"J'Accuse!": This Administration's Crony Bailout Bonanza for Wall Street

This Saturday the Financial Time's front page headline shouted, "Obama to Review Wall St Bail-out." That means Bush's $700 billion plan is to be reexamined.

And no, I'm not Emile Zola, though I've had a few words on the matter ("Mr. Paulson, this is the nation's financial future you are dealing with. Please leave that Wall Street mindset behind. That those who got us here would have another bite of the apple would be unforgivable". Please see "Financial Crisis Bailout Riddled with Conflicts of Interest," 10.07.08)

But out there is someone who speaks with the insight and the passion of a Zola. And that someone is Leo W. Gerard, International President of the United Steelworkers. On October 28th in an open letter, parts of which were posted here on the Huffington Post, Mr. Gerard stated his case. Here below is a synopsis of its text. Because of its significance to the issues and to this moment, I am adding its full text at the end for those who rightfully want the whole picture.

Initially Mr. Gerard points out that with its investment of $125 billion of taxpayers money, in investment banks such as Goldman Sachs and eight other financial institutions, the government, under Mr. Paulson's fine hand, was paying twice as much as needed to be paid when compared to the sums Warren Buffett negotiated for a similar investment in Goldman Sachs. Mr. Gerard in his letter to Paulson, goes on to point out that:

"...it would appear that you intend to reward the institutions that have driven our nation, and it now appears the whole world into the most serious economic crisis in 75 years with a gift of $350 billion from the American taxpayers who have watched 760,000 of their jobs disappear over just the past nine months (actually 1,000,000 adding in Friday's job loss numbers).

"...wouldn't it make sense to have some reason to believe that the recipients of the government largesse won't just take the money and do it all over again? Perhaps there is some reason I do not understand that you have seemingly handed this chicken coop back to the very same foxes who have been pillaging it for the last two decades?

"It has been reported in the media that these firms have no intention of using this money for intended purposes. Don't we deserve a commitment that the money will in fact be used for either loans to companies which are groaning under the weight of the credit crisis and being forced to shed tens of thousands of more jobs or to help the millions of Americans struggling with their troubled mortgages? Does it really seem too much to demand that we get a commitment that our gifts to these firms be used to revive the economy that they have driven into the ditch?

"Secretary Paulson, out in the real economy, the unbridled pursuit of greed that
you and your friends on Wall Street have celebrated as a national religion has taken a terrible toll on ordinary Americans. Jobs with stagnant real wages have now given way to massive lay-offs, home foreclosures and real suffering.

"Out in the real economy we need... an economic program that restores the balance of power between workers and business, rebuild the middle class and curbs corporate excess.

"Out in the real economy, we need our government to invest in creating sustainable shared
prosperity-not play Santa Claus to the scoundrels who have laid waste to the American Dream."

With the advent of the Obama Presidency, Mr. Gerard's words have more significance than ever before. And the New York Times, today, as if on cue in Joe Nocera's first page Business Day coverage was moved to comment:

"The Bush Administration has also attacked the crisis almost entirely by focusing on the banking system. It has made huge loans and taken equity stakes- but for reasons largely based on ideology it has refused to demand anything in return. And the Bush administration has been every bit as reluctant to help individual homeowners as the Hoover administration ever was. Its unwillingness to help ordinary citizens is appalling - not just because it is so callous but because the crisis won't end until housing prices stabilize and foreclosures decline".

To quote an old hand, Bill Buckley who, when running for mayor of New York, was asked what would be the first thing he would do were he to win the election? His reply -- "demand a recount." President-elect Obama, given all the problems ahead, perhaps its not too late to demand a recount.

Below, the full text of Mr. Gerard's letter:

United Steelworkers Leo W. Gerard, International President October 28, 2008

Henry M. Paulson, Jr.
Secretary of the Treasury
1500 Pennsylvania Avenue, NW
Washington, D.C. 20220

Dear Secretary Paulson,

While I am sure that you face no shortage of advice regarding the crisis that continues to engulf the world's capital markets, I did want to share with you some questions and concerns regarding your decision to invest $125 billion of the taxpayers' money into nine financial institutions, including the securities firm which until recently you headed, Goldman Sachs.
While the media was filled with the usual breathless "behind-the-scenes" reports of your "High Noon" bargaining, what seems to have escaped their notice was your decision, on behalf of the taxpayers, to pay roughly twice as much as you needed to for the securities that you purchased.

To me, at least, this is far more important than whether you gave the assembled CEOs two hours, two weeks or two minutes to sign up; whether, as the New York Times helpfully tells us, you have seen "Butch Cassidy and the Sundance Kid"; whether you have worked long hours in the last few months; or what brand of cell phone you use.

