Forty-two months after the collapse of Lehman Brothers, negative banking stories continue appearing daily – not about the criminal prosecutions for events that happened five years ago, but on examples of greed and stupidity that are occurring today. On both sides of the Atlantic, massive regulatory efforts have been carried out that, if anything, have made matters worse. Nobody has confidence that another Lehman Brothers, with accompanying taxpayer rescue of major banks, could not happen next month.
Let’s face it: the current financial system simply does not work. It concentrates risk in the largest institutions, which have to be bailed out, it prevents management from being held to account for its misdeeds, it promotes sharp-elbowed “investment bankers” to run behemoths most of whose business is entirely routine and it makes shareholders a despised peon class whose dividends are subordinated to the stock options of its management. As I suggested a couple of weeks ago, financial services as a business may be about to decline back to its historic share of the economy; it seems clear from recent events that it will have to be restructured also.
The leaving letter by Greg Smith to his ex-employer Goldman Sachs, published March 14 in the New York Times, identifies some but not all of the problems. His claim that Goldman no longer puts clients’ interests first would certainly appear valid, from published information. However his timing on when that change occurred, allegedly within his mere decade at the firm, is laughably off-track; Goldman Sachs was run by Jon Corzine, of later MF Global notoriety, from 1994 to 1999, before Smith joined, and it had certainly become a trading-oriented client-exploiting behemoth by then.
The key piece of evidence is Lisa Endlich’s book, Goldman Sachs: The Culture of Success, published in 1999. It’s full of snide comments about how feeble and hidebound the old corporate finance guys were and how, beginning in the late 1980s, she and her trading colleagues took over the firm and remade it in their own image. It was always clear to me, reading the book when it was published, nearly a decade before the 2008 crash, that Endlich’s “feeble and hidebound” was pretty accurate code for the ethical, client-oriented values that Goldman progressively lost from about the mid 1980s, and that had been fully replaced by the trading-oriented culture by the time of Endlich’s book and Goldman’s 1999 flotation. In that respect however, Goldman was by no means unique; its trajectory was more visible because of Goldman’s outstanding success, but other houses followed the same unhappy route (or like the late unlamented Salomon Brothers, were never client-oriented in the first place).
The central problem of the current financial system is that the heavy blocks of capital necessary for nationwide commercial banking and insurance are given to speculators to play with. That was in retrospect the central virtue of the Glass-Steagall legislation separating commercial and investment banking; it ensured that the depositors’ funds and the capital generated by a commercial banking operation of the size of Citicorp or Chase Manhattan were used almost entirely for relatively low-risk commercial banking (although as Walter “Countries can’t go bust” Wriston of Citicorp demonstrated, foolish megalomania still got them in trouble from time to time).
Trading operations, along with brokerage and corporate finance, were then segregated in much smaller organizations, at that time owned directly by their partners, with unlimited liability. These trading, brokerage and corporate finance operations differed significantly from each other (Salomon Brothers had little corporate finance activity, relative to its size, while Morgan Stanley and Kuhn Loeb did very little trading until the 1970s). Nevertheless they were in no sense “too big to fail.”
When a sharp downturn in stock exchange trading activity combined with a horrendous back-office crisis to send several of the largest investment banks hurtling into bankruptcy in 1970, there was no question of a state bailout – that was reserved for such more serious bankruptcies as the railroad Penn Central. The role of the $700 billion TARP public slush fund was played by the Texas multimillionaire (not then a billionaire) Ross Perot, who took over the bankrupt brokerage Glore Forgan & Co., and expertly managed it into renewed bankruptcy four years later.
The romantic dream by which opponents of Glass-Steagall drove the political campaign to repeal it, which eventually succeeded in 1999, was inspired by a vision of the old J.P. Morgan bank, which had bestrode the financial world like a colossus, bailing out both the U.S. government in 1895 and the British government in 1915. However that dream – a full service universal bank, among the largest financial institutions, offering both commercial banking and investment banking services and driven by a titan of finance – was already outdated by 1914. It relied on the supreme genius of Morgan himself, and after his death in 1913 gradually lost its primacy to more aggressive (and alas, less ethical and competent) competitors before being split by Glass-Steagall in 1935.
The 1933-1975 U.S. financial system was highly imperfect; it relied on heavy regulation (of deposit interest rates, in the case of commercial banks and of commissions, in the case of brokerages). It included commercial banks that were too aggressive for their ecological niche and investment banks that had very little interest in international business, since they had been burned badly by the aftermath of the 1920s foreign bond bubble and could make a very nice living through domestic brokerage and underwriting alone.
