it sounds like you are defending “the systemâ€. I understand that you are not.”
I’ve come to understand that I’m often misunderstood here. I think it’s because I usually post on the fly between calls, flights and such. And of course my direct style.
Private equity is so misunderstood. It’s not banking. It’s not investment banking. It’s not Big Finance. It’s really a cottage industry, except for the ginormous funds like a KKR or TPC. The vast majority of firms are, as I call us, pipsqueaks, in the business world who, if we do our jobs, are catalysts for taking relatively small businesses with untapped potential and “making them all they can be.”. We are half investors, and half business managers.
And the crazy thing is, for all the vitriol about the profession, the major beneficiaries, besides the companies and their employees, are the pension funds and endowments that are the limited partners.
Mitt Romney is in the process of being excoriated for what he did at Bain. I know all about Bain because I called on them when I was a commercial banker, and because I’m a PE guy now. The man should be sainted. This is a travesty and a horrible reflection on the political discourse, the media bias and public ignorance. You just shake your head at the stupidity.
Have gained some info from your posts in looking behind at the banking crisis. However what is going to happen if this supposed ‘fiscal cliff’ is not addressed? That’s the imminent disaster that is in front of us.
According to an interview with Bob Woodward, dealing with his book “The Price of Politics,” Tim Geithner’s warnings to Obama about possibly causing a ‘depression’ should these end of the year fiscal issues be ignored, seems to be going unheeded by the Administration. In fact, Geithner is saying that with any more credit downgrading or a default in the wings, we could bring about circumstances in which we could not recover from.
Woodward had some pretty dire comments…..
A
Just from the bit we have of the book, I would note that she concedes a lack of information in 2008. It sounds like it was not until well into 2009 that anyone really had a handle on the severity of the problems. If that is true, I am predisposed to cut some slack to those addressing our problems early on.
After that initial stage is where I think we can find fault with the process. We ended up with even bigger TBTF banks. They should have been broken up. We can talk all we want about letting them fail, but no country, President or law making body will let these large banks fail. No one even knows how to run them through the BK process.
Steve
You know, what nobody seems to be considering…or at least talking about is that letting the cascade proceed was really the only true way out of the mess. Consider this simple scenario:
A firm makes unwise investment and is on the brink of failure. So the government intervenes and makes sure that the creditors are made whole “so the system doesn’t seize up and cause a recession.” Now, given this experience should we expect the creditors to become more cautious or less cautious going forward.
I’m thinking less. So then there is another firm that makes even bigger unwise investments…in fact lets say it is two firms now. Same problem, and the government once again intervenes. All is “well” since a “seizing up of the system” was once again prevented.
Fast forward and now all of the firms are doing it. Now, you get the rare situation where the investments all go south at the same time. Now you need an epic bailout. Too keep the system from seizing up you know.
This can continue so long as the tax payers can foot the bill. But that is the limit. When you reach that point then the system will seize up…and unlike at the very beginning of this process it will be enormous. Maybe a fiscal crisis and even a currency crisis (i.e. a loss of faith in the currency).
The way out of the this kind of “time inconsistency” problem is to actually mean it when you say, “No more bailouts.” And the best way to do that…is what Volcker did…really do it. Nobody believed he’d run interest rates up that high to bring inflation under control. Of course, the result of that was a severe recession.
Some might say why not do the following, “This is the last bail out, no more. We really mean it this time.” That is what a game theorist would call cheap talk. If you really want to signal that you really mean it, it has to have a cost.
No politician should be sainted. Ever. Politicians are people who like telling other people how to live their lives and that…that is despicable.
@Drew
Mitt Romney is a presidential candidate, and he is going to be excoriated for anything he did. Bain is a bonus because of the banking/financial mess. I think they started criticizing something about his missionary work.
I would suggest you, your partners, and other firms change your job description and take out ads. I am amazed that more disliked industries do not follow the Dow Chemical model. They advertise all the wonderful things they do. A commercial may have a bunny hopping around because of his plastic leg. When a chemical spill happens, nobody blames Dow. Why? Dow is doing important work to ensure that three legged bunnies can lead a happy productive life.
