Barofsky Challenges Geithner Doctrine: Crushing the Bank Oligopoly

See Financial Times for full article

Editor’s Comment: Barofsky’s characterization of the Geithner doctrine is accurate and appalling at the same time. The decision was made across the board that the stability and illusion of financial health on Wall Street was and is more important than anything else is what led to a prolonged recession and, from the reports being published it could be another 10-20 years before we work our way out of this mess.

President Obama made TRUTH a cornerstone of his campaign but the public wasn’t told the truth at any point. In fact the government was actively complicit in creating illusion and fraud. In doing so, they have created a precedent that will inevitably lead to bank behavior that will escalate the fraud and the damage on the world’s economies.

A creature of Wall Street, Geithner assumed that the money making machines on Wall Street were essential to stabilizing the financial system. He merely took over where Hank Paulson left off. At the point where the investment banks were converted to commercial banks, THAT was the time to strike with receivers, resolution of the megabanks that were holding trillions out of the U.S. economy and doing the same around the world.

The assumption by Paulson was that with a capital infusion the banks would lend more thus propping up the economy. It never happened. Instead people got notices in the mail freezing their home equity lines of credit and lowering their borrowing limits on all sorts of loans including credit cards. If the proof is in the pudding, then Geithner and Paulson were dead wrong.

The fraud extended from the closing tables where fictitious loans were documented and real loans were undocumented, to the diversion of investor money from the investment pools and to the investment banks. In short, the money was sucked out of the economy and the government, regulators and courts are either not doing doing anything about it, or making it easier for banks to get away with it, encouraging the moral hazard that occurs when greed fails to meet consequences.

The devastating effects on millions of homeowners and tens of millions of consumers, social services and taxpayers are not even on the table. Victims of fraud, pension funds, sovereign wealth funds, and individual retirement funds were stuck paying for Wall Street lies.

The same fraud — appraisal fraud, ratings fraud, and fraud in the inducement, fraud in the execution occurred with each of the borrowers, who never saw the benefit of the bargain they thought they had reached with what turned out to be a series of nominees (fictitious lenders). The Geithner doctrine stopped the government from intervening, stopped anything that smelled of restitution for the pension funds, dismissed the claims and losses of homeowners as though they didn’t matter and prevented an influx of wealth and capital that was badly needed by the economy.

The problem is that the central bankers have been scared into accepting a shadow banking system that is literally ten times the size of the real banking system. It’s a lie 10:1. The banks we call healthy are in fact subject to closure and receivership because the assets they are showing on their balance sheets are not worth nearly what they are reporting — and they never will be unless we all expand the money supply by ten times the current world monetary supplies.

But the existence of another curative solution is systematically disregarded on “moral”or “practical grounds.” Following the law, the banks should be forced into receivership if they don’t have the capital necessary to stay open, based upon the inflated values that started with appraisal fraud and ratings fraud, and now is sitting in bank balance sheets as accounting fraud.

By clawing back as much money as possible for investors in the bogus mortgage bonds, the amount owed to the investors would be reduced by payment instead of loss. And account receivables to each investor would be correspondingly reduced. And the accounts payable by the borrowers would be correspondingly reduced due directly to payment instead of forgiveness. It is simple arithmetic.

The banking oligopoly would be crushed and government could go back to being influenced by much smaller competing special interests. The pensioners would be assured that their pensions will keep coming, and homeowners could be restored to their homes or and possibly receive cash payments or credits for payment on the accounts receivable thus providing an enormous fiscal stimulus to an economy that is 70% based upon consumer spending.

If I understand this, along with Neil Barofsky and a gaggle of economists and financiers, why won’t the government even consider it?

Neil Barofsky: Geithner Doctrine Lives on in Libor Scandal

By Neil Barofsky, the former special inspector-general of the troubled asset relief programme and is currently a senior fellow at NYU School of Law. He is the author of ‘Bailout’, released in paperback this week.

