1. The bankers you probably are hoping to net had no role in "making loans".
2. "making loans that had no good faith data behind them", once translated into concrete legal terms, turns out not to be a crime.
The punishment for lending someone money they can't pay back is, historically and legally, that you don't get paid back. If I work at a bar, and I let one of my customers run up a $800 bar tab and it turns out they're not good for it, I might be an idiot, but I'm not a criminal and I'm not going to jail.
Aren't we really talking about junk rated mortgage back securities being packaged and sold as AAA? If so, how is that not straight up fraud?
Yes. But I suspect you don't understand precisely what that means:
First: A large number of mortgages were made, grouped into pools, and sliced into "tranches", where losses were assigned to the most junior tranches first, and the most senior tranches last. Thus, a junior tranche might stop paying out if 5% of the loans in the pool were defaulted on, while a very senior tranche might only stop paying out if 80% of the loans in the pool went bad. (Or whatever; numbers for example only.)
Second: These tranches were submitted to ratings agencies, who constructed models where they said "well, the chance of 5% of the loans defaulting is X%, the chance of 20% is Y%, the chance of 60% default is Z%...", then based on this model they assigned ratings to the tranches, reflecting the models estimation of their likelyhood of paying out, which is the entire job of a ratings agency.
Third: Tranches rated AAA were sold as AAA securities, because they were. The model said that Random Senior Tranche was 99.5% likely not to default, which is enough for a AAA rating from whomever was giving the ratings, so that's what it got. We've later come to question some of the models used, and in particular, it's been suggested that the ratings agencies incorrectly assumed default risk was less correlated than it was, and systematically undervalued the chance of a "black swan" event. But that's hindsight.
> If so, how is that not straight up fraud?
How is it even sort of fraud? Or if it is fraud, who do you think committed it, and what should they have done differently to avoid it?
EDIT: Also the scenario described could still be fraud. The rating agencies could have been defrauded and if people sold those while not really believing they were of the rated quality IMO it's still fraud. If someone did this for their personal benefit while the company they were running took a loss then they would also be defrauding share holders.
So it's a lot more complicated than simply saying the instruments were AAA rated by the rating agency and they were simply sold like any other AAA rated instrument. It could have all been innocent but it certainly smells and warrants investigating.
> The rating agencies could have been defrauded and if people sold those while not really believing they were of the rated quality IMO it's still fraud.
Legally that's a harder question than you might imagine. However...
...there's absolutely zero evidence of this on a systemic basis. Banks overwhelmingly made it clear that they believed the assets were good. The bailouts went primarily to institutions that had originated utter crap and then held on to it because they thought it was a great investment. Studies have been done to look at the personal investments of bank executives; it turns out they were closely correlated with their job; the more you knew about CDOs and MBSs, and the more closely linked to the system you were, the more you thought CDOs were safe as houses, and the more willing you were to have your retirement invested in it.
Conversely, the small handful of Cassandras were utterly ignored by the world in large part because they were complete outsiders who had no inside knowledge. The arguments boiled down to: "What do they know? The people who know the most about CDOs are all in; these people must just not understand the models."
(There are exceptions in specific cases. One that springs to mind is Fabrice Tourre. But he was very much the exception to the rule, and it's probably not a coincidence he worked at Goldman...)
> It could have all been innocent but it certainly smells and warrants investigating.
And it was. Unfortunately (or fortunately, depending on your view) no smoking guns emerged.
What I'm saying it that I don't think that claims that bankers, who are sophisticated players and experts in their field, didn't know what they were selling. They should have known those instruments were not of the quality they represented them to their customers. I don't think shifting the blame to the rating agency holds water. At the same time they were giving mortgages to people who wouldn't "normally" qualify and where the risk was obviously very high they were selling pieces of those mortgages as AAA rated securities. Doesn't pass the red face test in my books.
You're not wrong! And yet it seems very clear they did not know this. Which is pretty stupid, really...but being stupid isn't a crime.
