While this country remains focused and freaked out by street crime, drug dealers and some weird guy holed up in a cave far away from us, the most destructive terrorists have been roaming free and directly depreciating our lives for decades. Whatever the costs of 9/11 in lives lost and property damage ($10 billion and 3,000 individuals and families), it pales in comparison with the costs of white collar terrorism. The biggest white collar terrorists are Bush and Cheney (see LithiumCola's FP piece and you should have been following what Stiglitz and Bilmes have been writing all along) who have plunged the nation into an additional five trillion, and counting, in national debt. And that doesn’t include the additional trillions that their WOT will cost in the coming years. However, their reign of terror may pale in comparison with what their friends have done to the financial security of the nation and most Americans.
In the political arena, the poster boy for the beginning of the decline in economic security for ordinary Americans is Ronald Reagan. In the financial sector, I would identify Michael Milken for that status. (Who among us wouldn’t gladly trade a few months in prison to retain half a billion dollars in ill gotten gains?) In Liar's Poker, Michael Lewis detailed the decline of the one-time premiere bond trading investment banker Solomon Brothers. Part of that story was the emergence of Milken’s Drexel Burnham.
Still, our most severe misjudgments were not the steps we had taken but steps we had neglected to take. It wasn’t as though investment banking in 1987 were no longer a profitable business. On the contrary, it was more profitable than ever before. Open any newspaper and you see investment bankers raking in fees of $50 million and more for a few weeks of work. For the first time in many years other firms, no Solomon, were making the money. ...
Drexel was making its fortune in junk bonds. ... out managers had failed to see how important junk bonds would become. They thought junk was a passing fad. That was easily their single most expensive oversight, for it precipitated not only a revolution in corporate America, and a giddy free-for-all Wall Street, ...
The original pitch for junk bonds was that they were safer than common stock and the returns were better than stock or investment quality commercial bonds. They straddled the line between debt and equity. How they came to be used during that period was that they became a vehicle to suck capital (equity) out of corporations.
"They’d use junk bonds to finance corporate raids on undervalued corporations, by simply pledging the assets of the corporations as collateral to the junk bond buyers. ... A take-over of a large corporation could generate billions of dollars’worth of junk bonds, for not only would new junk be issued, but the increased leverage transformed the outstanding bonds of the former blue chip corporation to junk. To raid corporations, however, Milken needed a few hit men.
The new and exciting job of invading corporate boardrooms appealed mainly to men of modest experience in business and a great deal of interest in becoming rich. Milken funded the dreams of every corporate raider of note: Ronald Perelman, Boone Pickens, Carl Ichan, Irwin Jacobs, Sir James Goldsmith, Nelson Peltz, Samuel Heyman, Saul Steinberg, and Asher Edelman.
What these corporate raiders did, regardless of whether the take-over was successful or not, was to leave in their wake corporations saddled with more debt. Their balance sheets more leveraged. Stockholders in a weaker financial position. The raiders fabulously wealthy. And the NY society pages filled with images of the trophy wives of many of them.
Like the minions of the Reagan and Bush administrations that returned to continue their nefarious activities with the installation of BushII, those who escaped the short arm of white collar law continued their looting and pillaging after Milken’s fall. Creating ever more complex and lucrative (for themselves) Ponzi schemes. One of those was Joseph Cassano, a Drexel alumnus who landed at AIG. More specifically AIG’s Financial Products operation in London. As detailed in the NYTimes, the cost of his little game is at the core of the $100 billion plus taxpayer funded bailout for AIG. But the tentacles of the monster are spread throughout the financial institutions of the US and world. Sucking dollars from businesses, pension plans, investment accounts, commercial banks and investment banks. Those dollars were then stuffed into the pockets of hedge fund managers and the "Big Swinging Dicks" (refer to Liar’s Poker) on Wall Street that sold the crap to many who should have known better and many who trusted the professionals.
