Print

 Email

Whatever Happened To America's Responsible Bankers?

So, while bank examiners comb through every loan transaction, collateral documentation, and performance history, the greater risks, those largely institutional as opposed to transactional, and the incentive to take those risks, goes largely unchallenged.

New York

America’s major banks and financial institutions no longer operate under the careful scrutiny and oversight established by the Glass-Steagall act passed by Congress during the Great Depression. Glass-Steagall was part of Franklin Roosevelt’s New-Deal legislation. It was put in place to protect Americans from dangerous banking practices like those that caused the collapse of 1929 and the freeze in credit markets in the summer of 2008.

The protections afforded bank owners and depositors against malevolent or irresponsible executives by Glass-Steagall ended when it was replaced by far less restrictive banking laws during the Clinton administration in November, 1999.

In the decade since repeal of Glass-Steagall, America’s most prominent and powerful banking institutions merged, aggregated assets, slashed jobs, took on once unlawful risks, and sharply reduced the managerial quality of their institutions. When the dust settled, the age of responsible, reliable and safe banking ended without so much as a whimper. Gone too, were the responsible, conservative and rational men and women who made American banking the envy of the world. In their place came the irresponsible, self-aggrandizing and irrational whose principal goal was self enrichment — no matter the risk to their institutions, or damage to depositors, nation or economy.

“I want to sound a warning call today about this legislation. I think this legislation is just fundamentally terrible.”

U.S. Senator
Byron Dorgan
(D) North Dakota

November, 1999

The ensuing redefinition of the American bank established a new model — one styled for opportunism, managed for short term goals and inextricably structured to fail by incentivizing the most risky at the expense of the most prudent. The qualities, stability and conservative nature of American banking thus came to an ignominious end.

While few Americans remember there ever was Glass-Steagall legislation to protect them from renegade bankers and opportunists, even fewer remember how this nation’s big banks worked over Congress to loosen, and later to repeal Glass-Steagall provisions separating deposit-base banking from market-driven underwriting and brokerage. In a 2006 article, PBS’ FrontLine published an abbreviated history of banking efforts to end Glass-Steagall that documents the undergirding facts concerning the deregulation of American banks.

Some banks, including CitiBank ( NYSE:CITI ), JPMorgan-Chase (NYSE:JPM) and others now merged into other firms, were instrumental in influencing Congress to let them merge operations in ways that extinguished many thousands of jobs while expanding the non-banking activities of those banks that would later be seen as too big to fail. Other too big to fail banks that required federal bail-out included Wells-Fargo ( NYSE:WFC ), Bank Of America ( NYSE:BAC ), Morgan Stanley ( NYSE:MS ), Goldman-Sachs ( NYSE:GS ), Merrill-Lynch  and others.

The Age Of Perfect Markets

In the  age of perfect markets rationalized by economists from Milton Friedman to Fed Chairman Alan Greenspan, making money by pushing it around, rather than prudently investing and loaning it to qualified borrowers, became the principal focus of financial institutions increasingly on-the-make.  The more the banks pushed for increased latitude and authority, the more those responsible for oversight and guidance caved in. Treasury caved in. Congress caved-in. Greenspan’s Federal Reserve caved-in. No one in power at the time, the record reflects, was ready to take a stand, as later did CFTC’s Brooksley Born, against turning America’s banking and financial institutions into immense casino operations.

Some in the Congress, including U.S. Senator Byron Dorgan, sensed that any  redefinition of banking had  implicit and perhaps unknown risks — not that anyone wanted to listen. Dorgan was to some degree wrong, however, for the risks of remaking banking into a giant and uncontrolled casino were well known — as time would soon reveal.

What few voices there were for preserving the most successful banking model in the history of the world went unheeded. And in that silence, the last vestiges of public accountability and clearly defined fiduciary responsibility expected of American bankers disappeared. Gone were the ethical foundations once demanded of bankers in the wake of the immobilizing depression following the collapse of America’s mismanaged banks in the 1920s.

In a highly politicized rush to eternal riches America forgot about what it means to be prudent, steadfast and responsible. The end of Glass-Steagall, passed by a Republican Congress and signed into law by a Democrat President changed the nature of banking, its managerial goals, its fiduciary responsibilities to depositors and its profitability potential. Safety was out. Personal opportunism,  massive transfer of wealth from stakeholders to executives and abdication of responsibility quickly turned from being unlawful to where it became management’s principal agenda.

Redefining The Bank

Banking’s Bail-Out Winners

CitiGroup $45 bln
Vikram Pandit

Wells-Fargo $25 bln
John Stumpf

JPMorgan Chase $25 bln
Jamie Dimon

Bank Of America $15 bln
Ken Lewis

Morgan Stanley $10 bln
John Mack

Goldman Sachs $10 bln
Lloyd Blankfein

State Street $2 bln
Ronald Logue

New York Mellon $3 bln
Robert Kelly

Salaried compensation that favored institutional stability and safety was turned into an everyman-for-himself rush to riches. Less ethical management made itself wealthy through institutional reorganizations, mergers and largely concealed betting parlor operations that drove up the price of commodities and financial instruments at the expense of  employees, investors and depositors.