(Plus...I mean, you were alive back then right? Did you make a ton of money betting against the housing market? If not, why not? Or if you were too young/poor, then do you know anyone who did?)
And therein rests your case. But you appear to be simply taking them at their word on this, to me. Unsophisticated observers will say, "Why would they do something so colossally stupid that it'd bankrupt their firm". But the person is not the firm. The person quite often can permanently enrich himself on the path to firm-wide dissolution.
Considering there was no product to bet against the housing market, your options are:
(1) Be a hedge fund manager of a large enough hedge fund to enter a custom derivative contract with a bank, to create the product (which is what those funds that made a ton of money betting against the housing market did)
(2) Have a few million for the minimum to investment in one the said hedge funds
So I'd say the answer for most people is "were too poor".
Doing stupid things is often a crime. It may not be in this particular case, but it's not true that lack of criminal intent is always exculpatory.
Didnt Warren Buffett say in 2002 that derivatives were weapons of mass destruction.
That doesn't make them illegal. The morality of them is more to do with selling them to people who don't understand what they are buying.
Like guns, or even some drugs.
"That doesn't make them illegal."
But it should make them heavily regulated and scrutinized, which they aren't, and won't be unless for some serious civic activism.
I'm not arguing that the bail out was necessarily the wrong thing to do. There's other considerations (like the effect on the rest of the economy) but this is one of the big drawbacks.
-Rating agencies set criteria for marking things BB, BBB, etc.
-Banks noticed that those criteria did not perfectly correlate with credit risk and created products that optimized for ratings rather than low risk.
-People bought these products based on the rating, and then got blown up.
You should take this with several grams of salt; I don't know if it's actually true.
There are different classes of lies -- comission yes, but also of omission and distraction.
It's common to see poultry labeled in the US as "No Antibiotics. No Hormones". The implication is that the brand (or producer or processor) is making some specific claim. The truth is that USDA regulations forbid the use of antibiotics or hormones in poultry. My view is that the labeling, if it omits clarification that this is by government regulation, is misleading.
Another element of commercial practices in the United States is that there is no preemptory screening for validity of business claims. All sorts and manner of fraudulent activity occurs. Only in very select cases are the perps called to account for it.
Claims regarding freedom from some possible contaminant or allergen may not be particularly meaningful, but they aren't, if true, fraudulent. There's a fair case to be made for standardising both the claims and their presentation -- e.g., a standard "allergens and exposure" labeling, much as existing nutritional labels communicate macro and micronutrients and ingredents. That wasn't always the case.
Some of the history: http://www.fda.gov/AboutFDA/WhatWeDo/History/Overviews/ucm05...
... though I seem to recall that more complete ingredients-and-nutritional labels appeared in the 1970s.
Here's Judge Jed Rakoff, a senior judge in lower New York and one of the leading securities experts in the American court system today:
""One possibility, already mentioned, is that no fraud was committed. This possibility should not be discounted. Every case is different, and I, for one, have no opinion about whether criminal fraud was committed in any given instance.
But the stated opinion of those government entities asked to examine the financial crisis overall is not that no fraud was committed. Quite the contrary. For example, the Financial Crisis Inquiry Commission, in its final report, uses variants of the word “fraud” no fewer than 157 times in describing what led to the crisis, concluding that there was a “systemic breakdown,” not just in accountability, but also in ethical behavior.""
For what it's worth, he chalks up the failures to prosecute as 'discretion' on the part of the justice department. Personally, I'm convinced that a man like too-big-to-fail Eric Holder is too morally corrupt to find fault in such blatant fraud. If he can sign off on the banks financing terrorism and drug cartels, he's probably okay with the suicides resulting from the mortgage crisis.
