How To Succeed in Banking Without Really Trying
The Bush-Obama financial-rescue plan is premised on saving the big banks that caused the trouble. The theory is that we need to help Wall Street to help Main Street. Government would make money available, and the banks would make loans to business, which would revive the economy. “Once you assume,” Michael Lewis, author of The Big Short, told Charlie Rose, “that the creditors, shareholders and management must be made whole, you have no alternative to gifting the banks.” The “gifting” program for banks has succeeded beyond the dreams of avarice. In the first quarter, Goldman Sachs earned at least $25 million on each of 63 working days. They made more than $100 million on 35 of them. JPMorgan Chase and Bank of America also made money every single day in the first quarter. The New York Times called it the equivalent of a perfect game in baseball.
The Federal Reserve, the Treasury, and the FDIC set up 25 programs to bail out the banks, committing $23.6 trillion to the task. The biggest gift is probably the ZIRP (Zero Interest Rate Policy) program, first announced in December 2008. Tom Hoenig, president of the Federal Reserve Bank of Kansas City, reported on the April meeting of the Federal Open Market Committee (the board that sets short-term interest rates): “conditions will likely warrant keeping the fed funds rate, which is our key monetary policy tool at exceptionally low levels for ‘an extended period.’” ZIRP, to our bankers, is a license to steal. They borrow from the Fed at zero percent and loan the money back to the Treasury at 3.5 percent. The bankers call this the “carry trade.” You or I might call it “fish in a barrel.” The perfect-game analogy doesn’t fit the “carry trade”; rather, it calls to mind the 1919 Chicago White Sox. The Fed has lent out some two trillion dollars to our largest financial institution at zero or near-zero interest rates to carry on the “carry trade.” Chairman Bernanke has refused to say who received that money.
The Federal Reserve reports that, as of May 2010, the big U.S. banks have increased purchases of U.S. Treasuries by 35 percent since September 2008; cash assets (which includes cash on hand or in the process of collection as well as balances due from other banks) are up 147 percent. Commercial and industrial loans, however, including small-business loans, are down 26 percent. The Bush-Obama theory, the numbers make clear, is a failure. It failed because it was based on a misunderstanding of how our big banks are making their money these days. They no longer make loans; they are making markets in derivatives and in general running Wild West casinos. Goldman Sachs CEO Lloyd Blankfein told Charlie Rose on April 30 that derivatives served a social purpose. For example, he said, suppose you want to drill an oil well in the Gulf that will cost $100 million and will only be profitable if you can sell the oil for at least $80 a barrel. You could buy a derivative from Goldman that would guarantee you the $80 price for the next 30 years. Then, says Blankfein, you can drill your well. That may be a social purpose, but is that what bankers are supposed to be doing? How are you going to put that on an exchange?
The banks don’t disclose how much of their profit comes from the “carry trade.” What is known, as reported by Fortune, is that recent profits at big banks are largely attributable to “trading.” Business is so good that Bank of America’s chief executive, Brian T. Moynihan, declared the “worst of the credit cycle” to be “clearly behind us” and that recent economic growth is “real.” Moynihan is correct—growth is real, if you belong to the big bank club. Nearly 80 percent of industry profits came from the country’s largest banks, with the six largest raking in the lion’s share. Meanwhile, on Main Street, smaller banks continue to struggle. There have been 72 bank failures this year, and the number of “problem banks” reported by the FDIC reached 775.
The banks, despite all the gifting, are probably still bust. If they were “marked to market,” the “toxic” securities they are carrying on their balance sheets at fictitious values would have to be written down. At some point, ZIRP will end, and banks will have to start paying market rates to secure funds.
What does ZIRP do to the economy? Chronically low interest encourages borrowing and consuming over saving. It punishes savers. We are told all our lives to save money for retirement. Say a retiree has put aside $1 million expecting to earn four- or five-percent interest, giving him $40,000 or $50,000 to live on. ZIRP drives the rate down under one percent and the return under $10,000. Savers subsidize borrowers. The Fed’s theory is that if savers can’t get any return on their money they will spend it on flat-screen TVs.
“Inevitably,” says Hoenig, “the policy bias is to delay, to let accommodative conditions stand, and to reverse only when the economy is beyond recovery and into an expansion.” Thus, “While we may not know where the bubble will emerge, these conditions, left unchanged, will invite a credit boom and inevitably, a bust.”
This article first appeared in the August 2010 issue of Chronicles: A Magazine of American Culture.