I Just Don't Understand Welfare For Bankers
I haven't blogged on Bear Stearns because I've been just so dumbfounded about it. If we killed welfare, how come we're still giving welfare to the very, very, very, very rich?
I know there's some complex equation here that I'm just not economically intelligent enough (in the political sense) to understand, like that if Aunt Ethel and Uncle Bob lose their collective shirt it'll be such terrible P.R. for the country, and cause, I dunno, a run on the banks (despite FDIC insurance) that we must give the poor dears at Bear Stearns a big taxpayer handout. But, here's an editorial in The New York Times on this that gets into a little of what I think about this:
The Fed is probably right to be doing all it can think of to avoid worse damage than the economy is already suffering. But if the objective is to encourage prudent banking and keep Wall Street's wizards from periodically driving financial markets over the cliff, it is imperative to devise a remuneration system for bankers that puts more of their skin in the game.Financiers, of course, dispute that they are being insufficiently penalized. "I received no bonus for 2007, no severance pay, no golden parachute," E. Stanley O'Neal, the former chief executive of Merrill Lynch, told a House committee recently. That doesn't seem like much of a blow to Mr. O'Neal, who was removed earlier this year following gargantuan subprime-related losses.
Indeed, the pain that is being inflicted on financial-industry executives as a result of their own actions and decisions is not proving much of an encouragement. Rather, the knuckle-rapping seems only to encourage bankers to make up for any losses they may suffer by finding another way to navigate their companies, the financial system and the economy into the next maelstrom -- from Internet stocks to what the industry calls zero-down, negative amortization, no-doc, adjustable-rate mortgages.
(Translation: derivatives based on incomprehensible mortgages with unpredictable interest rates given to people who have no reasonable chance of understanding them, let alone paying them back. )
Bankers operate under a system that provides stellar rewards when the investment strategies do well yet puts a floor on their losses when they go bad. They might have to forgo a bonus if investments turn sour. They might even be fired. Their equity might become worthless -- or not, if the Fed feels it must step in. But as a rule, they won't have to return the money they made in the good days when they were making all the crazy bets that eventually took their banks down.
Our hearts go out to E. Stanley O'Neal, who will have to make ends meet with the $14.10 million bonus he got in 2006. D'ya think he'll have to sell the jet?
In other CEO news, by Christina S.N. Lewis in the WSJ:
Bear Stearns Cos. Chief Executive Alan D. Schwartz has taken off the market his suburban New York house, listed for $4.5 million, and is renting it, the real-estate agent who had listed the home says.Meanwhile, Bear Chairman and former CEO James Cayne closed last month on a $27.4 million purchase of two adjacent apartments at the Plaza condominium in New York, according to public records.
Both moves came before Bear's fire-sale deal Sunday to be acquired by J.P. Morgan Chase. Under the terms of that deal, Mr. Cayne's Bear holdings, once valued at $1 billion, would total roughly $13.1 million, less than half the cost of the Plaza units.
Sad, huh? To see these men, if not losing their homes, losing money on their homes.
By the way, like poor Mr. Schwartz, I, too, am renting. Of course, that's because I can't afford to own a home in the pricey Los Angeles market.
I could move to, say, Cincinnati, where Jackie Danicki says real estate is shockingly affordable (she didn't say "shockingly," but you get the idea). Or, every taxpayer in America could send me a dollar out of pity that I can't afford a mansion in Bel Air and a biodiesel-powered jet to go with my Honda Insight.
"Mr. Cayne's Bear holdings, once valued at $1 billion, would total roughly $13.1 million," While I'm the last one to defend these idiots but I'd call losing over 900 million dollars a punishment. He's still not poor not even close but the dividends from 1 billion dollars are a hell of a lot larger then 13 million. If he was prudent then he'll be more than ok. However if he was spending more than a tiny fraction of his dividends he's pretty much out in the street.
vlad at March 21, 2008 6:17 AM
Jackie's right, real estate in most of the midwest is dirt cheap. In my neck of the woods a bit over 200K will buy you a nice, big, country home on several acres. When I bought my house in western IA my mortgage &etc was about $125 cheaper than renting just across the river in Omaha and the rent there is pretty low. Of course there are always opportunity costs and the downside is that it's boring as hell here.