It's one of the most ridiculous theories I've ever heard. Sarb-Ox 906 in conjunction with Section 13 of the Securities Exchange Act requires bank CEOs to certify that the bank:
"maintain[s] a system of internal accounting controls sufficient to provide reasonable assurances that—
(i) transactions are executed in accordance with management’s general or specific authorization;
(ii) transactions are recorded as necessary (I) to permit preparation of financial statements in conformity with generally accepted accounting principles or any other criteria applicable to such statements, and (II) to maintain accountability for assets;
(iii) access to assets is permitted only in accordance with management’s general or specific authorization; and
(iv) the recorded accountability for assets is compared with the existing assets at reasonable intervals and appropriate action is taken with respect to any differences"
"Reasonable assurances" does not mean "free of problems." Imagine a law that required Program Managers at tech companies to certify that they had controls that gave "reasonable assurances" that the software performed as designed. That would just mean they had a Q&A procedure--not that the procedure was perfect or that the software was perfect. It would not violate the law for Satya Nadella to sign such a certification, even though everyone knows Windows (like all software) is full of bugs that need to be fixed.
What incentives would lead to retaining trained, rigorous, honest people?
A bigger salary.
The difficulties the public sector has in implementing that is one of the reasons regulations so often go wrong.
I realize this doesn't have a specific recommendation, but it does show that it is possible.
One way is to just regulate banks like any other business without any special laws for them.
If you want dead simple regulations, require that banks publish their balance sheet. (Perhaps with a bit of a lag, if you want to give them the opportunity to have some trade secrets. But easier to just ask for all current balance sheet items to be public.)
Without deposit insurance customers will take a flight to quality. Or see https://www.bloomberg.com/view/articles/2014-08-27/lending-c... for how banks might want to make assets match liabilities.
Reinsurance companies might offer private deposit insurance for a fee to banks with good enough balance sheets.
Right now we have regulators require a minimum quality of balance sheets, but also giving an explicit and implicit guarantees that deposits with banks that meet that minimum quality will not go down. What I want to do is remove that minimum, replace it with more transparency instead, and remote the guarantee.
Argument stolen from this book http://www.independent.org/publications/tir/article.asp?a=51...
The author is obsessed with figuring out simple regulations that only require a few competent and honest civil servants to implement. That's because competent and honest civil servants are one of the most precious resource.
For privatizing companies he suggests: just auction off the company to the highest cash bidder. (If the winner wants to take the former state company public, that's there choice.)
For bankruptcy: if creditors and debtor company can't agree on restructuring, just liquidate the company in an auction. (Court ordered debt restructuring takes up precious civil servants, and invites corruption.)
The author actually describes the how and why and historical background. He's actually worked in the field.
For example, if the SEC successfully fines JP Morgan a sum of $2 billion, let the key employees of that prosecution them keep $500 million and distribute it among themselves. That way the employees of the SEC have an incentive to be antagonistic to banks.
Then the SEC will start making a bunch of awful rules that will transfer the wealth of widely held companies to a few regulators.
The point, however, is without antagonistic checks and balances in place, you will always run into the "revolving door" problem.
There is a large and (warranted) initiative to bank minorities and other disadvantaged communities. Until the government created huge incentives to do this it didn't happen. In many markets it still doesn't. If you tell someone they are criminally responsible for the loans they underwrite, on the margin, they are far less likely to bank the people who "really" need it. The rich get richer, the poor stay poor.
As the saying goes, you can't have the cake and eat it too.
The same thing applies to giving tax incentives to employers for health insurance plans or guaranteeing student loans made by private companies.
Except that's not a solution if the whole point is to give the banks money, which is the motivation of Washington DC, the FED, and the SEC. Don't take my word for it, listen to Senator Dick Durbin.
In the first case, it raises the question of how one can possibly have the right to attempt social engineering on such a scale, forcing people to act against what morality and prudence would dictate, and compelling them to take on potentially ruinous risk. People are not dirt to be shoveled about on a whim.
From the consequentialist position, we have seen that people who belong to those demographics that the law was supposed to help are actually the hardest hit. They have been made much worse off.
