Archive for category Banking
Wall Street, Coming to Your Town! (and Destroying It)
austerity isn’t just a European thing.Disastrous
November 19, 2012
Photo Credit: Songquan Deng / Shutterstock.com
This article originally appeared in Dissent Magazine.
The European debt crisis, and the ensuing austerity-fueled chaos, can seem to Americans like a distant battle that portends a dark future. Yet a closer look reveals that the future is already here. American austerity has largely taken the form of municipal budget crises precipitated by predatory Wall Street lending practices. The debt financing of U.S. cities and towns, a neoliberal economic model that long precedes the current recession, has inflicted deep and growing suffering on communities across the country.
In July 2012, Mayor Christopher Doherty of Scranton, Pennsylvania, reduced all city employees’ salaries to the minimum wage. With a stroke of his pen, wages for teachers, firefighters, police, and other municipal workers, many of whom had been on the job for decades, dropped to $7.25 per hour. The city, the mayor explained, simply could not pay them more. Ron Allen, who reported the story for NBC Nightly News, repeated this assessment. Cities like Scranton, he said, “just don’t have the money” to pay city employees more than the minimum wage. Officials blamed the crisis on a declining tax base, on reduced revenue from the state, and on public sector labor contracts that the city could no longer afford.
What does it mean to say that a former steel town in decline “just doesn’t have the money” to pay its bills? It means that it no longer has access to credit markets controlled by the big banks. For years, Scranton officials, like officials across the United States, have been selling municipal bonds to finance everything from basic services to development projects. Scranton’s problems careened out of control when they city’s parking authority threatened to default on its bonds. Wall Street responded aggressively by cutting off its credit line, and city workers paid a steep price. American-style austerity arrived in Scranton under the guise of budget cuts blamed on public employees, whose salaries and pensions had nothing to do with the economic crisis.
Scranton’s problems are hardly unique. Municipalities across the country are grappling with declining local tax revenue and reduced federal funding in an era when growth and development are equated with prosperity. This toxic mix has produced a $3.7 trillion municipal debt market, a revenue juggernaut for Wall Street. Municipal bonds are issued by virtually every city, county, and development agency in the United States. The number of taxpayer-backed bonds in circulation is five times higher than only ten years ago. This means that the world’s largest financial firms now hold the purse strings for everything from essential services like sewage treatment plants to large-scale developments such as sports arenas. Municipal bonds are extremely profitable for investors because they are tax-exempt and, like mortgages, can be packaged into securities.
How Did We Get Here?
Part of the municipal debt story can be traced to New York City’s 1975 fiscal crisis, when the city almost defaulted on its debt. New York was able to avoid bankruptcy at the last moment by issuing guaranteed bonds backed by public pension funds. As a result, the Emergency Financial Control Board, the municipal body that controlled the city’s bank accounts, was in the position of rewriting the social contract, exerting control over labor at every level. Union leadership agreed to the deal because they feared a bankruptcy filing would void labor contracts. Only after the city had disciplined the unions did the federal government move in with rescue loans.
New York City had been debt-financed since the 1960s. But the fiscal crisis of 1975 inaugurated a new funding paradigm for distressed municipalities: taxpayer-backed debt is issued to service the debt already on the books. American municipalities are now increasingly financed not with public money, but with private loans, and the pace of this shift has accelerated since 2008. The Center on Budget Policy and Priorities recently reported that thirty-one states will face unsustainable budget gaps in 2013.
Few public assets are safe from Wall Street’s profit imperative. Public transportation has long been a cash cow for investors. Since 2008, the New York Metropolitan Transportation Authority (MTA) has lost over $600 million as a result of interest rate swaps with JP Morgan Chase, Citigroup, and other big banks. As a result, thousands of transit workers have lost their jobs and hundreds of bus and subway lines have been cut. That is not enough to satisfy the bond market. In March 2013 New York transit riders can expect a new round of fare hikes. Most subway and bus riders are working-class New Yorkers, immigrants, and people of color. They will soon pay even more for the privilege of lining Jamie Dimon’s pockets.
The MTA is not the only municipal organization in the country that runs on debt. The Refund Transit Coalition, a public transportation advocacy group, has uncovered at least 1,100 of these swaps at more than 100 government agencies costing taxpayers $2.5 billion a year. None is more indebted than Boston’s Massachusetts Bay Transportation Authority (MBTA). The story is a familiar one: in 2000 state legislators ended most public subsidies for the MBTA, which was additionally saddled with almost $2 billion in debt, much of it left over from the infamous Big Dig. Wall Street was happy to provide loans so the MBTA could maintain the system’s aging infrastructure and finance expansions.
Twelve years later, Boston’s transit authority spends 33 cents of every dollar it takes in to service its debt. Lawmakers, who have learned the lessons of Scranton all too well, are unwilling to challenge Wall Street. Instead, they have proposed cutting services and raising fares by as much as 43 percent. No one believes this represents a long-term solution. As one Occupy Boston activist noted, “the MBTA has never even asked the banks and bondholders who continue to profit from the [transit system’s] enormous debt to take a similar cut, effectively giving the banks a ‘free ride,’ while forcing T riders—working people, the unemployed, students, seniors, and the disabled—to bear more of the burden.”
Increasing debt loads, along with other neoliberal policies demanding that municipalities do more with less, put cities under enormous pressure to promote private economic growth in lieu of spending public funds on public goods. This imperative is one reason that city officials have pursued controversial development strategies such as declaring a parcel of land “blighted” to allow it to be seized by eminent domain and auctioned to the highest bidder. For example, the Barclays Center, the new arena for the Brooklyn Nets, was built partially on land that was condemned before being transferred to a developer. Cities also generate revenue by leasing public assets to the private sector. In Chicago, for example, the Skyway toll road has been leased to a private company for ninety-nine years. Atlanta even privatized the city water supply, only to cancel the contract years later when residents complained about tainted water.
As the privatization of everything from land to transportation makes clear, taxpayers rarely have a direct say in which bonds are issued and which public assets are sold out from under them. But with municipalities guaranteeing loans by promising that bondholders will be repaid with tax dollars or revenue generated by the debt-funded project, taxpayers are often left footing the bill.
Meanwhile, it remains nearly impossible for municipalities to cancel bond deals. By law, most states cannot declare bankruptcy. And, in many cases, federal bankruptcy codes guarantee that creditors will be repaid. In 1994, Orange County, California declared bankruptcy to repair the damage done when its treasurer took out loans on behalf of the city and then lost $1.6 billion in the securities market. Following what was then the largest bankruptcy filing in U.S. history, the county still paid its bondholders to avoid a tarnished credit rating. Another California city, Stockton, has been implementing severe austerity measures ever since the housing market tanked in 2008 in order to make payments to bondholders. The city cut 25 percent of its police officers, 30 percent of its firefighters, and over 40 percent of all other city employees. The crime rate in Stockton has skyrocketed and unemployment surged, and the city is now considering cutting pension benefits for retirees to pay its debts. The capital of the Golden State, Sacramento, has also cut its police force, by 30 percent, to fill a budget gap, and has seen a similar rise in crime—gun violence, rapes, and robberies have increased dramatically. Communities long ago abandoned by the state are also suffering from austerity. Camden, New Jersey, one of the poorest cities in the United States, recently privatized its police force, laying off officers and canceling union contracts. Today, the Camden police force often does not have the numbers to respond to crimes that don’t involve murder or serious injury.
As cities like Scranton seek to eliminate unsustainable debts, investors grow more demanding. Bond insurers involved in bankruptcy negotiations in Stockton and San Bernardino have even suggested that bondholders have a claim to CalPERS, the retirement fund for California’s public workers. Though the retirement system is constitutionally protected, this is a troubling development because bondholders’ demands are almost always given priority. A recent CBO report noted that “of the 18,400 municipal bond issuers rated by Moody’s Investors Service from 1970 to 2009, only 54 defaulted during that period.” Bonds are bets that banks don’t lose.
Though the debt financing of U.S. cities is not illegal, that doesn’t mean deals are made fairly and transparently. We recently learned that interest rates around the world have been manipulated for years for the benefit of a few firms. Yet the LIBOR scandal is not surprising when one considers that municipal interest rate fraud has been going on for years with no public outcry. In his report on municipal bond rigging in Rolling Stone, Matt Taibbi explainedhow Wall Street has “skimmed untold billions” from hundreds of municipalities—and how they continued to invest in bonds even after they were caught. “Get busted for welfare fraud even once in America, and good luck getting so much as a food stamp ever again,” Taibbi wrote. “Get caught rigging interest rates in 50 states, and the government goes right on handing you billions of dollars in public contracts.” The debt financing of municipal government is an activity promoted and protected by the regulatory arm of the federal government.
What Can Be Done?
Strike Debt, a group (of which I am a member) inspired by Occupy Wall Street, has begun to address municipal bonds as part of a larger critique of debt as a system of wealth extraction. Strike Debt asserts that debt is a primary mechanism through which the 1 percent profits from the 99 percent. Debt affects everyone, especially those who are too poor to access low-interest credit. And Wall Street is the primary culprit. Framing municipal debt as part of a global system poses significant opportunities for organizers because it connects anti-austerity movements abroad to debt resistance efforts at home. Once we reframe debt as a problem that affects us all—as municipal debt obviously does—it becomes easier to imagine that we have enormous power to withdraw our consent.
Strike Debt’s analysis of debt as a system of wealth extraction is also a critique of capitalism. Municipal debt is more than just another example of Wall Street greed and local corruption. It may be the biggest scandal yet because it is not a scandal it all. U.S. cities, towns, and districts are now increasingly debt financed, which means they cannot operate without access to the credit markets controlled by the big banks. This illustrates that Wall Street’s class war against cities cannot be mitigated with more regulation. In fact, the SEC protects investors, not municipalities, from the consequences of bond deals gone bad. Even renegotiating debt often requires new loans. “When muni bond issuers unwind deals and pay enormous exit fees to Wall Street,” the New York Times recently reported, “they typically issue new debt to do so. In recent years, for example, New York State has paid $243 million to terminate such transactions; $191 million was financed by new debt issuance.” Raiding cities for wealth, which produces a cycle of indebtedness, is not illegal or unusual. It is simply the way Wall Street does business.
The idea that some debts cannot and should not be paid is gaining traction. In 2011, for example, Jefferson County, Alabama declared bankruptcy (the largest in U.S. history) to rid itself of $4 billion in debt, much of it issued by corrupt officials to finance a sewer project that left people in a predominantly low-income, African-American community without a functioning sewer. Some do not want to renegotiate the debt. Instead, they reject it outright. As one Occupy activist in Birmingham noted, “[the debt] shouldn’t ever have been issued, and therefore it shouldn’t exist. It shouldn’t have been spent. Since it shouldn’t have existed, we’re not going to pay it.” This statement could become a slogan for debt resistance movements across the country because it insists that debtors are a class, a collective “we” that can decide when enough is enough.
