by Prins, Nomi
The Mexican Bailout
By January 30, 1995, Mexico’s reserves had shriveled to $2 billion, from $24.4 billion a year earlier.87 Rubin proclaimed, “Mexico has about forty-eight hours to live.”88 The next day, President Clinton invoked his emergency powers to extend a $20 billion loan to Mexico from the Treasury Department’s Exchange Stabilization Fund. It was just one part of the full bailout, but it was the part that Rubin could push and Clinton could approve immediately without going through Congress.
Heavy hitters like BankAmerica, Chase Manhattan, Chemical Banking, Citicorp, Goldman Sachs, and J. P. Morgan, who learned nothing from the first LDC debt crisis—except that the government would help them contain losses—accounted for nearly 74 percent of Latin American exposure, or $40.4 billion.89 The bailout saved them, and later enabled them to buy Mexican banks that were weakened as a result. A decade later, foreign banks, led by Citigroup in the United States, owned 74 percent of Mexican financial assets, more external ownership than in any other country.
The backlash against Rubin was immediate. Accusations that he would personally benefit from what became a $51 billion bailout package traversed Congress. Before a congressional panel on February 23, 1995, Rubin, who had made $26 million in his last year at Goldman Sachs, retorted, “What Goldman Sachs has to do with Mexico is of no interest to me.”90
But that wasn’t quite the truth. Rubin’s command of Goldman had coincided with its bulking up on Mexican deals. In his February 28, 1995, address to the House on the matter, Indiana Republican Dan Burton pointed out, “Goldman Sachs was the largest United States underwriter of Mexican bonds . . . [with] $5.17 billion in investments made in the Mexican markets, more than double . . . the next two highest companies.”
On March 9–10, 1995, the Senate Banking Committee held hearings on the administration’s use of funds to bail out Mexico and whether it caused the crisis or exacerbated it.91 Those investigations went nowhere. The committee acknowledged connections between the Treasury and Mexico, but it all floated away as hot air from a leadership claiming to have taken appropriate action. Rubin had a clear conflict of interest—but was never held accountable.
The Mexican bailout stabilized the bankers’ positions. Rather than the losses they would have booked without it, Citicorp posted a $3.5 billion profit for 1995, the most in history by a US bank. In November of that year, it negotiated a new headquarters building in Mexico City, with 85,000 square feet of office space.92 (Chase Manhattan recorded a $2.46 billion in net profit for 1995.)
In October, President Zedillo visited the White House to discuss the success of NAFTA and the bailout. In a joint press conference, Clinton addressed the bailout: “I did it because I wanted to stop bad things from happening. I did it because I have a vision of what our partnership will be in the future. But I seek no special advantage for the United States and certainly no influence over the internal affairs of Mexico.”93 As a result of the US bank bailout, Mexico was forced to undergo a $135 billion bailout of its own banks in the late 1990s. Furthermore, the bailout did nothing to help Mexican citizens. Instead, it extended the cause of financial liberalism and saved US banks with Mexican exposure from potential losses.
In February 2010 Zedillo became a member of Citigroup’s board of directors.94
Bankers Forge Ahead
Rubin and the bankers resumed their focus on domestic deregulation as if nothing had happened—indeed, as if deregulation was needed to combat such international economic strife. In May 1995, Rubin resumed warning that the Glass-Steagall Act could “conceivably impede safety and soundness by limiting revenue diversification.”95
Banking deregulation was still inching through Congress despite the Mexican crisis. As they had during the Bush administration, both the House and Senate Banking Committees had approved separate versions of legislation to repeal Glass-Steagall. Conference negotiations had fallen apart, though, and the effort was stalled.96
By 1996 other industries, representing core clients of the banking sector, were being deregulated. On February 8, 1996, Clinton signed the Telecom Act, which killed many independent and smaller broadcasting companies by opening a national market for “cross-ownership.”
Deregulation of energy companies that could transport energy across state lines led to blackouts in California and a slew of energy derivatives trades that further crushed the economy. Before deregulation, state commissions regulated companies that owned power plants and transmission lines, which worked together to distribute power. Afterward, these could be divided and effectively traded without uniform regulation or responsibility to regional customers.
