03/26/2010 05:12 am ET Updated May 25, 2011

Bankers and Their Lies: Are We Really That Stupid?

Now that the Administration has decided to get tough on Wall Street, you can bet there will be a lot of shrieking and gnashing of teeth - akin to the ringwraiths in The Lord Of The Rings in pursuit of "the Precious."

But before we cower, and buy into their prophesies of gloom and doom, we should take a quick trip down memory lane - to help us gain some clarity on the story they're peddling:

  • They know better.
  • They're smarter.
  • The recession wasn't their fault.
  • Financial "innovation" is vital to the economy.
  • "The Market" is (and should be) the primary determinant of our national fiscal health.
  • Regulation is the enemy of all.

The central pillar of this narrative is the idea that the recession was no one's fault. These things just happen. No one was "personally" responsible.

Too many of us buy into this nonsense. Even the intrepid Ryan Grim does when he says that Senators opposing Bernanke don't want to "vote in favor of a man who failed to foresee the financial crisis."

"Failed to foresee?" No, Ryan. Sorry. His failure -- and that of the entire "Rubinspanian" apparatchik elite (Rubin, Greenspan, Geithner, Summers, et al.) -- goes much, much deeper than that.

If this was a cop show, the hero detective would say: "It's not manslaughter, or even negligent homicide. It's murder."

Let's take just three choice examples...

Seeds of Deception c. 1998 (Rubin edition)

In 1998, after twin financial crises in Asia and Latin America, Treasury Secretary Bob Rubin galloped in on his high horse to protect the U.S. from financial contagion.

According to the NY Times, he argued for "an end to traditional secrecy" (i.e., more transparency), as well as international inspections and monitoring of economies that "could pose a threat to their neighbors." He even suggested blocking access to U.S. markets if a bank's home country failed to comply. (A quaint notion now that many mega-banks have assets larger than their domestic economies and Rubin himself has long argued in favor of cross-border expansion of mega-banks.)

But Rubin's most telling position was:

[He] acknowledged that many big investors ignored the warnings altogether. Before trouble struck in Asia last year, he said, the ''lack of data meant that no one had a true understanding of this buildup of economic vulnerabilities.'' But he also said many international investors -- including major banks and brokerage houses -- did not assemble ''the appropriate expertise and and knowledge'' about the risks of the markets where they were investing.

Mr. Rubin seemed to be aiming his message at several audiences, including investors who Mr. Rubin suggested were not suffering heavy enough losses for poorly judged investments.

So, here we have a man who knows very well that transparency is critical to smart investing, and who believes that Third World slackers and their duped investors should have been forced to feel the pain of their own stupidity.

This same man -- despite warnings, and the bitter example of the S&L debacle -- presided over the deregulation of the U.S. banking industry, which led directly to a blindfolded risk orgy.

Then, as the economy imploded in late 2008, he was on the stump genially denying there was any problem, even calling the bottom in September 2008. This very same man, in 2007, blithely assured Citigroup investors that their dividend was secure ("no real reason to think there will be a change") even after Citi posted a 57% drop in quarterly earnings and had to bail out its SIV funds, which carried $49 billion in assets. (In reality, the company was rapidly imploding.)

He actually had the audacity to claim that just last month that "virtually no one involved in the financial system recognized the breadth of forces at work or the possibility of a megacrisis, and this included the most experienced among us."

No wonder Fortune Magazine called him a hypocrite.

Seeds of Deception c. 2001 (Greenspan edition)

After the implosion of the tech-stock bubble in 2000, Americans began eating their homes in earnest. According to the NY Times: " ... a New Economy wealth effect ramped up consumer spending, [with] the rising value of Americans' homes acting as an Old Economy bulwark to prevent a persistent slide."

As for Alan Greenspan (and remember, this is happening back in 2001):

Alan Greenspan is well aware that high home values have made consumers feel wealthier. In fact, he seems to be depending on housing as a buffer against recession until companies, which have severely cut back their capital spending, start to invest again and to rebuild inventories.

''I think one of the things that's occurring in the country,'' Mr. Greenspan said then, ''is the evolution of housing into a very sophisticated, complex industry, in the sense that we not only have got standard home-building aspects of home-ownership-related activities, but we're also beginning to find that as home ownership rises and as the market value of homes continues to rise, even in a period when stock prices are falling, we're observing a rather remarkable employment of that so-called home equity wealth in all sorts of household decisions.''