Some municipalities are fighting back, too. After their pay was cut to minimum wage, Scranton’s municipal unions sued the city, and their wages were restored. Baltimore, a city where more than 80 percent of school children qualify for free- or reduced-price lunch, is suing more than a dozen big banks for manipulating LIBOR, the benchmark for interest rates on many financial products. In July, a group called Boston Fare Strike declared a Free Fare Day and held turnstiles open for subway riders to protest fare hikes that enrich the 1 percent. Activists in Chicago are organizing community debt audits with the goal of identifying illegitimate debts that must be abolished. And finally, in a case that has gained national attention, Oakland, CA is trying to sever its relationship with Goldman Sachs for good. In the late 1990s, Oakland issued $187 million in bonds as part of an interest-rate swap. After the credit markets froze in 2008, Oakland could no longer make its payments to Goldman. The city council voted to cancel the deal, though Goldman insists the city must pay. CEO Lloyd Blankfein explained his firm’s unwillingness to let Oakland out of its contract. “The fact of the matter is,” he said, “we’re a bank.”
Blankfein is not wrong. Plundering U.S. cities is what large financial firms do. This is a troubling reality. A bankruptcy attorney featured on the NBC News report about Scranton offered this grim assessment: cutting worker pay is necessary to avoid “more drastic measures.” The reporter didn’t explain this statement, leaving viewers to imagine what terrible fate awaits those who don’t accept the reigning neoliberal orthodoxy that city budgets must be balanced by cutting worker pay, gutting public services, and issuing more debt to profit the 1 percent.
In fact, it is Wall Street that should be afraid of any disruption to business as usual. The cycle of debt illustrates that we cannot fix the problem through austerity. This tactic only deepens the devastation, since low wages further erode the tax base for cities, leaving them vulnerable to predatory lenders. It’s difficult to imagine how the debt financing of American cities could be scaled back without completely rethinking our economic system. Strike Debt is making the case that, in the United States as in Europe, the solution lies not in austerity but in investing in a genuine commons and in providing equitable access to public resources. These are precisely the “drastic measures” alluded to on NBC News. The question we must ask is,drastic for whom?
- Wall Street, Coming to Your Town! (and Destroying It) (alternet.org)
- Scranton Scramble (itsjustparking.wordpress.com)
- 10 Outrageous Police Tactics | Wall St. Destroying Your Town? | 5 Absurd Right-Wing Conspiracy Theories about UN (womensphilanthropy.typepad.com)
- Montclair the next Scranton? (itsjustparking.wordpress.com)
- Sen-elect Elizabeth Warren scores Senate Banking Committee seat: Suck it, Wall Street! (mbcalyn.com)
- 6 Toys That Could Make a Progressive’s Head Explode | Robert Reich: 3 Real “Cliffs” America Faces | 8 Ways Police Can Spy on You w/out Warrant (womensphilanthropy.typepad.com)
- Groups make case for the muni bond (politico.com)
- Propaganda Hiding Real Consequences of Drone Attacks | 5 Companies Mistreating Customers Badly | CIA Big Shot Killed by Homeless Assassin (womensphilanthropy.typepad.com)
- Municipal bonds: A train wreck waiting to happen (finance.fortune.cnn.com)
- Mitre Media Buys MunicipalBonds.com (pehub.com)
George Washington: Will We Have to Wait for a 21st Century Peasants’ Revolt Before Seeing Any Real Change? « naked capitalism
George Washington: Will We Have to Wait for a 21st Century Peasants’ Revolt Before Seeing Any Real Change?
While everyone from Tony Blair to Nouriel Roubini is debating whether or not bankers should be hung, the Wall Street Journal and Bloomberg provide some fascinating historical context.
The journal’s Jason Zweig reports:
Financial criminals throughout history have been beaten, tortured and even put to death, with little evidence that severe punishments have consistently deterred people from misconduct that could make them rich.
The history of drastic punishment for financial crimes may be nearly as old as wealth itself.
The Code of Hammurabi, more than 3,700 years ago, stipulated that any Mesopotamian who violated the terms of a financial contract – including the futures contracts that were commonly used in commodities trading in Babylon – “shall be put to death as a thief.” The severe penalty doesn’t seem to have eradicated such cheating, however.
In medieval Catalonia, a banker who went bust wasn’t merely humiliated by town criers who declaimed his failure in public squares throughout the land; he had to live on nothing but bread and water until he paid off his depositors in full. If, after a year, he was unable to repay, he would be executed – as in the case of banker Francesch Castello, who was beheaded in 1360. Bankers who lied about their books could also be subject to the death penalty.
In Florence during the Renaissance, the Arte del Cambio – the guild of mercantile money-changers who facilitated the city’s international trade – made the cheating of clients punishable by torture. Rule 70 of the guild’s statutes stipulated that any member caught in unethical conduct could be disciplined on the rack “or other corrective instruments” at the headquarters of the guild.
But financial crimes weren’t merely punished; they were stigmatized. Dante’s Inferno is populated largely with financial sinners, each category with its own distinctive punishment: misers who roll giant weights pointlessly back and forth with their chests, thieves festooned with snakes and lizards, usurers draped with purses they can’t reach, even forecasters whose heads are wrenched around backward to symbolize their inability to see what is in front of them.
Counterfeiting and forgery, as the historian Marvin Becker noted in 1976, “were much less prevalent in Florence during the second half of the fourteenth century than in Tuscany during the twentieth century” and “the bankruptcy rate stood at approximately one-half [the modern rate].”
In England, counterfeiting was punishable by death starting in the 14th century, and altering the coinage was declared a form of high treason by 1562.
In the 17th century, the British state cracked down ferociously on counterfeiters and “coin-clippers” (who snipped shards of metal off coins, yielding scraps they could later melt down or resell). The offenders were thrown into London’s notorious Newgate prison. The lucky ones, after being dragged on planks through sewage-filled streets, were hanged. Others were smeared with tar from head to toe, tied or shackled to a stake, and then burned to death.
The British government was so determined to stamp out these financial crimes that it put Sir Isaac Newton on the case. Appointed as warden of the Royal Mint in 1696, Newton promptly began uncovering those who violated the financial laws of the nation with the same passion he brought to discovering the physical laws of the universe.
The great scientist was tireless and merciless. Newton went undercover, donning disguises to prowl through prisons, taverns and other dens of iniquity in search of financial fraud. He had suspects brought to the Mint, often by force, and interrogated them himself. In a year and a half, says historian Carl Wennerlind, Newton grilled 200 suspects, “employing means that sometimes bordered on torture.”
When one counterfeiter begged Newton to save him from the gallows – “O dear Sr no body can save me but you O God my God I shall be murderd unless you save me O I hope God will move your heart with mercy and pitty to do this thing for me” – Newton coldly refused.
The counterfeiter was hanged two weeks later.
Until at least the early 19th century, it remained commonplace for counterfeiters and forgers to be put to death; between 1792 and 1829, for example, notes Wennerlind, 618 people were convicted of counterfeiting British paper currency, and most of them were hanged. Many were women.
Bloomberg provides details of one “peasant revolt” stemming from a Libor-like currency manipulation scheme:
During the “Good Parliament” of 1376, public discontent over [manipulation of currency exchange rates similar to the current Libor scandal] came to a head. The Commons, represented by the speaker, Peter de la Mare, accused leading members of the royal court of abusing their position to profit from public funds.
A particular target was the London financier Richard Lyons ….
Initially the government bowed to public pressure. Lyons was imprisoned in the Tower of London and his properties and wealth were confiscated. Other leading courtiers implicated in these abuses, such as Latimer and the king’s mistress, Alice Perrers, were banished from court.
Once parliament had dissolved and the public outcry had died down, however, the king’s eldest son, John of Gaunt, acted to reverse the verdicts of the Good Parliament. Latimer and Perrers soon reappeared at the king’s side and Lyons was released from the Tower and recovered his wealth, while the “whistleblower” de la Mare was thrown in jail. The government also sought to appease the wealthy knights and merchants that dominated parliament by imposing a new, regressive form of taxation, a poll tax paid by everyone rather than a tax levied on goods. This effectively passed the burden of royal finance down to the peasantry.
It seemed as though everything had returned to business as normal and Lyons appeared to have gotten away with it. In 1381, however, simmering discontent over continuing suspicions of government corruption and the poll tax contributed to a massive popular uprising, the Peasants’ Revolt, during which leading government ministers, including Simon of Sudbury (the chancellor and archbishop of Canterbury) and Robert Hales (the treasurer) were executed by the rebels. This time, Lyons did not escape; he was singled out, dragged from his house and beheaded in the street.
If the King had followed the rule of law – and kept Lyons and the boys in jail – everything would have calmed down. The monarchy – just like the present-day government – chose to ignore the rule of law, and protect the thieves and punish the whistleblowers.
We have argued for years that the best way to avoid violence is to reinstate the rule of law.
The Bloomberg article – written by a professor of the history of finance and a professor of finance at the ICMA Centre, Henley Business School, University of Reading – ends on a similar note:
The question now is whether public outrage at the Libor scandal and other financial misdeeds will lead to fundamental reforms of the financial sector — such as the separation of retail and investment banking or legislation to regulate the “bonus culture” — or just more cosmetic changes that fail to address the structural issues.
Will we have to wait for a 21st century peasants’ revolt before seeing any real change?
- Will We Have to Wait for a 21st Century Peasants’ Revolt Before Seeing Any Real Change? (dprogram.net)
- Will the Peasants Go Medieval On Bankers? (ritholtz.com)
- Will the Peasants Go Medieval On Bankers? (washingtonsblog.com)
- Will We Have to Wait for a 21st Century Peasants’ Revolt Before Seeing Any Real Change? (sgtreport.com)
- Will We Have to Wait for a 21st Century Peasants’ Revolt Before Seeing Any Real Change? (alexanderhiggins.com)
- Will We Have to Wait for a 21st Century Peasants’ Revolt Before Seeing Any Real Change? (zerohedge.com)
- Should Crimes Of Capital Get Capital Punishment? (poorrichards-blog.blogspot.com)
- Jason Zweig ~ Should Crimes Of Capital Get Capital Punishment? (shiftfrequency.com)
- Banker-bashing Iran style: four fraudsters sentenced to death (theweek.co.uk)
- Mainstream Economist: We Might Need to Hang Some Bankers to Stop Criminal Looting (washingtonsblog.com)
6 Things You Should Know About the $21 Trillion the World’s Richest People Are Hiding In Tax Shelters | Alternet
6 Things You Should Know About the $21 Trillion the World’s Richest People Are Hiding In Tax Shelters
A new report from the Tax Justice Network found trillions of untaxed wealth that the world’s richest people are hiding. Here’s what you need to know.
July 25, 2012
Photo Credit: Shutterstock.com
$21 trillion. That’s how much the world’s richest people are hiding in offshore tax havens worldwide. Or it may be more, as much as $32 trillion—the real amount is, of course, almost impossible to track.
While governments slash spending and lay off workers, citing a need for “austerity” because of the slow economy, the ultra-rich—fewer than 10 million people—have stashed an amount equal to the US and Japanese economies combinedaway from the tax man. This is according to a new report by theTax Justice Network, and their findings are shocking. The lost tax revenue from offshore tax shelters, they note, “is large enough to make a significant difference to all of our conventional measures of inequality. Since most of the missing financial wealth belongs to a tiny elite, the impact is staggering.”