The number of mergers and stock and debt issuances ballooned. As industries consolidated and ramped up their derivatives transactions and special purpose vehicles (off-balance-sheet, offshore constructions tailored by the banking community to hide the true nature of their debts and shield their profits from taxes), bankers kicked into hyperdrive to generate fees and create related securities and deals. Many of these later blew up in the early 2000s in a spate of scandals and bankruptcies.
Meanwhile, bankers ploughed ahead with their advisory services, speculative enterprises, and deregulation pursuits. President Clinton and his team would soon provide them an epic gift, all in the name of US global power and competitiveness.
CHAPTER 18
THE LATE 1990S: CURRENCY CRISES AND GLASS-STEAGALL DEMISE
“Today I am pleased to sign into law S. 900, the Gramm-Leach-Bliley Act. This historic legislation will modernize our financial services laws, stimulating greater innovation and competition in the financial services industry. America’s consumers, our communities, and the economy will reap the benefits of this act.”
—President Bill Clinton, November 12, 19991
DURING THE SECOND HALF OF THE 1990S, THE FINANCIAL, TELECOM, AND ENERGY industries accumulated $4 trillion in bond and loan debt, eight times the amount of the first half of the decade. Debt issuance from 1998 to 2000, the height of the stock bubble, was four times what it had been from 1990 to 1998, and six times more for the energy and telecom sectors.2 The financial sector issued $1.7 trillion in loans to itself.3
The frenzy of consolidating and speculation pushed the stock market to greater heights. On October 14, 1996, the Dow Jones closed above 6,000 for the first time in history.4 The economy appeared to be buzzing along as well. And no one was looking beneath the surface of all this newfound market-connected, banker-incited, policy-enabled wealth to inspect the debt being accumulated to subsidize it all.
Against the backdrop of the soaring stock market and bubbling economy, on November 5, 1996, President Clinton dispatched Republican presidential candidate Bob Dole to recapture the White House. Clinton gained just 49.2 percent of the popular vote, but increased his Electoral College total to 379.5
The markets were euphoric, in particular within the telecom and energy sectors, and “dot-com” mania escalated another notch. On December 5, 1996, Federal Reserve chairman Alan Greenspan gave his infamous speech suggesting that “irrational exuberance” could be causing the extraordinary boom in stock prices.6 He did not suggest that inflated merger deals and derivatives trading had anything to do with it.
Public Responsibility Goes Down, Wall Street Bonuses Go Up
The American public lost $6 billion through stock fraud in 1996 alone.7 In addition, commercial banks funneled money into expanding private equity and hedge funds that invested in dot-coms and other stocks. The emergence of these funding relationships was far more significant than the herd psychology of individual investors looking for a deal. Money was plentiful—and as with railroads a century earlier, speculators had to find ways to spend it. The stock market was one place to find startups and “deals”; the other avenues would be in Asia and Eastern Europe.
Before Christmas 1996 (effective March 1997), the Federal Reserve Board issued another precedent-shattering decision. The Fed would permit nonbank subsidiaries of bank holding companies to own investment bank affiliates with up
to 25 percent of their business in securities underwriting (an increase from the prevailing 10 percent).8
This was an expansion of the Fed’s prior relaxing of Section 20 of Glass-Steagall in the spring of 1987 (which occurred by overriding opposition from then-chairman Paul Volcker).9 The latest Fed decision effectively rendered one major cornerstone of Glass-Steagall obsolete. Virtually any bank holding company could issue securities and appear to stay under the 25 percent limit on revenue. It was game on.