A cursory search yielded http://www.businessinsider.com/the-cra-debate-a-users-guide-...
I was criticizing the position stated in the top comment of this thread which stated:
>There is a large and (warranted) initiative to bank minorities and other disadvantaged communities. Until the government created huge incentives to do this it didn't happen.
I think it's important to distinguish between all banking services and credit facilities. I feel as though improving access to banking services in otherwise under-banked groups is an important initiative. ~30% of Americans do not have access to a savings account. Ensuring that all communities have access to these basic services would likely be beneficial to individuals and the economy. However, access to credit should be decoupled from such considerations.
That is a complete explanation in itself and it was not caused by the CRA legislation (it merely shared the same motivation). When you let mortgage brokers offload all the risk from writing stupid loans, you have altered all their incentives.
The Fed R3serve or the Fed Gov?
"There is a large and (warranted) initiative to bank minorities and other disadvantaged communities"
What does it mean to "bank" a group of people? I am not familiar with this usage.
0 - https://en.wikipedia.org/wiki/Redlining
Everyone was doing it and the government was practically demanding it because a) they'd told everyone that real estate is the only asset class that never goes down, so keep buying and b) everyone should have a home, whether they can afford it or not, so make it happen banks, we'll even help.
So what law was broken exactly that these bankers should go to jail for? I have no doubt they've been investigated.
You want to know who should go to jail? Anyone selling student loans right now. That's going to blow up just as hard as the housing market did, and--in hindsight--their business practices will look just as shady. The equivalent of "How was a janitor going to afford a $300,000 house?" will be "How was an English lit major going to afford a $300,000 student loan?" The answer is "They can't" and I think you're a piece of shit if your job is to say otherwise. But when I say they should go to jail, I say so facetiously; they're not breaking any laws.
Well, you could start with the widespread falsification of income documents, etc, to make people qualify on paper for federally backed mortgages?
Being a mortgage broker is one step up from being a car salesman. Similar incentives, slightly more complicated, higher ticket, so they make more money. It is an extremely sales driven industry. "Sales driven" has meant different things throughout the decades, but it mainly means "get it sold" and/or "figure out how to get more money for a relatively undifferentiated product".
So here's my point: Someone sells me a piece of shit used car for $15,000 that they bought for $2,500 and turns out to have all kinds of problems with it. That car happens to be a Toyota. Am I going after Toyota?
Let's say this dealership is also the highest grossing toyota dealership in the tri-state area. Does that make a difference? Maybe I go after the dealership, but again, good luck; they didn't tell you there's nothing wrong with the car and the guy that did (good luck proving that) has moved on to another dealership, or maybe they're selling real estate now.
I'm not saying no crime was committed in the philisophical sense. I'm more saying that our practical implementation of crime and punishment is stretched by situations like this, and for good reason (which are the reasons I outline above). The answer to who is culpable, really, is everybody. So what?
The US government has essentially taken over the student-loan sector after the current administration decided that student loans had interest rates which were too high. (Perhaps they were high because they actually reflected some of the risk?)
And the US did try to prosecute bankers. It brought two headline prosecutions against Bear Stearns executives as the company collapsed. It suffered stunning losses at trial.
"The Wall Street Journal examined 156 criminal and civil cases brought by the Justice Department, Securities and Exchange Commission and Commodity Futures Trading Commission against 10 of the largest Wall Street banks since 2009. In 81% of those cases, individual employees were neither identified nor charged... analysis shows not only the rarity of proceedings brought against individual bank employees, but also the difficulty authorities have had winning cases they do bring.... One of the few successful government cases was overturned Monday [May 23, 2016]."
Now prove it was fraud.
It may involve criminal fraud, but it is also possible that it does not.
Were there any lies in the prospectus? Are Chinese companies selling asbestos with "asbestos-free" certificates doing anything wrong?
One day Mr. Lehman knocks on your door and announces he has a new "AAA" security for sale that pays twice the market rate. Hot diggity! You're god damned right I'm interested, I'll take everything you've got.