James S. Henry, who was former Chief Economist for McKinsey & Co. and is the author of the book The Blood Bankers as well as articles for publications including The Nation and The New York Times, dug into information from the Bank for International Settlements, the International Monetary Fund, the World Bank, the United Nations, central banks, and private sector analysts and found the outlines of the giant pool of cash floating in that nebulous location known as “offshore”. (And this is just money—the report leaves out things like real estate, yachts, art, and other forms of wealth the super-rich are hiding, untaxed, in offshore tax havens.) Henry refers to it as a “black hole” in the world economy and notes that, “despite taking pains to err on the conservative side, the results are astonishing.”
There’s a lot of information to wade through in this report, so we’ve broken out 6 things you should know about the money the world’s richest are keeping from the rest of us.
1. Meet The Top .001%
“By our estimates, at least a third of all private financial wealth, and nearly half of all offshore wealth, is now owned by world’s richest 91,000 people– just 0.001% of the world’s population,” the report says. Those top 91,000 have about $9.8 trillion of the total estimated in this report—and fewer than ten million people account for the whole pile of cash.
Who are those people? We know they’re the richest, but what else do we know about them? The report mentions “30-year-old Chinese real estate speculators and Silicon Valley software tycoons,” and those whose wealth comes from oil and the drug trade. It doesn’t mention, but could, US presidential candidates—Mitt Romney’s famously taken flak for having money stashed in a Swiss bank account and in investments located in the Cayman Islands. (Politifact rated these statements in a recent Obama ad “true.”)
Drug lords, of course, need to hide their ill-gotten gains, but plenty of the other ultra-rich are simply avoiding paying taxes, constructing complicated trusts and other investments just to shave a few more points off the bill they pay to their home country. And it’s all adding up.
2. Where’s the Cash? It’s Complicated
“Offshore,” according to Henry, isn’t a physical location anymore—though plenty of places like Singapore and Switzerland, he notes, still specialize in providing “secure, low-tax physical residences” to the world’s rich.
But these days, “offshore” wealth is virtual—Henry describes “nominal, hyper-portable, multi-jurisdictional, often quite temporary locations of networks of legal and quasi-legal entities and arrangements.” A company may be located in one jurisdiction, but it is owned by a trust located elsewhere, and administered by trustees in a third location. “Ultimately, then, the term ‘offshore’ refers to a set of capabilities,” rather than to a place or multiple places.
It’s also important, the report notes, to distinguish between the “intermediary havens”–the places most people think of when they think of tax havens, like Romney’s Cayman Islands, Bermuda, or Switzerland—and the “destination havens,” which include the US, the UK, and even Germany. Those destinations are desirable because they provide “relatively efficient, regulated securities markets, banks backstopped by large populations of taxpayers, and insurance companies; well-developed legal codes, competent attorneys, independent judiciaries, and the rule of law.”
So the same folks avoiding paying taxes by shuffling their money around, in other words, are taking advantage of taxpayer-funded services to do so. And here in the US, certain states have begun, since the 1990s, to offer inexpensive legal entities “whose levels of secrecy, protection against creditors, and tax advantages rival those of the world’s traditional secretive offshore havens.” Combine that with the declining share of US taxes paid by the rich and corporations, and we’re starting to look awfully appealing to those looking to squirrel away money.
3. Big Bailed-Out Banks Run This Business
Just who is facilitating this process? Some familiar names surface quickly when you dig into the data: Goldman Sachs, UBS, and Credit Suisse are the top three, with Bank of America, Wells Fargo, and JP Morgan Chase all in the top ten. “We can now add this to their list of distinctions: they are key players in many havens around the globe, and key enablers of the global tax injustice system,” the report notes.
By the end of 2010, the top 50 private banks alone were managing some $12.1 trillion in “cross-border invested” assets for their clients. That’s more than twice what it was in 2005, representing an average annual growth rate of over 16 percent.
“From banks to accountancy firms and corporate lawyers, some of the biggest businesses in the world are part of the fabric of global tax avoidance,” writes financial researcher (and former Goldman Sachs trader) Lydia Prieg in The Guardian. “These companies are not moral entities that we can shame into paying their fair share; they exist to maximize their profits and those of their clients.”
“Until the late 2000s,” Henry notes, “the conventional wisdom among flight capitalists was ‘What cold be safer than ‘too big to fail’ US, Swiss and UK banks?’” Without the bailouts that came along with the 2008 financial crisis, he adds, many of the banks that are stashing cash for the ultra-rich wouldn’t exist anymore. The assumption of government backing is the very reason why those uber-rich are banking with the big guys to begin with.
4. Inequality Is Worse Than We Thought
With all this wealth hidden around the world, impossible to count as well as to tax, the Tax Justice Network points out, it’s certain that we’re underestimating the amount of income and wealth inequality we have. Stewart Lansley, author of The Cost of Inequality, told Heather Stewart at the Guardian: “There is absolutely no doubt at all that the statistics on income and wealth at the top understate the problem.”
When calculating the Gini coefficient, a measure of inequality in a society, he said, “You don’t pick up the multimillionaires and billionaires, and even if you do, you can’t pick it up properly.”
This is such an important issue that the Tax Justice Network included a second report alongside Henry’s, titled “Inequality: You Don’t Know the Half Of It.” The report details all the problems with the way we calculate inequality now, which often seem to boil down to the fact that we have no accurate measure of the true wealth of the super-rich. Income tax data is available, but if there are really trillions stashed around the world in tax havens, how do we calculate the true incomes of the world’s wealthiest?
Inequality has already been skyrocketing around the world, by the measures we currently use. If the top 1 percent in the US don’t own just 35.6 percent of the wealth, for instance, but a much larger chunk that’s hidden away somewhere, what does it mean for us? Don’t forget, as the report notes, that “inequality is a political choice”–that we determine what to do as a society based on the amount of inequality we think is tolerable or just. If that number is far greater than we think, how is that skewing our priorities? Many Americans are already misinformed about our level of inequality—but this report confirms that even supposed experts were wildly underestimating the problem.
5. “Indebted” Countries Aren’t in Debt After All
Henry’s report breaks out a subgroup of 139 countries, mostly lower or middle-income ones, for further study, noting that by most calculations, those 139 countries had a combined debt of over $4 trillion at the end of 2010. But if you took into account all that money being held offshore, those countries actually had negative $10 trillion in debt—or as Henry writes, “[O]nce we take these hidden offshore assets and the earnings they produce into account, many erstwhile ‘debtor’ countries are in fact revealed to be wealthy. But the problem is, their wealth is now offshore, in the hands of their own elites and their private bankers.”
Henry further notes that the developing world as a whole turns out to be a creditor of the developed world, rather than a borrower, and has been so for more than a decade. “That means this is really a tax justice problem, not simply a ‘debt’ problem.”
But those debts, as we’ve noted, fall on the shoulders of the everyday working people of those countries, those who can’t take advantage of sophisticated tax shelters.
And this, of course, isn’t only a developing world problem. These days, Henry notes, the developed world has its own debt crisis (witness the ongoing troubles of the Eurozone). The French economist Thomas Piketty notes, “the wealth held in tax havens is probably sufficiently substantial to turn Europe into a very large net creditor with respect to the rest of the world.”
6. How Much are We Losing?
That’s the bottom line, isn’t it? It’s impossible to say for sure, of course, because these numbers are all just estimates, but Henry guesses that if this unreported $21 trillion earned a rate of return of 3 percent, and that income was taxed at 30 percent, that alone would generate income tax revenues of around $190 billion. If the total amount of money in tax havens is closer to his higher estimate, $32 trillion, it’d bring in closer to $280 billion—which is about twice the amount OECD countries spend on development assistance. In other words, a lot of money. And 3 percent returns are about as conservative as you can get.
That’s just income taxes. Capital gains taxes, inheritance taxes, and other taxes would bring in even more.
That’s why, at the end of the day, Henry says that we could look at this as good news. “The world has just located a huge pile of financial wealth that might be called upon to contribute to the solution of our most pressing global problems,” he writes. “We have an opportunity to think not only about how to prevent some of the abuses that have led to it, but also to think about how best to make use of the untaxed earnings that it generates.”
- Inequality Is Much Worse When You Count Income Hidden In Tax Shelters (businessinsider.com)
- Worlds richest people hiding $21trillion from ‘The Tax Dog’ (bazaardaily.com)
- Super rich hiding up to $32 trillion offshore (aljazeera.com)
- Report: at least $20.3 trillion hidden in offshore banks by global elite (EndtheLie.com)
- Madison Ruppert ~ Report: At Least $20.3 Trillion Hidden In Offshore Banks By Global Elite (shiftfrequency.com)
- The Mega Rich Are Hiding At Least $21 Trillion In Offshore Tax Havens [Study] (businessinsider.com)
- Super-Rich Hide $21 Trillion Offshore (abcnews.go.com)
- Report: at least $20.3 trillion hidden in offshore banks by global elite (raptureimminent.wordpress.com)
- Report Details $21-$32 Trillion in Untaxed Global Wealth Parked Offshore (news.firedoglake.com)
- Super-rich have at least $21 trillion hidden in tax havens (bbc.co.uk)
Wall Street’s Biggest Heist Yet? How the High Wizards of Finance Gutted Our Schools and Cities | Economy | AlterNet
Wall Street’s Biggest Heist Yet? How the High Wizards of Finance Gutted Our Schools and Cities
The complex machinations that pitted county treasurers against the deceptive wizards of Wall Street.
July 17, 2012
Wall Street banks have hollowed out our communities with fraudulently sold mortgages and illegal foreclosures and settled the crimes for pennies on the dollar. They’ve set back property records to the early 1900s, skipping the recording of deeds in county registry offices and using their own front called MERS. They lobbied to kill fixed pension plans and then shaved a decade of growth off our 401(K)s with exorbitant fees, rigged research and trading for the house.
When much of Wall Street collapsed in 2008 as a direct result of their corrupt business model, their pals in Washington used the public purse to resuscitate the same corrupt financial model – allowing even greater depositor concentration at JPMorgan and Bank of America through acquisitions of crippled firms.
And now, Wall Street may get away with the biggest heist of the public purse in the history of the world. You know it’s an unprecedented crime when the conservative Economist magazine sums up the situation with a one word headline: “Banksters.”
It has been widely reported that Libor, the interest rate benchmark that was rigged by a banking cartel, impacted $10 trillion in consumer loans. Libor stands for London Interbank Offered Rate and is supposed to be a reliable reflection of the rate at which banks are lending to each other. Based on the average of that rate, after highs and lows are discarded, the Libor index is used as a key index for setting loan rates around the world, including adjustable rate mortgages, credit card payments and student loans here in the U.S.
But what’s missing from the debate are the most diabolical parts of the scam: how a rigged Libor rate was used to defraud municipalities across America, inflate bank stock prices, and potentially rig futures markets around the world. All while the top U.S. bank regulator dealt with the problem by fiddling with a memo to the Bank of England.
Libor is also one of the leading interest rate benchmarks used to create payment terms on interest rate swaps. Wall Street has convinced Congress that it needs those derivatives to hedge its balance sheet. But look at these statistics. According to the Office of the Comptroller of the Currency, as of March 31, 2012, U.S. banks held $183.7 trillion in interest rate contracts but just four firms represent 93% of total derivative holdings: JPMorgan Chase, Citibank, Bank of America and Goldman Sachs.