While Wells Fargo Chairman Kovacevich, who was forced to get by on only $300 million over the past ten years, may or may not have actually pretended to resist the deal, if he had in fact turned you down, he should have been fired, given the extraordinary deal he was being offered.

I have enclosed with this letter a copy of the analysis that we prepared which values the investment of the taxpayers' money in Goldman Sachs at only 50% of what was actually paid. Perhaps one of your former colleagues at Goldman could take a minute away from their busy day shorting mortgages to see if we are correct.

Mr. Secretary, this analysis is not rocket science. Just twenty days before Goldman announced that it would "accept" Treasury's investment, Warren Buffett invested $5 billion into Goldman Sachs and acquired the very same type of security - preferred stock - with the very same form of "upside" - warrants to purchase common stock. For some reason, however, per dollar invested, Mr. Buffett received at least seven and perhaps up to fourteen times more warrants than Treasury did and his warrants have more favorable terms. In addition, Mr. Buffett's preferred stock has a higher dividend rate and can only be bought away from him at a premium, while Treasury's investment of taxpayers' money pays a lower dividend and can be repurchased at par.

Now I know that you have a lot on your plate, but I am sure that someone at Treasury saw the terms of Buffett's investment. In fact, my suspicion is that you studied it pretty closely and knew exactly what you were doing. The 50-50 deal - 50% invested and 50% as a gift - is quite consistent with the Republican version of the "spread-the-wealth-around" philosophy that seems so much in vogue.

If the result of our analysis is applied to the deals that you made at the other eight institutions - which on average most would view as being less well positioned than Goldman and therefore requiring an even greater rate of return - you paid $125 billion for securities for which a disinterested party would have paid $62.5 billion. This means that you gifted the other $62.5 billion to the shareholders of these nine institutions. This is no different than if you paid me $10,000 for a car for which no one else would pay more than $5,000. You bought it for $5,000 and gifted me the other $5,000. In my world such gifts are rarely offered to working people.
It's hard to list all of the ways in which this is disturbing, but let me note just a few:

• If this deal is the model for how you intend to spend the whole $700 billion that you got from the Congress, then it would appear that you intend to reward the institutions that have driven our nation, and it now appears the whole world, into its most serious economic crisis in 75 years with a gift of $350 billion from the American taxpayers, who have watched 760,000 of their jobs disappear over just the past nine months.

• The recipients of the first wave of gift-giving include Goldman Sachs. It has been widely reported that you have surrounded yourself with former Goldman employees as well as individuals from other Wall Street firms. Yet it has never been revealed whether in fact you and they have fully divested yourselves of your Wall Street holdings. Doesn't it seem just a wee-bit of a conflict of interest for those setting the price of the investment to be either so directly linked to the firms receiving the investments or, even worse, direct beneficiaries of the decision to overpay with taxpayer money?

• Your investments do nothing to deal with the causes of the current crisis. Now that even Chairman Greenspan has discovered a "flaw" in his theories, wouldn't it make sense to have some reason to believe that the recipients of this government largesse won't just take the money and do it all again? Perhaps there is some reason I do not understand that you have seemingly handed this chicken coop back to the very same foxes who have been pillaging it for the last two decades?

• It has been reported in the media that these firms have no intention of using this money for its intended purpose. Don't we deserve a commitment that the money will in fact be used for either loans to the companies which are groaning under the weight of the credit crisis and being forced to shed tens of thousands of more jobs or to help the millions of Americans struggling with their troubled mortgages? Does it really seem too much to demand that we get a commitment that our gifts to these firms be used to help revive the economy that they have driven into the ditch?

• Your terms also undercut the more stringent restrictions that the Brits imposed, thus making it clear that not only are you fronting for American wastrels, but European ones as well.

Now I do not doubt for a minute that the irresponsible and fraudulent actions of Wall Street have indeed put the world financial system and now the real economy at grave risk. And I also do not doubt that the literally hundreds of billions of dollars of undeserved bonuses ($38 billion in 2007 alone), reckless speculating and dividends to shareholders have left many of these institutions woefully under-capitalized and in need of new equity dollars. Where I get a little lost is why you think that the system or the American taxpayer is better off if the government gets half as much for its investment as Mr. Buffett did.

Let's agree that America's nine largest banks need $125 billion of new money and let's further agree that no one else, not even Warren Buffett, has that kind of money lying around. That still does not explain why our $125 billion should buy us securities worth half of what we paid for them. Nor does it explain why the nearly $25 billion per year that the firms pay out in dividends to their shareholders should continue. At current levels, dividends to shareholders will distribute all of our money that you invested in just five years.