Now that Tim Geithner has resigned as US Treasury secretary, it is time to survey the damage wrought from four years of his approach to the financial crisis. The “Geithner doctrine” made the preservation of the largest banks, no matter the consequences, a top priority of the US government. Aside from moral hazard, it has also meant the perversion of the US criminal justice system. The US faces a two-tiered system of justice that, if left unchecked by the incoming Treasury and regulatory teams, all but assures more excessive risk-taking, more crime and more crises. (e.s.)

The recent parade of banking scandals, such as the manipulation of Libor rates by Barclays, Royal Bank of Scotland and other major banks, can be traced back to the lax system of regulation before the financial crisis – and the weak response once disaster struck.

Take the response of the New York Federal Reserve to Barclays’ admission in 2008 that it was submitting false Libor rates and was not alone in doing so. Mr Geithner’s response was to in effect bury the tip. He sent a memo to the Bank of England suggesting some changes to the rate-setting process and then convened a meeting of regulators where he reportedly described only the risk but not the actual manipulation of the rate. He then put the government imprimatur on the rate via bailout programmes. His inaction helped permit a global crime to continue for another year.

When it was UBS’s turn to settle its Libor charges, even though a significant amount of the illegal activity took place at the parent company level, only a Japanese subsidiary was required to take a plea. Eric Holder, US attorney-general, demonstrated his embrace of the Geithner doctrine (a phrase coined by blogger Yves Smith) in explaining the UBS decision. He said that a more aggressive stance against the parent company could have a negative “impact on the stability of the financial markets around the world”.

This week we saw the latest instalment of the saga. In fining RBS £390m, the DoJ only indicted one of the bank’s Asian subsidiaries, avoiding the more damaging result that would have stemmed from charging the parent company.

Instead of seeking deterrence and justice, the US government increasingly appears to have fully absorbed the Geithner doctrine into its charging decisions by seeking a result that has a minimal impact on the target bank but will generate the best-looking press release. Some banks today are still too big to fail – and they are still too big to jail.

The lack of robust enforcement is of course not limited to the Libor scandal. It was seen in the recent settlement talks with HSBC, when Treasury officials reportedly pressed the DoJ to consider the broad economic consequences that would follow an indictment. After hearing these arguments the DoJ chose not to criminally charge HSBC.

And, of course, it is seen in the stunning dearth of criminal prosecutions arising out of the crisis. This was all but preordained given who the government turned to when the crisis struck: the same captured regulators who had blindly advanced bankers’ self-serving calls for a “light touch” before the crisis and who unsurprisingly embraced the Geithner doctrine afterwards. Having done so, of course, there would be no criminal prosecutions while the banks still teetered on the brink of collapse. The risk of causing them to fail, and thereby undoing all of the bailout efforts, was too high.

But that these arguments continue to resonate with officials in 2013 shows that the Geithner doctrine, perhaps justified by the conditions in 2008-09, has planted deep roots in our system of government.

This forbearance will have potentially devastating long-term effects, as each settlement on favourable terms reinforces the perception that, for a select group of executives and institutions, crime pays. It is only rational. They know that they will get to keep all of the ill-gotten profits if they go undetected, and on the small chance that they’re caught, most probably only the shareholders will pay – and only a relatively minor fine at that. The lack of meaningful consequences for those committing these frauds encourages future fraudulent conduct. Ultimately, the financial crisis was a game of incentives gone wild, and the lack of accountability in the aftermath of the crisis has only reinforced those bad incentives.

Breaking those incentives requires ditching the Geithner doctrine, which has led to the banks becoming even larger and more systemically significant than they were before the crisis. As a result, the DoJ’s fear of destabilising the global economy through aggressive prosecutions may indeed be well-founded. But that must not be the end of the story.

To reclaim our system of justice, the global threat posed by the failure of any of our largest financial institutions must be neutralised once and for all. They must be reduced in size, their safety nets must be dramatically constricted and their capital requirements enhanced far beyond the current standards. Then, and only then, can the same set of rules apply to all.

