Culprits of 2008 Financial Collapse Identified, World Ignores

Monday, April 25th, 2011

(by Mark McCutchan)

There has been a lot of exciting news going on lately: the air strike campaign in Libya, the ridiculous talk of “The Donald” running for president, and the Republicans’ strategy to cut taxes for the rich and stiff the elderly in Paul Ryan’s “Path to Poverty” budget.  Still, it is surprising that most of the media missed the most important financial story of the year – the Senate’s final report of the 2008 economic meltdown issued last week entitled “Wall Street and the Financial Crisis: Anatomy of a Financial Collapse”. Even the Wall Street Journal downplayed the story by putting it on page C1 instead of A1 in 3-inch letters as it rightfully should have, considering (or perhaps because) Goldman Sachs is named as one of the major culprits.

Committee Chairman Carl Levin (D-Michigan) describes the report best:

Using emails, memos and other internal documents, this report tells the inside story of an economic assault that cost millions of Americans their jobs and homes, while wiping out investors, good businesses, and markets.  High risk lending, regulatory failures, inflated credit ratings, and Wall Street firms engaging in massive conflicts of interest, contaminated the U.S. financial system with toxic mortgages and undermined public trust in U.S. markets. Using their own words in documents subpoenaed by the Subcommittee, the report discloses how financial firms deliberately took advantage of their clients and investors, how credit rating agencies assigned AAA ratings to high risk securities, and how regulators sat on their hands instead of reining in the unsafe and unsound practices all around them. Rampant conflicts of interest are the threads that run through every chapter of this sordid story.

For example, in 2007, Washington Mutual (WaMu) was the largest thrift regulated by the Office of Thrift Supervision (OTS), and in the top eight banks insured by the FDIC.  WaMu suffered from multiple layers of bad business practices:

1)      In search of higher company profits and personal bonuses, WaMu managers systematically issued home mortgage loans to customers who did not qualify by income, encouraged larger loans than were requested, and issued loans with teaser rates that would become unaffordable once market rates kicked in.  Internal audits of the company showed that WaMu’s executives failed to enforce compliance with their own lending standards.

2)      Ratings agencies such as Moody’s are paid by their banking customers to rate the bank’s loans, and securities formed from low-risk loans garner the highest prices from investors.  There is a large incentive for Moody’s to rate “junk loans” as AAA to make the customer happy, and keep their own profits flowing.

3)      The OTS identified over 500 serious deficiencies at WaMu between 2004 and 2008, yet failed to take action to force the bank to improve its lending operations and even impeded oversight by the bank’s backup regulator, the FDIC.  The OTS considered and treated the thrifts it regulated as “constituents”, and trusted them to correct problems after identification.

4)      “Banksters” like Goldman Sachs and Deutsche Bank bought these junk loans, mixed them with good mortgages, and then sold slices of them as “good as gold” residential mortgage backed securities (RMBS) to fund investors.

These banks also made billions by creating collateralized debt obligations (CDOs) and credit default swaps (CDS), synthetic financial products which allowed customers to gamble on whether particular mortgage products would gain or lose in value.  From 2004 to 2008, U.S. financial institutions issued nearly $2.5 trillion in RMBSs and over $1.4 trillion in CDOs. Goldman Sachs and others knew that this house of cards they had built was faulty, then made billions betting that the housing market would fail.

At the end of the executive summary, the report makes 19 recommendations to address these four areas of failure of the financial system, each of them the responsibility of federal regulation.  These recommendations include ensuring home mortgage loans are at “low risk” of failure, increasing regulation and transparency of ratings agency operations, and examining the RMBS, CDO and CDS markets to reduce conflicts of interest.

President Obama signed the Wall Street Reform and Consumer Protection Act last July, and the regulations to implement its outline are just being written with plenty of lobbying by the banking industry.  Time will tell if the final rules are strong enough to prevent a repeat of the 2008 financial crisis from which our economy is just now recovering.

Ideally, the “too big to fail” banks would have been broken up into smaller, more local banks that have less financial power to topple our economy, and less political power to corrupt the system.  Just the opposite happened – the Bush administration helped pair Bank of America with Countrywide Financial and Merrill Lynch; Wells Fargo with Wachovia; JP Morgan Chase with Bear Stearns and Washington Mutual. Now the top 10 banks control 60% of banking assets.  President Obama and Congress did not take on the Big Banks in the financial reform act, so we the citizens must do our part to shrink them down to size, and see that our money is used for the betterment of all Americans, not just the rich and powerful.

Here’s what you can do:

1)      Contact your legislators, the President, and your local newspapers supporting the Tobin tax.  The billions of stock shares churned by Wall Street banksters every day can cause massive swings in the market, all without contributing to our country’s economic progress.   A small transaction tax on every trade will drastically reduce this parasitic activity.

2)      Move your money to a local bank or credit union, where your savings will not be used by a shady Wall Street firm, but instead will be used to support your local economy. I finally closed my account with Chase in February, and made my local bank our primary account – it was a good feeling.

3)      Move your borrowing to a local bank’s credit card for the same reason, or switch to cash to help your local merchants save the 2% transaction fee the credit card company charges for the purchase.

4)      Move your investments and retirement funds out of the top 10 investment banks like Goldman Sachs and JPMorgan, and into a small on-line account where you decide how your money is used.

Weekend Reading List

Saturday, January 29th, 2011

For this weekend’s reading list, we have a good overview and updates about the ongoing protests in Egypt, the report on the causes of the economic and financial crisis of 2008-2009, an essay on reducing health care costs by providing better care to the neediest patients, and questioning the climate change benefits of natural gas as an alternative to coal.

If you’d like to share your thoughts about any of the following, or recommend something for next weekend’s reading list, send us an email

What’s Happening in Egypt Explained – Mother Jones blogger Nick Baumann provides a concise overview of what is behind the protests occurring in Egypt, along with regular updates on the latest developments

The Financial Crisis Inquiry Report – The final report on the causes of the financial and economic meltdown of 2008-2009 by the Financial Crisis Inquiry Commission, which was created by Congress and held 19 days of hearings, interviewed 700 witnesses, and reviewed millions of pages of documents regarding the crisis.

The Hot Spotters – An essay by Atul Gawande in the New Yorker about how overall medical costs can be lowered by providing better and more comprehensive care to the neediest patients

Climate Benefits of Natural Gas May Be Overstated – a report by Abraham Lustgarten at ProPublica about how the lifecycle greenhouse gas emissions from natural gas may be almost as high as those from coal.

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