by Nomi Prins
It would have been insane for any suitor to buy Lehman outright, with its impending mammoth losses. With stunningly convenient timing, it dawned on Thain that since Lehman was toast, his firm would be next on the chopping block. Merrill Lynch was in need of a buyer ASAP, and Bank of America was over Lehman. So, Thain put in a call to Bank of America CEO Ken Lewis but was unsure about proceeding with a Bank of America-Merrill merger. Paulson, on the other hand, knew exactly what had to be done, and he spelled it out for Thain. Thain had to cut a deal, quickly, or Merrill would take its last breath.33
That wasn’t exactly Thain’s version. He told the Financial Times that the Fed and the Treasury “were initially focused on Lehman but grew concerned about us. They wanted to make sure I was being proactive [but] they didn’t tell me to call Ken Lewis.”34
We will probably never know the exact details, although if I had been a fly on the wall, I would have bet that whatever Paulson said was gospel. The Merrill deal, which made Bank of America the country’s largest player in wealth management, was hammered out in forty eight hours.35 The $50 billion takeover was announced just hours after Lehman’s bankruptcy, and after that, there was no way out for Ken Lewis, even when Merrill’s stock kept diving.36 What do you do when you’re up against the Fed and a mini cartel of strong arming Goldmanites, including the treasury secretary, who have you backed up against the wall and are using your own addiction to acquisitions against you? You agree to acquire an investment bank, even though there’s no way you have time to analyze it. Not to excuse the recklessness of the decision to take on a giant mess of a firm, but there’s no way around the fact that Lewis was outnumbered. He wasn’t the only one who sold the future of Bank of America down the river; it was all of the power brokers in that room who may never be held monetarily accountable for the decision.
Six months later, during questioning at the New York City office of Attorney General Andrew Cuomo on February 26, 2009, Lewis stated the obvious. He had been pressured by the best of the best. The Bank of America Board of Directors had strongly considered scrapping the deal in mid December by invoking a material adverse change (MAC) clause, due to mounting losses on Merrill’s balance sheet, then at $12 billion and later reaching $15 billion. Paulson would have none of it.
As Lewis recalled, he met in Washington, D.C., that evening with Paulson, Ben Bernanke, and a bunch of Treasury Department and Fed officials. “At the end we were basically told to stand down,” Lewis said. After a follow up call to Paulson that weekend, which found the treasury secretary riding his bike, Lewis got the sense that if he called for the MAC clause, he’d be out of a job.37
But Paulson wasn’t all tough guy. He and Fed chairman Ben Bernanke promised Lewis they would provide taxpayer money to help out with the takeover of Merrill, but it had to be done in secret. “I just talked with Hank Paulson. He said there was no way the Federal Reserve and the Treasury could send us a letter of any substance without public disclosure which, of course, we do not want,” Lewis wrote in an internal Bank of America e mail released by Cuomo’s office.38 Lewis went on to tell Cuomo’s office that it wasn’t the threat of the government wiping out the board and management, per se, that led them to drop the MAC clause idea, but that they changed their minds because Paulson was willing to go that far. On July 9, 2009, Ben Bernanke would feel the heat for this episode when seventeen congresspeople sent a letter to President Obama requesting an investigation into Bernanke’s role in the deal.39
At any rate, the Treasury had already invested $10 billion in Merrill and $15 billion in Bank of America with a first shot of TARP money in October.40 And the money kept coming.
By December 2008, when Lewis wanted to back out of the Merrill deal, as it became clear what a turkey the firm was (shareholders would be the last to know), Paulson stressed that Merrill had to be saved and that Bank of America had to be the hero, to prevent what Lewis called “serious systemic harm.”41 Separately, Paulson called Lewis to Washington and days later informed him that he and his board would be replaced if Bank of America backed out.42 Paulson is a consummate investment banker, and that’s what they do—they persuade companies to get hitched. But Wall Street isn’t interested in the follow up or whether those companies stay married, because their fees are paid on the close of the deal. Yet the public’s money kept this merger financed, even as the deal’s value plummeted. So, we kept pouring money in but never collected our fees. Every time Merrill hemorrhaged, leading up to the January 1, 2009, deal closing date, the taxpayer was there.
Per the secret agreement cut between Bank of America and the government, the dough kept rolling in even after the deal closed. On January, 16, 2009, during the merger’s honeymoon period, the Treasury dumped another $20 billion of TARP money into Bank of America and along with the FDIC’s help, agreed to cap “unusually large losses” on $118 billion of assets, mostly from Merrill, two weeks after the deal went through.43 To be clear, that money went to seal the Merrill deal, not to loosen credit for the public.44 On April 29, 2009, Bank of America announced that its shareholders had demoted Lewis to president and CEO, stripping him of his duties as chairman.45 It was a first for the shareholders of a Standard & Poors 500-listed company.46
Thain, meanwhile, was quite impressed with himself for keeping Merrill Lynch, the firm that lost $27 billion through 2008, from going bankrupt.47 So he did what any investment banker would do after completing a large merger: he asked the board for a $10 million bonus. Where would that money come from if his company was drowning in red ink? Well, there was Bank of America, which had just gotten that $15 billion of TARP money six weeks earlier. He could add the bonus to the $15 million cash sign on bonus he got when he had joined as CEO less than a year earlier.48
New York attorney general Andrew Cuomo sent an icy worded letter to Merrill Lynch’s directors, as well as to several other banks on October 29, 2008, saying, “We will have grave concerns if your expected bonus pool has increased in any way as a result of your receipt or expected receipt of taxpayer funds from the Troubled Asset Relief Program.”49
Cuomo’s sentiment, backed by a whole lot of negative public opinion, managed to convince Thain that requesting a $10 million bonus was a “shocking” (read: boneheaded) idea. Thain reversed course at a December 8 board meeting, suggesting that neither he nor some of the other senior execs get a bonus.