Liar’s Poker was published 1989. Far too soon to survey the damage that Wall Street could visit on this country. Lewis has stated that he couldn’t imagine that his cautionary tale would be seen at a recruiting tool for wannabe new "Big Swinging Dicks." Couldn't see that the mortgage bonds pioneered by Solomon Brothers in the early 1980s was merely the first act. That one sucked money from Savings & Loans (the principle customers for them) and stuck the taxpayers with the bill. Or that one of Solomon’s "Big Swinging Dicks," John Meriweather would go on to manage Long-Term Capital Management (LTCM). (Long-term in the financial world means more than six months and in the case of LTCM a mere four years). But mostly what wasn’t clear back then was that there wasn’t a word for all the elements of what the investment bankers were playing with in rudimentary form: derivatives.
Carol J. Loomis, a Fortune magazine staff writer, put this all on display for anyone who cared to read in her 3/7/94 brilliant article The risk that won't go away. The full title almost says it all:
Like alligators in a swamp, derivatives lurk in the global economy. Even the CEOs of companies that use them don't understand them.
A few snippets from Loomis's piece:
Derivative contracts also produce amazing statistics: growth rates, for example, of 40% a year. ''These things,'' says one Wall Streeter, ''are metastasizing.'' They demand superlatives, are measured in trillions of dollars, are quintessentially global, and are positioned on what wags call ''the bleeding edge of technology.''
A Citicorp executive goes so far as to call derivatives ''the basic banking business of the 1990s."
Most chillingly, derivatives hold the possibility of systemic risk - the danger that these contracts might directly or indirectly cause some localized or particularized trouble in the financial markets to spread uncontrollably. An imaginable scenario is some deep crisis at a major dealer that would cause it to default on its contracts and be the instigator of a chain reaction bringing down other institutions and sending paroxysms of fear through a financial market that lives on the expectation of prompt payments. Inevitably, that would put deposit-insurance funds, and the taxpayers behind them, at risk.
It's easier reading (and must reading) today than it was back in 1994 when I first read it. Then it made my head hurt but I did get it that these things were as Warren Buffett labeled financial weapons of mass destruction and investors and the investment community needed to stay away from them. (Of course if I had been a fancy dressed used car salesman on Wall Street, I might have recognized how rich I could get by peddling this junk.) What didn't occur to me at the time was that the sharks for this business were already installed in the Clinton administration. Robert Rubin, along with his acolytes (ie Lawrence Summers), and Phil Gramm in the Senate were well on their way to plotting the greatest white collar robbery (all perfectly legal) of the world economy. Just as the looting of the S&Ls required deregulation (which Reagan and Congress were only too happy to pass), the final and signature legislation that unleashed the power of Wall Street to steal big, Gramm-Leach-Bliley Act, was passed while most political junkies were focused on the impeachment of Clinton. Or that Jim Leach who according to Loomis understood the danger of derivatives by 1994 would attach his name to the very bill that practically guaranteed a Wall Street derivative free-for-all. Quel dommage.
Do Paulson and Bernanke (both of whom personally benefited from the heist either directly or indirectly) think that they can manage to avoid a global financial institution Armageddon like the secretive intervention by the investment community and Clinton administration that averted a small scale version when LTCM collapsed? As this task is like the rescue of LTCM to the power of three or more is it any wonder that they can't figure out what to do other than throw billions of dollars at the biggest bankers and keep their fingers crossed that they will sort it out? Fix it before all middle class investors figure out that all their investment assets are worth 50% or less than what they thought they owned last year?
What the Gold(man Sachs)-dust twins know that they aren't saying is that the individual vermin on Wall Street sucked the life blood (or capital) out of their hosts as well. The "too big to fail" bankers are not just broke but running on negative capital (aka technically bankrupt). What nobody knows at this point is how deep a hole the culprits have dug for the world economy (trillions for sure but possibly tens of trillions) so that they could skim off their billions. That's what white collar terrorists do: destroy many multiples of wealth in real economies to get at the tiny sliver they can possess. In a rational world, we wouldn't let these people anywhere near our money and many would be cooling their heels in prison after being stripped of every penny they had accumulated. The damage they have done to workers in the US and abroad is something only OBL could admire and envy. Too bad Americans seem not to want to go beyond envying the wealth that these crooks and liars have accumulated. That will guarantee that they'll be back for more. -- sigh, at least after we get beyond the coming depression --