In other words, cash-strapped Americans were eating their homes. Fancy new financial "innovations" were allowing them to squeeze out oodles of cash, seemingly from nowhere, to supplement stagnating wages and worthless stock portfolios. "Remarkable!"

And he didn't see this as a bad thing at all:

He also said that borrowing against rising house prices was not a worrisome long-term trend. Some analysts, though, have been concerned because Americans have borrowed so heavily against their homes in the last two decades that their equity as a percentage of the home's value was at the lowest level on record early this year.

''If unrealized capital gains were declining,'' Mr. Greenspan said, ''which is, of course, what happens when you extract equity from homes, yes, it would be a problem. But there is no evidence of that. Instead, despite the fact of the significant extraction of home equity gains, the level of unrealized capital gains in homes continues to rise apace. So it is not a depleting asset, if I may put it that way. It could be, but fortunately it is not.''

Notice that he was not concerned about borrowing against rising home prices. He'd only be concerned if "unrealized capital gains" in homes went down and "depleted" the asset. As long as prices kept going up, there was no reason to worry.

But what is prices fell? This one is the kicker:

"Greenspan is bound and determined that he is going to nurse this thing along by creating a positive wealth effect for housing,'' said Paul A. McCulley, a portfolio manager at the Pacific Investment Management Company, a bond powerhouse in Newport Beach, Calif.

So, Mr. Free Market intentionally used government intervention to pump up a credit bubble in support of rising home prices. Then nearly ten years later he sat before Congress and conceded a "flaw" in his "free market" ideology that be believed had been working so "exceedingly well."

He even seemed to shed a crocodile tear over the fact that his beloved Ayn Rand appeared to have been wrong. Forgive me for not holding his hand in sympathy.

Seeds of Deception c. 2003 (Fed, OCC, OTS, FDIC edition)

In January 2003, as consumers continued binging on debt, regulators thought they'd best whisper in the ear of Wall Street that things might be getting a wee bit out of control.

Four major banking regulators (Federal Reserve, Office of the Comptroller of the Currency, Office of Thrift Supervision, FDIC) offered some basic rules of the road. Again, the NYT:

Minimum payments should be high enough to cover finance charges, credit lines should reflect what consumers can truly afford, and accounts past their limit should be tolerated for only so long, the guidelines say.

''It's basically safety and soundness,'' said Bob Garsson, a spokesman for the Office of the Comptroller of the Currency, one of the agencies releasing the guidelines. ''We want to make sure that banks are not letting consumers get in debt so deep that they can't pay off their credit cards.''

At the time, regulators were concerned about people being overextended on credit, with total outstanding credit card debt at $722 billion. For your information, today it stands at $890 billion.

The problem was that the regulators only issued toothless "guidelines" rather than real regulatory mandates. And while the American Bankers Association said that there was no "practical difference" between "guidelines" and "regulations," the market thought otherwise:

The standards are not as strict as card issuers and investors say they had expected. Stock prices rose for many subprime lenders -- who cater to consumers with low incomes or poor credit histories and whose riskier portfolios are more likely to be affected by the rules. Shares of Capital One Financial jumped nearly 10 percent, to $35.41, and those of Providian Financial rose 3.3 percent, to $7.15.

''The issues that could have had earnings implications appear to have been relaxed,'' said Moshe Orenbuch, an equity analyst at Credit Suisse First Boston. ''This is going to change some accounting, but not earnings.''

So, earnings remained intact because the business model remained intact. Sell as much credit as you can without regard for the underlying quality of the debt or stability of the borrower. After all, it was all getting sliced up and put into syndication anyway. Who would know?

Regulators, rather than putting their foot down, might as well have yelled into Wall Street's ear: "Pedal to the metal!"

Are we really that stupid?

Looking at the evidence of the last few decades, the answer is clearly: yes. As the last example shows, we needed protection. But it was mostly from ourselves. No one can deny our obvious collusion in the crime:

  • Who took whatever was offered by credit card companies and charged up a storm? We did.
  • Who believed that unsustainable increases in housing prices would be sustained forever? We did.
  • Who treated houses like cash registers and spent more than their incomes could support? We did.
  • Who piled into dangerous mortgages that they didn't understand? We did.
  • Who bought into the "got to get in now" housing market hype? We did.
  • Who paid too much, for things they didn't need, with money they didn't have? We did.
  • Who elected politicians who fed our delusions and worst habits? We did.