Monster From Below, Not from Above — Appraisal Fraud

Editor’s Comment: Again, myth prevails.
The monster that gobbled our home equity and the value of our pension funds came from the waters beneath the market not from some economic disaster or sudden migration of population to Australia. The “loss of value” was nothing of the sort. Prices were going up during a decade when median income was going down. Prices at best should have been level. This disaster is from a lack of support on the fundamentals of economics — the houses were never worth what the money that appeared on appraisals.
Most pundits, reporters and “experts” talk about the decline in housing prices as the result of some mysterious downward market pressure — like a lack of demand. Demand for housing is no lower or higher than it ever was.
The truth is that there never was any increased demand for housing to support the huge price jumps over the last decade. THAT was caused by an increase of what economists call liquidity and the rest of us now know as phoney money pumped in by Wall Street who paid appraisers to render a report that conformed to contracts instead of market conditions.
Those contracts went through not because of public demand or population increases or even migration. They came from the fact that Wall Street paid or created “lenders” to pretend they were “underwriting” loans and assessing risk the way banks normally perform their duties as lenders. But since they had no money at risk, these “lenders” as straw men in a complex securitization chain, dropped their underwriting function altogether and merely pretended to “qualify” borrowers and approve contracts to purchase or refinance.
February 15, 2010

U.S. Housing Aid Winds Down, and Cities Worry

ELKHART, Ind. — Over the next six months, the federal government plans to wind down many of its emergency programs for housing. Then it will become clear if the market can function on its own.

People here are pretty sure the answer will be no.

President Obama has traveled twice to this beleaguered manufacturing city to spotlight the government’s economic stimulus program. The employment picture here has indeed begun to improve over the last nine months.

But Elkhart also symbolizes the failure of federal efforts to turn around the housing slump at the heart of the economic crisis. Housing in this community has become almost entirely dependent on a string of federal support programs, which are nonetheless failing to prevent a fall in prices and a rise in mortgage delinquencies.

More than one in 10 mortgage holders in Elkhart is seriously behind on payments. The median sales price has plunged to the level of a decade ago. Many homeowners owe more than their home is worth, freezing them in place for years. Foreclosures recently hit a record.

To the extent that the real estate market is functioning at all, people here say, it is doing so only because of the emergency programs, which have pushed down interest rates on mortgages and offered buyers a substantial tax credit.

Equally important is an expanded mortgage insurance program run by the Federal Housing Administration, which encourages private lenders to accept borrowers with small down payments. The government takes the risk of default.

A few years ago, only one in 10 buyers in Elkhart used the housing agency program. Now about half do. Across the country, the agency has greatly expanded its reach so that it now insures six million mortgages.

“There has been all kinds of help for housing. I’m not unappreciative,” said Barb Swartley, president of the Elkhart County Board of Realtors. “But you can’t turn real estate into a government-sponsored operation forever.”

Many in Washington agree. With worries about the deficit intensifying, the government is eager to start withdrawing some of its support programs.

The first step could happen as early as next month, when the Federal Reserve has said it will end its trillion-dollar program to buy up mortgage securities. That program has driven mortgage interest rates to lows not seen since the 1950s.

Yet it is uncertain whether the government can really pull back without sending housing markets into another tailspin. “A rise in rates would kill us all by itself,” Ms. Swartley said.

The Obama administration has offered few ideas about reforming the housing market. Proposals for the future of Fannie Mae and Freddie Mac, the mortgage holding companies taken over by the government at the height of the crisis, were supposed to be introduced with the president’s budget this month. They were not.

The government programs, however crucial, are distorting the market. The tax credit produced sales last fall, but some lenders here say it has troubling implications.

“People are buying to get that tax credit, to get some reserve money. They’re saying, ‘If something happens, I will have a little bit of money to fall back on,’ ” said Denny Davis of Horizon Bank in Elkhart. “That’s not healthy.”

The programs favor first-time buyers, who have the fewest resources to bring to a deal. Heather Stevens, a 23-year-old nurse here, is closing on a three-bedroom house this week. Since her loan was insured by the Federal Housing Administration, she had to put down only 3.5 percent of the $74,900 purchase price.

“It was a breeze to get approved,” she said.

The sellers are covering her closing costs, which agents say is often the case here. That meant Ms. Stevens had to come up with only the $2,600 down payment, which still took all her savings.

But the best part is the $7,500 tax credit. She will use that to remodel the kitchen. “If it wasn’t for the credit, we would have waited to buy,” said Ms. Stevens, who is getting married this year.

