Friday, March 30, 2012

Too Big To Fail - But They Did, and They Could Again

More and more voices are joining the chorus: There are still too many Too Big To Fail banks out there, and we're all on the hook.

They're Too Big To Fail, Too Big To Control, and Too Big To Be Safe For The Economy.

Am I parroting the calls from Occupy Wall Street? Well, yes.

But I'm also parroting ... the Federal Reserve Bank of Dallas, widely considered one of the most conservative of the regional banks.

As reported by Robert Reich in Salon (essay, here) and Jesse Eisinger of ProPublica (via the New York Times' DealBook; article, here), the 2011 annual report's lead essay notes that
For all its bluster, Dodd–Frank leaves TBTF [Too Big To Fail] entrenched. The overall strategy for dealing with problems in the financial industry involves counting on regulators to reduce and manage the risk. But huge institutions still dominate the industry—just as they did in 2008. In fact, the financial crisis increased concentration because some TBTF institutions acquired the assets of other troubled TBTF institutions.
These banks have emerged from the crisis with "the lawyers and the money to resist the pressures of federal regulation."

The problem is not just one of economic risk to the nation as a whole. There's a concerning psychological effect as well:
The rationale for providing public funds to TBTF banks was preserving the financial system and staving off an even worse recession. The episode had its downside because most Americans came away from the financial crisis believing that economic policy favors the big and well-connected. They saw a topsy-turvy world that rewarded many of the largest financial institutions, banks and nonbanks alike, that lost risky bets and drove the economy into a ditch.

These events left a residue of distrust for the government, the banking system, the Fed and capitalism itself. These psychological side effects of TBTF can’t be measured, but they’re too important to ignore because they affect economic behavior. People disillusioned with capitalism aren’t as eager to engage in productive activities. They’re likely to approach economic decisions with suspicion and cynicism, shying away from the risk taking that drives entrepreneurial capitalism. The ebbing of faith has added friction to an economy trying to regain cruising speed.
The entire Dallas Fed report, "Choosing the Road to Prosperity: Why We Must End 'Too Big To Fail' -- Now" is available here (launches as PDF).

What does the essay's author (Dallas Fed EVP and director of research Harvey Rosenblum) recommend?
The only viable solution to TBTF lies in reducing concentration in the banking system, thus increasing competition and transparency.
In other words, break up the biggest banks into smaller units.

Not surprisingly, this proposal was not met with resounding cheers on Wall Street. Reich quotes "one of the Street's major defenders in the Capitol" as saying, "Dallas doesn't know its [backside] from a prairie gopher hole." [Reich's euphemism]

Now there's an intelligent, considered response.

In fact, as both Reich and Eisinger point out, it may be that no one understands TBTF better than Dallas -- the savings-and-loan crisis of the '80s and early '90s struck Texas particularly hard with its own TBTF institutions, that, indeed, ended up failing.

The key problem is that while we may wish for / demand / regulate less risky behavior on the part of these institutions, as long as there is no true downside risk (because government will again be forced to step in to bail them out), more risky behavior is bound to occur.

Thank you, Mr. Rosenblum. Now: Are you listening, Mr. Bernanke?

Saturday, March 24, 2012

"Corporate Conscience" Doesn't Have to be an Oxymoron

Writing a CEO's standard address to shareholders is pretty easy -- you can do it without knowing much about the company or the industry.

If things have gone well, there is crowing about record sales and/or record profits. If they haven't, there are solemn phrases like "sailing through rough waters" or "turning a corner" or "overcoming obstacles".

Rarely, however, does the focus move off the particular company, or the particular industry (unless you need to blame the economy as a whole for your poor showing).

A broader focus, however, is what made Howard Schultz' opening remarks to Starbucks investors last week so interesting.

As reported by Melissa Allison of the Seattle Times (full article, here; a webcast of the annual meeting is available here), while Schultz did stick to the script by mentioning record profits and stock price, he also used those positive results to call for broad social and political changes:
We are heading into a crucible; we're in the midst of something that's really going to test the conscience of the country... It's a test we will not pass by being bystanders.
Decrying the widening gap between haves and have-nots, Schultz (who noted that he was raised in public housing) said, "I'm ultrasensitive to the fact that I believe the American Dream is on a very, very fragile foundation."