SeanH at March 21, 2008 6:27 AM
David Leonhardt explains the credit crisis here:
http://tinyurl.com/2fmar3
Amy Alkon at March 21, 2008 6:47 AM
This crash was obvious to those of us OUTSIDE the industry that were paying attention. Those INSIDE the industry had blinders on.
After all, "real-estate ALWAYS goes up". Unless it's a bubble. Then the law is "All bubbles pop."
I knew this was a bubble back in 2004. I was waiting for it to pop before I bought a house. It didn't pop, but had started to deflate and an opportunity to get a house for below market showed up so I pounced on it like a hungry Doberman.
But I got a fixed-rate mortgage. I'm protected from future deflations in the value of my house because I wasn't planning to flip it to cover a mortgage that was going to convert to something I couldn't pay.
Those who got burned deserved it. They violated the cardinal rule of the universe: nothing lasts forever.
brian at March 21, 2008 7:15 AM
Oh, and this isn't really "welfare for bankers".
It's more of an "orderly wrap-up" for Bear.
What basically happened was there was a run on Bear. Everyone tried to get their money at once. Which took away their cash reserves, which spooked investors, which caused the rapid collapse.
Megan McArdle on Bear
brian at March 21, 2008 7:19 AM
In the article above, there is one lovely line: the mortgage crisis "...has shocked Wall Street into a state of deep conservatism." And this conservatism will last how long? Probably until the next round of overpaid wall-street idiots come up with a new way to get rich by leveraging everybody else's money.
One example: the bank UBS has been severely burned by investments in the mortgage industry, writing off more than 20 billion in losses. The chairman of the bank generously declined his personal bonus for 2007. But insisted on paying bonuses to the rest of the employees.
Let's do the math: UBS has around 66,000 employees worldwide. For 2007, the worst year in the bank's entire history, they paid out $12 billion in bonuses. That's an average of $180,000 per employee. In bonuses!
Now, your average bank clerk did not walk off with a $180,000 bonus. But we all know who did rake in the money: middle and upper management, namely, those who should be held responsible for the bank's performance.
Something about the whole banking industry is rotten, and it is thoroughly entwined with the government agencies in charge of regulating it.
bradley13 at March 21, 2008 7:30 AM
Vlad, he won't be punished until he's turned out of his country clubs.
Amy, my suggestion is to forego the biofuel powered jet. Those still exist on paper alone. However, Honda now makes a very nice personal jet that will look just spiffy with your Insight parked alongside it.
As for me, my recommendation is to let BS fail and make sure the stockholders get wiped out the way they are supposed to. That's the only way to make sure the stockholders get good managers and learn how to reward and punish them, and supposedly that's what stockholders are supposed to be doing, in addition to buying/selling and getting the equity rewards.
I think if we let a few banks and large companies fail, we would see and end to the golden parachutes and a lot better shareholder management of the company.
jerry at March 21, 2008 8:11 AM
It is welfare, because the taxpayer is on the hook for whatever collateral Bear put up to draw loans at the discount window.
Bradley, of course the banks are entwined with the agencies regulating it. If someone has the legal right to point a gun at you and tell you what to do, you listen. But the answer is to free the banks from State regulation, not to write more. (Same principle as other industries such as education and healthcare which need free minds creating real value, not more regulations)
The IRS and INS are some of the worst destoyers of lives among the alphabet soup agencies, but followed closely by the FED, SEC, FDA, and the myriad education agencies.
newjonny at March 21, 2008 8:24 AM
newjonny - This buyout happened precisely because Bear was NOT allowed to draw loans from the fed like JPM.
And the FDIC and SEC exist because the market could not be trusted after what happened in 1929. The problem is a lack of transparency. The SEC (especially with recent rules changes about transparency and reporting) is primarily interested in making sure that all investors are on a level playing field.
