No sooner had I posted the Stop the GOP Assault on the U.S. Economic Future than the news broke that JPMorgan Chase had lost $2 billion on a “mistake” with their derivative transactions. The executive in charge of those trades will resign, I’m sure with full benefits and a very nice bonus/separation package. Rather than join the chorus of economic pundits claiming “I told you so” I thought I’d do something a little more useful.
I won’t say I told you so … But I’m going to imply it every way that I know how OTHER than saying it outright. The reason I will imply it so strongly? For the same reason The JOBS Act passed this year. AMERICANS DO NOT LEARN FROM THEIR MISTAKES AND THE GOP MANTRA OF DE-REGULATION IS DESTROYING THE U.S. ECONOMY!
It took only ten years after passing the Sarbanes-Oxley Act of 2002,(enacted in response to the ENRON Scandal, in which investors and shareholders lost billions in pension funds, retirement, etc., because of poor transparency and oversight) to gut it. The JOBS Act of 2012 guts that law, once again opening the door for off-book, ill-advised, or illegal transactions with no oversight. My Weimaraner had a longer attention span than that.
This debacle by JPMorgan Chase is EXACTLY why I have repeatedly called for the re-institution of the Glass-Steagall Act, which separated Commercial Banks – which catered to businesses with low-risk, low-return earnings on operating capital – from Investment Banks – which catered to investors who wanted more aggressive returns but came with higher risks.
Conservative bobble-heads have already been out proclaiming that this latest derivative boondoggle is just the cost of doing business. Maybe so, but it should be done with investors money who expect high-risk, high-return gambling. It should NOT be done with commercial depositors’ money who are simply seeking a safe haven for their business deposits so that their money is safe and on hand when they need it to make payroll…which is what Glass-Steagall provided for after THAT Congress finally saw how bad a Great Depression can be.
This Is Not the First Time This Has Happened and the GOP Hopes it Keeps Happening
Sometimes I feel as if I’m in a sick, twisted re-make of Groundhog Day. In this version, another large bank conglomerate shocks shareholders and investors with a staggering loss on derivatives. In just the last twenty years, we have seen the same circumstances time and again with the same results. A few examples:
- 1995 with Britain’s Barings Bank
- 1998 with the bailout of Long-Term Capital Management
- 2000 with Enron collapse
- 2002 with WorldCom collapse
- 2008 with huge Wall Street businesses failing, notably Lehman Brothers and AIG
Each time the offending institution(s) were widely viewed as a well-run, relatively safe institutions, with good credit ratings.
Each time the financial projections involved were expressed as low-risk.
Each time these firms traded in complex financial bundles that were presented and sold to others in the most favorable possible projection, out of probably hundreds of models that were performed.
In this instance, JPMorgan put the maximum value at risk for the contracts at $67 million. Furthermore, they had “disclosed” that out of all of the financial models they produced, only 5% of the models showed a possible loss of anything more that the $67 million. Only $67 million you say? Pffft.
Barely four years after Wall Street plunged the world into financial chaos, Jamie Dimon, the bank’s chief executive, warned on Thursday, May 10th, 2012, that losses could very well exceed even the worst scenario of the models that the bank had used to calculate the risk. Now that is an understatement. It turned out to be $2 billion.
- To lose $67 million-losing $1 per second would take an investor 2.12 years
- To lose $2 billion-losing $1 per second would take an investor 63.42 years
Twenty four hours later, JPMorgan’s stock value had plummeted $14 billion because of investors selling off their JPMorgan stock.
Naturally, JPMorgan’s losses have generated renewed interest in tightening the “Volcker rule,” the part of Dodd-Frank which bans speculative trading by banks. However, the losses also illustrate why the Volcker rule is insufficient to deal with the new millennium’s Untouchables-Wall Street Bankers.
Even with the “Volcker Rule,” because of the nature of the synthetic credit trades, regulators probably could not have prevented the JPMorgan incident. The trades were not proprietary bets. They were actually huge, mismatched hedges. The current version of the rule would not have barred these trades. Moreover, even if regulators had barred THIS transaction, when there is a lack of clarity between what is speculation and what is hedging, Wall Street will easily find a way to step quickly around it. Given how few regulators are remaining after budget cuts, it’s extremely improbable that regulators will have time, resources, or acumen to determine what is a hedge and what is not, particularly with the GOP blocking every attempt to bolster the number and expertise of regulators-not to mention the complexity of the regulations themselves. Is it any wonder why “Wall Street” and the GOP want even LESS regulation, and why Wall Street is willing to spend whatever it takes to achieve this end?
New Does Not Mean Better
As the medical community has experienced time and time again, new does not mean better. Aspirin has been used since the Ancient Greeks used the bark of a willow tree as a pain and fever reducer. Most newer pain relievers will rot your stomach, your liver or both, and cure your headache no better.
The surest way to stop this type of financial boondoggle is to re-institute the 1930s-era reforms. After the Great Depression, Congress erected sufficient obstacles to fend off such shenanigans. Twin principles of financial regulations were devised that supported fair, well-functioning markets for five decades. They were:
- Mandate that banks disclose all relevant financial information or face the consequences of breaking the law. That means disclosing not just a “value-at-risk” number but also worst-case scenarios.
- The second principle is a sufficiently forceful anti-fraud organization that punishes officials who do not tell the truth…the whole truth. Not by sending them off with millions of dollars in severance packages.
Why The Regulations Are Failing
- The two elements of the law stated above have been battered by GOP legislation and conservative judicial decisions that make it virtually impossible for prospective investors or shareholders to judge the fiscal soundness of contracts or the institutions that propose them.
- Prosecutors are reluctant to bring criminal cases, leaving the Securities and Exchange Commission to mount mostly insignificant civil actions (another favorite of the GOP-tort reform). The law should punish anyone who defrauds investors, either by intentionally or by simple malfeasance.
The GOP rails about uncertainty, or greater trust in the “free market” to police itself. But we are constantly reminded that the markets DO NOT police themselves. Even when it keeps happening over and over again, we the electorate allow the GOP to brush it off as if there is nothing we can do to prevent it without doing more harm than good.
And the GOP calls these attempts at level playing fields for everybody “JOB-KILLERS.” I would love to know how many of the current unemployed had their “Jobs Killed” by inadequate oversight! The GOP depends upon nobody being able to produce that number.
It is supremely ironic and sad that the voting public continues to allow this to happen.
At a bare minimum we should insist that:
- WE THE PEOPLE stop allowing banks to use snake-oil and flawed mathematical projections to cheat investors and shareholders.
- WE THE PEOPLE stop allowing banks to satisfy disclosure obligations simply by reporting one value-at-risk number. Show them all, and show them truthfully. Otherwise you are dealing numbers like a drug dealer deals crack.
If you think regulation and the transparency they force upon disclosure in financial transactions are the problem with our economy, you simply have not been paying attention.
Perhaps JPMorgan’s losses will rekindle debate about deeper reforms than just the Volcker rule, and Congress will heed history’s lessons. But without the PEOPLE holding their Congress accountable, it doesn’t appear that Congress will hold Wall Street accountable. And guess who the ultimate loser is in either event?
If Mitt Romney is elected President or if the GOP gains control of the Senate, how likely do you think strict and fair financial playing fields will be?
My personal “value-at-risk” percentage of that happening is .000001%