11/14/2011 09:08 am ET | Updated Jan 14, 2012

Political Engagement, the 2008 Financial Crisis and the Disillusionment of the American Public

During the 2008 election cycle, financial services (Finance, Insurance and Real Estate, aka FIRE) spent nearly $1 billion engaging with our political leadership: $500 million (personal and PAC) on campaign contributions and $456 million on lobbying. (All lobbying and campaign data are from FIRE's commitment to constructive engagement with our political process is particularly striking when you consider the financial health of FIRE in 2008:

  • The Securities Industry and Financial Markets Association (SIFMA) reported its member firms collectively lost pre-tax $34 billion in 2008 (i.e., equal to the prior 2 years' profits).
  • Major firms (e.g., AIG, Bear Stearns, Fannie Mae, Freddie Mac, Lehman and Merrill) incurred such massive losses they had to be reorganized, dissolved, declared insolvent or taken over.
  • The Federal Government took unprecedented steps to stabilize FIRE. The Troubled Asset Relief Program Inspector General Neil Barofsky, in his quarterly reports to Congress, estimated the Federal Government provided FIRE with $2 trillion in support (most of which was eventually repaid).

Clearly, FIRE's leadership was faced with unforeseen challenges, and it is interesting to note what was prioritized. One item was compensation. In 2008 overall compensation increased to 90% of net revenues, from a historical norm of 50-60% (Source: NYS Comptroller). Despite record losses the 2008 compensation pool was large, exceeded only by the compensation pools of 2006 and 2007. Management at FIRE firms reasoned they needed to 'pay the talent' who might otherwise have been recruited away by other firms. Another prioritized area appears to have been lobbying and campaign contributions.

Despite massive and unprecedented losses in 2008, FIRE did not reduce its expenditures on lobbying and campaign contributions. Surprisingly, FIRE actually sharply increased its spending in these categories.

To clarify the magnitude of this increase -- by a comparison of 'like' with 'like' -- the following figures illustrate spending during the 2004 and 2008 election cycles (2004 and 2008 were each presidential election years):

  • Lobbying: In 2004, FIRE spent $339 million; in 2008, $456 million -- an increase of 35%.
  • Campaign Contributions: In 2004, FIRE spent $352 million; in 2008, $500 million - an increase of 40%.
  • Presidential Campaign Contributions: In 2004, FIRE donated $48 million; in 2008, $73 million -- an increase of 55%. Only presidential campaign contributions to Bush, Kerry (2004) and Obama, McCain (2008) are reported here.

The following year (2009) was the most profitable year on record for financial services. SIFMA members earned total pre-tax profits of $72 billion; by comparison, the best prior year earnings for SIFMA members had been $33 billion in 2006. Further, 2010 was the second best year on record with pre-tax profits of $35 billion. At a time when unemployment in the US was surging upwards, Banking and Securities compensation remained strong, averaging $300,000 in NYS, about 5x earnings in most other industries (Source: NYS Comptroller's Office).

Unfortunately, the rest of the American economy did not do as well as FIRE. In 2009:

  • The unemployment rate soared to 10% (Source: WolframAlpha).
  • About 5% of all homes were in foreclosure (in a normal year such as 2005, only about 1% of all homes would be in foreclosure, Source: US Census Bureau).
  • Housing prices declined by 30% (Source: Case-Shiller Index), wiping out the net worth of many American households.

Many in FIRE argue that their return to profitability resulted from the operation of the free market system and the work of people in financial services; consequently, their compensation and profitability should be an entirely private matter. There are many other Americans, viewing the same fact pattern, who strongly believe the financial services industry successfully socialized its losses -- while retaining its profits.

In my view, if you brought together a group from Occupy Wall Street with a group of Tea Party Activists to consider this fact pattern, both groups would:

  • Think it unseemly and inappropriate -- for an industry receiving an unprecedented Federal intervention -- to spend so much to influence the very public officials deciding the terms of the intervention, compensation restrictions, etc.
  • Agree -- that even if nothing inappropriate happened, the size of these donations and lobbying efforts create an appearance of impropriety.

In my opinion, both groups have diagnosed the same problem, but propose radically different solutions. But potentially both groups -- as well as many other Americans -- have surprising agreement on what they don't like.