Secretary Paulson, out in the real economy, the unbridled pursuit of greed that you and your friends on Wall Street have celebrated as a national religion has taken a terrible toll on ordinary Americans. Jobs with stagnant real wages have now given way to massive lay-offs, home foreclosures and real suffering.

Out in the real economy, we need to once and for all bury the philosophy that worships only business, free markets, deregulation and free trade, and replace it with an economic program that restores the balance of power between workers and business, rebuilds the middle class and curbs corporate excesses.

Out in the real economy, we need our government to invest in creating sustainable shared prosperity - not play Santa Claus to the scoundrels who have laid waste to the American Dream.

I eagerly await your response.

Sincerely,
Leo W. Gerard
International President

Comparison of Berkshire Hathaway and US Treasury Investments in Goldman Sachs Group, Inc

This analysis is based on the assumption that Warren Buffett is an intelligent third party investor who paid no more for his investment than he had to. It also assumes that Goldman Sachs' job is to protect its existing shareholders, so that it extracted from Mr. Buffett the most that it could. In other words, Mr. Buffett paid fair market value for what he bought. Further, it is assumed that Henry Paulson is likewise an intelligent man and that if he paid any more than Mr. Buffett - if he paid $1.00 for something for which Mr. Buffett would have paid $.50 - that the difference is a gift from the taxpayers of the United States to the shareholders of Goldman Sachs.

In order to compare Buffett's investment to Treasury's the first step is to understand and value the two parts of each investment, starting with Buffett's.

Buffett invested $5.0 billion and in return received preferred stock and warrants. The warrants give their holder the right to purchase, at any time over the next five years, common stock worth 100% of his original investment amount, or $5.0 billion worth of common stock, at a price of $115.00 per share, or 43.5 million shares. ($5.0 billion ÷ $115.00)

The value of these warrants is determined using a technique called the Black-Scholes Pricing Model. This model is almost universally regarded as the correct way, from an efficient market perspective (which of course Mr. Paulson believes in), to value such securities.

Using publicly available data, the right to purchase one share was, at the time of Buffett's purchase, worth $40.95, so the right to purchase 43.5 million shares is worth $1.8 billion ($40.95 X 43.5 million). While recently the volatility of Goldman shares have been very high making each warrant far more valuable, this analysis uses a very conservative and more historically representative volatility of 30% for its valuation. This more than offsets the slightly lower value for the warrants caused by the dividends associated with the common stock.

If the warrants are worth $1.8 billion, this implies that Buffett spent the rest of his $5 billion, or $3.2 billion, buying the preferred stock. Knowing that the market value of the preferred stock without the warrants is $3.2 billion, one can use a simple cash flow model to calculate the return that Mr. Buffettt demanded and Goldman agreed to on the preferred stock. If one assumes that Goldman pays quarterly dividends at 10% per year and redeems the preferred stock in ten years at the required 10% premium, the return (or yield to call) is 19%. If they redeem it sooner, the yield is higher.

Turning now to Treasury's investment, there are four key differences regarding the warrants. First, Treasury will only receive warrants to purchase common shares worth 15% of amount of its original investment; second, Goldman can, by issuing new shares, reduce the number of warrants that Treasury is able to purchase by half, to 7.5% of the amount invested; third, Treasury's right is based on a somewhat higher price per share; and fourth, Paulson's warrants grant him the right to purchase shares for a longer period.

Again using Black-Scholes, each of Treasury's warrants were worth $51.81 on the date that Goldman Sachs agreed to participate in the Treasury Program. For the sake of calculating their value, if we use for the number of warrants the midpoint between 7.5% and 15% (11.25%) or 9.2 million warrants, the total value of Treasury's warrants is just under $500 million.

Turning to the preferred stock, Treasury will buy preferred shares with a face value of $10 billion and a dividend rate of 5% for five years and 9% thereafter and no call premium. If we use the same 19% return (yield to call) that Buffett's investment will provide, and assume the same 10 year time period, the current market value of Treasury's preferred shares is $4.5 billion.
This means that Treasury will invest $10 billion of the taxpayers' money and will receive warrants worth $500 million and preferred stock worth $4.5 billion, or total value of $5 billion.
The other $5 billion represents the gift that Mr. Paulson, on behalf of the taxpayers of the United States, will be making to the shareholders of Goldman Sachs.

If we assume that this gift will be comparable at the other eight big banks, then the total gift will add up to $62.5 billion and if this approach prevails with the entire $700 billion, the gift from the taxpayers to the shareholders of financial institutions will be $350 billion.