As of March 31, 2012, there were 7,307 FDIC insured banks in the U.S. according to the FDIC. All of those banks, including the four above, have a total of $13.4 trillion in assets. Why would four banks need to hedge to the tune of 13 times all assets held in all 7,307 banks in the U.S.?
The answer is that most swaps are not being used as a hedge. They are being used as a money-making racket for Wall Street.
The Libor rate was used to manipulate, not just tens of trillions of consumer loans, buthundreds of trillions in interest rate contracts (swaps) with municipalities across America and around the globe. (Milan prosecutors have charged JPMorgan, Deutsche Bank, UBS and Depfa Bank with derivatives fraud and earning $128 million in hidden fees.)
Rigging Libor also inflated the value of the trash that Wall Street was parking in 2008 and 2009 at the Federal Reserve Bank of New York to extract trillions in cash at near zero interest-rate loans from the public purse. When rates rise, bond prices decline. When rates decline, bond prices rise. The Federal Reserve made loans to Wall Street based on a percentage of the face value of their bonds and mortgage backed securities that they presented for collateral. By pushing down interest rates, the banks were getting a lift out of their collateral, allowing them to borrow more.
The banks that cheated on Libor were also perpetrating a public fraud in terms of how the market perceived their risk. The Libor rate they each reported every morning to compile the index was based on the rate they would pay to borrow from other banks, thus the name London Interbank Offered Rate or Libor. So, for example, even though Citibank’s credit default swap prices were rising dramatically during the 2008 crisis, suggesting it was in trouble, it was reporting low borrowing costs to the Libor index.
Because interest rates impact the price movement of stocks, the rigged lowering of the Libor rate put a false prop under the stock market as well as inflated individual bank stocks. There is also a very strong suggestion that there was insider trading on futures or swaps markets based on the spread between the one month and three month Libor rates. One trader’s email to the Libor submitter reads: “We need a 4.17 fix in 1m (low fix) We need a 4.41 fix in 3m (high fix).”
In simple terms, Wall Street and its colleagues in the global banking cartel have left us clueless as a nation about the validity of our markets, how much hidden debt liability our local and state governments really have, and where the stock market would actually be if interest rates had not been rigged.
Let’s explore the almost incomprehensible rip off of our now struggling communities. Here’s how the swap deals typically worked, although there were Byzantine variations called constant maturity swaps (CMS), swaptions, and snowballs. These complex machinations pitted the brains of county treasurers or school boards against the deceptive wizards of Wall Street.
Municipalities typically entered into an interest rate swap because Wall Street’s fast talking salesmen showed up with incomprehensible power point slides wearing $3,000 suits and assured municipal officials it would lower their overall borrowing costs on their municipal bond issues. A typical deal involved the municipality issuing variable rate municipal bonds and simultaneously signing a contract (interest rate swap) with a Wall Street bank that locked it into paying the bank a fixed rate while it received from the bank a floating interest rate tied to one of two indices. One index, Libor, was operated by an international bankers’ trade group, the British Bankers Association. The other index, SIFMA, was operated by a Wall Street trade association. Neither was an independent monitor for the public interest.
When the two sets of cash flows are calculated, the side that generates the larger payments receives the difference between the sums. In many cases, continuing to this day, the municipality ended up receiving a fraction of one percent, while contractually bound to pay Wall Street firms as much as 3 to 6 percent in a fixed rate for twenty years or longer. If the local or state governments or school boards wanted out of the deal, a multi-million dollar penalty fee could be charged based on the rate structure and notional (face amount) of the swap.
We learned late last month that the Libor rate the municipalities were receiving was manipulated downward from at least 2007 to 2010 by a global banking cartel. The U.S. dollar Libor panel included U.S. banks JPMorgan Chase, Citibank (whose parent is the former ward of the taxpayer, Citigroup), and Bank of America. Canadian prosecutors have implicated JPMorgan and Citibank in a criminal probe, as well as other banks. A whistleblower has provided the names of traders that are alleged to have taken part in the scheme and turned over emails, according to affidavits filed with the Ontario Superior Court.
At least 12 global banks are being investigated by U.S., British and European authorities. Barclays admitted in June that its employees rigged Libor rates. It paid $453 million in fines to U.S. and British authorities and turned over emails showing its traders and those at other, as yet unnamed, banks gave instructions on how the rates were to be rigged on specific dates.
No one has accused SIFMA, the other interest rate benchmark used to set variable rates of interest on municipal bonds, of overseeing a rigged index but it is certainly not a comfort to understand just what SIFMA is. On its web site, SIFMA defines itself as follows: “The Securities Industry and Financial Markets Association (SIFMA) represents the industry which powers the global economy. Born of the merger between the Securities Industry Association and the Bond Market Association, SIFMA is the single powerful voice for strengthening markets and supporting investors — the world over.”
Notice that the words “Wall Street” do not appear in this description and yet, that is precisely what SIFMA is: a Wall Street trade association that viciously lobbies for Wall Street. (As for “supporting investors,” it should be sued for false advertising.) In February of this year, it even sued the top regulator of derivatives, the Commodity Futures Trading Commission in Federal Court to stop it from setting limits on the maximum size of derivative bets that can be taken in the market.
From 2000 through 2011, SIFMA spent $96.4 million lobbying Congress on behalf of Wall Street. In the 2008 election cycle, according to the Center for Responsive Politics, SIFMA spent $865,000 in political donations, giving to both Republicans and Democrats.
In March 2010, the Service Employees International Union (SEIU) issued a report indicating that from 2006 through early 2008 banks are estimated to have collected as much as $28 billion in termination fees from state and local governments who were desperate to exit the abusive interest rate swaps. That amount does not include the ongoing outsized interest payments that were and are being paid. Experts believe that billions of abusive swaps may be as yet unacknowledged by embarrassed municipalities.
In 2009, the Auditor General of Pennsylvania, Jack Wagner, found that 626 swaps were done in Pennsylvania between October 2003 and June 2009, covering $14.9 billion in municipal bonds. That encompassed 107 of Pennsylvania’s 500 school districts and 86 other local governments. The swaps were sold to the municipalities by Citibank, Goldman Sachs, JPMorgan and Morgan Stanley.
In one case cited by Wagner, the Bethlehem Area School entered into 13 different swaps, covering $272.9 million in debt for school construction projects. Two swaps which had concluded at the time of Wagner’s investigation cost taxpayers $10.2 million more than if the district had issued a standard fixed-rate bond or note and $15.5 million more than if the district had simply paid the interest on the variable-rate note without any swaps at all.
And therein lies the rub. Municipalities never needed these nonsensical weapons of mass deception. Muni bond issuers could have simply done what muni investors have done for a century – laddered their bonds. To hedge risk, an issuer simply has bonds maturing along a short, intermediate and long-term yield curve. If rates rise, they are hedged with the intermediate and long term bonds. If rates fall, the short munis will mature and can be rolled over into the lower interest rate environment. Municipal issuers are further protected by being able to establish call dates of typically 5 years, 7 years, or 10 years when they issue long terms bonds. They pay moms and pops and seniors across America, who buy these muni bonds, a small premium of usually $10 to $20 per thousand face amount and call in the bonds if the interest rate environment becomes more attractive for issuance of new bonds.
According to the June 30, 2011 auditor’s report for the City of Oakland, California, the city entered into a swap with Goldman Sachs Mitsui Marine Derivatives Products in connection with $187.5 million of muni bonds for Oakland Joint Powers Financing Authority. Under the swap terms, the city would pay Goldman a fixed rate of 5.6775 percent through 2021 and receive a variable rate based on the Bond Market Association index (that was the predecessor name to the SIFMA index). In 2003, the variable rate was changed from being indexed to the Bond Market Association index to being indexed at 65 percent of the one-month Libor rate.
The city is still paying the high fixed rate but it’s receiving a miniscule rate of less than one percent. According to local officials, the city has paid Goldman roughly $32 million more than it has received and could be out another $20 million if it has to hold the swap until 2021. A group called the Oakland Coalition to Stop Goldman Sachs succeeded in getting the City Council to vote on July 3 of this year to stop doing business with Goldman Sachs if it doesn’t allow Oakland to terminate the swap without penalty. It called the vote “a huge victory for both the city of Oakland and for the people throughout the world living under the boot of interest rate swaps.”
The Mayor of Baltimore, the Baltimore City Council, the City of New Britain Firefighters’ and Police Benefit Fund of Connecticut have filed a class action lawsuit in Federal Court in New York over the rigging of Libor. The plaintiffs state that the City of Baltimore purchased hundreds of millions of dollars of derivatives tied to Libor while the New Britain Firefighters and Police Benefit Fund purchased tens of millions. They are suing the banks involved in submitting the Libor rates.
Wall Street’s boot on interest rate swaps dates back at least 17 years. In February 1995, Smith Barney (now co-owned by Citigroup and Morgan Stanley) fired Michael Lissack as a managing director in the firm’s public finance department after he publicly accused the firm of cheating Dade County, Florida out of millions on an interest rate swap. Lissack went on to become the scourge of Wall Street by expertly detailing how counties and states were being ripped off by Wall Street. He even set up this amusing web site to do battle with the firm. The case became known as the “yield burning case,” an esoteric term that the public could hardly fathom, much like the Libor scandal today.
In 2000, the Securities and Exchange Commission settled the yield burning matter with 21 firms and imposed fines of $172 million, a minor slap on the wrist given the profits of the firms. Arthur Levitt was Chairman of the SEC at the time and came from the ranks of Wall Street.
Which brings us full circle. If you’ve ever wondered where all of those revolving doors between Wall Street and Washington would eventually lead us, we’ve just found out. It leads to the regulators becoming just as jaded and compromised as Wall Street. While Wall Street banks and their global counterparts were grabbing the loot, their regulator was watching carefully behind the wheel of the getaway car for at least four years.
This past Friday, the Federal Reserve Bank of New York turned over emails and documents showing that Timothy Geithner, the sitting U.S. Treasury Secretary of the United States, knew at least as early as 2008 that Libor was being rigged. At the time, Geithner was the President and CEO of the Federal Reserve Bank of New York – the top regulator of Wall Street’s largest banks. As far as we know currently, Geithner did nothing more to stop the practice than send an email with recommendations to Mervyn King, Governor of the Bank of England. Libor rigging continued through at least 2010.
As the U.S. grapples with intractable wealth disparity and the related ills of unemployment and recession, we need to understand that this was not merely a few rascals rigging some esoteric index in London. This was an institutionalized wealth transfer system on an almost unimaginable scale.
- Wall Street’s Biggest Heist Yet? How the High Wizards of Finance Gutted Our Schools and Cities (alternet.org)
- Libor Scandal: The Unvarnished Story of Wall Street ‘ s Heist of the Century (ilene.typepad.com)
- The end of Wall Street as we know it? (independent.co.uk)
- Citi may have been the biggest Libor liar of all (finance.fortune.cnn.com)
- Big banks keep ripping us off (salon.com)
- Libor Scandal Shows Many Flaws in Rate-Setting (dealbook.nytimes.com)
- Libor scandal – the net widens (independent.co.uk)
- The Wall Street Scandal of all Scandals (wallstreetpit.com)
- Geithner Questioned Libor’s Credibility in 2008 (newser.com)
- Lie-bor: Could the Biggest Scam in History Maybe Destroy Wall Street? (motherboard.vice.com)
Matt Taibbi Dishes on the “Biggest Insider Trading You Could Ever Imagine”
Sixteen international banks are accused of rigging a key global interest rate used in contracts worth trillions of dollars.