Buying houses with no money down was a feature of the latter stages of the housing bubble. It gave prices a final push into the stratosphere. But buyers with no equity were the first to abandon their properties as the market turned south.

With housing prices stagnant, bolstering the market by again letting people buy with hardly any money down is viewed in some quarters as a bad bet.

Neil Barofsky, the special inspector general for the government’s Troubled Asset Relief Program, wrote in his most recent report to Congress that “the federal government’s concerted efforts to support” housing prices “risk reinflating” the bubble.

He noted one difference from the last bubble: taxpayers, rather than banks, are now directly at risk in these new mortgages.

In Elkhart, the worries are less about the risks of doing too much and more about the perils of doing too little. If the Federal Reserve really ends its $1.25 trillion program of buying mortgage-backed securities, economists say, mortgage rates could rise as much as one percentage point. In recent weeks, rates on 30-year fixed mortgages have drifted below 5 percent.

The tax credit requires home buyers to make a deal by April 30, the middle of the prime spring selling season.

For now, the F.H.A. is modestly tightening the requirements on some of its programs, trying to strike a balance between stabilizing the market with qualified buyers and overwhelming it with unqualified borrowers.

John Katalinich, chief lending officer at the Inova Federal Credit Union in Elkhart, says there is danger in letting buyers get into properties with so little at stake, but those risks are minimal compared to the alternative.

“If the government were not to continue the same level of support, it would be very detrimental, like cutting the legs off a wobbling child and expecting it to run a marathon,” he said. “It’s very possible we’ll still be at this level of need five years from now.”

Elkhart, in the northeast corner of Indiana, became a symbol of distressed Middle America after Mr. Obama chose it as the place to introduce his stimulus plan last February. The region is a hub of recreational vehicle manufacturing, one of the first industries to falter in the recession. In less than a year, the unemployment rate tripled, peaking at 18.9 percent last March.

Mr. Obama returned in August to promote the effectiveness of the stimulus program and of government grants for the manufacture of battery-powered electric vehicles. Several companies have announced they are hiring. Unemployment in December was down to 14.8 percent.

No such improvement is visible with housing. In the last 18 months, the F.H.A increased its loans in Elkhart by 40 percent even as its defaults rose 174 percent.

As these troubled loans become foreclosures, the government takes over the property and tries to sell it. On Saturday, Gina Martin, an administrative assistant, examined a three-bedroom government house for sale southeast of Elkhart.

In late 2003, the house sold for $115,000, but in these depressed times the government was willing to let it go for $75,000.

Ms. Martin’s agent, Dean Slabach, thought the government would eventually have to take a much lower bid, substantially increasing its loss. Most of the F.H.A. properties on the market in Elkhart carry notations like “significant price reduction” and “all reasonable offers considered.”

“They’ll end up selling this for $60,000 or less,” Mr. Slabach said.

But Ms. Martin, a 47-year-old renter who has approval for an F.H.A. loan, said she was not tempted at any price.

“We’ll see what else is out there,” she said.

An Investigator Presses to Uncover Bailout FACTS: Neil Barofsky

And then there is the main question which everyone on Wall Street is stonewalling: were the obligations created in mortgage origination paid off by government or insurance? To put it another way, were the homeowners already bailed out and don’t know it?

Editor’s Comment: Barofsky is like Elizabeth Warren — someone Wall Street doesn’t like, and describes reality instead of spin. He’s got subpoena power and people with guns to enforce those powers, so I expect a lot will come out of his investigations. The reason this is relevant to this Blog is that Barofsky and Warren are both digging for the same information we are seeking in the Courts — and which so far, many Judges don’t want to hear about.

  1. Who received bailout grants, purchases, loans or credits?
  2. Why did they receive that money? I don’t mean the question of policy here I mean to ask what was received in exchange for the bailout?
  3. Did taxpayer money buy mortgage-backed securities, yes or no?
  4. Did taxpayer money buy mortgage notes, yes or no?
  5. Was taxpayer money used directly or indirectly or both to buy something from someone? My question here is whether the money was simply a loan, or was it used to finance payoffs on insurance contracts or was it used to pay off mortgage backed security holders and if so how and through what conduits? Maiden Lane entities and thirty others just like it?
  6. Is the Maiden Lane shell game still in operation and if so whoa re the principals and what are they doing with our bailout money?
  7. And then there is the main question which everyone on Wall Street is stonewalling: were the obligations created in mortgage origination paid off by government or insurance? To put it another way, were the homeowners already bailed out and don’t know it?

