It Takes a Pillage: An Epic Tale of Power, Deceit, and Untold Trillions

by Nomi Prins

  Senators, after all, always need more funding money for their campaigns; Wall Street, even with the mounting troubles, was still a good place to find a few bucks.69 For the 2008 election cycle, Senate Banking Committee chairman Chris Dodd (D CT) got $132,050 from the banking and mortgage sectors, the most of anyone not running for president that year.70

  The market dive on September 29 and Paulson’s increasing pressure for Congress to act (or else!) were enough to get another version passed by the House of Representatives on October 3. President George W. Bush signed the resulting Emergency Economic Stabilization Act of 2008 into law immediately.71

  “By coming together on this legislation, we have acted boldly to prevent the crisis on Wall Street from becoming a crisis in communities across our country,” Bush said with his typical lack of irony, less than an hour after signing the bill.72 If you squinted, you could almost make out a “Mission Accomplished” sign behind him.

  Paulson was relieved. He’d come through for his team—that is, his fellow Goldmanites and the other gilded members of Wall Street’s elite. To some, he was a national hero. And he milked the notion with pointed rhetoric: “The broad authorities in this legislation, when combined with existing regulatory authorities and resources, gives us the ability to protect and recapitalize our financial system as we work through the stresses in our credit markets.”73

  Three days later, on October 6, Paulson brought in the assistant treasury secretary Neel Kashkari (who was—surprise—his former protégé and a VP at Goldman) to oversee the plan that would rescue the American economy by supporting its flailing banks.74

  But, as we shall see, what Paulson said and what he did were very different things, although he always took advantage of the situation at hand. On October 12, 2008, he did a one eighty on the success of buying junky assets, after attending the G7 Finance Ministers and Central Bank Governors meeting in Washington, D.C. “We can use the taxpayers’ money more effectively and efficiently—get more for the taxpayer’s dollar—if we develop a standardized program to buy equity in financial institutions,” he said.75 So much for fear of failure.

  Wall Street was in a credit bind. Bank losses were going to be ugly. So financial firm leaders tried to play it both ways: if capital was on the table, they’d take it. But for months they’d continue to push for the elimination of their toxic assets.

  A skeptical but hopeful America replied, “Really, how is this going to work?” Simple. We, the federal government, are first going to buy billions of dollars of preferred equity shares in the banking sector. “Preferred what?” said America. Preferred equity—the kind of stock that gives anyone holding it first dibs on higher dividend payments, though without the voting rights of common stock.76 “But what about our mortgage payments?” America asked. And there was silence.

  They Encouraged Banks to Sit on Their Money

  In the coming months, the federal government would open its big wallet—or rather, all of our small wallets—and begin dumping money into (or capitalizing) a growing number of floundering companies. The Troubled Asset Relief Program would have its hands full before a single dime went to shoring up America’s home loans. Yet no matter how much equity capital was injected into the top of the banks’ balance sheets, the failure of subprime loans would continue to crumble the leveraged pyramid of securities built on them. The essence of the bailout left this most essential problem unfixed.

  Paulson promised that injecting capital into the banks would “increase the flow of financing” for the country.77 It’s hard to imagine he really meant that, even though he sounded sincere at the time. You see, behind his department’s words were the words within the act. The Emergency Economic Stabilization Act amended the Financial Services Regulatory Relief Act of 2006, which had extended the time the Fed had to pay interest on balances held by or on behalf of banks.78 The reason for that extension was that paying interest on reserves reduced the annual amount of money that the Fed received from the Treasury for its Treasury securities portfolio, which before this crisis reflected the secure collateral that banks had to post in order to borrow from the Fed. In turn, the Fed gave the related interest from those treasuries back to the Treasury Department each year. Pushing this practice out to a later date was a way of helping to stabilize the growing deficit.79 But, the Emergency Economic Stabilization Act accelerated making those reserve interest payments to October 1, 2008.