July 19, 2012
Photo Credit: nasirkhan/shutterstock.com
JUAN GONZÁLEZ: We end today’s show with Matt Taibbi. He’s a contributing editor for Rolling Stone magazine. His most recent in-depth piece is “The Scam Wall Street Learned from the Mafia: How America’s Biggest Banks Took Part in a Nationwide Bid-Rigging Conspiracy—Until They Were Caught on Tape.”
Matt Taibbi has also been closely following the Libor scandal. Sixteen international banks are accused of rigging a key global interest rate used in contracts worth trillions of dollars. The London Interbank Offered Rate, known as Libor, is the average interest rate at which banks can borrow from each other. Some analysts say it defines the cost of money. The benchmark rate sets the borrowing costs of everything from mortgages to student loans to credit card accounts.
AMY GOODMAN: Matt Taibbi is with us here in New York. His latest book is called Griftopia: A Story of Bankers, Politicians, and the Most Audacious Power Grab in American History.
Matt, welcome to Democracy Now!
MATT TAIBBI: Good morning.
AMY GOODMAN: Explain Libor.
MATT TAIBBI: Libor is basically the rate at which banks borrow from each other. It’s a benchmark that sets—that a lot of international investment products are pegged to. When Libor is low, that means that the banks feel confident in each other; and when Libor is high, that means there is generally instability. And what we’ve been dealing with in this scandal are really two different types of manipulation: one in which the banks manipulated Libor downward so as to create the appearance of good health generally, and then, more specifically, a much more insidious kind of corruption where they were manipulating it both up and down in order to capitalize on particular trades, depending on what the banks were holding that day. So this is an explosive, gigantic financial scandal.
JUAN GONZÁLEZ: But, Matt, you know, I was listening to Lawrence Kudlow a couple of nights ago on CNBC, the guru of business journalism, and he claims this is a victimless crime, that this has been blown up out of proportion by the rest of the media and by some of the government regulators.
MATT TAIBBI: I mean, it’s—I can’t imagine how he could possibly—a sane person could possibly describe this as a victimless crime. Basically, every city and town in America, to say nothing of the rest of the world, has investments that are pegged to Libor. Most of them are holding investment accounts that actually will decrease in value as Libor goes down. So, you’re talking—
JUAN GONZÁLEZ: Well, I think that’s what most people don’t understand, that they say, well, if the interest rate goes down—
MATT TAIBBI: Right.
JUAN GONZÁLEZ: —that means you’re paying less. But they don’t understand the interest swaps that have occurred with many of these governments.
MATT TAIBBI: Right, most individuals think of it in terms of their own mortgages or their own credit cards. And it’s true, most of those people probably benefited when they were manipulating Libor down. But now, remember, they also manipulated it upwards at times. But when it was downward, those individuals did benefit. But on the whole, overall, ordinary people actually suffered when Libor was manipulated downward, mainly because local governments, municipal governments tended to lose money. So if you live in a town that had a budget crisis, that had to lay off firemen or teachers or policemen, or couldn’t provide services or textbooks in their schools, you know, that might be due to this. And remember, even the tiniest manipulation downward, when you’re talking about a thing of this scale, would result in tens of trillions of dollars of losses. So it’s an enormous scandal. It eclipses anything we’ve seen since 2008.
AMY GOODMAN: Matt, on Wednesday, U.S. Treasury Secretary Tim Geithner defended himself against criticisms that regulators should have done more to address concerns over the credibility of the Libor interest rate.
TREASURY SECRETARY TIMOTHY GEITHNER: We acted very early in response to concerns that the processes to set this rate was impaired and flawed and vulnerable to misrepresentation. We were worried about it, we were concerned about it. I took the initiative to brief the entire U.S. regulatory community on this at a very early stage, early May. My staff then briefed the SEC, CFTC. We brought it to the attention of the British and took the exceptional step of writing them—putting in writing to them a detailed set of recommendations that revealed the extent of the concerns in that context. And the U.S., to its credit, set in motion, at that stage, a very, very powerful enforcement response, the first results of which you have now seen.
AMY GOODMAN: That’s Treasury Secretary Tim Geithner. Matt Taibbi, your response?
MATT TAIBBI: Well, first of all, the Bank of England chief, Mervyn King, says that the memo that he sent to the British actually didn’t outline any specific regulatory concerns. It didn’t give them any information but only proposed steps that they might take in the future. And those steps were actually just more recommendations for more self-regulation for the banks. My question is, if the Bank of England and the Fed knew about this activity dating back to 2008, why was nothing done? Why were there no criminal investigations until now? Why did the rest of us not hear about it? This is information that should be pertinent to everybody who makes investments, but it was kept secret from everybody. Remember, the information that the Fed got was that some of the banks not only were manipulating Libor, but they were doing it because they felt they had no choice, because everybody else was doing it. And for the Fed to get that information and not immediately launch a massive criminal investigation, or help the Justice Department do that, speaks to the ineffectiveness of their response.
JUAN GONZÁLEZ: Well, isn’t part of the problem, though, that some of these governments and central banks actually looked—looked aside at what was going on because they wanted to keep interest rates low, and hopefully bringing the economies back and having some kind of economic resurgence?
MATT TAIBBI: Yeah, absolutely. There’s one way to look at this and say, OK, the Bank of England and the Fed knew about this in 2008, but they had an interest, perhaps, in seeing Libor artificially suppressed, because in that panic of 2008, when everything in the markets was going haywire, it actually benefited governments by creating the image of financial soundness in the markets. But, A, that’s an irrational response, because it’s a terrible precedent to set for the government to allow manipulation of the markets in any way, and, B, the banks weren’t doing this just to make themselves look healthier, they were also doing this just to make money. They were trading against this information in what essentially was the biggest kind of insider trading you could possibly imagine. So, I don’t think that argument is going to hold water.
AMY GOODMAN: Matt, some, like you, say the Libor scandal could cost the banks tens of billions of dollars. But the Wall Street Journal editorial page has portrayed Barclays bankers as the victim. When the scandal first broke, theJournal ignored it for a week. Then, in a piece called “Barclays Bank Bash,” it wrote, quote, “Federal gumshoes are hot on the trail of banks suspected of attempting to manipulate a key interest rate. If only it were easy to separate the effect of alleged manipulation efforts by private banks from the deliberate manipulation by government,” unquote. Talk about the U.S. media coverage of the Libor scandal.
MATT TAIBBI: Well, first of all, there hasn’t been enough coverage in the United States, and that’s probably because the scandal has not yet spread to our shores. And it will, because this starts—it probably starts with Barclays and UBS and the Royal Bank of Scotland. These are the three banks that we know of already that have admitted to this conduct. But it’s eventually going to involve big American banks, as well. And we know who they are; we don’t have to mention them. But they’re the other—the American banks in the survey are also going to be involved in this.
But I think the American media generally has been slow to realize the gravity of the scandal. I think there’s a lot of fatigue out there among people with all of the financial corruption. I think news editors generally are reluctant to go there, especially with something as complicated as Libor. But what we’re going to see is a lot of coverage like what you just heard from the Wall Street Journal, where there’s going to be a suggestion that this was done in sort of a patriotic manner, in order to create an appearance of soundness in the markets during a period of crisis, that this was done at the behest of governments. And I would suspect that that’s going to be the first line of defense for these banks.
JUAN GONZÁLEZ: I wanted to ask you about something else not directly related to Libor but certainly to banks and to the—your connection to them to the Mafia: the recent revelations that HSBC, one of—the biggest bank in Europe, admitted that it was laundering tens of millions of dollars in drug money from the Mexican drug cartels, forcing one of its chief officers to resign publicly in a hearing?
MATT TAIBBI: Right, yeah, that’s obviously a big scandal, too. It probably has been overshadowed by the Libor revelations recently. We’ve obviously heard things like this before, banks not asking enough questions about where the money is coming from: the Bank of New York scandal back in the late ’90s with the Russian mob money that was flowing there by the billion; you know, to a lesser degree, the scandal involving Jon Corzine and his company, and what questions did Chase ask or not ask when they were dealing with them. There’s clearly a laxity among all the banks in asking enough questions about where money is coming from. I suspect that the HSBC scandal will help spread awareness in that regard, as well.
AMY GOODMAN: What is the solution, Matt Taibbi?
MATT TAIBBI: To the Libor situation or—
AMY GOODMAN: Yes, and overall, whether we’re talking about HSBC to—
JUAN GONZÁLEZ: To crooked banks.
AMY GOODMAN: —the power and to the administration, not to mention in this election year, the opponents, shoring up and supporting and protecting?
MATT TAIBBI: Well, the Libor scandal presents really the mother of all regulatory dilemmas, because this scandal could not have happened if it was just one or two or even three banks acting as rogue participants. The way Libor works is, they take a survey of 16 banks every day. They take the four highest numbers and the four lowest numbers, and they throw them out. They average out the remaining numbers. And what that means is that pretty much all the banks have to be in on it in order to move the needle in any one direction. So you’re talking about 16 of the world’s biggest, most powerful financial institutions. And if they’re all cooperating in what essentially is a gigantic international price-fixing operation, what do regulators do? You know, fines are clearly not going to be sufficient. Even if they pursue criminal investigations and jail a few of the traders, that’s really not going to be sufficient either. So, it really poses a tremendous question. What are they—they’re going to have to revoke some kind of privileges to all of these banks, and that will really result in a massive shake-up of the entire financial system.
- Matt Taibbi Dishes on the “Biggest Insider Trading You Could Ever Imagine” (alternet.org)
- Matt Taibbi: “I can’t imagine how a sane person could describe Libor-rigging as a victimless crime” (ianfraser.org)
- Democracy Now – Matt Taibbi : Libor Rate-Fixing Scandal “Biggest Insider Trading You Could Ever Imagine” – 20 July 2012 (lucas2012infos.wordpress.com)
- Matt Taibbi and Yves Smith: How the Wall Street Mafia Holds America – and the World – Hostage | Economy | AlterNet (mbcalyn.com)
- Taibbi and Spitzer on LIBOR: The business model of the banks “is corrupt and rotten to its core” (americablog.com)
- Taibbi/Spitzer/Kelleher ‘Cartel- Corruption’ Behind Libor Scam (ritholtz.com)
- 11-minute Matt Taibbi video: LIBOR crime defrauded trillions from 99% (washingtonsblog.com)
- 11-minute Matt Taibbi video: LIBOR crime defrauded trillions from 99% (examiner.com)
- Matt Taibbi Breaks Down the Scandal Behind LIBOR and Why You Should Care (survivalblogs.com)
- ‘The mob learned from Wall Street’: Eliot Spitzer on the ‘cartel-style corruption’ behind Libor scam (current.com)
How Jamie Dimon hid the $6 billion loss
By Stephen Gandel, senior editorJuly 13, 2012: 1:08 PM ET
A mixture of accounting moves and rosy assumptions appear to have masked JPMorgan’s London Whale.