Now, as any fund manager who's been on the job even a week knows, you also know that if the rate goes up, so does the risk. There's no possible way that these "AAA" securities are as safe as the AAA securities you're used to dealing with. Not your problem, though. You're knocking it out of the park and your fund still has the exact AAA/AA/A asset ratio that your promised your pensioners.
Same story at AIG. As long as they were collecting premiums, nobody thought to ask why people were buying up all this insurance on "default-proof" securities. Oh, wait, somebody did, but they were told to shut up because free money.
Of course, after the music stops, out come the crocodile tears. "Oh, woe is me, I never could have guessed there was anything unusual happening here."
But yes, let's blame the MBS packagers for making exactly the product the buyers wanted. If anybody was defrauded, it was the pensioners whose manager shut his eyes as tightly as possible and the AIG stockholders who were not informed of the risk AIG was carrying.
Could they not be prosecuted along those lines?
With the people I've shared this with, I've been met with downright hostility and vitriol. I felt like I should do something, so I started that petition. To date, I literally have two signatures...
Apathy is incredibly strong in this country right now.
A few to get started:
- People might be concerned that a petition to charge unpopular people with a crime smacks of mob justice and kangaroo courts, the sort of thing you'd expect from an administration which rounds up and purges its political enemies (like, say, Turkey over the past few weeks).
- People may not feel sufficiently informed about the facts of the case to accuse the named individuals of wire fraud, and as such do not wish to make such serious allegations.
- Your particular petition (as an artifact of the website associated with your creation) may seem unlikely to succeed with only limited word-of-mouth marketing.
They certified many, many unsafe investment as "AAA rated", when they should have asked questions.
The few people who did pick the crash did exactly what the rating agencies were supposed to do - they dug through the paperwork, found out what was backing each investment and saw how bad they were.
One might argue that they couldn't because they were paid by the banks. I say that is a separate issue to what could be argued was either careless or fraudulent behaviour.
Interesting the US law already does this. The law is literally the terms of living in the USA and we prosecute people for not understanding them all the time.
You can also easily prosecute people that did not understand the terms of a contract. Happens all the time, though I'm too lazy to look for an example right now =)
Nobody seems to care about this; after all, they usually (but not always!) were genuinely behind on payments. And there seems to be strong moral pressure to punish borrowers rather than lenders in the debt crisis. Without stopping to establish the facts of individual cases.
Don't ever dream of that happening here. Ever!
He only said that perhaps it wouldn't have hurt the economy, after he quit that job and got hired at a big financial institution, and when it didn't matter anymore.
He postulates the following theory of collective violence in the world. First, people form mimetic desire - they want things before other people also want and have them. Second, this mimetic desire results in a crisis - the collective actions of virtually everyone result in bad circumstances. Finally, in order to resolve this crisis, a scapegoat must be identified and subjected to collective violence. At this point, society can return to normal.
He wrote this book in 1978. I find it quite amazing how well it describes the financial crisis, and the post-crisis search for a scapegoat/villain.
I'd also be curious to see a modern update of it - Veblen's theory of a leisure class driving conspicuous consumption and a worker class partaking of it doesn't reflect modern reality at all (these days the poor form the leisure class). Yet the consumption/Girardian mimetic behavior persists.
Here's my suggestion on how to prevent fraud in the financial industry:
1. Keep investment banks and deposit-taking banks separate, as was done successfully for years.
2. When an investment bank fails, let them fail.
3. If there is fraud, try executives and put them in prison.
Instead, we have a revolving door between govt regulatory agencies and big banks.
These guys committed the unforgivable sin of actually thinking they were doing the morally correct thing, encouraged tacitly by a hapless regulator and a terrified government.
They did something so obvious and so transparent exactly because they felt they had the assent of the establishment.
They just literally lent another bank 7.2 billion so it could say all was well and thus "save" the country from financial meltdown.
NOT coming to a theater near you.