  The message: It was more important to pay banks to sit on reserves than to spread money in the form of credit throughout the economy or balance the federal budget.80 The policy of paying interest on reserves had the exact opposite effect that it was supposed to have had. Rather than easing credit for the public, as Paulson declared it would when touting the bailout plan, the policy caused banks to lend less money. On January 13, 2009, Financial Week wrote about Bernanke’s speech at the London School of Economics, in which he admitted the problem, stating, “A huge increase in banks’ excess reserves is currently stifling the Fed’s monetary policy moves and, in turn, its efforts to revive private sector lending.”81

  Of course, banks were sitting on their money! Why wouldn’t they? Basically, banks had two choices:1. Hoard excess reserves and get paid interest on them.

  2. Loan the excess to borrowers and take the risk of not getting paid interest on them.

  It doesn’t take a genius to figure this one out. In the summer of 2008, before Paulson and the Fed started dreaming up expensive acronyms for bank subsidy programs, American banks kept $44 billion in reserves with the Fed. By the end of 2008, that number soared to $821 billion. And by May 2009, it hovered just below $1 trillion.82 Meanwhile, Americans had a hell of a time getting loans, thanks to Paulson and his powers of persuasion.83

  They Spent It on Mergers and Paying Bills

  The banks warmed quickly to the government purchasing equity stakes, providing that the Treasury wouldn’t squeeze out existing shareholders by diluting their shares, and that there wouldn’t be a whole lot of strings attached on things like executive pay.

  Paulson, to put it bluntly, helped his pals. It helped his cause that he wasn’t the only one doing it. International governments were also buying shares or injecting capital directly into their flailing banks, particularly in Britain.84 In prepared remarks on October 10, 2008, Paulson made sure to confirm that the government would buy only “nonvoting” shares in companies,85 meaning the government wouldn’t have the right to demand anything in return. Thus, Paulson maneuvered the most expensive transfer of risk from Wall Street to Washington ever. Once again, however, his promises were empty. Why did he agree to let Washington shoulder the enormous risks of Wall Street? He said it was so that banks would be able to lend more money to the American public. But this wasn’t to be the case.

  The only banks that saw a noticeable increase in lending were the ones whose books were more consumer oriented and less burdened by stupid trades, such as U.S. Bancorp and SunTrust Bank (although they were having loan related problems anyway).86 The bigger supermarket banks—the ones that got the most bailout money, such as Bank of America and Citigroup—posted declines in lending throughout the fall of 2008. Think about that a moment, because it is important. If we wanted the TARP money to actually go toward more loans to regular citizens, we would have given it to the banks that were more consumer oriented or directly into consumer loan balances.

  JPMorgan Chase’s attitude toward TARP funds demonstrates the absurd logic behind the bailout. CEO and chairman Jamie Dimon said that his firm didn’t need TARP money and didn’t want to appear weak but agreed to take it in the end, in return for no rules attached.87 He made it sound as if he was taking the $25 billion (plus issuing $40.5 billion of FDIC-backed debt) as a favor: “We did not think JPMorgan should be selfish or parochial and try to stop what is good for the system.”88

  Just four days after agreeing to take the $25 billion, Dimon admitted that the bank had no intention of using the money to lend. He said, “I would not assume that we a
re done on the acquisition side just because of the Washington Mutual and Bear Stearns mergers. I think there are going to be some great opportunities for us to grow in this environment, and I think we have an opportunity to use that $25 billion in that way and obviously depending on whether recession turns into depression or what happens in the future, you know, we have that as a backstop.”89

  In other words, “Thanks, taxpayers! Send me an invoice for your part of our growth. The check will be in the mail. We’ll just keep getting bigger, because that strategy is working out so well for Bank of America and Citigroup. Then, we’ll come back for more help.”

  In the end, that mismatch of intentions wasn’t the main problem that melted banks and dragged down the economy. It was the lack of transparency, not only with respect to TARP, but also among banks in the financial community. They lost all trust in one another, and credit seized up completely. And no amount of government money would change that.