Where once senior management was responsible and accountable, the adoption of massively distorted incentive compensation plans favored those most irresponsible, least accountable and deft at avoiding discovery, investigation or regulation. Thus ended 60 years of transparency as well, it seems, the era of prudent corporate directors dedicated to preserving long term corporate viability.  Their departure, however, made possible vast internal changes.

Over time, the anatomical structure of banking shifted from deposit based capital allocation for worthy and viable projects to unrestrained speculation, derivative manipulation and risky bets on anything — including immensely complex financial instruments beyond anyone’s understanding, or regulatory oversight.

In the years leading up to the collapse of these high-risk institutions in 2008, banking’s long honored institutional purpose to support the capitalist system turned ugly as each institution’s risk profile was ratcheted up to support the gnawing demand for ever increasing earnings and bonus payouts to those engaged in damaging both firm and the once proud institution known worldwide as American commercial banking.

End Of The Responsible Bank

On the day Glass-Steagall was repealed, Senator Byron Dorgan, (D) North Dakota,  told his colleagues, “I want to sound a warning call today about this legislation. I think this legislation is just fundamentally terrible.” Now, after a decade of misfeasance and malfeasance by banks and banking executives, the truth spoken that day by Dorgan is clear: Deft mismanagement of the institutional activities of most of the world’s massive banks crippled our nation, and others, and severely damaged credit markets world-wide.

The repeal of Glass-Steagall ( replaced  by the Gramm-Leach-Bliley Act ) effectively ended 60 years of conservative, responsible banking, internal checks and balances, and regulatory certainty. Today’s massive banking empires are thus inherently and fatally flawed in their structure, wrongfully managed for personal gain by corrupt executives, lacking in fiduciary oversight, and what has become largely corrupt and increasingly impotent regulatory foundation.

Concealed Risks, Catastrophic Outcomes

Thus, if one looks at any bank only in terms of its internal operations, transactions and activities, one sees a stable, conservative and competent quasi-public service enterprise.

Still, even when banking transactions are carefully regulated, banks fail — as have 140 American banks so far in 2009.

But such failures are not catastrophic — at least not in the ways that institutional mismanagement brought down high-flying banks in the summer of 2008.

Today’s massive and highly incentivized banks, both foreign and domestic, are flawed in ways that have become immensely clear since the collapse of Lehman Brothers, Bear Stearns, Merrill Lynch and others in 2008. These big banks, some, but not all which are American, are structured to fail to the degree they have been turned into personal wealth engines for incumbent management at immense risk to depositors, shareholders and taxpayers.

Bank enterprises have two very different risk profiles. One is transactional risk, that is risk from banking transactions including loans and purchased financial assets. It is the transactional nature of banking that is essential to our capitalist economic system. So, while bank examiners comb through every loan transaction, collateral documentation, and performance history, the greater risks, those largely institutional as opposed to transactional, and the incentive to take those risks, goes largely unchallenged.

The transactional risks in American banking are overseen and guaranteed by governmental agencies established to protect depositors from adverse events or poor management. Internal operations, that is ordinary banking activities such as  making loans, money desk and capital management are highly regulated, well documented and enforced by state banking laws that largely remain strong and effective.

Thus, if one looks at any bank only in terms of its internal operations, transactions and activities, one sees a stable, conservative and competent public service enterprise. Even so, internal operations can and do sometimes fail to achieve their expected outcomes. The result is clear and definitive: banks that take inordinate risks fail — as have some 140 American banks so far in 2009.

But, while these 140 banks largely failed as a result of losses on transactional  operations, the underlying cause was mostly, but not exclusively, the result of the immense economic downturn brought about by the freezing of credit markets in 2008.

The 140 banks taken over by the FDIC in 2009 were little more than a minor irritant compared to the massive TARP bailouts required to stabilize credit markets in 2008. Even so, their failures were costly to the Federal Deposit Insurance Corporation, but even those losses will be covered by insurance premiums paid by all banks.

Compared to the institutional mismanagement that preceded the  collapse of banks deemed too big to fail, the demise of 140 American banks, some of which were of substantial size and for the most part responsibly and conservatively managed, has been little more than an irritant to the economy.

To the degree some risk-averse banks failed due to the gross mismanagement of speculative management of larger banks, the difference was not the size of the institution but its managerial quality.

Failures Of Managerial Quality

Managerial quality matters in any business. But in banking, where institutional risks accrue and/or attach to persons and individuals outside the bank, including insurers, governmental agencies, and ordinary citizens who were put at risk absent their knowledge or consent,  managerial quality is essential to survival.

In banking, the diminution of managerial quality drove out traditional, conservative bankers ( responsible adults ). As new, highly educated and wildly incentivized replacements were hired, speculative-minded executives redefined traditional banking goals including long term institutional stability in favor of short term goals that focused on profitability, real or imagined, wealth building, whether legitimate or not, and bonuses for temporal success no matter its potential long term cost.

At effectively all the TARP supported banks, nothing has changed. With only a few exceptions, the executives who failed are still in place and the performance of these banks in 2009 confirms that their managerial quality has not been improved. At nearly every institution, 2009 operations confirm that their senior management’s principal purpose continues to be the enrichment of managers and executives.

No matter the risks to friends, family, depositors, stakeholders or nation.