The coal industry started an ad campaign for clean coal, but they stopped it. They has scantly clad supermodels supporting clean coal technology. If a supermodel thinks clean coal technology is the way to go, who am I to argue. If coal was as dirty as is claimed, they would not be half naked in a coal mine.
If you all created an add with a scantily clad supermodel holding a bunny with a replacement leg made possible by a company your investment helped, then you would be gold.
Politicians are people who like telling other people how to live their lives and that…that is despicable.
I would say sociopathic, but six of one-half dozen of another.
Steve V.- When was the last time we went through a bankruptcy with a large international bank? (Trick question)
Steve
Nice dodge….admit you got nothing.
Steve V, I believe I did at least indirectly suggest letting the bank(s) fail, given that Bair seems to be insinuating that there was one bank that had ledger sheet problems, and perhaps that one bank should have been allowed to fail. If you let Citi fail, is that an isolatable occurrence, or does it destablize relatively more cautious financial institutions into bankruptcy? I don’t know the answer.
I understand your concern with creating bad incentives, which I thought we would address with better regulation, but I don’t think we’re getting better regulation. We’re insitutionalizing TooBigToFail with Contingency Plans while driving up regulatory compliance issues for those who don’t meet the cut. I don’t think it had to be that way.
@Icepick, Private Equity should form a coop and demand that the government tax PE so that they can run promotional advertising. That’s how they do it in agriculture.
PD
“Confidence” is for retail. Big time money managers knew the score. They are paid to know the score. Their only concern was that their positions would be protected by government. That’s not my model for capitalism.
Jan
Obama is playing brinkmanship politics. The cliff is real. I don’t think he cares. He’s a socialist, and if the shit hits the fan after re-election he couldn’t care less. He will demagogue and fear onager to the hilt for his redistribution goal. It will be a financial and societal disaster. This man has to go.
Steve V
You and I pretty much see the world through the same prism. But the sainted comment was just a crack that a man who has accomplished so much in the world of job and value creation shouldn’t be subject to such scorn. It’s silly. What has Obama ever accomplished?
Tasty
You think we have the time or money for advertising campaigns? Christ. I’ve got a bakery deal that has problems and consumes 6 hours a day. Small private equity company investments are fragile. Like little birds in the nest. I have to tend to the little birds, not advertising, or the willful dishonesty of the media.
“The problem is that when you are defending what you do, it sounds like you are defending “the systemâ€. I understand that you are not.”
Let me make something perfectly clear. My business is one of the ultimately risky businesses there is. Its high beta. You can win big, or you can lose it all. And it’s a bitch to win big. It just doesn’t happen out of thin air. To do it requires tremendous talent, experience and resources, and will take years off your life. That doesn’t in anyway shape or form mean I don’t value what others do. For Christs sake, I worked in a god damned steel mill for 7 years.
The attitude I have, and that often pisses people off here, and I just don’t care…….If anyone here wants to get into my business, well, come on in. Let’s talk after you’ve been at it for a year. I’ll even try to help you…..but good effing luck.
It’s ain’t EZ money. It’s hard, it’s an art, its risky and it’s a bitch.
@Icepick,
You meant @TB.
What has Obama ever accomplished?
He kept getting elected to higher and higher offices despite no record of accomplishment. I can’t think of anyone else that has gone so far while doing so little. That’s got to count for something, right?
@Drew
the system
I am referring to the system of rent seeking. If you support this, then I have mistaken what you have written.
@Drew
If somebody had done some goodwill advertising for PE Investing Firms, Bain might have been a positive for Mitt Romney. Instead of being the three legged bunny helper, he is a vampire.
@Steve V- I think I see a parallel between those who thought we had the know how to remake an Arabic, Muslim country into a pro-Western democracy and those who think we knew how to successfully manage a SIFI through a bankruptcy. With assets in dozens of countries, the legal issues would have taken many years to resolve. We simply did not know how to do it. Look at Continental Illinois.