Comments

[peterg76]

Money was embezzled. What's so complicated?

[JALKO]

The last great heist of trickle down. bushco shouldn't be in any bargaining position at all. he shouldn't be in aposition to hold the auto industry hostage for failed trade deals with Columbia or anything else. The only bargaining he should be doing is a plea bargain to keep his worthless butt out of JAIL for too long. Under the shadow of an election he is stealing from hard working Americans. The reason he came out with the bailout proposal at the very end of the third quarter was so Americans couldn't see the dire straights of our Nation until after the election. then under the shadow of the election bushco is stealing us blind. Wait until your fourth quarter 401K balance and you will really be shocked. they tried to run out the clock but failed, so they are trying to steal as much as they can before slinking out the door. I want to see all of them perp walked out of the White House. The people of Enron are still in charge and can't be trusted. This is my Grandchildren's money they are stealing.

[zanzig]

What I'd like to know is if Secretary Paulson ever replied to Mr Gerard, and if so, may we have it published?

[begabug]

socialism for the poor = bad
socialism for the oligarchy = good

unions = bad
monopolistic corporation (economy of size) = good

the question isn't whether amer ika is socialistic or not, only where the money goes, to the institution and priviledged or to people in need

[paixa3]

I write my senators and representative weekly to end this Heist. I tell them it is a Heist.

Go to Daily Kos and you will see than Paulson granted TAX CUTS OF 140 billion to bankers, how in the hel$ did he do that without congress and AIG is up to 150 billion.

I am sick of this. It is time to send a nastrygrame to Dodd as well.

Cheers,

[DuganS1]

It seems like a heist to people who don't understand what the elimination of the tax obligation for mergers was for, how it works, and how it helps the overall economy.

[Roaming]

I hold the Democrats far more culpable than the Republicans on this. Remember that it was the House Republicans who stalled the bailout in the first round by opposing it (and who later caved after $150 billion additional worth of arm twisting). Remember that the #1 cheerleader was Democrat Barney Frank. Remember that Obama supported it and did not insist on safeguards, allowing bankruptcy judges to renegotiate mortgages, or disallowing the money to be used for bonuses and other compensation. Then the money goes to invest in bank stocks, under a Democrat-controlled Congress who let that just go buy. Yesterday it was revealed that a tax loophole was opened up by the bailout bill which lets merging banks avoid $105-140 billion in tax obligations, so in effect increase the bailout cost by that. Democrats voted en masse for the bill, and nobody noticed the loophole? And now what are they doing about it? Nothing.

[DuganS1]

The supposed loophole that allows banks to avoid tax obligations on those mergers does not increase the bailout cost, because without that loophole the mergers would never have happened and not taxes would have been paid anyway.

[ProudAmerican23]

Sadly, the list of people in congress who voted in favor of this plan was Democrats, including Obama :o(

[tomas0808]

I think for most people these are just a bunch of numbers. But do you know what could be done with 350 Million dollars? Free health care and education for everyone in the United States. I'm glad the bailout is gonna get reviewed. Those ___ should have to suffer a bit, they shouldn't get more golden parachutes, and they shouldn't be trusted, period. History has shown that they just couldn't care less for the ordinary citizens. Their thinking is "Oh well, if the country collapses and goes into depression, I'll just go live on my island." Screw them

[schatsie]

the Economist this week is saying that the Germans are limitiing the Compensation to 600 grand per and that in Germany will be subject to taxes over 50%....

We need the BUSH TAX BREAKS for the rich removed NOW... and I am frigging tired of the DEMS not pushing BUSH on THE TAX RATES for the hedge fund managers, frankly it looks like they are in bed with the BUSHIES....

AND NOBODY is doing a DARN THING for the Working Class, no increase in unemployment benefits, no healthcare, no end to the foreclosures..AND NO MORE MONEY FOR WALL STREET UNTIL THERE IS A SIGNIFICANT PAYBACK MECHANISM and CONTROL OF THE BOARD OF DIRECTORS....

[Shortyfuse]

Of course the American Taxpayers are not surpirzed.
I know from the hearings that Bushs' cousin was on the board of Leaman Brothers,the first to fall causing the ball to start rolling. Yes another Bush relative at the beginning of a finanical meltdown.

Did anyone consider this. As part of their necon idea there are states rights. As the Federal government withdraws funds, states have to pick up the cost. Property taxes , sale taxes and gambling were the fastest way.That is why regulations were relaxed and the prices of houses soared and all new homes were not affordable to low income. Appraisers were put in place to raise appraisals and generate state revenue. the rise of housing cost did not equal lowered wages. Collapse.
On top of that another neocon stupid experiment ( and I do mean experiment) was for all of the corporations to dump their pension plans from their books into wel, AIG for instance, and now onto the back of taxpayeers. So I guess we are paying for our own pension.