Whale Killer and CEO Jamie Dimon
FORTUNE — Here is perhaps the most amazing thing about JPMorgan Chase’s (JPM) $5.8 billion trading loss: Take a look at the firm’s overall results, and it’s like the London Whale’s misstep, one of the largest flubs in the history of Wall Street, never happened.
Back in mid-April, about two weeks before talk of the trading losses emerged, JPMorgan was expected to earn $1.21 a share in its second quarter. On Friday, JPMorgan reported that it had, Whale and all, earned exactly that.
How the bank appears to have offset the huge trading loss is a prime example of how complex and malleable bank profits actually are, and how much they should be believed. JPMorgan’s quarter should give fodder for accountants to talk about for some time.
“Yes, I have seen these results, but I have also seen how the sausage is made and I am worried that I might get food poisoning in the future,” Mike Mayo of Credit Agricole Securities and author of the book Exile on Wall Street told Dimon in a meeting with analysts following the bank’s earnings release.
Sure some of JPMorgan’s businesses were strong. Profits in its mortgage operations, helped by falling interest rates, rose by nearly $1.3 billion. But a good deal of JPMorgan’s earnings came from some shifting of losses and an assumption that things for the bank, and the economy in general, are about to get a good deal better. That assumption might prove right, but it could also add to losses in the future.
So how do you make a nearly $6 billion loss go away? First stop taxes. The bank said that the London Whale’s blunder cost the bank $4.4 billion in the second quarter alone. But that’s before taxes. After it pays taxes, though, JPMorgan says the loss will shrink to just over $2.7 billion, which means the bank plans to take a $1.7 billion write off from Uncle Sam. Like any loss, banks are allowed to use trading blunders to offset taxable profits elsewhere in the bank. The question is the rate. At $1.7 billion, JPMorgan is writing off roughly 38% of the loss. That’s not that out of line with the U.S. corporate tax rate, but it’s a far larger percentage of profits than most companies actually pay. Nonetheless, on taxes alone, the bank was able to shrink the London Whale’s wake to $4.1 billion.
We haven’t left the firm’s vaunted chief investment office yet. CEO Jamie Dimon has long said the portfolio is safe and that if he were to liquidate it today he could produce an $8 billion gain for the bank. In the second quarter, he dipped into some of that. London Whale aside, the CIO took a $630 million gain. Now we’re down to $3.5 billion.
Next stop loan losses. Banks have to put money away for loans they believe are going to go bad. But banks can lower their expenses by putting away less money for future loan losses. In the second quarter, the bank put away just over $200 million for future loan losses. That was not only the lowest amount the bank had set aside in any three month period since the start of the financial crisis, it was the lowest by far. A year ago, the loan loss provision was $1.8 billion.
What’s more, not only did the bank put away less money for future loans, it also pulled back money it had put away in the past. And any money you take out of your loan loss reserves the accountants let you send right to your bottom line. It appears $1.3 billion, or about 28% of the company’s total second quarter profit, came from this move, which is again only real earnings to accountants.
Of course, some of this move may be justified. The bank’s loan portfolio does appear to have improved – fewer new people are telling the bank they can’t pay their loans. The question is, once again, how much. For example, in the bank’s retail business alone, JPMorgan still has $8 billion in loans in which people have stopped paying. That’s only down by 4% from a year ago. And CFO Doug Branstein told analysts not to expect any more reduction in reserves from credit cards, which means they probably took all the earnings juice they could get out of that business this quarter.
Put them together, and JPMorgan appears to have gotten a $2.9 billion boost from changes it made to its loss provisions. Impressive. Just $600 million of the Whale to go.
Now we get to the more esoteric moves. Mortgage servicing rights – the obligation that a bank takes on to collect payments and pass those along on the loans it sells to investors – are one of those assets that accountants call intangible. Banks hold those rights on their balance sheets as if they are worth something, but it’s really an obligation, and no bank could actually sell it, at least not for much. Nonetheless, JPMorgan said in the second quarter, due to improved risk management – never mind the whole robo-signing thing – the value of its mortgage servicing rights jumped by $233 million, nearly 10 times the benefit the bank got from the same accounting maneuver a year ago. And we’re down to $400 million.
Finally, the bank pulled another classic loss hiding move: Say it happened sometime else. Just before the bank released its earnings, it announced that it was restating its first quarter earnings. JPMorgan now claims more of the London Whale’s trading losses happened in the first quarter, $459 million to be exact – or just slightly more than what Dimon needed to fill the gap – than it earlier thought.
And, voila, with that, the London Whale disappeared from sight, or at least from the horizon of JPMorgan’s bottom line.
“I think they did as much manipulation as they could have to hide the loss,” says Christopher Whalen, who follows bank stocks for Tangent Capital Partners. “Some businesses were strong, but I don’t think they would have tried so hard to boost earnings if the London Whale didn’t exist.”
- How Jamie Dimon Hid the London Whale (finance.fortune.cnn.com)
- How Jamie Dimon and ‘Flexible Accounting’ Hid JPM’s London Whale Loss (jessescrossroadscafe.blogspot.com)
- Time for Jamie Dimon to Step Down (wallstreetpit.com)
- Dimons Are Forever: Why Jamie Dimon Won’t Resign (nymag.com)
- Who’s paying for JPMorgan’s loss? (money.cnn.com)
- JPMorgan’s trading loss doubles to $4.4-billion as ‘London Whale’ leaves bank (business.financialpost.com)
- JPMorgan admits to losing $5.8 billion this year so far (rt.com)
- The Real Loss For Jamie Dimon And JPMorgan Chase: Their Integrity (forbes.com)
- JPMorgan’s ‘hidden’ losses soar to $5.8bn – Americas – Al Jazeera English (faktensucher.wordpress.com)
- JPMorgan trading loss jumps to $4.4B US (cbc.ca)
Goldman Sachs and the $580 Million Black Hole
Gretchen Ertl for The New York Times
By LOREN FELDMAN
Published: July 14, 2012
THE business deal from hell began to crumble even before the Champagne corks were popped.
The deal, the $580 million sale of a highflying technology company, Dragon Systems, had just been approved by its board and congratulations were being exchanged. But even then, at that moment of celebration, there was a sense that something was amiss.
The chief executive of Dragon had received a congratulatory bottle from the investment bankers representing the acquiring company, a Belgian competitor called Lernout & Hauspie. But he hadn’t heard from Dragon’s own bankers at Goldman Sachs.
“I still have not received anything from Goldman,” the executive wrote in an e-mail to the other bank. “Do they know something I should know?”
More than a decade later, that question is still reverberating in a brutal legal battle between Goldman and the founders of Dragon Systems — along with a host of other questions that go to the heart of how financial giants like Goldman operate and what exactly they owe their clients.
James and Janet Baker spent nearly two decades building Dragon, a voice technology company, into a successful, multimillion-dollar enterprise. It was, they say, their “third child.” So in late 1999, when offers to buy Dragon began rolling in, the couple made what seemed a smart decision: they turned to Goldman Sachs for advice. And why not? Goldman, after all, was the leading dealmaker on Wall Street. The Bakers wanted the best.
This, of course, was before the scandals of the subprime mortgage era. It was before the bailouts, before Occupy Wall Street, before ordinary Americans began complaining about “banksters” and “muppets” and “the vampire squid.” In short, before Goldman Sachs became, for many, synonymous with Wall Street greed.
And yet, even today what happened next to the Bakers seems remarkable. With Goldman Sachs on the job, the corporate takeover of Dragon Systems in an all-stock deal went terribly wrong. Goldman collected millions of dollars in fees — and the Bakers lost everything when Lernout & Hauspie was revealed to be a spectacular fraud. L.& H. had been founded by Jo Lernout and Pol Hauspie, who had once been hailed as stars of the 1990s tech boom. Only later did the Bakers learn that Goldman Sachs itself had at one point considered investing in L.& H. but had walked away after some digging into the company.
This being Wall Street, a lot of money is now at stake. In federal court in Boston, the Bakers are demanding damages, including interest and legal fees, that could top $1 billion. That figure is nearly twice what Goldman paid to settle claims that it misled investors about subprime mortgage investments before the financial crisis of 2008.
This account is based on a trove of legal filings — e-mails, motions and roughly 30 depositions, more than 8,000 pages of sworn testimony in all — that open a rare window on Goldman Sachs and the mystique that surrounds it.
JAMES AND JANET BAKER, now in their 60s, are computer speech revolutionaries. Both Ph.D.’s, they became interested in voice-recognition technology in the 1970s, back when a personal assistant like Apple’s Siri would have seemed more science fiction than scientific fact.
They are widely credited with advancing speech technology far faster than anyone thought possible, primarily because of an epiphany Mr. Baker had while doing his doctorate research. He figured out that speech recognition could, in essence, be reduced to math. You didn’t have to teach a computer to recognize accents or dialects, Mr. Baker realized — you just had to calculate the mathematical probability of one sound following another. His algorithms proved remarkably accurate and eventually became the industry standard. (Want to know more? Ask Siri.)
The Bakers founded Dragon Systems in 1982 in an old Victorian house in West Newton, Mass. At that time, despite having two school-age children and a big mortgage, they were determined to take no venture capital and to finance the company’s growth with its own revenue — once they had a product. They figured they could last 18 months, maybe 24.
Their first product was a software program for a British-made PC called the Apricot that let users open files and run programs by voice command. Then came DragonDictate, a groundbreaking speech-to-text system for dictation that still required the speaker to pause. Between. Every. Word.
For years, the Bakers pressed on, convinced that they were on track to create a program that would recognize continuous speech.
To do that, however, they eventually decided that they needed more capital. While Mr. Baker worked on the technology, Ms. Baker brokered a deal with Seagate Technology, the disk drive manufacturer. Seagate bought 25 percent of Dragon for $20 million. Then, in 1997, Dragon introduced Dragon NaturallySpeaking, a program that recognized more words than could be found in a standard collegiate dictionary. It was available in six languages and could handle normal speech, even sentences with words that sound alike, such as, “Please write a letter right now to Mrs. Wright. Tell her that two is too many to buy.”
By this time, I.B.M. and others had piled into the voice technology market, too. As the Nasdaq market raced toward record highs, the Bakers considered taking Dragon public. But in 1999, several companies — including Sony and Intel — expressed interest in buying into Dragon. Finally, unsolicited buyout offers began to arrive. One came from Visteon, a subsidiary of Ford Motor. Another arrived from Lernout & Hauspie.
TO the uninitiated, the mystique of Goldman Sachs may be hard to fathom. Known for what might politely be called ruthless professionalism, Goldman, the thinking goes, is smarter and more plugged in than just about any other investment bank. In the late 1990s, under Henry M. Paulson Jr., who later became the Treasury secretary and orchestrated the Wall Street bailouts, Goldman was the alpha dog in the lucrative game of mergers and acquisitions.
So it was that in December 1999, the Bakers, in over their heads when it came to M.& A., signed a five-page engagement letter drafted by Goldman. In it, Goldman pledged to provide “financial advice and assistance in connection with this potential transaction, which may include performing valuation analyses, searching for a purchaser acceptable to you, coordinating visits of potential purchasers, and assisting you in negotiating the financial aspects of the transaction.”
To the Dragon deal, Goldman assigned four bankers, two in their 20s and one in his early 30s. That wasn’t unusual. Although Dragon Systems was worth everything to the Bakers, the company — with $70 million in revenue and 400 employees — was small beer on Wall Street. Dragon agreed to pay Goldman a flat fee of $5 million, less than some Goldman bankers were pulling down.