After that meeting, Merrill issued a press release, saying, basically, that Thain had thought about it again and decided he’d be okay without the extra ten mil. A few other board executives agreed that they, too, could do without their bonuses. The board was pleased and stood by their main man.
“The Board accepted Mr. Thain and his management team’s request and applauded the Thain led management team’s superb performance in an exceptionally challenging environment,” stated John Finnegan, the chairman of Merrill Lynch’s Management, Compensation and Development Committee.50
Still, Merrill paid out a total of $3.6 billion worth of executive bonuses for 2008.51 In late January, Cuomo subpoenaed Thain and Bank of America chief administrative officer J. Steele Alphin to testify about those bonuses, which were given out just before Bank of America took over Merrill.52 Cuomo later opened a probe into the timing of Merrill’s other bonuses. On February 10, 2009, he sent a letter specifically about Merrill to Barney Frank, the chairman of the House Committee on Financial Services, stating, “On October 29, 2008, we asked Merrill Lynch to detail, among other things, their plans for executive bonuses for 2008.” But Merrill didn’t provide any details. Instead, Thain moved up the Merrill bonus payment date to December, instead of the usual late January or early February time frame, in conjunction with a $15.3 billion fourth quarter loss and before the Bank of America takeover.53 The nearly $4 billion in Merrill bonuses went to only seven hundred people, the top four of whom bagged $221 million.54 Cuomo’s investigation continues as of this writing.
One Goldman Sachs vice president told me that because Thain managed to secure a bunch of
money for himself and his friends at Merrill as the firm was dying, but before he sold it at its relative highs to Bank of America (whose employees did not fare quite so well), he retains kind of a hero status. It was classic mergers and acquisitions gamesmanship, the stuff the 1980s corporate raiders would have applauded.
Doesn’t that kind of heroism make you feel better now that you know where your taxes are going?
Two Hundred Billion Isn’t What It Used to Be
The same weekend in September 2008 that Lehman declared bankruptcy, AIG was also facing failure and couldn’t get a single private bank to give it a loan. But Paulson’s response to AIG was radically different from his indifference toward Lehman. He got Fed chairman Ben Bernanke to set up a meeting with House and Senate leaders to explain how he was going to rescue the company. Why? Among other things, he neglected to ever mention publicly that Goldman had $20 billion worth of credit derivative transactions tied up with AIG.55 This time, no one suggested a private bank taking on AIG’s mess. That would have been crazy. That’s what the public till was for. The meeting began at 6:30 P.M. the following Tuesday night, September 16, and in one whole hour they reached an agreement to give AIG an $85 billion bailout (which was reduced to $60 billion on November 10). It was the first of four helpings of public pie that, by June 2009, totaled roughly $182 billion.56 And with that, the U.S. government began backing AIG’s credit bets and the corporate clients to whom it owed money.
You don’t rise through the toughest trenches of investment banking without being persuasive, and Paulson is very persuasive. He knew that the best way to get what you want is to confront the person you want it from. So he did. According to documents compiled by Wharton School lecturer Ken Thomas, in response to a Freedom of Information Act request for Bernanke’s calendar, Bernanke was one of the people Paulson confronted a lot. In just the first year that Paulson was in D.C., the two men met fifty eight times. John Snow didn’t have quite the same relationship with Bernanke. They met only eight times during the five months that their terms overlapped.57 Of course, Snow didn’t have the misfortune of dealing with a banking meltdown. Paulson’s strategy was simple. Willing to be complicit, Bernanke held the bigger purse strings. The Fed also operated in greater secrecy, so the combination of Fed and Treasury sponsored bailouts would inject more money into the banking system than just the Treasury Department alone could. And the major players in the banking system were Paulson’s people.
Three days after the AIG bailout began, Paulson promised the public that he was formulating a “bold plan.” After going on about “the clogging of our financial markets,” he said he would “spend the weekend working with members of Congress of both parties to examine approaches to alleviate the pressure of these bad loans on our system, so credit can flow once again to American consumers and companies.” His hope was that Congress would use the legislative process to have the government take on troubled mortgage assets, and, as we discussed earlier, he got that wish.