The better model was that operating in London before 1986. There commercial banks were truly dozy operations, whose upper management consisted of modestly intellectually endowed long-timers with a taste for golf. Brokerage was a separate operation, as was market-making, both organized in thinly-capitalized partnerships with unlimited liability. As with the New York investment banks, risk was limited by the wishes of the partners to preserve their retirement savings, but the London system recognized the fact that the talents for brokerage (salesmanship) and market-making (nerves of steel and a head for figures) were neither necessary nor desirable in the commanding heights of the financial system.
That peak was occupied by the London merchant banks, which being 200 years old had high prestige and standing, and thus attracted the best graduates and were able to talk to titans of industry on equal or even slightly superior terms, in spite of their modest capitalization. The underwriting function was arranged by the merchant banks, but was carried out by insurance companies, pension funds and investment institutions, well suited by their capital to take the modest risks involved. The system was in its original pre-1914 form completely global (less so afterwards, because of British exchange controls), since advisory and underwriting work for foreign clients required only very limited (albeit extremely impressive) staffing at the client end, with the actual work being carried out in London and sales being made through the brokerages, underwritten by the institutions. Add the Accepting Houses Committee, a merchant bank club formed in 1914 which enforced industry standards of probity and sorted out competitive squabbles, and you have a financial system that worked very well indeed.
Government errors brought down the London system. Exchange controls effectively prevented cross-border investment for forty years from 1939, limiting the merchant banks’ ability to compete internationally, although by the 1960s they had recovered considerably. The World Bank and the IMF took away the merchant banks’ emerging markets advisory business, and did it incomparably worse. Ludicrous, unbelievably evil levels of individual tax combined with high inflation to de-capitalize the system, especially the jobbers, who became unable to fulfill their market-making function properly (and in any case were unable to operate internationally because of exchange controls). Then, after a decade in which the merchant banks and jobbers had been reduced to international midgets by tax and inflation, the Thatcher government foolishly imposed a “level playing field” – and the result was painful and not very edifying history.
To those who protest that the derivatives market and its offshoots have all come into existence since 1980, and make the trading-oriented behemoths essential, I would respond that the economic value of those markets, other than as rent-seeking exercises, is in most case pretty marginal, and that their needs should not be allowed to drive the financial system. We now have hedge funds, full of aggressive, incentivized traders willing to take on any kinds of risks; the derivatives markets can thus be left safely in their hands. In any case, once interest rates are restored to their proper levels and proper legislation (or a modest Tobin tax) is brought in to curb insider trading (algorithmic or otherwise) based on knowledge of market flows, volumes in these markets are likely to decline.
Investment institutions have repeatedly expressed their view that a large part of their assets should be devoted to “alternative investments” – normally hedge funds and private equity funds with outsize fees attached. Very well, let their money be devoted to propping up the derivatives and other trading markets, so that they are not attached to the massive pools of capital needed for banking and conventional insurance. If the hedge funds go bust, so that a few Harvard students have to pay their own way, a few California state pensioners find their pensions reduced; well, them’s the breaks. There is no reason why those costs should be paid by bank depositors or by taxpayers as a whole.
The seeds of a new financial system are already here, in the medium sized “boutiques” such as Greenhill and Evercore, whose client orientation is less sullied by their trading desks. Among commercial banks, those such as Barclays and Deutsche, where the investment banker/trader inmates have taken over the heavily capitalized asylum, are already looking like ineffective dinosaurs and will doubtless shortly go spectacularly bust. To replace them will come a new generation of pure commercial banks, such as Wells Fargo and PNC Corporation, far more capable than their competitors in their large low-risk niche, and content to avoid the perils of investment banking – and the unpleasantness of hyper-greedy investment banker colleagues.
Nothing will ever replace the sublime glory of merchant bank dining rooms. But the remainder of the pre-1986 London structure looks very much like the best way forward for the global financial system as a whole.
(Originally appeared in The Bear's Lair. )
Martin Hutchinson is the author of "Great Conservatives" (Academica Press, 2005)—details can be found on the Web site —and co-author with Professor Kevin Dowd of “Alchemists of Loss” (Wiley – 2010). Both now available on Amazon.com, “Great Conservatives” only in a Kindle edition, “Alchemists of Loss” in both Kindle and print editions.