But who, if anyone, supervised these bankers — later called “the Goldman Four” in court documents — remains something of a mystery. One of the four, the most senior, testified later that their supervisor was Gene T. Sykes, a Goldman partner who at the time specialized in technology and who this year was promoted to head of M.& A. at the firm, one of the most powerful jobs on Wall Street. In a deposition, Mr. Sykes disavowed any involvement.
Most of the Goldman Four didn’t stay long at the bank. Richard Wayner, who was 32 when the Dragon deal was cut, struck out on his own in 2002 and eventually landed at the Keffi Group, an investment firm. T. Otey Smith, then 21, left Goldman in 2000 and now works for RLJ Equity Partners. Alexander Berzofsky, then 25, left Goldman at about the same time and is now a managing director at Warburg Pincus, the big private investment company. Chris Fine, then 42, was a Goldman information technology specialist who was enlisted on the deal and is still with Goldman. (None of the four agreed to be interviewed for this article.)
Before the engagement letter was signed in late 1999, Goldman sent Dragon a memo indicating that its first steps would include beginning to conduct due diligence — Wall Street-speak for kicking the tires — on L.& H. The memo included specific areas of concern, including L.& H.’s sources of revenue, its major customers, its license agreements and royalty agreements, its expected growth, its partnerships and its financial statements.
THAT December, Mr. Wayner of Goldman accompanied Ms. Baker and Dragon’s chief financial officer, Ellen Chamberlain, on a trip to Belgium to meet L.& H. executives. For the trip, another of the Goldman Four, Mr. Berzofsky, prepared a list of due diligence questions. Goldman also prepared a “merger analysis” that predicted the companies’ combined sales per share, earnings per share and total debt under three acquisition scenarios: all cash, all stock and half and half.
In its initial offer, L.& H. proposed paying $580 million, half in cash and half in stock. But the Bakers weren’t sure. News reports had questioned L.& H.’s revenue, particularly in fast-growing Asian markets, as well as some of the company’s licensing deals. Mr. Baker felt that L.& H. had inferior voice technology. But then, he reasoned, if L.& H. could generate so much revenue with lesser technology, imagine what it could do with Dragon.
By mid-February 2000, Ms. Chamberlain had sent an angry memo to Goldman. It urged the bank to move faster in its analysis of L.& H. Talks with the other companies had gone nowhere, and she expected Goldman to “drive” the due diligence process. Mr. Wayner testified later that the bank’s reaction to that memo was “to do as our client asked and to revisit all of our analyses.”
But on Feb. 29, Dragon received an odd memo from Goldman. It wasn’t addressed to anyone in particular at Dragon, and it wasn’t signed by anyone at Goldman. The Goldman Four testified later that they had no idea who had sent it. But the memo referred to many of the same due diligence issues that Ms. Chamberlain raised. The memo asserted, however, that Dragon’s accounting firm, Arthur Andersen, should do the work, not Goldman.
The memo shocked Ms. Chamberlain. She had come to Dragon from Seagate, where she had participated in similar deals. She believed that this sort of thing was generally done by investment bankers, not by accountants. But the moment passed. No one at Dragon or Goldman brought up the mystery memo again — at least not until the lawsuits began flying. (The Bakers also filed suit against other participants in the transaction.)
THE Dragon executives thought that Goldman was taking a hard look at L.& H. After all, Dragon was paying Goldman $5 million for its advice. If Goldman wasn’t conducting due diligence, what was it doing?
“They put items on and off the due diligence list,” Ms. Baker later testified. “We discussed the issues at — at basically every meeting that we were at, and we were meeting often in person or by phone, typically, several times a week in this time frame — sometimes multiple times a day, as we’ve seen. And so they knew what everybody was doing. And they were, they were directing it.”
One of the tasks was a conference call that Mr. Wayner arranged, at Ms. Baker’s request, between Dragon and Charles Elliott, a Goldman analyst in London. Dragon was wondering why L.& H.’s share price had been gyrating wildly. Mr. Wayner told Ms. Baker, he later testified, that Mr. Elliott was following L.& H.’s stock and was up to date on its fluctuations. And Mr. Elliott assured Ms. Baker that investors were worried about the market in general, rather than L.& H. in particular. He also said he expected the stock price of the combined companies to rise substantially once a merger was struck.
Years later, in his deposition, Mr. Elliott told a more complete story. He acknowledged that he actually had not been following L.& H.; that had been the responsibility of another Goldman analyst who had left the firm shortly after the Bakers retained Goldman. After the other analyst left, Mr. Elliott testified, Goldman terminated its coverage of L.& H. No one told the Bakers that Goldman was no longer covering the company they were about to bet their futures on.
Mr. Elliott also testified that he was unaware of press reports at the time that suggested L.& H. was claiming huge revenue gains in Asia. If he had been aware, he said, he would have been “very skeptical” of those gains, given the challenges that Asian languages present for speech recognition. He also acknowledged that it would not have been difficult for him to call up L.& H.’s customers and check the revenue claims.
As the Nasdaq composite index raced toward a record high that March, Dragon’s executives made fateful decisions. On March 8, the Bakers met with L.& H. executives and that company’s advisers from SG Cowen to try to reach a definitive agreement.
A few days before that meeting, Mr. Wayner of Goldman told Ms. Baker that he would be away on vacation and couldn’t make the session. He also said that he would be unable to call in and that it was pointless to send anybody else from Goldman because there wasn’t time to catch up on the deal. It was at this meeting that L.& H. proposed shifting the $580 million deal from half stock and half cash to all stock. The Bakers, with their high-priced investment bankers M.I.A., agreed.
Later, after L.& H. collapsed, Mr. Wayner testified that the bank “did not form a point of view” as to whether an all-stock deal would be risky or advisable for the Bakers. He said he could not remember if it had crossed his mind to warn the Bakers about potential issues with an all-stock deal.
Two weeks after the initial agreement was reached, Mr. Wayner told Ms. Baker that he would be leaving the next day for another vacation. He would not participate in a conference call with L.& H.’s accounting firm, KPMG, that was set up to discuss any open questions about accounting and due diligence. Mr. Berzofsky of Goldman did participate but later acknowledged that he did not raise any concerns. The Bakers say they believed that all issues had been addressed.
Mr. Wayner was still on vacation on March 27, when Dragon’s board met to take a final vote on the proposed acquisition. This time, Mr. Fine and Mr. Smith of Goldman attended the meeting, and Mr. Wayner called in from Argentina. No one from Goldman gave a presentation, but minutes from the meeting, taken by Dragon’s outside lawyers, indicate that the Goldman bankers expressed confidence that the combination of Dragon and L.& H. would produce a market leader. The board voted unanimously to accept the $580 million all-stock deal.
Years later, Mr. Wayner testified that lingering issues of due diligence had never been resolved to his satisfaction. He was asked if he had said as much that March day on the phone from his vacation.
“No, I don’t recall saying that,” he responded.
The deal closed on June 7. By Aug. 8, the merged companies were in crisis amid reports that L.& H. had cooked its books. Reporters for The Wall Street Journal did something the Goldman Four did not: they picked up the phone and called L.& H.’s supposed customers in Asia. They found that companies in South Korea and elsewhere that L.& H. had claimed were its customers weren’t doing any business with it at all. L.& H. had pulled sales figures out of thin air.
Although the Goldman Four never tried to call those customers, it emerged during litigation that other bankers at Goldman had done precisely that — about two years earlier, when Goldman itself considered investing in L.& H. in a plan known internally as Project Sermon. In it, Goldman’s merchant banking division took a closer look at L.& H. — but, apparently, never shared what it knew, and was never asked. Goldman was considering putting $30 million into L.& H., a step that, at the time, might have seemed conceivable, given the hype surrounding L.& H.
“Whenever we invest, we always want to talk to customers,” Luca Velussi, a Goldman analyst who worked on Project Sermon, later testified. Based on what Project Sermon’s team leader, Ramez Sousou, termed “preliminary” due diligence, Goldman declined to invest in L.& H.
By Nov. 29, L.& H. had plunged into bankruptcy. Indictments and convictions followed. L.& H.’s stock price sank to zero — and the Bakers lost everything.
Dragon Systems, the Bakers’ “third child,” was put up for sale at a bankruptcy auction. Visteon acquired some of Dragon’s technology. ScanSoft bought the bulk of it and went on to become a $7 billion giant, with a licensing deal with Apple. (The Bakers believe that some of their technology made its way into Siri.) ScanSoft later acquired — and assumed the name of — Nuance, another voice technology company.
Indeed, Nuance had gone public about the same time L.& H. bought Dragon, and Goldman handled the initial offering — a fact that still angers the Bakers. They say they had no idea Goldman was simultaneously representing their company and a rival.
It wasn’t until after the bankruptcy auction, the Bakers now say, that the full force of what had happened hit them. The money was one thing. But what they really wanted was the opportunity to complete the work they had started decades earlier. As part of the deal with L.& H., they had expected to continue their research. Once L.& H. collapsed, they had held out hope that they might get their technology back — either through litigation or through the bankruptcy auction. They now knew that it wasn’t going to happen.
“The door is closed,” Mr. Baker remembers thinking. “Not only do we not have the technology any more, but we have no chance of getting it back.”
THE Bakers’ case against Goldman is simple. Their lawyer, Alan K. Cotler of Philadelphia, captured it in a single sentence in a motion for summary judgment: “The Goldman Four were unsupervised, inexperienced, incompetent and lazy investment bankers who were put on a transaction that in the scheme of things was small potatoes for Goldman.”
Summarizing Goldman’s defense is more complicated. Based on the firm’s response to the complaint, its motion for summary judgment and testimony of the people it employed, most of that defense falls under one of three rubrics: The Bakers do not have standing to sue. Goldman had no obligation to do a financial analysis of L.& H. And Goldman’s bankers actually performed quite well. The firm released a statement that asserted, “Goldman Sachs was retained as a financial adviser by Dragon Systems, not its shareholders, and performed its assignment satisfactorily in all respects.”
Goldman’s lawyer, John D. Donovan of Ropes & Gray in Boston, has argued that under the terms of the engagement letter, only Dragon Systems had the right to sue, and Dragon no longer exists. Goldman has even filed a countersuit against Ms. Baker, contending that by suing Goldman she had breached the contract. Even though Ms. Baker lost everything in a deal Goldman orchestrated, the firm says Ms. Baker should now pay its legal fees.
To support the argument that Goldman was not obligated to perform due diligence, the firm points to that mystery memo of Feb. 29, 2000 — the memo that no one at Goldman has acknowledged sending — as establishing that Dragon Systems needed to push its accounting firm to explain any red flags or resolve outstanding worries.
Goldman’s lawyers have argued in a motion that while Goldman “strongly urged” Dragon to engage an international accounting firm to do a “forensic accounting analysis on L.& H.,” Ms. Baker “prevented” Dragon from following Goldman’s advice because she did not want to incur the expense of the due diligence and did not want to delay the transaction. The Bakers call this argument “complete fiction,” and even the Goldman Four seem dubious. They testified that Ms. Baker did nothing to block the performance of due diligence.
