Wall Street Banks Using Geithner and the NY Fed to Stifle FDIC Reforms

The President's Working Group on Financial Markets, aka the 'plunge protection team,' is apparently acting to block financial reforms being proposed by Sheila Bair's FDIC, according to the attached piece from Chris Whalen of Institutional Risk Analytics, an authoritative source on US Banking.

The President's Working Group on Financial Markets consists of:

Time Geither, The Secretary of the Treasury, as Chairman of the Working Group;
Ben Bernanke, The Chairman of the Board of Governors of the Federal Reserve System,
Mary Shapiro, The Chairman of the Securities and Exchange Commission; and
Gary Gensler, The Chairman of the Commodity Futures Trading Commission.

This is reminiscent of the actions of Larry Summers, Robert Rubin, and Alan Greenspan to block attempts by Brooksley Born, then head of the CFTC, to head off the derivatives crisis back the 1990's, the very crisis which brought the US to the brink of disaster last year.

Obama has no credibility as a reformer, not with Tim Geithner and Larry Summers as the key members of his financial team. And the Fed is proving itself again to be little more than a mouthpiece and servant to the Wall Street Banks, completely unworthy of any additional supervisory powers.

Personally, I thought Chairman Bernanke's testimony in front of Congress yesterday to be both embarrassing and disgraceful.

It is more than disappointing, it is an outrage, if this is true. The actions of the President's Working Group on Financial Markets is a sore point with many, as it is repeatedly linked to secret dealings with the Wall Street banks, and efforts to manipulate US markets to support government policy.

If this is true, then we would hope that the Congress will be motivated, at least after the November elections when many new members will be joining, to launch a thorough investigation of Mr. Geithner and his activities both at the NY Fed and the Treasury, and the actions of the President's Working Group on Markets.

"We hear that the FDIC rule making process could start as soon as next month, but more likely will wait till the FDIC's board meeting in May. We also hear that the President's Working Group (PWG) on Financial Services is preparing a "white paper," in cooperation with the Federal Reserve Board and the Office of the Comptroller, to block the FDIC reform effort. This campaign, which apparently was orchestrated by the largest dealer banks, is intended to derail the new rules proposed by the FDIC mandating greater transparency and disclosure for bank sponsored residential mortgage securitization deals.

The President's Working Group, in case you don't know, is an informal group created in 1988 by President Ronald Reagan that allows the executives of the biggest banks to influence public policy in Washington, but without going through the trouble of registering as lobbyists or other public disclosure. Sometimes referred to the "plunge protection team," the PWG is part of the invisible government of Washington," an agency which operates within the government, but at the behest of private interests.

Barry Ritholtz has a nice summary on the PWG in his book, Bailout Nation, and also in his Blog, "The Big Picture." As Barry notes, the PWG is every bit as incompetent as most other people in Washington, but they do have one special skill: pushing the banking industry's agenda in Washington via informal "guidance" and white papers that are written by and for compliant regulators. The PWG essentially acts as a super-lobbying channel for the largest banks focused right at regulators. Only "team players" need apply.

The Federal Reserve Bank of New York and the OCC in Washington are reportedly drafting the "guidance" on reform of bank securitizations and at the request of the PWG. No clue whether the White House is involved directly yet or if this is merely a Tim Geithner operation. These PWG white papers are never released to the public even though the Treasury acts as the de facto public affairs organ for this corporate influence group.

We called out former Wachovia Bank CEO and Goldman Sachs (GS) banker Robert Steel on the subject of the PWG last year at the Chicago Fed's international banking conference. He was unapologetic and more than a little offended, or so he claimed. The PWG acts with impunity in Washington, in part because the members of Congress understand their subordinate role. We hear that Senator John Warner (D-VA) is now competing with Judd Gregg (R-NH) to be the next "Senator from Wall Street" and specifically seems to be angling to join a private equity firm. Gregg's tastes seem to run more along the lines of a large OTC derivative dealer bank.

The fact that the PWG is in league with the Fed and Treasury against the FDIC board is all you need to know about the politics of reforming private label mortgage securitization.

If Barack Obama were really interested in reforming Washington, he would rescind President Reagan's executive order and disband the PWG for good. Allowing the big banks which participate in the PWG to lobby financial regulators and members of Congress without any public disclosure is a national scandal and makes a mockery of any claim by Barrack Obama to be changing the business of Washington.

We noted in our comment last Tuesday in American Banker, "Viewpoint: Stop Blocking FDIC Securitization Effort," that "the practical policy issue is the losses observed in failed banks over the past two years, averaging over 30% of total assets, versus just 11% on average in the S&L crisis. The common factor in failed banks with high loss rates is unsafe and unsound securitizations practices, thus the FDIC initiative on securitization."

It is very telling to us that the FDIC is advocating greater openness and transparency in bank sales of mortgage loans to securitizations, but the Fed and OCC are standing with the larger dealer banks that arguably caused the financial crisis in complex structured assets. Hopefully these federal agencies and the industry groups they seem to be allied with will realize that the FDIC's rule making process holds the potential to revive private label mortgage finance and that they can influence the outcome - but only if they participate constructively.

One mortgage market veteran who ran risk for one of the largest private conduits in the business put the situation succinctly last week: "You can argue against the FDIC securitization proposals, looking at them in a bundle, as perhaps being overkill, but each piece of their proposal, taken separately, is pretty compelling. The other bank regulators and industry groups could easily negotiate a better, more streamlined deal that would help the market if they bothered to push back and participate constructively, instead of simply attacking the FDIC."

