Harvey Silverglate checks in on the Goldman Sachs case:
I think you have it just right. The ideologues, especially some New York Times reporters and liberal columnists, would like to deem Goldman’s conduct “fraud” of either the civil and/or criminal variety. From time to time, a sane and informed voice peeks through the miasma and realizes what is really going on — the SEC is trying to salvage is reputation by blaming the economic melt-down on fraudsters, rather than on the incompetence of Congress, the SEC, the Treasury Department, the Fed (why did Alan Greenspan keep interest rates so low for so long? one might usefully ask) and other regulators or would-be regulators.
While there was doubtless some fraud (for example, in the writing or sub-prime mortgages to home purchasers without adequate income or even jobs), a large measure of the blame for the meltdown goes to our government, that allowed the casino to proceed and that even provided low-interest-rate money to help finance it. Those of us who took notice, as the price of houses on our respective blocks continued to escalate to the point where we never could have bought our homes had we not done so years earlier (and way beyond what we knew the houses to be worth), realized something was amiss. But the big boys on Wall Street, blinded by the huge paydays and bonuses, just kept betting more and more.
The creation of synthetic vehicles, the only purpose of which appears to have been to magnify the amount of the bet without requiring a huge amount of capital to make the bet, made the situation infinitely worse, for the vehicles were so non-transparent that they achieved higher ratings from the rating agencies (or the underlying securities did) than they intrinsically deserved. And so the combination of incredible leverage, plus non-transparency of the underlying securities, was a formula for disaster. This is the great failure of government regulators (as well as the independent rating agencies, by the way, such as Standard & Poor, Moody’s, and so forth).
What bothers me is that the SEC is being allowed to get away with absolving its own grotesque errors and incompetence by shouting “fraud.” You can fool some of the people all of the time, and all of the people some of the time, but….there comes a time when the game is up. To prevent this from happening again, sane government regulation of these markets is required, period.
Watch Silverglate talk about Goldman its similarities to the case of Michael Milken, whom Silverglate represented.
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BP Myers
@Harvey said: “. . . the SEC is trying to salvage [its] reputation by blaming the economic melt-down on fraudsters”
In what way does this lone SEC action support Mr. Silverglate’s contention that “fraudsters” are being blamed for the entirety of the economic meltdown? How does this action absolve those others that he names of responsibility, as he further contends?
The SEC has no jurisdiction over Congress, the Treasury Department, or the Fed.
One wonders just who Mr. Silverglate blames for Enron, WorldCom, etc. Perhaps those were solely the SEC’s fault as well, and the self-dealing executives are entirely blame free.
Jerry Ackerman
“While there was doubtless some fraud . . . a large measure of the blame for the meltdown goes to our government. . . .”
There’s more than enough culpability to last a lifetime, no doubt. But that doesn’t mean that well-founded allegations of fraud should be whitewashed or go unprosecuted. Let the courts decide if this one is well-founded.
Mike Stucka
The Wall Street Journal has a brilliant article investigating the many companies with a role in this, including the ratings agencies. Bonds backing mortgages with 7% down? 37% of which were interest-only? Ugh. How transparent that would’ve been to investors, maybe we’ll learn more soon.
Bill Duncliffe
Harvey Silverglate wrote…”a large measure of the blame for the meltdown goes to our government, that allowed the casino to proceed and that even provided low-interest-rate money to help finance it.”
That is a policy rant that has no bearing on the case @ hand w/Goldman.
I think this case may rest on far more fundamental grounds. For a registered security, such as a mutual fund, the failure to disclose the role of an individual who first constructed a portfolio and also had sizable bets against that same portfolio would almost certainly be a fraud.
I believe the securities in question here were private placement vehicles for which there are no such disclosure responsibilities. So the question would become can an organization be charged with fraud that had no legal obligations in the matter.
Moral obligations clearly existed but that train and Goldman are on different platforms.
Almost certainly the SEC is seeking to re-establish a tough cop on the beat reputation. But they are far from the only body that has culpability in the great meltdown.
Steve Stein
This is my simplified view of what happened:
1. Goldman Sachs created CDOs by bundling bad loans
2. G S got a rating agency to give it a good grade
3. G S then found a bunch of suckers to buy the CDOs
Step 1 isn’t illegal. It might even be a good thing, aggregating the risk.
Step 2 is the real problematic part, depending upon the “independence” of the rating agency. Here’s where a lot of the fraud occurred, imo.
Step 3 is just salesmanship. 🙂 OK, there was a lot of misrepresentation involved (see step 2). But isn’t that just advanced salesmanship?