Steve
Drew
A concise comment about Obama’s brinkmanship game playing. You and I are on the same page. Today I feel dispirited, though, about how the MSM, holding hands with Obama, seems to be creating this impenetrable wall of confusion, misinformation and fear within the populace, causing them to stop in their tracks ceasing to even entertain a change of leadership beyond the current president.
The problems over in the ME are being papered over and Obama continues to blame an inconsequential film rather than his failed estimation of the ME discontent and chaos. Hillary Clinton is apologizing, instead of railing against the deaths of an ambassador and others. The ACA continues to ratchet up higher dollar figures, along with 2 million more people who are now estimated to be paying a tax on not buying into insurance. The fiscal cliff is being put on the back burner, as is any attempt to deal with sequestration issues, and our deficit is considered something not to worry about by our great leader. The polls are going south for a new guy coming in with experience, who I believe has a greater capacity to do something about some of these problems….but, he isn’t personable enough for the people.
My husband talks to people all over the country regarding precious metals. People are streaming in and buying gold, others are cashing out of their 401Ks because they don’t trust the government after this election. The shiny stock market continues to be looked at by many as a false stock market. EU continues to plague many businesses. A local hospital where I live is going into Chapter 9 bankruptcy, probably in order to renegotiate it’s pension plans, which seems to be the fad here in CA.
I am both pissed and worried about 2013, should this incompetent president be able to pull the wool over people’s eyes due to a cleverly run campaign, aided and abetted by a left of center media.
End of rant….
@jan
Girlfriend, you need to chill out. To a political junkie, it is as much or more about the race than the outcome. Until after the debates, this is all about nothing. It is all a game, and the players are getting into position.
If you do not know how polls work, you need to learn. Sampling does not work the way that you think. Also, national polls are mostly meaningless. There may be a few things you can tease out of them, but be cautious about them.
Be careful about putting too much trust into what you read. Most people have no idea of what they are talking about. A lot of them have numerous failures, but somehow this time they are an expert.
Check in on the opposition, but be careful about what you hear. Take note of what is not being said. If the NYT does not have any stories about the Libyan incident, why not? It may not mean anything individually, but if it is a general trend, it could.
Be even more careful about listening to people you agree with. If you agree with most or all of what somebody is saying, stop. Try to negate their and your thoughts. Think like the opposition. They are going to find the weaknesses. You and your ally are going to agree on the rightness of your thoughts.
Finally, the US will survive, but if not, the rest of the world will be worse. The late 1930’s were worse regarding the socialist pull. Communists and fascists were considered by an alarming number of the population.
The late 1970’s were bad. When stagflation and disco return, you can start worrying. When 100% snag resistant acrylic polyester Sansabelt trousers are being sold, head for the hills.
You’re right Tasty…
I’m going to have to take all this with a grain of salt and more composure.
Good night.
Good advice, TB.
Tasty
I’m no friend of Big Finance. Trust me on that.
But you keep dodging the point. Again and again. Consider this simplified version of my simplified story….
While each incident of bailouts are themselves “bubbles” the over arching process is also a “bubble” and like all bubbles it cannot continue indefinitely. Sooner or later you will have to figure out how to take SIFI through bankruptcy. Doing it 15-20 years ago would have been cheaper for the economy.
So keep believing your bravo sierra dodges, but in the end you got nothing.
“The late 1970’s were bad. When stagflation and disco return, you can start worrying. When 100% snag resistant acrylic polyester Sansabelt trousers are being sold, head for the hills.”
Heh. I’m not sure what was worse, disco or stagflation.
I’m going to go listen to some Zep. 😉
Let me underscore what Steve V. is saying.
Assume that Ms. Bair is wrong and the banks were, in fact, on the verge of collapse and would take down the entire financial system with them.
1) Why does saving the banks require you to save the bankers? That’s what happened. In fact, I think it’s arguable that they saved the bankers instead of the banks.
2) No one disagrees that saving the banks introduced distortions into the system. At least I haven’t read any remarks to that effect. In order to return to some reasonable equilibrium position you’ve got to remediate those distortions. Where are the remediations?