  Then, as it turned out, Paulson had misspent the TARP money and lied about it.

  They Secretly Gave Away Billions

  On February 5, 2009, as banks continued to deteriorate, Elizabeth Warren, chair of the Congressional Oversight Panel for TARP, spoke about Paulson’s and the Treasury Department’s lack of accountability before the Senate Banking Committee.

  She had sent a letter to Paulson following her panel’s first report on December 10, 2008, which was the basis for her second report on January 9, 2009. All that she wanted from him were some answers to a few basic questions, such as, “What exactly did you do with the TARP money, Mr. Secretary?” He just didn’t feel like answering her.

  On February 5, 2009, Warren said that “many of the Treasury’s answers were nonresponsive or incomplete,” and that the “Treasury particularly needs to provide more information on bank accountability as well as transparency and asset valuation.” She also wanted the Treasury to articulate a better strategy for dealing with foreclosures than Paulson had adopted when he was treasury secretary. It was almost as if she was expecting cooperation—from a bank leader! She clearly didn’t know whom she was dealing with.

  The worst part of her panel’s findings was that Paulson had overpaid the banks with the TARP money. Yep. Not only had TARP money been used to buy preferred shares in banks that were losing value, but Paulson wound up paying more than the shares were worth.

  As Paulson made his sales pitch, he had promised that all transactions using TARP funds were “made at par—that is, for every $100 injected into the banks, the taxpayer received stocks from the banks worth about $100,” Warren said. That’s not the way it went down, though. Warren revealed that for the first $254 billion paid out of TARP, the Treasury received assets worth only $176 billion: a shortfall of $78 billion. Republican senator Richard Shelby (R Alabama), the only member of the GOP to vote against the Glass Steagall repeal in 1999, asked Warren, “Isn’t that a terrible way to look after the taxpayers’ money and to make purchases anywhere?”

  Warren replied, “Senator, Treasury simply did not do what it said it was doing.”

  “In other words, they misled the Congress, did they not?” Shelby asked. “The Bush administration, Secretary Paulson, Chairman Bernanke, misled the people, the Congress and the people of the United States.”

  “They announced one program and implemented another,” Warren agreed.90 Meaning yes, they sure did mislead Congress. The rest of us, too. But actually, they didn’t simply mislead Congress, Senator Shelby—they stole $78 billion. It’s one thing to divert public funds to TARP but quite another to give your friends double helpings. By overpaying for shares, Paulson misappropriated a chunk of public money. No sane customer would pay $254 for a $176 item.

  The Congressional Oversight Panel report released on February 6 underscored Warren’s testimony of the previous day. Paulson had “assured the public that the investments of TARP money were sound, given in return for full value,” according to the report, “stating in October, that ‘This is an investment, not an expenditure, and there is no reason to expect this program will cost taxpayers anything.’ ” Ha! He really got us that time, right?

  The report notes that “In December he reiterated the point, ‘When measured on an accrual basis, the value of the preferred stock is at or near par.’ ”91

  The numbers tell a very different story. In eight of the ten biggest transactions, for each $100 the Treasury spent, it received assets worth about $78. In the other two transactions, which were with riskier banks, for each $100 spent the Treasury received assets worth approximately $41! Overall, in the top ten transactions, for each $100 spent, the Treasury received assets worth approximately $66. It overpaid by a full third. That figure doesn’t even take into account the fact that the first $125 billion of transactions were down $54 billion in value by April 10, 2009. Although we were obsessed with figuring out where Madoff’s money had gone, wouldn’t it be even nicer to at least know where that $78 billion of our taxpayer money went? And, when we’re done figuring that out, how about the fact that the rest of the Treasury’s “investment” in banks had deteriorated so much after it was made?92