Goldman also hired an independent investment banker, Ian Fisher, who filed an expert report arguing that Goldman was not obligated to conduct due diligence because Dragon did not order what is known as a fairness opinion, an analysis of the acquisition price.
The Bakers have hired their own expert, Donna Hitscherich, a former investment banker with JPMorgan Chase who lectures at Columbia Business School. She wrote in her expert report that Goldman was obligated to perform due diligence with or without a fairness opinion.
If the case goes to trial in Boston, as scheduled, on Nov. 6, the final argument that Goldman can be expected to make is that the bankers, as Mr. Wayner testified, gave the Bakers “great advice.”
Mr. Berzofsky, too, testified in his deposition that the Goldman Four did a “great job.”
Even though Dragon lost everything?
“Yes,” Mr. Berzofsky said. He was given several opportunities to clarify. And then he was asked one more time — the fact that the Bakers and Dragon’s shareholders lost everything doesn’t affect your opinion?
“Correct,” Mr. Berzofsky responded. “We guided them to a completed transaction.”
- Goldman Sachs and a Sale Gone Horribly Awry (nytimes.com)
- Goldman Sachs and the $580 Million Black Hole (nytimes.com)
- Inventors of Nuance’s Dragon sue Goldman over deal gone bad (bizjournals.com)
- These Cofounders Say Goldman Sachs Owes Them $1 Billion Because It Sold Their $580 Million Company To Fraudsters (GS) (nytimes.com)
- Trust, But Verify. Big Fees Don’t Guarantee Advice That Should Be Followed. Goldman Sachs ‘Deal’ Destroys Couple’s Life’s Work (inelegantinvestor.com)
- The deal’s the thing (brandrepair.typepad.com)
- Goldman Sachs Shares Eyeing The Century Mark Ahead Of Q2 Earnings (seekingalpha.com)
- Why Goldman Sachs Is Worth $200 A Share (seekingalpha.com)
- Goldman Sachs Goes from ‘Muppets’ to Tweets (dailyfinance.com)
- When Corporate Culture Becomes a Public Relations Nightmare (globalcompliance.com)
Banker to the Bankers Knows the Numbers Are Lying
The , which acts as a bank for the world’s central banks, should know fudged numbers when it sees them. What may come as a surprise is how openly it has been discussing the problem of bogus balance sheets at large financial companies.
“The financial sector needs to recognize losses and recapitalize,” the Basel, Switzerland-based institution said in its latest , released this week. “As we have urged in previous reports, banks must adjust balance sheets to accurately reflect the value of assets.” The implication is that many banks are showing inaccurate numbers now.
About Jonathan Weil
Jonathan Weil joined Bloomberg News as a columnist in 2007, and his columns on finance and accounting won Best in the Business awards from the Society of American Business Editors and Writers in 2009 and 2010.
Unfortunately the BIS’s suggested approach is almost all carrot and no stick. “The challenge is to provide incentives for banks and other credit suppliers to recognize losses fully and write down debt,” the report said. “Supporting this process may well call for the use of public sector balance sheets.”
So there you have it. More than four years after the financial crisis began, it’s so widely accepted that many of the world’s banks are burying losses and overstating their asset values, even the is saying so — in writing. (The BIS’s includes Federal Reserve Chairman and , president of the .) It fully expects taxpayers to pick up the tab should the need arise, too.
In this respect, little has changed since the near-meltdown of 2008, especially in Europe. Spain has requested 100 billion euros ($125 billion) to rescue its ailing banks. , perhaps the next in line for a European Union bailout, is weighing plans to boost capital at some of the country’s lenders through sales of their bonds to the government.
Those bank rescues almost certainly won’t be the last. All but four of the 28 companies in the trade for less than half of their common shareholder equity, which tells you investors don’t believe the companies’ asset values. While it may be true that the accounting standards are weak, the bigger problem is they are often or .
Government bailouts might be easier for the world’s taxpayers to swallow if banks were required to be truthful about their finances, as part of their standard operating procedure. Nowhere in its report did the BIS discuss the role of , although the last time I checked it’s against the law in most developed countries to knowingly publish false financial statements. There have been few fraud prosecutions against executives from large financial institutions in recent years, in the U.S. or elsewhere, much to citizens’ outrage.
In the BIS’s eyes, it seems that it’s enough to merely encourage or incentivize banks to come clean about their losses, by dangling the prospect of additional taxpayer support before them. For example, on the subject of how to deal with overvalued : “One frequently used option is to set up an to buy up loans at attractive prices, i.e., slightly above current market valuations,” the BIS report said. “Alternatively, authorities can subsidize lenders or guarantee the restructured debt when lenders renegotiate loans.”
The BIS report got this much right: The lack of transparency and credibility in banks’ balance sheets fuels a vicious cycle. When investors can’t trust the books, lenders can’t raise capital and may have to fall back on their home countries’ governments for help. This further pressures sovereign finances, which in turn weakens the banks even more. The contagion spreads across borders. There is no clear end in sight.
“Prolonged unusually accommodative monetary conditions mask underlying balance sheet problems and reduce incentives to address them head-on,” the report said. “Similarly, large- scale asset purchases and unconditional liquidity support together with very low can undermine the perceived need to deal with banks’ impaired assets.”
At some point, the cycle will break, only nobody knows when. This you can count on: It will take more than subtle inducements to make banks fess up to all their losses. Prosecutors must have a role. There’s nothing like the threat of a courtroom trial to focus a bank executive’s mind. The risk just has to be real.
- The twilight of the central banker (economist.com)
- Central Bankers Seek More Action On Global Economy (npr.org)
- Central Bankers Seek More Action On Global Economy (npr.org)
- Bankers Call for Wider Measures to Stem Crisis (nytimes.com)
- The Barclays scandal is not ‘wholly inappropriate’. It’s a crime | Jonathan Freedland (guardian.co.uk)
- The twilight of the central banker (economist.com)
- #banksters Bashin Bustin Tier 1 #gold Bis Rabbit (occupythebanks.com)
- If You Are A Central Banker, Please Read This (huffingtonpost.com)
- The central bankers’ bank cannot forget what the others never learned (guardian.co.uk)
- CNBC Admits We’re All Slaves To The Central Bankers (dailypaul.com)
Thursday, 28 June 2012
Who Owns Your Neighborhood? The Role of Investors in Post-Foreclosure Oakland
Since 2007, there have been over 10,000 completed foreclosures in the City of Oakland. With the much needed attention given to foreclosure prevention, there has been very little focus on what has happened to properties after foreclosure. This report seeks to fill this gap. The point of departure for our analysis is the precise moment of loss—when the foreclosure process is legally complete and a home is sold at a trustee sale. From there, we tell the story of who is benefiting from the new opportunities created out of the life altering misfortunes of others.
All Completed Foreclosures, 2007-2011
Investor Acquired Foreclosures, 2007-Oct 2011
The collapse of housing values in Oakland brought about by the foreclosure crisis has opened up a colossal opportunity for those individuals and corporate entities with the financial resources to play the real estate investment game. Our analysis shows that eighty one percent of the 10,508 completed foreclosures in Oakland (since 2007) reverted to REO status; that is, they ended up being owned by banks, other financial institutions, or one of the Government Sponsored Enterprises (GSEs). However, that status—in large part—has proven to be only temporary, revealing just one aspect of Oakland’s post-foreclosure reality. In fact, 16 percent of foreclosed properties never reached REO status, and instead were purchased by investors at trustee sale auctions. Moreover, investors acquire a significantly higher volume of properties post-foreclosure through direct purchases from financial institutions. Our analysis reveals that—as of October 2011—investors had acquired 42 percent of all properties that went through foreclosure since 2007 in Oakland. Of these properties acquired by investors, 93 percent are located in the low-income flatland neighborhoods of the city. Further, only ten out of the top 30 most active investors are located in Oakland.
Our analysis also revealed that while non-investor individuals are very rarely able to engage in the trustee sale auction process (due to the fact that cash is required to purchase at auction), they have demonstrated a significant demand for affordable homeownership opportunities through REO purchases. Between 2007 and October 2011, non-investor individuals acquired 55 percent of the REOs sold by banks and the GSEs, even in the face of the competitive advantage that cash investors wield at multiple stages in the post-foreclosure home buying landscape. Further, we found that non-investor individuals or entities were six times more likely than investors to retain ownership of their REO or trustee sale acquisition. In large part, the post-foreclosure transaction churn grinds to a stabilizing halt when non-investor purchasers are able to successfully engage in the process and buy a home as an owner-occupant.
· Of the 10,508 completed foreclosures in Oakland between 2007 and October 2011, 81 percent reverted to REO status (owned by a bank, GSE or government entity) at the trustee sale. As of October 2011, 69 percent of these REO properties were subsequently sold by their foreclosing beneficiary; the remaining 31 percent of REO properties were still owned by a financial institution.
· Deutsche Bank foreclosed upon 1,511 properties in Oakland between 2007 and October 2011, the most of any financial institution. US Bank, Wells Fargo, Fannie Mae, and Bank of America are the other institutions among the top five foreclosing entities.
Speculative Real Estate Investment Pipeline
· Of all completed foreclosures in Oakland between 2007 and October 2011, 42 percent were acquired by investors, either at trustee sales or through direct purchases from financial institutions. Investors acquired 45 percent (2,681) of the 5,923 REOs sold by banks, GSEs, and government entities.
· Investor activity at trustee sales of Oakland properties picked up significant momentum after 2008, rising from a 7 percent share of all trustee sales in 2008 to nearly 25 percent in 2010.
· Of the 886 homes acquired at trustee sale and subsequently flipped by investors, 312 were purchased by a second investor.
Investor Profits Draining Local Wealth
· Only ten of the top 30 foreclosure investors in Oakland are actually based in Oakland.
· 93 percent of investor-acquired properties are located in the low-income flatland neighborhoods of Oakland—the same communities targeted by predatory lenders in the years preceding the foreclosure crisis.
· As of October 2011, Community Fund LLC had flipped 120 homes with an average acquisition price of $124,535 and an average selling price of $195,256, for an average gross gain of $70,721 per property.
· As of October 2011, REO Homes LLC had flipped 10 homes, with an average acquisition price of $128,270 and an average selling price of $315,250, for an average gross gain of $186,980 per property.
- Report Finds Investors Buying Up Foreclosed Oakland Homes (sanfrancisco.cbslocal.com)
- Avail the Opportunity to have Property at Lower Prices through Miami Foreclosures – Real Estate – Foreclosures (rawbusinesslaw.com)
- Investors buying, renting many Oakland foreclosures (sfgate.com)
- Foreclosure Investing – Foreclosure Notices Are Required Reading – Real Estate – Foreclosures (rawbusinesslaw.com)
- Using Partial Sales to Avoid Foreclosure (lawprofessors.typepad.com)
- Bank Owned Homes Hidden From Public Affect Home Values Nationwide (prweb.com)
- The Pros & Cons of Bank Owned Foreclosures – Real Estate – Foreclosures (rawbusinesslaw.com)
- Nearly 66,000 Completed Foreclosures Nationally in April (commercialappraiser.typepad.com)
- Foreclosures spike in May (cbsnews.com)
- Wells Fargo Accused of Discrimination Against Minority Foreclosures (helpwithforeclosurenews.com)