In addition to the market’s “miracle” of efficiency, there is an important moral element in the functioning of the free-market economy that we sometimes overlook or undervalue. There are none who are only masters and others who are simply servants! In the market society we are all both servants and masters, but without either force or its threat. In our roles as producers—be it as men who hire out our labor for wages, resource owners who rent out or sell our property for a price, or entrepreneurs who direct production for anticipated profits—we serve our fellow men in attempting to make the products and provide the services we think they may be willing and interested in buying from us.
“Service with a smile” and “the customer is always right” are hallmarks of the seller’s deference to those to whom they offer their supplies. What motivates such attitudes is the fact that in an open, competitive market no one can compel us to buy from a seller who offers something less attractive or more costly than what some rival of his is presenting to us for our consideration.
And why are we interested in not offending or driving away some potential customer into the arms of our rival suppliers? Because only by successfully making the better and less expensive product can we hope to earn the income that then enables us to re-enter the market, now in the role of consumer and demander of what our neighbors are offering to sell to us.
As consumers, we become the “masters” who those same neighbors attempt to satisfy with newer, better, and cheaper products. Now those whom we have served defer to us. We “command” them, not through the use of force but through the attraction of our demand and the money we offer for the goods they bring to the market. By how much we can “command” the service of others in the market in our role as consumer is directly related to the extent we have been successful in our service to our neighbors as reflected in the money income we have earned from satisfying their wants and desires.
In a free society, no man is required to do work or supply any good he considers morally wrong and ethically questionable. He may earn less from choosing to supply something that is valued less highly in the market, but he cannot be forced to produce anything that God and/or conscience dictates to be wrong.
On the other hand, we cannot prevent others from supplying a good or service we find morally objectionable. The ethics of liberty and the free market require that we use only morally justifiable means to stop our neighbors from demanding and supplying something that offends us. We must use reason, persuasion, and example of a better and more right way to live.
Unfortunately, too many of our fellow men want to preserve or extend a return to a form of a slave society—regardless of the name under which it is presented. Too many want to dictate how others may make a living, or at what price and under what terms they may peacefully and voluntarily interact with their fellow human beings for purposes of mutual material, cultural, and spiritual betterment.
Our task, for those of us who understand and care deeply about human liberty, is to reawaken our fellow men an awareness of the miracle and morality of the market. The task, I know, seems daunting. But it must have seemed that way to our American Founding Fathers when they heralded the truth of the unalienable rights of man for which they fought and then won a revolution, or when advocates of economic freedom first made the case for the free market.
The world was transformed by these ideals of the morality of free men in free markets. What is most important is that each of us understands as best we can the miracle and the morality of the market economy. Too often the friends of freedom allow the advocates of various forms of government regulation, control, and redistribution to set the terms of the debate. Freedom will not win if we do not put those proponents of political paternalism on the defensive.
By that moral right do they claim to tell other men how to peacefully go about their private and market affairs—as long as those men do not use murder, theft, or fraud in their dealings with others? By what ethical norms do those political paternalists declare their right to take that which others have honestly acquired through production and trade, and redistribute it without the voluntary consent of those from whom it has been taken? By what assertion of superior wisdom and knowledge do they presume to know more than the individual minds of all the members of society about how the market should go about the business of manufacturing all the things we want, and matching the demands with the supplies?
Defenders of individual freedom and the market economy have nothing to be ashamed or fearful of in advocating the free society. The American system of limited government, personal liberty, and free enterprise liberated the individual creativity and energies of many millions of people. It provided the greatest opportunity for individual betterment and the highest standard of living ever experienced in human history. It also generated the most charitable and philanthropic society in the world. Therefore, it should be the critics and opponents of this system of individual freedom that should have to justify their continuing calls for reducing our liberty.
It was clear thinking and moral courage that won men liberty in the past. Liberty can triumph again, if each of us is willing but to try. We need to take to heart the words o the free-market Austrian economist and long-time FEE senior adviser, Ludwig von Mises:
Everyone carries a part of society on his shoulders; no one is relieved of his share of responsibility by others. And no one can find a safe way out for himself if society is sweeping towards destruction… What is needed to stop the trend towards socialism and despotism is common sense and moral courage.
Wesley Allen Riddle is a retired military officer with degrees and honors from West Point and Oxford. Widely published in the academic and opinion press, he serves asState Director of the Republican Freedom Coalition (RFC) and is currently running for U.S. Congress (TX-District 25) in the Republican Primary. He is also author of two books, Horse Sense for the New Millennium (2011), and The Nexus of Faith and Freedom (2012). Both books are available on-line at
and from fine bookstores everywhere.