There’s a lot of WRONG there, no doubt. Is any of it illegal? (I think the problem of the “independent” rating agency in step 2 used to be illegal, but it was legalized during the deregulation of the past 30 years.)
The court will take up the legality question. But there OUGHT to be laws against it, and this makes a good test for any proposed financial regulation.
Dan Kennedy
@Steve: Looks to me like you’re right on target. Wishing that it were illegal doesn’t make it so.
What I don’t get is the notion that this is all designed to produce political support for the financial-regulation bill. It could just as easily be used to argue that we already have sufficient laws on the books.
Ben Rivard-Rapoza
“…a large measure of the blame for the meltdown goes to our government, that allowed the casino to proceed and that even provided low-interest-rate money to help finance it.”
Yes, everyone loves easy money… until the latest bubble bursts.
Steve Stein
Dan, I think if the law on this is so unclear that there’s a question about the legality of G-S’s conduct, we need new law.
BP Myers
@Steve said: I think if the law on this is so unclear that there’s a question about the legality of G-S’s conduct, we need new law.
Unless the SEC is simply grandstanding — possible, but unlikely, given their already shattered reputation — then their lawyers believe existing law was indeed broken. Would they have brought the case otherwise?
Wouldn’t an unsuccessful prosecution on such a high-profile case almost doom them, to be replaced, no doubt, with another toothless acronym?
As fun as it is to hear the opinions of pundits and first amendment lawyers and yes, even schlubs like me, I’m gonna go with the SEC on this, that Goldman did indeed engage in illegal behavior, until proven otherwise in court.
Bob Gardner
@ Dan “What I don’t get is the notion that this is all designed to produce political support for the financial-regulation bill.”
I think you got it exactly right. There doesn’t seem to be anything to back up Silverglate’s conspiracy theory, except that he wishes it were true.
Steve Stein
@BP – “their lawyers believe existing law was indeed broken. Would they have brought the case otherwise?”
True. But Silverglate (and Simon Johnson) have some good points as well.
I would hope for a law that made this case clear-cut. As long as there are plausible arguments to the contrary, the law is insufficient as written.
(just the opinion of one more schlub)
Mike Benedict
I’m heavily influenced by Michael Lewis’ reporting on this, but he argues convincingly that the culpability comes down to lenders (i.e., the banks) ignoring the historical standard for lending money: can it be repaid? (He details some remarkable instances of egregious behavior, such as a migrant worker with $14,000 a year in income receiving a loan for $750,000.) One can criticize Congress, government agencies, and many others, for their roles, and certainly they played parts, but it’s hard for me to get past that simple and utterly disregarded concept.
Goldman has become the poster boy for bad behavior but it wasn’t the first, btw, to sell CDOs, just the most prominent of those that did and are still standing, and because it has regained its financial standing while its competitors remain weakened.
So, how to deal with all this? One step would be to lock down the lender to the loan. In short, you underwrite the loan, you hold it until full maturity. That forces the lender to measure its own risk, as opposed to allowing it to game the system by offloading that risk elsewhere. Second, require banks to be banks, and hedge funds to be hedge funds, and never the twain shall meet. What’s come clear is that Wall Street investment banks were betting against their own customers. That can’t happen. Third, require the CEOs of any company selling a “financial instrument” to testify under oath annually as to what, exactly, that instrument is. As has been shown time and again, the heads of these banks have NO clue as to what is going on in their own house. So if they can’t explain it, and in simple terms, they can’t sell it.
Steve Stein
@MikeB – “the heads of these banks have NO clue as to what is going on in their own house”
I don’t think this the case here. Someone at G-S recognized the “opportunity” created by the ridiculous loans you cite, and created an instrument specifically designed to bet that those loans would fail, and confuse (or co-opt) the ratings companies so they would ignore the aggregated risk of the loans.
Why would the heads of G-S be unaware of this?
BTW, I think your second and third remedies are good ones. The first might choke the mortgage market too much, in my (relatively uninformed) opinion.
Mike Benedict
@Steve Stein: I base my opinion on Lewis’ “The Big Short,” where time and again, it was shown that not only did the heads of the companies not understand what their employees were selling, most of the lower executives didn’t either.
The evidence, too lengthy to list here, runs the gamut from direct quotes to flagrant disregard for internal caps on leverage ratios to the vast underestimation of risk exposure (Merrill Lynch, e.g., first said they had $7B worth of losses due to subprimes, then restated it: $60B. That’s not an accounting mistake, that’s a misunderstanding of what product it even owned). Finally, all the banks shared this traits: They sold CDOs, then turned around and bought them. If the banks that had sold CDOs understood what was really in them — billions in debt that had no chance of being repaid — they would never been so foolish to buy them back.