At least, enough of us did to make the end game a catastrophic one.

"Market Discipline" Drove Us Off a Cliff

We did not, however, do it all by ourselves. There was heavy-duty enabling going on in the financial sector -- that bastion of "innovation" that promised us "market discipline" would magically keep everything in order -- so long as there was no intervention from real-live human people.

With great "discipline," they lined up behind their common self-interest (i.e., maximizing profit), something that the "fresh water" economist set would have us believe is an inherently virtuous thing. Thus the "power of markets" was harnessed:

  • Builders in pursuit of maximum revenue and profit.
  • Real estate brokers in pursuit of maximum revenue and profit.
  • Appraisers in pursuit of maximum revenue and profit.
  • Banks in pursuit of maximum revenue and profit.
  • Mortgage originators in pursuit of maximum revenue and profit.
  • Mortgage lenders in pursuit of maximum revenue and profit.
  • Mortgage syndicators in pursuit of maximum revenue and profit.
  • Investment bankers in pursuit of maximum revenue and profit.
  • Ratings agencies in pursuit of maximum revenue and profit.
  • Market makers in pursuit of maximum revenue and profit.
  • Derivatives dealers in pursuit of maximum revenue and profit.
  • Hedge fund managers in pursuit of maximum revenue and profit.
  • Mainstream portfolio managers trying to maximize returns - and their own revenue and profit.
  • Return-hungry institutional investors in pursuit of maximum revenue and profit.
  • Stock exchanges in pursuit of maximum revenue and profit.

All individuals, all pursuing their "rational self interest," as economists love to say.

So together they all pulled, with discipline -- all their management teams and lobbyists, their PR people and spin-doctoring, all their trillions in capital and their hundreds of thousands of employees, all their marketing schemes and high pressure sales tactics -- to keep the gravy train running.

And most important, they set all these resources in motion to support the "hard sell" of the most important product of all: "the story."

"The story" is the dubious set of fictions that we all had to buy into in order to keep the gravy train chugging: i.e., despite stagnant job growth and wages, you can get everything you want in a sustainable debt-financed standard of living, because cutting-edge mathematics and the "power of market discipline" can render default risk irrelevant.

Or in simpler terms: "It's a new world."

Special on "Contempt" in Aisle Three

Despite our own collusion, and the epic arrogance and greed of the finance sector, special contempt must be reserved for the "Rubinspanians" who were supposed to pull the ripcord long before we were just inches from the ground.

Try this image: rats in a cage, pushing the little button, or pulling the little lever, or whatever we're doing to get our calories or carbs or opiates, or whatever we're getting. If we all go for the button at once and keep our paws pressed on it, we all die of an overdose. We all pull the lever at once and the world blows up.

Well, it's quite within my "rational self interest" to want to avoid that calamity.

Let's call this "macro-self-interest" (i.e., The National Interest). As citizens, we hire supposedly smart people whose job it is to manage risks to the "macro-self-interest." Instead, we got snake oil salesmen who sold us private profit motive and blind, rabid ideology dressed up in drag as The National Interest.

Rather than doing their jobs, they:

  • Put ideology above sound risk management.
  • Bullied, marginalized and silenced their critics.
  • Deliberately flooded the economy with debt without an effort to make sure incomes kept pace to support it.
  • Ignored obvious warning signs and explicit warnings (what should have been obvious to the smartest guys in the room).
  • Undermined all attempts at strong local reform - as a challenge to their power, wisdom and stature.
  • Refused to act, or worse, took weak action to deceive us into thinking they were actually doing something... or anything at all.

It was the equivalent of teaching the kids how to shoplift, feeding them Gummy Worms for dinner and letting them stay up all night watching porn, and then when Child Services showed up, sending a few shotgun blasts into the air to scare away the true adults.

Now That We Have Woken Up

For decades, "market discipline" lined up behind something truly dangerous: self-interested delusion. But now the long sleep walk is over. (And apologies to Janine Wedel, but there is nothing at all "shadow" about this Shadow Elite. It all happened right out in the open, right under our sleepwalking noses).

It seems that we've woken up at the bottom of the stairs with a broken neck. And the mendacious doctors who prescribed the economic soma who got us into this mess are rushing toward us demanding that we pay attention and do what they say, for our own good!

Are we really so stupid that we're going to believe them, again?