So far, Mr. Barofsky has accused the former Treasury secretary, Henry M. Paulson Jr., of misleading the public about the health of the nation’s biggest banks during the crisis of 2008. He has been investigating the taxpayer-subsidized shotgun wedding of Merrill Lynch to Bank of America. He has named a group of bonus recipients at the American International Group who promised to return $45 million to their government-owned employer last year, then coughed up less than half of it.

“instead of negotiating from a position of strength, the New York Fed poured $85 billion of its own money into A.I.G., on hard-nosed terms that Goldman Sachs and JPMorgan Chase had planned to charge before they got cold feet. Much of the Fed’s money was gone within minutes — and so was the Fed’s leverage, or any real chance of getting the money back.”

January 26, 2010 New York Times

An Investigator Presses to Uncover Bailout Abuse

Neil M. Barofsky is not a household name like some special investigators of the past — Kenneth Starr during the Clinton administration or Archibald Cox in the Watergate years.

But increasingly, Mr. Barofsky is setting off fireworks on Capitol Hill as he quietly and methodically pieces together the most complete historical record yet of the financial bailout. His reports are careful but not cautious, showing a willingness to stand up to some of the most powerful people and institutions in Washington or on Wall Street.

“Neil is not afraid to just follow things where they lead,” said Anthony S. Barkow, a friend and fellow former prosecutor in the United States attorney’s office for the Southern District of New York. “He is undeterred by having powerful people angry at him for doing what he does.”

So far, Mr. Barofsky has accused the former Treasury secretary, Henry M. Paulson Jr., of misleading the public about the health of the nation’s biggest banks during the crisis of 2008. He has been investigating the taxpayer-subsidized shotgun wedding of Merrill Lynch to Bank of America. He has named a group of bonus recipients at the American International Group who promised to return $45 million to their government-owned employer last year, then coughed up less than half of it.

On Wednesday, Mr. Barofsky will be one of several top officials to answer questions before a Congressional panel on how the government handled the bailout of A.I.G. Mr. Barofsky will cite contradictions in the Treasury’s public statements about the bailout, according to an excerpt from his written testimony obtained by The New York Times.

The Treasury issued a statement this month that “taxpayers will be made whole” on certain investments in A.I.G., but its own analysis has estimated that the Treasury will lose $30 billion on the same investments, according to the prepared testimony.

Mr. Barofsky will also announce that he has opened an investigation into possible misconduct in the New York Fed’s efforts to limit A.I.G.’s disclosures about the bailout in filings with the Securities and Exchange Commission.

If there turns out to be a crime in any aspect of the bailout, Mr. Barofsky is not the one who will lay it out before a jury — he does not have the mandate.

“He’s more like the F.B.I. than the Department of Justice,” said Mr. Barkow, the former prosecutor. “He can’t control when his cases are going to be brought.”

Officially, he is not categorized as a special prosecutor; his job is a narrower one, auditing the disbursement of money under the Troubled Asset Relief Program. He goes by the ungainly title of special inspector general for the TARP, or Sigtarp.

But in an interview in his new quarters in Washington — a building on L Street, a vast improvement over the mildewed Treasury basement where he started out — Mr. Barofsky likened his job to “building a case for a trial.”

“You want to pursue every lead, every bit of evidence, everything to persuade the jury,” he said.

In this case the jury is the public, who suspect they have poured trillions of dollars down a black hole.

“Taxpayers really want to know,” Mr. Barofsky said. “I think too often in Washington, people underestimate how interested the public is.”

There are, in fact, several other panels charged with reviewing and monitoring the bailout. But Mr. Barofsky is the only one backed by federal agents who carry guns and badges and, if necessary, can break the locks off file cabinets.

