It’s tough not to look back and wonder what might have been.
Wall Street was close to perfect. It was like a giant frat party replete with togas, a kegger that never ran dry and no hangover.
Anyone who wanted to own a dream home got one. Maybe even a condo at the shore or fixer-upper we planned to flip. Our stock portfolios and 401k’s were fat. Credit ran free like a chocolate fountain at a Vegas buffet.
Then the music stopped.
Almost overnight, Wall Street went from a drunken bacchanal to a prayer meeting. Instead of tilting back for another kool-aid shot, investment bankers became supplicants for salvation. Even the biggest of the big found that old time religion.
As soon as the government dangled a chance to cleanse away their sins – read toxic assets – the high flying money-changers opted to become bible-toting straight-lacers subject to federal oversight. They were rewarded with billions for their contrition.
Looking back, a multitude of ills caused Wall Street to fall from grace. Secret deals with hidden trip wires, loose regulations and even looser credit standards. None, however, was more pernicious or destructive than the sin of over-leverage.
Why Their Claims Are Empty
As they are being compelled into the confessional to revisit their economic transgressions and atone for their financial imprudence, Wall Street’s best and brightest are claiming that the Devil made them do it. Witness after witness appearing before the panel investigating the roots of the crisis, from Citigroup’s Charles (Chuck) Prince and former Treasury Secretary Bob Rubin to the high priest of the free market himself Alan Greenspan, swear they didn’t know what was about to befall.
Their declarations of ignorance and innocence are hollow.
In a now infamous 20-7 interview with the Financial Times of London, then-Citi CEO Prince not only demonstrated that he knew the risks, but that he and his bank were cognoscenti in this ongoing morality play.
Alluding to a child’s game musical chairs, Prince mischievously told his interviewer; “When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you’ve got to get up and dance. We’re still dancing.”
Recent disclosures confirm that other Wall Street shakers, like Goldman Sachs, knew they were underwriting garbage and had no compunction about concealing it from the regulators and investors alike. Truth be damned. It was about the bottom line.
Friday, the government accused Wall Street powerhouse Goldman Sachs & Co. of defrauding investors in its disclosures about highly leveraged securities it sold as the housing market was faltering. The Securities and Exchange Commission (SEC) alleges that the company marketed and sold mortgage-backed securities whose audited value was suspect. The government also charges that Goldman failed to disclose to investors that the bank, along with a major hedge fund it ran, had taken out substantial bets against those same mortgage-backed securities.
They Knew. They Knew.
Firms like Goldman and Citi knew that their Jericho eventually would come crashing down. They were betting on it. As Congress takes up the task of overhauling a financial system that fell from its own weight, Wall Street is asking for another chance to redeem itself from the yolk of government meddling.
We can’t go back to the heady free-wheeling days when Wall Street banks were allowed to run free. Unfortunately, Wall Street’s bankers have proven themselves to be about as trustworthy as a 16-year old with the keys to the liquor cabinet.
Republican strategists have been very skilled at mounting a campaign of populist attacks against a government that it says is too incompetent to tie its own shoes let alone adept enough to oversee an organism as complex as Wall Street. They have framed President Obama’s overhaul agenda as a recipe for perpetual bank bailouts.
Until recently, the Republican cautions have had substantial political traction. The SEC case against Goldman, however, in concert with the continuing revelations about what the banks knew and how they planned to profit from our financial demise, will make it hard for them to escape their penance. While there still is a great public reluctance and mistrust of the government, the collective animus towards Wall Street runs even deeper.
No matter the eventual shape and scope of the pending legislation, the Wall Street banks will face significant new restrictions. While increased transparency and broader consumer protections will remain atop the political agenda, of greater import are the rules governing leverage.
Unrestricted leverage brought the economy to its knees. For that reason, banks were allowed to take too much risk without have enough skin in the game.
Their practices were akin to subprime borrowers who risked little or nothing to get the house of their dreams. Wall Street banks fell from their own weight because they didn’t have the cash assets to cover their bets when their portfolios went south. Without regulatory uniformity and consistent oversight on the leverage limits, the banks were allowed to bite off more than they could chew.
By the time the federal government figured out the problem, they had only two choices; bail out the banks or let them fail. Following the implosion of Merrill Lynch and the precipitous collapse of Lehman Brothers, the latter choice was just too scary.
If Congress and the President are serious about preventing a similar future calamity, rewriting the rules on government leverage must be their top priority. Without a change in the leverage rules, any financial overhaul, no matter how far-reaching, will be meaningless.
John Cohn is a senior partner in the Globe West Financial Group based in West Los Angeles. He may be contacted at www.globewestfinancial.com