  One transaction is particularly notable for its outrageous absurdity. On October 28, 2008, Goldman Sachs received a capital injection of $10 billion under the Capital Purchase Program arm of TARP. This was the third largest one time gift of TARP money in 2008, tied with Morgan Stanley. The congressional valuation concluded that the Treasury paid $10 billion for stock worth $7.5 billion. And these guys are supposed to be good at math. Amazingly, the discrepancy for payments to Morgan Stanley, Citigroup, and PNC was even higher. But even more amazing was that around the same time, Warren Buffett had invested $5 billion in Goldman. Except that in his case, “For each $100 that Berkshire Hathaway invested in Goldman Sachs, it received securities with a fair market value of $110.”93

  So, let’s get this straight. Buffet pays $100 and gets $110 worth of stock. Paulson pays $100 and gets $75. Because no one screws with Warren Buffett, not even Goldman execs. With their old leader, however, it’s perfectly okay. After all, it’s only taxpayer money. And, a hell of a lot of it was at risk.

  On February 24, 2009, Special Inspector General Neil Barofsky testified before the House Subcommittee on Oversight and Investigations, stating that the “total amount of money potentially at risk in these programs [new programs Treasury announced at that time, as well as the TARP related programs that are funded in part by the Fed and FDIC] was approximately $2.875 trillion. These huge investments of taxpayers’ money, made over a relatively short time period, will invariably create opportunities for waste, fraud and abuse for those seeking to profit criminally and thus require strict oversight.”94

  Note: Barofsky’s estimate didn’t even include the $400 billion that the Treasury had spent on backing up Fannie Mae and Freddie Mac, an additional financing program to provide cash to the Federal Reserve or the Exchange Stabilization Fund, pre TARP. It also left out the $50 billion “special deposit” to the Federal Reserve Bank of New York on October 7, 2008 (see the bailout tally reports noted in the appendix of this book for further details).95

  No Money for Anyone Else

  Even though Paulson held a public office and many members of the public were having their homes foreclosed, throughout his tenure as treasury secretary he remained myopically focused on the banks. He even went out of his way to avoid dealing with the little people and their little homes. At a House Financial Service Committee hearing on November 11, 2008, at which committee chair Barney Frank (D MA) attempted to get Paulson’s and Bernanke’s support for FDIC chair Sheila Bair’s $24 billion mortgage rescue plan, Paulson expressed “reservations” about using any of the $700 billion TARP funds to directly aid homeowners. But he would “keep searching for ways to address the housing crisis.” Have more comforting words ever been spoken? America’s homeowners surely slept better that night.

  Representative Maxine Waters (D CA) was shocked by Paulson’s callous decision and said that to “absol
utely ignore the authority and the direction that this Congress had given you just amazes me.”96 Such shock, however, is so, well, Main Street. Waters never worked on Wall Street. If she had, nothing Paulson did that favored banks more than the general population would have surprised her.

  Even before Paulson pushed TARP through a nervous Congress and worked with Bernanke to open the Fed’s books to crappy Wall Street assets, he had little use for Main Street. On July 8, 2008, at the FDIC’s Forum on Mortgage Lending to Low and Moderate Income Households, Paulson said, “There were 1.5 million foreclosures started in all of 2007, and a number of economists now estimate we will see about 2.5 million foreclosures started this year. Public policy cannot be expected to prevent these foreclosures. There is little public policymakers can, or should, do to compensate for untenable financial decisions.”97 Unless, of course, “untenable” decisions are made by banks or well connected insurance companies that act like hedge funds. The pursuit of profit is clearly more acceptable than the pursuit of home ownership.

  Just before Paulson left office, when he was asked about foreclosures in a January 12, 2009, interview on CNBC’s The Call, he punted, “I did not think it was proper to move very quickly and to a big spending program, which is different than what the TARP had been set up for, without doing more work on the cost and the effectiveness. But beginning right from several weeks after the election, we’ve been consulting with the president elect’s team. And we had jointly agreed that it didn’t make sense for us to, in the waning days of this administration, announce a foreclosure plan out of the TARP that would tie their hands going forward.”98 In other words, I’ve taken care of my banker boys, Obama—now you can deal with the plebian public.