I get a kick every time something horrific occurs in a public school like the one recently in Ohio or a few years ago in Colorado, when some demented kid or kids go on a shooting rampage killing several kids and sometimes teachers, or when one or several kids get killed in an auto accident, leaving the student body along with the teaching staff stunned and asking, “Why?” Then to ease the trauma, and bad experience of the students, the school administrators instead of bringing in religious clergymen to talk to the students, bring in counselors to try to explain to them why sometimes these tragic things occur.
One has to wonder why all these horrific and tragic situations are constantly occurring in our schools. But then, all one has to do is see how our government, particularly the Obama Administration, along with the ACLU, are constantly assaulting our religious institutions, and most recently my own Catholic Church while stopping schools from mentioning God in their school activities. I’m well aware that Madalyn Murry O’Hair, an atheist, was instrumental in her Supreme Court ruling (Murray v. Curlett) lawsuit, which led to a landmark ruling which ended official Bible-reading in American public schools in 1963. In 1995, Ms. O’Hair was kidnapped and murdered, along with her son Jon Murray and granddaughter Robin Murry O’Hair, by her former American Atheist office manager David Roland Waters. I’ve heard of “Poetic Justice” but these O’Hair murders take the cake!
Unable to have Bible readings in school hasn’t stopped there. Now anti-religious groups backed by our government has tried to stop sports teams from praying during sports events, or even at a graduation. Some schools don’t even allow students to give Christmas Cards during the Yuletide Season and the list just goes on and on. Then, when a tragedy occurs like I just mentioned, students, parents, and teachers quickly get together to pray or hold a candlelight vigil in whatever school the tragic event occurred. I often wonder why the government doesn’t try to stop a public school from assembling to have a prayer or candle vigil. To me it’s like the government is trying to look like the good guys during a crisis and are saying, “Keep out God, however, if we’ll need you, we’ll call you!” These anti-God government groups often remind me of criminals who are on death row. Once caught and sentenced to death, most finally ask for forgiveness and suddenly turn to God when they are going to have their lives snuffed out. One wonders why they didn’t look for God and his teachings when they were free men or women. Then it dawns on me that most criminals were probably never exposed to Him even when they were in school. “But that’s their parent’s job James,” some might say. True, but if their parents were not practicing whatever religion, at least in school during a sporting event, or a graduation, or whatever, they could have at least heard some form of prayer if the schools were allowed to do so. “What‘s the harm in that?” I ask myself. In high school in the 50s, I, a Catholic, along with Baptist, Methodist, Jehovah Witness, and Episcopalian students would all bow our heads to hear scripture being read over the PA. I don’t think those Biblical reading did us any harm.
As a kid, I never saw my mom or dad in church, or even praying at home. It wasn’t until mom nearly died with TB that she and dad turned to God. Luckily, I was enrolled in a Catholic school and for 8 years the nuns taught us kids our Catholic faith and made us learn and recite our prayers daily. I’m a big time sinner, and am well aware of what God’s commandments want me to do. Having said that, I often wonder why sort of individual I would have turned out to be had I not been exposed to God’s teachings, probably worse I imagine. I’m not perfect and many times as I’m about to do something that I know offends God I can hear my beloved teacher, Sister Lawrencia, whispering in my ear, “James, you know better than that!”
As I see all this anti-God movement in our country by our government and other radical anti-religious groups I wonder where our country is heading. Some groups have even tried to take the slogan “In God We Trust” out of our currency. Aware that secularists believed that America should be a secular state or a godless state, the framers of the Constitution did not want religion to influence public policy. Simply put, politics and religion don’t mix. Government and religion should be kept as far apart as possible. Yet, the United States Constitution addresses the issue of religion in two places: in the First Amendment, and the Article VI prohibition on religious tests as a condition for holding public office. The First Amendment prohibits the federal government from making a law “respecting an establishment of religion, or prohibiting the free exercise thereof.” This provision was later expanded to state and local government, through the Incorporation of the Fourteenth Amendment. Which leads me to this question, as so stated in the First Amendment, why is President Obama trying to force Catholic run institutions (schools, hospitals, universities, etc.) to offer women abortion prescriptions and anti contraceptives which are totally against the Catholic Church? The First Amendment clearly states that President Obama has no business telling my church, or any other church for that matter, how they should or should not worship. Furthermore, he has no authority to impose his pro-abortion mandates on any church, including my Catholic Church.