In September 1997, the Fed announced it would eliminate more restrictions “to the prudential limits or firewalls” that applied to bank holding companies engaged in securities underwriting and dealing activities, effective October 27, 1997.10 Now, banks could not only issue corporate bond securities; they could also buy entire securities firms.11 Because many target institutions also owned asset management businesses, parent banks could sell stocks and bonds they issued right into those investment portfolios (including pension and retail investor funds). This would ensure that more demand for bubbling shares of stocks stemmed from the new merged entities. The phenomenon that stoked the market was not unlike the one that prevailed during the “money trusts” era at the turn of the twentieth century, when the Morgan group of financiers, by virtue of their joint position atop various firms, could buy securities from one of their firms concocted by another, providing the illusion of heightened demand, which, in turn enticed more external investors.
On that tide of enthusiasm, Sandy Weill acquired Salomon Brothers for $9 billion and merged it with Smith Barney. Travelers president and chief operating officer James “Jamie” Dimon noted, “Merging Smith Barney and Salomon Brothers accomplishes in a short time what it would have taken either of us a considerable time to build.”12 Dimon, who had become CEO of Smith Barney in January 1996, became cochairman and co-CEO of the combined brokerage after the merger.13
As the stock market soared in 1997, so did Wall Street bonuses. On March 13, 1998, the New York Post reported that Weill had banked “a whopping $220.2 million” in 1997 by exercising stock options in “one of the largest paydays in corporate history.” He also received $49.9 million in salary, bonus, restricted stock, and options, almost double his 1996 compensation of $26.8 million. Likewise, Dimon banked $36.8 million by exercising his options.14
These astronomical sums were not even on the same planet as those achieved by bankers in the middle of the twentieth century. The level of public responsibility that bankers felt or exuded—which was already nearly nonexistent by the late 1990s—declined in inverse proportion to the rise in their compensations.
The amount of money that bank CEOs could amass with the advent of stock option growth substantially increased their risk appetite. More simply wasn’t enough. Power had to be infinite. The new game was winner-take-all. One enticing spot in which to make currency and derivatives bets was Asia. Things were going so well in the United States that even the crisis that would result in the region would not curb the bankers’ appetite.
The Asian “Contagion”
As the US markets soared, a major global upheaval occurred when speculators began slamming the Asian markets’ stocks and currencies. In July 1997, a 20 percent devaluation of the Thai baht (to a record low) ignited a pan-Asian economic crisis. The action caused the Thai government to request “technical assistance” from the IMF.15 Bankers stood poised to take related losses on the chin without such subsidization.
J. P. Morgan & Company, an emerging credit derivatives player entangled in the region, took a major hit, posting a 35 percent reduction in earnings in the fourth quarter of 1997 compared to the same period the previous year. But it could have been much worse without the supranational cavalry to bail out the firm’s speculative positions.
The Asian disaster was a byproduct of the moral hazard that the 1994 Mexican peso crisis had produced in the banking community. The $51 billion bailout—upon which Robert Rubin and IMF head Michel Camdessus collaborated ($20 billion from the United States, $18 billion of IMF loans, and $13 billion from the Bank for International Settlements) in return for austerity measures—showed Wall Street that bankers would be protected by the US government from losses at the eleventh hour.16
“Thus bailed out,” observed right-wing commentator Pat Buchanan, “Wall Street’s hot money took off to chase the higher rates of return in Asia, confident that if losses loomed, they had reliable friends at Treasury and the IMF.”17
Asia represented a fresh place to pillage, just as Latin American had during and immediately after the Cold War. As Klaus Friedrich, chief economist at Germany’s Dresdner Bank, put it, “We were all standing in line trying to help these countries borrow money. We would all see each other at the same places. We all knew each other.”18 Derivatives upped the ante.
As rampant speculation and the thirst for expansion again triggered widespread devastation, bankers were getting worried about how the crisis would affect their books.19 Camdessus traveled to Seoul in early December 1997 to negotiate a bailout of Korea. From 1997 to 1998 the IMF gave $36 billion in support to Indonesia, Korea, and Thailand.20 These monies propped up the private bankers’ positions.
Several weeks later the New York Times reported that commercial bankers from Chase, BankAmerica, Citicorp, and J. P. Morgan, along with investment bankers from Goldman Sachs and Salomon Smith Barney, were meeting at the Federal Reserve Bank of New York to discuss ways to prevent further defaults in South Korea and Asia. A separate, more private meeting would be held at J. P. Morgan without regulators.21 There was no reason for banks to take the losses for their practices if they could be subsumed otherwise.