Schuler @ 12.08
This is correct. Even if the predicate is correct, who suffers?
Only the taxpayer.
Schuler, I agree completely with your 12:08 post.
If the banks needed to be saved (as I mention above I believed it at the time), that didn’t mean the bankers needed to be saved. In fact, seeing that the bankers in charge suffered somehow would have gone a long way to mitigating the distortions. It would also have been helpful if various federal officials (elected and appointed) had paid for it with their jobs as well. In particular Turbo Timmay should not have been given a promotion. (He went from President of the Federal Reserve Bank of New York, which had oversight of Wall Street, to Sec. of Treasury.) And to keep future distortions from getting too large, breaking up the TBTF institutions was critical. Instead, they’ve only gotten bigger.
We’ve gotten almost the worst of all possible results out of the bailouts.
Incidentally, I can’t blame the pols too much for wanting to do something. The downside risk if they did nothing and were wrong was immense. In such situations you need to be really confident that things aren’t in fact going to Hell.
What needs to be saved now is the tax payer. Right now we are on the hook…and will be for future bailouts which are inevitable. Add on problems we have with the unsustainable Medicare/health care system and our other fiscal problems and the out look is very meh.
What needs to be saved now is the tax payer.
How about the privately employed worker?
Well I was going to say pretty much they are the same, but with state, local and federal employees that is not as true as it once was. Yeah, the privately employed worker is really where the saving needs to be done. Can’t have a country full of nothing but government workers…just doesn’t work.
“. Sooner or later you will have to figure out how to take SIFI through bankruptcy. Doing it 15-20 years ago would have been cheaper for the economy.”
I agree with this. My point, guess I am too obtuse, is that you are (tacitly) pushing for us to learn how to do this when credit markets are frozen and GDP has had a huge fall. When TED spreads are setting new records. In that situation, every president and Congress is going to bail out banks. It is not realistic to say that we should not, because whoever is sitting in Treasury is going to tell the president we are facing the abyss. We will bail them out.
What I am advocating for is a means to let them fail that has been planned out ahead of time. Whose laws do we follow for foreign assets and deposits? How do we figure out where all the assets are? We really do need a form of living will for these big banks, and a means to resolve them set up ahead of time. Beyond that, we need to break them up. That is also best done when not in a crisis, but w/o the urgency of a crisis, it is pretty difficult to overcome the banking lobby. I think this is the one point in favor of your argument.
Steve
steve,
No, I’d rather we figured it out when credit markets are not frozen, but that is NOT how our system operates. We don’t plan for “rainy days”, we don’t “plan for the worst, hope for the best.” We do it precisely the opposite. Housing prices can’t go down everywhere….never mind that they went up everywhere so of course they could go down everywhere. We have a mathematical model that tells us that betting the farm on the Russian currency can’t possibly go wrong!
I keep saying this, but it hasn’t registered. I could say I’m being to obtuse, but I think the message is actually pretty easy to grasp…maybe repetition:
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Democratic processes are non-rational processes.
Expecting a rational result is like wishing for unicorns and rainbows. Sure it might happen…but by accident. Look at all the theoretical literature on voting. It is rife with all kinds of unpleasant results starting with Arrow’s Impossibility theorem and going from there. And I know you’ll say, yeah theory…everyone has a theory…. Okay, look at reality. Was TARP a rational response? Was bailing out GM? IS QE1, QE2, QE3,…,QEN the result of a rational process? How about health care reform? What about Social Security’s imbalance? Why is that being ignored? Why do we still have an income tax. Can we agree that if you tax something you get less of it…why do we want less income?! Should the U.S. be saving more? If so why are we taxing savings?
I know. All politicians are inherently small ‘c’ conservatives. Doing something truly radical is not in their blood, especially here in the U.S. these days.
The abyss…yeah I know they’ll say that. Of course, they represent the big banks so of course they are going to say that. But here is the thing…afterwards…Jack fucking shit will get done in regards to remedying the situation.
Yeah, how is that working out for ya? There is no incentive for our politicians and the financial industry to do any of this. They are too busy looting.