Crash Course
“They knew it. They knew that they were frauds.”
How do we know that the root of this financial crisis is massive fraud?
Consider this: The people responsible for the current meltdown are understood to be the smartest guys in the room.
Yet, on the other hand, these same men claim they didn’t know that the financial instruments they created and traded would fail.
How could they all be really, really smart and yet also really, really stupid about the one thing they’re most expert at?
It doesn’t make sense, until you factor in how these men are paid and understand that their pay derives precisely from not knowing. Like a cop who is paid not to know a gangster controls a certain neighborhood, an accountant can be given a psychotically huge bonus not to examine the books of a corporation, and an economist can be compensated handsomely to opine that, always and forever, regulation must fail but financial markets will self regulate to everyone’s benefit. Like the drug dealer’s girlfriend who sort of knows but really doesn’t know for sure what the Mac 10 in the walk-in closet is for, all those made comfortable by this arrangement can almost convince themselves that nothing untoward is happening. Almost.
Once one understands this principle, the logical conclusion, the only explanation that makes sense, is that this was and still is a massive fraud. This according to William Black. (Hat tip also to Jane Hamsher of Firedog Lake, who was talking to Black about some important details a couple of weeks ago.
Black is a white-collar criminologist who teaches at the University of Missouri-Kansas School of Law. Black knows how bank guys think because he was a senior regulator cleaning up the last big bank-fraud mess, the S&L fiasco of the late 1980s. He’s promoting his book: The Best Way To Rob a Bank is to Own One, which was published in 2005.
Check out this interview with Bill Moyers. Excerpts:
Black [to Moyers]: Well, the way that you do it is to make really bad loans, because they pay better. Then you grow extremely rapidly, in other words, you’re a Ponzi-like scheme. And the third thing you do is we call it leverage. That just means borrowing a lot of money, and the combination creates a situation where you have guaranteed record profits in the early years. That makes you rich, through the bonuses that modern executive compensation has produced. It also makes it inevitable that there’s going to be a disaster down the road.
Moyers asks how they got around the auditors, the risk managers:
Black: . . . . And the art form is not simply to defeat those internal controls, but to suborn them, to turn them into your greatest allies. And the bonus programs are exactly how you do that.
Moyers asks about Alt A, no doc, low doc loans–”liars loans.” Why are they called that?
Because, Black laughs, “they knew it. They knew that they were frauds.”
“They” in this case being the loan originators, those hotshot mortgage brokers who used to be bartenders but were now making $30,000 and up each month. Then there were the bigger “they” at places such as Indymac and Countrywide, guys making several millions per year. More “theys” resided at the tops of the ratings agencies which labeled this stuff–without even looking at it–as AAA or equivalent to U.S. Treasury Bonds. The guys at AIG “insuring” the bonds made of liar-loans–they were paid millions not to know and not to care.
The only people who truly didn’t know were some of the bag-holders–the final repositories of these bonds who took at face value their AAA ratings and the assurances of their salesmen. Though some of these people, particularly the fiduciaries at the big pension funds, should have asked this key question: “if these securities are as safe as Treasuries, how do they yield two to three times what Treasuries yield?”
There was only ever one real answer to that. Again from Moyers’ interview:
MOYERS: Is it possible that these complex instruments were deliberately created so swindlers could exploit them?BLACK: Oh, absolutely. This stuff, the exotic stuff that you’re talking about was created out of things like liars’ loans, that were known to be extraordinarily bad. And now it was getting triple-A ratings. Now a triple-A rating is supposed to mean there is zero credit risk. So you take something that not only has significant, it has crushing risk. That’s why it’s toxic. And you create this fiction that it has zero risk. That itself, of course, is a fraudulent exercise.