Chris Whalen, Institutional Risk Analytics, March 15, 2010

The Fed's View of American Banking: No Restraints for the Katzenjammer Kids

Through the mills of God grind slowly, yet they grind exceeding small;
Though with patience He stands waiting, with exactness grinds He all.
- Baron Friedrich von Logau, Sinngedichte

Mr. George Washington has a guest post over at Naked Capitalism that makes some points worth emphasizing. More Evidence That Banks Create Credit Out of Thin Air I find his work to be quite interesting, and a good companion to the work of Yves and Ed Harrison.

First, as we all know, banks do create money as credit 'out of thin air' in the current version of fractional reserve banking in the US. The Fed exercises some potential restraints on their ability to do so in the form of reserve requirements and Fed Funds target rates. One might think of the reserve requirement as a leash, and the Fed Funds as the price of exceeding the reach of the leash.

I had not been aware of the Fed's recent moves to eliminate the reserve requirement altogether. So, in keeping with the analogy, the Fed wishes to unleash the US banks to create money at will. One needs to realize that reserve requirements have already been significantly relaxed with the ruling on the use of sweeps to alter a bank's reserve profile on an overnight basis.

This is not quite as severe or outlandish as one might suspect, since there are examples in the rest of the world where reserve requirements are not used, such as in Canada and Mexico, and the voluntary system in the UK for example. The difference of course is that these countries have other traditions, customs, and laws in place. There is no comparison between the Canadian bankers for example, and the Katzenjammer Kids of Wall Street, although Canada may be heading for a fall of its own making as well. Their real estate is looking a bit frothy, and the instances of corruption on their equity exchanges I have witnessed is something to behold, and certainly a tip of some sort of iceberg that manifests elsewhere.

What is concerning about this in the particular perhaps is that the recent crisis in the US was precipitated by a solvency crisis caused in large part by excess leverage and rampant fraud, which then triggered a liquidity crisis, and a run on the banks. The similarites between this crisis and the Panic of 1907 seem more pronounced the more that is revealed. The difference of course is that Mr. J. P. Morgan and his bankers took strong steps to prevent such an event from reoccurring for their own good. How ironic that his own bank remains at the center of the problem at this turn of the cycle, but not as a remedial influence.

As we have seen with the New York mobs with the rise of Messrs. Luciano and Lansky, the syndication of abuse and manipulation of the law and the enforcement agencies is a paradigm shift that can transform even traditional small time thuggery into seriously organized crime that can overwhelm conventional safeguards and restraints.

The purpose of reserve requirements is to uphold some Capital Adequacy Ratio, meaning that a bank would have liquid assets adequate to support the normal demands of their customers. There are obviously other ways to do this, but a reserve requirement is a quite common method of controlling what is essentially a leverage and prudence issue. CAR is a bit of an anachronism when we have Frankenstein banks such as Goldman Sachs and Morgan Stanley, the Max und Moritz of American banking, that are less bank than hedge funds with little regard for depositors and traditional function of banks. The issue there is leverage and the adequacy of collateral. Is this where the Fed wishes to take American banking?

In the case of the US, the most recent crisis was precipitated by the rampant fraud in the assets held and sold by the banks in the form of collateralized debt obligations. The assets were not of a quality or a liquidity to support the bank's balance sheet.

The most recent revelations regarding Lehman Brothers in particular are quite pointed. The bank was using swaps to hide its true capital structure and leverage, and its vulnerability to a financial shock. When push came to shove, the company crumbled with losses much larger than anyone had estimated. The laxity at the New York Fed was an issue. It shows the weakness of what is essentially self-regulation of the banks by the banks, for the NY Fed is a creature of the banks. As Lehman says, "Everyone was doing it." It is just that Lehman were the ones that fell down, as the others were 'saved' at significant public cost.

By eliminating the reserve requirement the Fed is seeking to relax the constraints of its need and ability to 'save' banks when shocks occur. If there is no reserve requirement, then the Fed need only address itself to a run on the bank. As Mr. Washington states, the Fed stands ready to provide any and all capital required. They just do not wish to do it under constraints beyond their control.

What are seeing is the natural progression of a debilitation. The financial engineers keep creating problems with their tinkering, and the solution is to keep relaxing the constraints on their actions. As the comedian used to use, what we need is "MORE POWER!"

The Fed is the last place that should receive additional power over the banking system, showing itself to be a bureaucracy incapable of exercising the kind of occasionally stern judgement, the tough love, that wayward bankers require. And the mere thought of putting Consumer Protection under their purview makes one's skin crawl with fear and the gall of injustice.

They may get it, this more power, not because it is deserved, but because politicians themselves wish to have more power and money, and this is one way to obtain it.

The next time the financial system crashes, the torches and pitchforks will come out of the barns and there will be a serious reform, and some tar and feathering in congressional committees, and a few virtual lynchings. The damage to the people of the middle class will be an American tragedy. But this too shall pass.

Kurz, im ganzen Ort herum
Ging ein freudiges Gebrumm:
"Gott sei Dank! Nun ist's vorbei
Mit der Übeltäterei!"
Max und Moritz

Among the people quickly went
a joyful sigh of deep content:
"God be praised! at last we're free
From da boyz' insanity!

P.S. My grandmother (mein Grösi) told me the stories of Max und Moritz when I was a very little boy on her lap. It is my earliest childhood memory.

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