Starbucks has -- and promotes on its website to encourage customers to join in -- teamed with Opportunity Finance Network to provide financing to underserved community businesses, the "Create Jobs for USA Program".

Interesting that none of the giant banks that received taxpayer-financed bailouts had this idea, isn't it?

Thursday, March 15, 2012

Have We Really Hit the Outrage Wall?

Goldman, Goldman, Goldman. Ever since Greg Smith announced his resignation from Goldman Sachs from the Op-Ed pages of the New York Times (essay, here), the comments, cat-calls, and commendations have been flying.

Terming the Goldman culture "toxic", Smith claimed that sales meetings were now devoted only to how much money the firm could make, not to what was best for the client.

Journalists picked up on some of the choicer phrases (the London Evening Standard led with this headline: "Goldman Boss: We Call Our Clients Muppets"); Goldman chief Lloyd Blankfein (a.k.a. Mr. We're-Doing-God's-Work) responded with a measured letter to employees: "We were disappointed to read the assertions made by this individual that do not reflect our values, our culture and how the vast majority of people at Goldman Sachs think about the firm and the work it does on behalf of our clients."

The Times alone carried three separate articles today (here, here, and here), along with uncounted comments (positive, negative, and positively vitriolic). Slate magazine carried two (here and here), and there was much, much more.

So what am I going to say about this?


Because while I'm interested in the furor, I'm more interested in a story that's not getting anywhere near as much attention: MF Global.

I wrote about MF Global last November, when the company imploded with seemingly astonishing speed. The issue then was, What happened to the $600 million in missing customer cash (which turned out to be $1.6 billion in missing customer cash)? Not to mention, How did it happen "so fast" when watchdogs had been waving warning flags for several months? Plus, Who does ex-CEO and former New Jersey governor Jon Corzine think he is, anyway?

When Alexander Eichler reported in the Huffington Post last Friday that as many as 23 senior employees of MF Global could get bonuses of up to six figures for their assistance in the bankruptcy investigation, I expected a storm of protest. As Eichler wrote,
What do you do after your company implodes and customer money goes missing? You collect a bonus, of course.
But instead of protest, there was ... nothing. Even the comments on the article, usually a sure-fire source of invective, were relatively calm. There were the usual complaints that if you steal $100 and get caught, you go to jail, but if you steal $1 billion .... well, not so much.

On Monday, the biggest MF Global story was about offers that customers were receiving to cover their losses. As Azam Ahmed and Ben Protess (who have both done a great job covering this debacle for the Times) wrote,

The thousands of MF Global customers whose lives and businesses were derailed after $1.6 billion vanished in the collapse of the brokerage firm have now received offers to sell their claims and recoup nearly the entire shortfall, people involved in the negotiations said.

What was once thought to be a lost cause has erupted into a bidding war among Wall Street firms: Barclays, the Royal Bank of Scotland, and the Seaport Group, a little-known firm that specializes in distressed assets, are all scrambling to buy MF Global customer claims.

Why would anyone be bidding 91 cents on the dollar for those claims? Generosity of spirit? I don't think so. The companies are betting that, in the long run, they can make money on them:
The banks do not plan to hold the claims on their books, but will sell them to hedge funds and other clients. Those investors are wagering that, when the dust settles, the trustee, James W. Giddens, will recover nearly all the money owed to customers.
Some MF Global customers may be able to wait for the recovered funds, but others may be in immediate need of cash.

OK, but what about those bonuses?

Even Joe Nocera, the Times columnist who has been fiercest about the firm's lapses, wasn't thinking about the bonuses. In his Monday column, he sighed that it's "starting to look like Jon Corzine is going to get away with it."

Nocera is incensed that Corzine and his senior managers are not being prosecuted:
Let’s not mince words here. These executives committed a crime. Virtually every knowing violation of the Commodities Exchange Act is a crime, but taking money from segregated customer accounts is at the top of the list. And for good reason. Customer money is supposed to be sacrosanct. If a broker-dealer goes bankrupt, the segregated accounts are supposed to remain safe, a little like the way bank deposits remain protected if a bank goes under. Indeed, customers need to be able to trust the fact that their money is segregated and protected at all times. Otherwise, the markets can’t function.
But somehow, prosecutors haven't found the "smoking gun" that they need to move their case ahead.