Not only Chenney and Bush and all their corporate but kissers, but those neo con think tanks,The Cato institute, The American Interprise Institute, The Heritage Foundation,, etc. get us a deck of 52. My only worry is that the compliant Democrats will not prosecute.

[schatsie]

AND you must realize those are NOT think tanks, they are CHARITABLE FOUNDATIONS...

AND I WANT THIS DEAD SMELLY FISH DRAGGED THRU THE STREETS FOR THE NEXT 2 years!!!! I do not want any more supposed Plausible Deniability.. THAT is what got us into this position and I NO LONGER BELIEVE one word from Republicans....

NOBODY ON MSM IS TALKING ABOUT THE TAX BREAKS FOR THE BANKS...

[sposton]

What do we Americans expect? Would you place GM's Wagoner in charge of bailing out auto companies? Paulson was an instrumental character in causing this disaster. He's played democrats in Congress like a violin. First he demanded a total control of the bailout with zero oversight, knowing well that would not fly. Then he "gave" democrats a few crumbs; Pelosi, Reid & Co. were as happy as they could be. They did not realize that was also part of Paulson's plan. Prosecute Paulson, and replace Pelosi, Reid, Schumer, Emanuel,... Oops! Instead, why not promote them to key positions in Obama administration?

[gabbinjane]

Don't forget that Paulsons last job was CEO of Goldman Sachs!

[Evelyn]

I'm just reading a book about the Great Depression (wonder why?), and a fellow involved in FDR's administration used this metaphor to explain why help needed to be directed at individuals rather than at corporations and banks: Giving financial aid to banks is like spreading fertilizer on the branches at the top of trees. It won't do any good there. The fertilizer needs to be spread at the roots, and it will increase the health of the entire tree. Made sense then, and it makes sense now. So no more bullshit for the banks!

[Pdubya]

I encourage you to read The Creature from Jekyll Island.....great book about the "Federal" "Reserve".

[AContrario]

With all this information pouring around, I don't understand why the majority of americans think that republicans have their best interests at heart. It is just unbelievable they still believe in this "free market"
propaganda, maybe if you add the word "free" before any word or action, you will get their seal of approval..

[gabbinjane]

You're absolutely right!! The Government should start directing the entire economy, from Big Oil to lemonade stands!! Just look at how well that worked in Cuba, Poland, the USSR, China, E. Germany.......

[schatsie]

the MSM is more concerned about profits than the actual economy.... and all of the increases in profits in the last 30 years have been because management has taken away benefits from the workers and gotten tax breaks,,, there was no increase in PRODUCTIVITY for the boards of directors to give any increases to these managers.....only the difference in the bottom line due to financial shenanigans....

[tc399]

Someone was paid to relax the regulations little. When the next election cycle came around, they were paid a lot more, because the industry had made a lot more money. No one cared how it was done. But the politicians were told "Look...you relax the rules a bit more and we can make a lot more money..and by the way, here are a couple of people you ought to appoint to oversee the FED and the SEC."

Finally, the banks, oil companies and industrial defense complex made so much money there was none left for the citizens. So the economy crashed. Then the same people are now raiding the rest of the treasury to steal the last of the money. On January 20, that will have been accomplished, courtesy of the Bush family, the Clintons, and all the way back to Reagan.

Obama can't fix it without kicking some serious a$$, and I hope he does and holds those responsible accountable once and for all. This is our own homegrown Viet Nam and we'll agonize over it for generations if we don't just step up now, put the right people in jail, take back the money they stole, give it back to the taxpayers, and re-boot the economy.

[DuganS1]

Financial institutions, energy and energy related companies, and defense companies employ many millions of workers. Workers in those industries are also among the most well paid.

[SharonWantsToTalk]

unbelievable

[proudem]

Why does this feel like one last final push by Bush and his Wall Street cronies to plunder the coffers of the American taxpayer? My biggest question is that since we have learned nothing from history and the collapse of the economy in the 1920's, will we learn this time? You cannot have unbridled capitalism without regulation. There is nothing democratic about greed. Greed must be curbed through laws and regulaions to prevent harm. Will we learn this lesson or will we ignore it and distract the population with religion, gay marriage and a host of other inconsequential issues as people loose their jobs and homes?

[schatsie]

well remember all the fauning on GREENSPAN,,,,,both republican and democrat....

Yes Virginia the Emporer is wearing no clothes... GET THE REPUBLICANS OUT OF THERE NOW