Impeachment and Citicorp
The Asian turmoil barely registered with most Americans. More lascivious problems were unfolding. In January 1998, President Clinton was embroiled in a scandal concerning his relationship with young intern Monica Lewinsky. His denial of a sexual relationship with her led to calls for his impeachment.22 On December 19, 1998, the House of Representatives voted 228 to 206 on the first article of impeachment, accusing Clinton of perjury for misleading a federal grand jury about the nature of his relationship. A second article of impeachment, charging him with obstruction of justice, passed by 221 to 212.
Throughout the year, bankers welcomed the media and political frenzy as a distraction while they focused on their own houses. In late February 1998, Sandy Weill and John Reed embarked upon a transformative financial alliance. After a dinner in Washington, Weill invited Reed back to his Park Hyatt hotel room and proposed corporate matrimony.23 The results of their courtship would irrevocably alter the structure of American banking.
On April 6, 1998, Weill and Reed announced a $70 billion stock swap merger of Travelers and Citicorp to create Citigroup, the world’s largest financial services company. It was the biggest corporate merger in history.24
As Reed put it casually at the press conference, “You know, Sandy had this idea about four and a half weeks ago. He approached me and said, ‘Hey, John, it might make some sense to put our two companies together.’ . . . Sandy and I have known each other about thirty years. . . . And so when Sandy said to me it might be something that we should do, I knew it was worth taking a look at.”25
The proposed merger extended well beyond existing laws. It required Weill and Reed to privately obtain temporary approval from Alan Greenspan.26 Ultimate approval for bank mergers came from the Federal Reserve, but the men used a loophole under the Bank Holding Company Act to get a two-year reprieve before the merger could be disallowed. That gave them ample time to lobby for Glass-Steagall repeal.
Weill and Reed weren’t the only bankers hankering for a union to increase the size and global position of their financial services. They were just the ones who forced the legality of the issue. This was another precedent: in the past there was more discourse between presidents and bankers before such bold moves. Now, mergers between European securities houses and banks were rapidly occurring. Global bank mergers were moving at breakneck p
ace. Between 1960 and 1979, there had been 3,404 bank mergers. From 1980 to 1994, that number swelled to 6,345. But that was nothing compared to the rest of the 1990s. From 1995 to 2000 the number of bank mergers topped 11,100.
The day of the duo’s press conference, CNBC invited the CEOs to talk about “the biggest corporate merger ever.” Their segment foreshadowed their future split before they were even fully together. Host Allan Chernoff asked Weill, “Do you see any potential conflict in actually sharing the top position of the new company?”
Weill replied, “Well, I don’t see any problem in sharing it.”
Reed injected, “Look, I—let’s be straight here. Two people sharing a job is inherently difficult, so I would start out by saying you acknowledge that I’m gonna learn a lot from Sandy and I’m gonna have to change because of that. My suspicion is, he’s gonna find he’ll have to change a little bit, too.”27
That afternoon, the press buzzed about Washington for quotes. Sarah Rosen, deputy assistant for economic policy and deputy director for national economic policy, circulated deregulation talking points for the chairman of the White House Economic Council, Gene Sperling, in preparation for his Washington Post interview. There was no concern that these firms were breaking existing laws. Instead, the talking points read: “The companies . . . say that they ‘expect that current laws restricting bank holding companies from participating in insurance underwriting activities will change in the foreseeable future to make the U.S. more openly competitive in global markets.’ . . . The Administration believes that financial services integration is happening regardless of the statutory barriers, because it makes market sense.”28
Three days later, Rosen circulated an email to the National Economic Council team—deputy director Lael Brainard, who later served as undersecretary of the Treasury for international affairs in the Obama administration; deputy chief of staff Brian A. Barreto; and economic policy and deputy director Sally Katzen—on the impact that the merger announcement might have on “financial modernization” discussions in Washington.