Even a hard-ass libertarian should have no problem with a referee. If the playing field is stacked against the common investor, then there's no reason to invest.
brian at March 21, 2008 8:28 AM
They violated the cardinal rule of the universe:
You can't get something for nothing.
Amy Alkon at March 21, 2008 9:41 AM
Heinlein summed both our universal laws thus:
TANSTAAFL
There ain't no such thing as a free lunch.
brian at March 21, 2008 10:44 AM
Except for a brief period in my youth, I've been a conservative in the Wm. F. Buckley mold. But I have absorbed one criticism from the Left: big business really does have control de facto over the government.
While I respect the accomplishments of big businessmen, I also know that they are not capitalists. The great error of libertarians and conservatives is to assume without evidence, that just because a company operates commercially that it's a capitalist entity.
Big businessmen are experts at acquiring corporate welfare in all its many forms. That's why the titans of business do not deserve our respect. They have often built their business on our (the tax payer's) backs, but we don't share in the wealth.
Big business is an extortion scheme. Big businessmen are welfare queens in $3,000 suits.
Jeff at March 21, 2008 10:52 AM
Bear was bailed out because it would have been a huge problem for the financial system if they went bankrupt. The big investment banks deal back and forth with each other constantly, in huge sums of money. Bear's liquidity was poor enough that others wouldn't trade with them; when the money stops flowing in and out of one of these banks, deals all over the place break down. If Bear collapsed, other firms would have, too. Lehman Bros. is also in deep trouble. I hate deals like this, but it will be a disaster for the country's economy if several of our investment banks go down.
justin case at March 21, 2008 1:44 PM
Bear also had a reputation for not playing nice with others; I'm sure that some people chose to stick it to them when given the chance.
justin case at March 21, 2008 1:45 PM
The point of the "welfare" is to protect the firms customers. The stockholders, as owners, will get reamed. The upper managers, who set policy, don't have enough financial skin to bear a just punishment, much less make any restitution. But even considering that, they probably won't suffer as they should. The employees who will suffer were those who were depending on the company and its stock for their retirement. Most likely the majority of them didn't make or influence the decisions that brought this to pass.
The greater concern should be that BS was not alone. JPMorgan Chase got out of that part of the mortgage market a few years ago, but they can't rescue the entire industry.
There are practices that have to be fixed. To this outsider, just what they are, and what the fixes are, is not apparent.
njcommuter at March 21, 2008 9:16 PM
And the FDIC and SEC exist because the market could not be trusted after what happened in 1929.
Milton Friedman claimed that a large part of the depression was caused by incompetent Federal Reserve actions. I don't know enough economics to say whether he was correct, but without contrary evidence I'll believe him over you. In any case, you are being disingenuous (or maybe just ignorant) pretending that there was a free market at the time.
The employees who will suffer were those who were depending on the company and its stock for their retirement.
So they work for an investment bank, but they're not smart enough to diversify out of an investment where they do not have control. Cry me a river.
Bear was bailed out because it would have been a huge problem for the financial system if they went bankrupt.
I keep hearing things like this, but I have yet to hear a single specific effect that justifies government involvement. Businesses fail all the time. Why, exactly, can't this one fail? And please, spare me the vague "it's big and important" bullshit.
The great error of libertarians and conservatives is to assume without evidence, that just because a company operates commercially that it's a capitalist entity.
The kind of libertarians who've never read Adam Smith and also haven't noticed that the government is huge and constantly handing out favors to corporations? Let me know where you find these people.
Shawn at March 22, 2008 3:21 AM
Amy Alkon
https://www.advicegoddess.com/archives/2008/03/i-just-dont-und.html#comment-1533429">comment from ShawnI don't think it's right they were bailed out based on libertarian/fiscal conservative principles, which is why I posted this. I don't understand why any big company would have any reason to invest prudently if taxpayers will pick up the tab when their reckless investments fail. Also, I'm very prudent with my own finances. How come I'm literally paying for others who aren't, and in the name of turning huge profits?
Amy Alkon at March 22, 2008 5:16 AM
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