Those added powers, and an attitude honed during eight years of fighting white-collar criminals and Colombian drug lords as an assistant United States attorney — he still has the knife from a foiled attempt on his life in a field outside Bogota — are propelling Mr. Barofsky over barriers that have slowed the others.

Not long after his nomination was confirmed at the end of 2008, he beat back an effort by the Treasury to have his office put under supervision of the secretary.

He also forced the Treasury to let him obtain a statement, under oath, from every recipient bank about how it used the taxpayers’ money.

“We were told we were playing politics,” he said of that battle over several months with the Treasury, which said the recipients should be required to disclose only their lending activity. “That it was a meaningless exercise. At least three times, we were told we should consider it closed.”

Mr. Barofsky’s report on the uses of government money found that some institutions had applied it to projects that directly contradicted the Congressional intent for the program.

The public seems pleased that someone is standing up to the banks and the officials who bailed them out. A Web site that Mr. Barofsky set up for tips has received about 30 million hits, he said. And Congress expanded his powers last year.

He made his most recent waves in November, when he issued the results of an eight-month audit of how tens of billions of dollars, sent by the government to a teetering A.I.G., wound up at a group of big banks in the United States and Europe.

The audit was requested by Representative Elijah Cummings, a Democrat of Maryland, who rounded up 26 other Democrats to sign his letter in March 2009. But by the time it was finished, it was pounced on by a no-holds-barred Republican, Darrell Issa of California, who called it “extremely useful in laying the foundation for our investigation.”

The report describes how the Federal Reserve Bank of New York sealed its own fate in September 2008, when it tried unsuccessfully to put together a private bank loan for A.I.G., then in the throes of a terrifying worldwide run on the bank.

“This is the moment when the greatest amount of leverage to negotiate exists,” said Mr. Barofsky.

But instead of negotiating from a position of strength, the New York Fed poured $85 billion of its own money into A.I.G., on hard-nosed terms that Goldman Sachs and JPMorgan Chase had planned to charge before they got cold feet. Much of the Fed’s money was gone within minutes — and so was the Fed’s leverage, or any real chance of getting the money back.

“I don’t want to play Monday morning quarterback, but there are other things that could have happened,” Mr. Barofsky said. He said the Fed could have achieved better results if it had behaved more like a regulator and less like a creditor.

Mr. Issa, the ranking Republican on the House Oversight Committee, recently asked to see the original documents that Mr. Barofsky had collected while conducting that audit. Mr. Barofsky politely declined, saying that to gain the Fed’s cooperation, he had promised not to give out its documents without its permission.

Left empty-handed, Mr. Issa suddenly found himself on rare common ground with the Oversight Committee’s Democratic chairman, Edolphus Towns of New York. Mr. Towns took Mr. Issa’s cue and subpoenaed the Fed documents, and also called the Wednesday hearing, where the Treasury secretary, Timothy Geithner, will answer questions, as will Mr. Barofsky, among others. Mr. Paulson may also appear but has not confirmed.

Congressional staff members have been circulating e-mail messages showing close interactions between A.I.G. and the New York Fed in deciding how much information should be made public.

Mr. Barofsky said that as a lifelong Democrat, he was caught off-guard by his selection by President George W. Bush. He was three years into a complicated criminal case, and moving to Washington would disrupt his plans for a January wedding and honeymoon in Costa Rica.

His boss, the United States attorney, persuaded him with what he called “the God-and-country speech,” Mr. Barofsky said. The honeymoon was postponed until May.

When he arrived in Washington, he said he was shocked to find how much money was flying out the door, with so few controls.

In one conference call, he said, he asked what safeguards would be built into a new program to help investors buy banks’ impaired assets.

“They said, ‘Rating agencies and investor due diligence,’ and my jaw just dropped,” he said. “They said, ‘Yes, the ratings agencies will not be embarrassed again.’ I can’t tell you how often I heard the phrase, ‘reputational risk.’ ‘Oh, the banks wouldn’t do that.’ This is trying to shame the shameless.”

The Fed and Treasury have grown more receptive to his ideas, he said. And his office has also grown. It now has a branch in New York, and there are plans for two more in California.

  1. “We’re following the TARP crimes,” he said.
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