Dispelling The 'Deregulation' Myth
boo-radley wrote:
Horse****
Foreclosure Phil
Years before Phil Gramm was a McCain campaign adviser and a lobbyist
for a Swiss bank at the center of the housing credit crisis, he pulled
a sly maneuver in the Senate that helped create today's subprime
meltdown." /
David Corn" /
May 28" / , 2008" /
Who's to blame for the biggest financial catastrophe of our time?
There are plenty of culprits, but one candidate for lead perp is
former Sen. Phil Gramm. Eight years ago, as part of a decades-long
anti-regulatory crusade, Gramm pulled a sly legislative maneuver that
greased the way to the multibillion-dollar subprime meltdown. Yet has
Gramm been banished from the corridors of power? Reviled as the
villain who bankrupted Middle America? Hardly. Now a well-paid
executive at a Swiss bank, Gramm cochairs Sen. John McCain's
presidential campaign and advises the Republican candidate on economic
matters. He's been mentioned as a possible Treasury secretary should
McCain win. That's right: A guy who helped screw up the global
financial system could end up in charge of US economic policy. Talk
about a market failure.
Gramm's long been a handmaiden to Big Finance. In the 1990s, as
chairman of the Senate banking committee, he routinely turned down
Securities and Exchange Commission chairman Arthur Levitt's requests
for more money to police Wall Street; during this period, the sec's
workload shot up 80 percent, but its staff grew only 20 percent. Gramm
also opposed an sec rule that would have prohibited accounting firms
from getting too close to the companies they audited—at one point,
according to Levitt's memoir, he warned the sec chairman that if the
commission adopted the rule, its funding would be cut. And in 1999,
Gramm pushed through a historic banking deregulation bill that
decimated Depression-era firewalls between commercial banks,
investment banks, insurance companies, and securities firms—setting
off a wave of merger mania.
But Gramm's most cunning coup on behalf of his friends in the
financial services industry—friends who gave him millions over his 24-
year congressional career—came on December 15, 2000. It was an
especially tense time in Washington. Only two days earlier, the
Supreme Court had issued its decision on Bush v. Gore. President Bill
Clinton and the Republican-controlled Congress were locked in a budget
showdown. It was the perfect moment for a wily senator to game the
system. As Congress and the White House were hurriedly hammering out a
$384-billion omnibus spending bill, Gramm slipped in a 262-page
measure called the Commodity Futures Modernization Act. Written with
the help of financial industry lobbyists and cosponsored by Senator
Richard Lugar (R-Ind.), the chairman of the agriculture committee, the
measure had been considered dead—even by Gramm. Few lawmakers had
either the opportunity or inclination to read the version of the bill
Gramm inserted. "Nobody in either chamber had any knowledge of what
was going on or what was in it," says a congressional aide familiar
with the bill's history.
It's not exactly like Gramm hid his handiwork—far from it. The balding
and bespectacled Texan strode onto the Senate floor to hail the act's
inclusion into the must-pass budget package. But only an expert, or a
lobbyist, could have followed what Gramm was saying. The act, he
declared, would ensure that neither the sec nor the Commodity Futures
Trading Commission (cftc) got into the business of regulating
newfangled financial products called swaps—and would thus "protect
financial institutions from overregulation" and "position our
financial services industries to be world leaders into the new
century."
Subprime 1-2-3
Don't understand credit default swaps? Don't worry—neither does
Congress. Herewith, a step-by-step outline of the subprime risk
betting game. —Casey Miner
Subprime borrower: Has a few overdue credit card bills; goes to a
storefront lender owned by major bank; takes out a $100,000 home-
equity loan at 11 percent interest
Lending bank: Assuming housing prices will only go up, and that
investors will want to buy mortgage loan packages, makes as many
subprime loans as it can
Investment bank: Packages subprime mortgages into bundles called
collateralized debt obligations, or cdos, then sells those cdos to
eager investors. Goes to insurer to get protection for those
investors, thus passing the default risk to the insurer through a
"credit default swap."
Insurer: Thinking that default risk is low, agrees to cover more money
than it can pay out, in exchange for a premium
Rating agency: On basis of original quality of loans and insurance
policy they are "wrapped" in, issues a rating signaling certain slices
of the cdo are low risk (aaa), medium risk (bbb), or high risk (ccc)
Investor: Borrows more money from investment bank to load up on cdo
slices; makes money from interest payments made to the "pool" of
loans. No one loses—as long as no one tries to cash in on the
insurance.
It didn't quite work out that way. For starters, the legislation
contained a provision—lobbied for by Enron, a generous contributor to
Gramm—that exempted energy trading from regulatory oversight, allowing
Enron to run rampant, wreck the California electricity market, and
cost consumers billions before it collapsed. (For Gramm, Enron was a
family affair. Eight years earlier, his wife, Wendy Gramm, as cftc
chairwoman, had pushed through a rule excluding Enron's energy futures
contracts from government oversight. Wendy later joined the Houston-
based company's board, and in the following years her Enron salary and
stock income brought between $915,000 and $1.8 million into the Gramm
household.)