That's not really surprising, as Nocera noted: "As a general rule, financial professionals tend not to write e-mails that say, 'Hey, we’re desperate. Let’s break into the customer accounts!'"

Nocera understands -- as did some of the commentators to the MF Global bonuses story -- that we need to see some of these crooks in the witness box. Yes, "innocent until proven guilty". How about if I say, "We need to see some of these alleged crooks in the witness box."

We need to believe that if you rip off the system and get caught, you will pay. So what's taking the prosecutors so long? Nocera acknowledged that "bringing complex financial cases in front of a jury is not easy." But that's not an excuse for not bringing the case at all.

Yesterday, the Times' Ben Protess, reporting from the Futures Industry Association gathering in Boca Raton FL, wrote that the MF Global fiasco was "Topic A". Everyone agreed that it was a very bad thing for the industry. Everyone agreed that something should be done to prevent its happening again. Nobody agreed on what should be done -- maybe an insurance fund? maybe tougher internal controls? maybe outside third-party audits?

How about some jail time?

As I said, I don't get the lack of outrage here.

But maybe Gary Weiss at Salon does. He's labeled the phenomenon, "Greed Fatigue". As he wrote yesterday,
You say there is a group of devious men (and they are usually men) who lost or stole the money from a large group of trusting and trustworthy people and then enriched themselves for their atrocious behavior? And we’re supposed to be surprised? As a news story, the MF Global bonuses is familiar. The headline “Vultures Flourish in the Great Recession” reeks of 2009. Besides, what can you do about it? Not a single executive responsible for the crash of 2008 has gone to jail or even visibly suffered. After a while the story gets tiresome.
Weiss is kinder to Corzine and the rest than Nocera -- he said only that they "may" have engaged in criminal conduct.

Monday, March 12, 2012

A Slightly Less Wild West?

Two articles in today's New York Times got me thinking about the way that rules are slowly developing in the Wild Wild West of the Internet.

In the first, David Carr, in his "Media Equation" series, discusses "A Code of Conduct for Content Aggregators". In it, he considers the way that content moves about on the 'Net -- picked up by one reader, promoted by another, broadcast by a big aggregator, etc. In most cases, not much credit is given, and even less money.

For those not familiar with the current system -- aggregators use others' content to draw in readers (a.k.a. eyeballs!), for which they get to sell advertising, which is how the aggregation sites make money.

The most important question Carr asks is "where is the line between promoting the good work of others and simply lifting it?"

His answer: "Naughty aggregation is analogous to pornography: You know it when you see it."

Meanwhile, over in the paper's Technology section, Brian X. Chen was writing about a "Faint Line on Cloning" for creators of video games. Chen draws the distinction between "cloning" and
"taking inspiration", by quoting a co-founder of a small Dutch gaming start-up:
When another company takes inspiration from the game and they try to make a different game out of it, that’s when getting imitated turns into a compliment....Getting cloned is like getting punched in the face. It’s like a robbery.
These can be grey areas, and the lines get fuzzy.

Cloning is common in gaming, Chen writes, largely because games are hard to protect. The mechanics of the game can't be copyrighted, although they might be patentable. But that process can be both time-consuming and expensive. Some game creators are anti-patent, believing that "patent protections could stifle creativity in future games" -- although some change their minds when their games are cloned.

I've written before about the "information wants to be free" myth of the early 'Net. To be strictly fair, that's not exactly what Stewart Brand way back in 1984 -- he said, "Information wants to be expensive, because it's so valuable... On the other hand, information wants to be free, because the cost of getting it out is getting lower and lower all the time." Guess which half of his statement went wide? And Apple co-founder Steve Wozniak's reply? "Information should be free, but your time should not." (An excellent write-up of the issue from Richard Siklos at CNN/Money can be found here.)

Information, of course, doesn't care whether it's free or not. It's the cheapskates who don't want to pay, who then come up with high-falutin' explanations of why it ought to be free who think anything online should be free. But the creators of the information do care. And they're the ones who get to decide, because it's their hard work and creativity.

If I write a novel and post it online for the world to read, and tell you, "Go ahead; read it. It's free," then -- well, go ahead and take it to read. But don't assume that you can swipe it. And if I ask you to pay, well ,then it's your decision whether to purchase it or not. But it's not your right to "aggregate" it or "clone" it -- those are just better-sounding words for stealing.