It was all so bizarro Wizard of Oz. You can find your way back to Kansas, Dorothy, just as soon as I get all these assets out of your Yellow Brick Way. “The underlying weakness in our financial system today is the illiquid mortgage assets that have lost value as the housing correction has proceeded,” said Paulson. “These illiquid assets are choking off the flow of credit that is so vitally important to our economy.” He did not comment about the amount of leverage his former firm and others had put on top of those assets, which had always been the bigger problem.
Paulson promised that the federal government would remove these illiquid assets that were “weighing down our financial institutions and threatening our economy.” As item number two on his agenda, he also vowed to provide credit relief by giving banks more money to play with, but the money never made its way to the consumer credit market.58
The Treasury Department thought up different ways to deal with the bad assets. The idea of having an auction was one.59 Unfortunately, to run a proper auction you need interested buyers, and where were they going to find those? Plus, the banks would then be forced to reveal their true losses, and no bank wanted to be the first to say its assets were junk and risk the kind of balance sheet exposure it had spent years lobbying against.
The Wall Street men who’d been in the room with Paulson, Cox, and Bernanke that week in mid-September had billions of dollars of toxic assets on their books, with no buyers, and they thought it’d be great if the Treasury could buy them. So, over a weekend, Paulson put together a little three page memo he sent to the Senate Banking Committee on September 23, 2008, outlining his plan to have the Treasury purchase those toxic mortgage backed assets right off the books of the banks that’d made them in the first place.60 It takes most of us more time to fill out a mortgage or student loan application.
Paulson’s three page memo was the seed of what would become known as TARP, or the Troubled Asset Relief Program, which was signed into law on October 3, 2008. By April 2009, TARP would come to be divided into twelve different programs.
It Was Never about Fixing the Crisis
Paulson summoned up his best banker convincing-the-client skills to swindle Congress and the nation that TARP was a good thing.61 “Let me make clear—this entire proposal is about benefiting the American people, because today’s fragile financial system puts their economic well being at risk,” Paulson said before the House Committee on Financial Services on September 24, 2008.62 Sure, there were some kinks, a few uncomfortable moments. His first incarnation of the TARP would have the government buying up these toxic assets. His friends made a series of bad bets, and now he wanted the government to cover their losses. What could be simpler?
A day earlier, Paulson and Bernanke sat in front of the Senate Banking Committee. Committee members pressed them on this idea of buying risky and toxic mortgage backed assets, rather than capitalizing the banks. “If a company is willing to accept that risk, manage those risks themselves, they do not need a bailout,” Senator Harry Reid (D-NV) said. To which Paulson resolutely replied, “Putting capital into institutions is about failure. This is about success.”63
Why would Congress want to stand in the way of success? And so the Troubled Asset Relief Program was born. From the tiny memo that Paulson presented to Congress on September 20 sprung a 451 page piece of legislation.64
Let’s just pause and consider this fully formed Athena for a second.65 How could anything that long and created that fast be that good—or, more to the point, be that thoroughly read—by members of Congress? Or by the president? And how could ordinary Americans possibly absorb it, let alone have a meaningful debate about it? This was the kind of rush job that comes out of fear and an almost military strategy to strike before anyone notices what you’re really doing. (Sound familiar? You’d think, after living through two terms of George Bush and the weapons of mass destruction debacle, that Congress would have been dubious of rush jobs.) But remember, Paulson’s legislation was brought down from on high just four weeks before the November elections. Senators and representatives were fearful that the economy would continue to tank and, worse, that their constituents would blame them. They were right to worry. The Dow was putting in daily triple digit dives, credit had ceased to flow, and everyone from economists to journalists to ordinary citizens was talking about the reality of this worst recession since—shudder—the Great Depression. Congress did have to do something. But throwing money at the belly of the Wall Street Beast, rather than providing credit help to citizens, from mortgage to auto and student loans, was precisely the wrong focus of money and attention. Unfortunately, detailed or patient analysis didn’t take precedent over keeping a seat. The banks, not the people themselves, would get public help with their bad assets.
Here’s how Naomi Klein, the author of The Shock Doctrine, put it to me: “I don’t think the financial sector bailout has ever been about fixing the problem; it’s been about using the crisis as a pretext for the greatest transfer of public wealth into private hands in
monetary history. That’s not to say that there isn’t a crisis, just that the people in charge are less interested in fixing it than in taking care of their friends who take care of them. It’s straight-up pillage, what a kleptocratic regime does when it panics.”66
The House wasn’t all that gung ho as it considered the piece of bailout legislation the first time around. Paulson (literally) got down on bended knee before House leader Nancy Pelosi, begging her not to “blow it up” by withdrawing her party’s support. The gesture would be amusing if it wasn’t so sad. Drama aside, the first incarnation of TARP got rejected on September 29, 2008, which precipitated the worst single-day drop in two decades for the stock market.67 That, in turn, scared the hell out of all of them. The market, or more precisely, the financial stocks in the market, wanted a bailout. And they were going to get one even if they had to bleed out all their share value in the process. The Senate passed nearly the exact same act two days later, adding only an increase in FDIC insurance for deposits to $500,000 from $250,000 and $150 billion in tax breaks for individuals and businesses.68