But the Enron loophole was small potatoes compared to the devastation
that unregulated swaps would unleash. Credit default swaps are
essentially insurance policies covering the losses on securities in
the event of a default. Financial institutions buy them to protect
themselves if an investment they hold goes south. It's like bookies
trading bets, with banks and hedge funds gambling on whether an
investment (say, a pile of subprime mortgages bundled into a security)
will succeed or fail. Because of the swap-related provisions of
Gramm's bill—which were supported by Fed chairman Alan Greenspan and
Treasury secretary Larry Summers—a $62 trillion market (nearly four
times the size of the entire US stock market) remained utterly
unregulated, meaning no one made sure the banks and hedge funds had
the assets to cover the losses they guaranteed.
In essence, Wall Street's biggest players (which, thanks to Gramm's
earlier banking deregulation efforts, now incorporated everything from
your checking account to your pension fund) ran a secret casino. "Tens
of trillions of dollars of transactions were done in the dark," says
University of San Diego law professor Frank Partnoy, an expert on
financial markets and derivatives. "No one had a picture of where the
risks were flowing." Betting on the risk of any given transaction
became more important—and more lucrative—than the transactions
themselves, Partnoy notes: "So there was more betting on the riskiest
subprime mortgages than there were actual mortgages." Banks and hedge
funds, notes Michael Greenberger, who directed the cftc's division of
trading and markets in the late 1990s, "were betting the subprimes
would pay off and they would not need the capital to support their
bets."
These unregulated swaps have been at "the heart of the subprime
meltdown," says Greenberger. "I happen to think Gramm did not know
what he was doing. I don't think a member in Congress had read the 262-
page bill or had thought of the cataclysm it would cause." In 1998,
Greenberger's division at the cftc proposed applying regulations to
the burgeoning derivatives market. But, he says, "all hell broke
loose. The lobbyists for major commercial banks and investment banks
and hedge funds went wild. They all wanted to be trading without the
government looking over their shoulder."
Now, belatedly, the feds are swooping in—but not to regulate the
industry, only to bail it out, as they did in engineering the March
takeover of investment banking giant Bear Stearns by JPMorgan Chase,
fearing the firm's collapse could trigger a dominoes-like crash of the
entire credit derivatives market.
No one in Washington apologizes for anything, so it's no surprise that
Gramm has failed to issue any mea culpa. Post-Enron, says Greenberger,
the senator even called him to say, "You're going around saying this
was my fault—and it's not my fault. I didn't intend this."
Whether or not Gramm had bothered to ponder the potential downsides of
his commodities legislation, having helped set off an industry free-
for-all, he reaped the rewards. In 2003, he left the Senate to take a
highly lucrative job at ubs, Switzerland's largest bank, which had
been able to acquire investment house PaineWebber due to his banking
deregulation bill. He would soon be lobbying Congress, the Fed, and
the Treasury Department for ubs on banking and mortgage matters. There
was a moment of poetic justice when ubs became one of the subprime
crisis' top losers, writing down $37 billion as of this spring—an
amount equal to its previous four years of profits combined. In a
report explaining how it had managed to mess up so grandly, ubs noted
that two-thirds of its losses were the fault of collateralized debt
obligations—securities backed largely by subprime instruments—and that
credit default swaps had been "key to the growth" of its out-of-
control cdo business. (Gramm declined to comment for this article.)
Gramm's record as a reckless deregulator has not affected his rating
as a Republican economic expert. Sen. John McCain has relied on him
for policy advice, especially, according to the campaign, on housing
matters. The two have been buddies ever since they served together in
the House in the 1980s; in 1996, McCain chaired Gramm's flop of a
presidential campaign. (Gramm spent $21 million and earned only 10
delegates during the gop primaries.) In 2005, McCain told a Wall
Street Journal columnist that Gramm was his economic guru. Two years
later, Gramm wrote a piece for the Journal extolling McCain as a
modern-day Abraham Lincoln, and he's hailed McCain's love of tax cuts
and free trade. Media accounts have identified Gramm as a contender
for the top slot at the Treasury Department if McCain reaches the
White House. "If McCain gets in," frets Lynn Turner, a former chief
sec accountant, "we'll have more of the same deregulatory mess. I like
John McCain, but given what I know about Phil Gramm, I wouldn't vote
for McCain."
As a thriving bank exec and presidential adviser, Gramm has defied a
prime economic principle: Bad products are driven out of the market.
In John McCain, he has gained an important customer, so his stock has
gone up in value. And there's no telling when the Gramm bubble will
burst.
Do not bail these ****ers out.
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