I leave with this questions, why is it that Congress can pray before every session? And why do Presidents, and other government officials put their hand on a Bible and swear to uphold the laws of the United States? I often wonder why don’t they use the Koran? And finally, if elected government officials can pray in their assemblies, why can’t school children say a prayer in school?
As regular readers of “Legally Speaking” know, the courthouse is not always a solemn place where matters of great import are considered by Solomonic judges and argued by zealous advocates.It is also a place with its own “Twilight Zone” moments, as the following examples illustrate.
Criminal defense attorney Bill Whitaker recently had one of those “Wanna get away?” moments you see in Southwest Airlines commercials.During closing argument in federal court in Akron, Ohio, Whitaker seemed to forget his role on behalf of defendant Jimmy Dimora, who stood accused of corruption and criminal conspiracy charges in a case involving huge amounts of alleged kickbacks paid to Ohio government officials.Whitaker confidently told the jury he expected a verdict of “guilty” on each and every one of the counts.The defense lawyer realized his mistake after he returned to the counsel’s table where his client was sitting, at which point he promptly turned to the jury and said, “I mean, not guilty.”Too bad trials aren’t conducted using playground rules, and you can’t just blurt out “Do over!”
There are lots of people who waste time at work on the Internet.Some, I’ve heard, actually will go so far as to watch porn sites.But one place where this exercise in bad judgment gets even worse is if your job is that of a court clerk, and that particular day at work involves a rape trial.54 year-old London court clerk Debasish Majumder has worked for years at his court, but in December 2011 he became, by his own admission, “bored.”Unfortunately for Majumder, this boredom overcame him during a rape trial, and he was caught surfing porn sites during witness testimony, only to be caught by the judge (who later reported the clerk to authorities).Police found “child pornography and other extreme images” on Majumder’s home computer.The clerk will now have to stave off boredom in a jail cell, after being charged and pleading guilty to misconduct in public office and possession of indecent images.
In February, a Texas special education officer resigned after being caught on camera sleeping during a due process proceeding brought by the parents of a special needs student against the KellerIndependentSchool District.During the 3-day long hearing, special education judge Larry Craddock allegedly slept for extended periods of time.Attorneys and the child’s parents say that they “dropped water bottles,” tried coughing and shuffling books in futile attempts to wake up the sleeping hearing officer, who resigned after being told they also caught him on video with cell phone cameras.While Craddock blames the episode on “medication,” it turns out this judge is no stranger to catching a few winks on the job.In a 2006 grievance filed against Craddock in a Houston-area family, he was accused of falling asleep 15 times during their due process hearing.
If you’re going to commit a crime, but have a habit of doodling, you may want to reconsider.In Oregon, an appellate court recently upheld the conviction of a man whose cartoon drawing depicting a holdup scene was used as evidence against him. Ariel Jasso was on trial in 2009 for the robbery of a marijuana dealer with several others.Although Jasso denied taking part in the robbery, responding police found (on a school paper in Jasso’s backpack) a carton showing a gunman demanding “jewlery” from a frightened-looking woman.Reasoning that the doodle pointed to greater involvement in the crime than Jasso would admit, the trial court admitted it as evidence and the appellate court agreed that the judge was right to do so.Jasso’s defense attorney tried to dismiss it as just “a doodle in a notebook,” but later admitted it “was a pretty damning piece of evidence.”
A courthouse deputy at the FrederickCounty (Maryland) Courthouse spotted an unusual object next to one of the courthouse columns on March 7, 2012: a coconut.He alerted other authorities to the suspicious food item, and the sheriff’s office, police department, fire and rescue personnel, and the Maryland State Fire Marshal’s Bomb Squad all responded, and the courthouse was evacuated.The coconut was later determined to be “safe.”Another triumph of taxpayer dollars at work!
A New York woman, Lindsay Blankmeyer, has filed a federal lawsuit against her former college, Stonehill College of Boston, Massachusetts, alleging that the administrators at the Catholic school didn’t do enough to keep her roommate from having too much sex.Blankmeyer claims that her roommate was constantly having sex with her boyfriend or engaging in “sexually inappropriate video chatting” with him while Blankmeyer was in the room.She alleges that though she tried to persuade school officials to either move the randy roommate or find Blankmeyer a different room, StonehillCollege administrators took no action.Blankmeyer maintains that the situation caused her to fall “into a dark and suicidal depression” resulting in a leave of absence from school as well as “extensive psychiatric and medical treatment.”A StonehillCollege spokesperson denies the allegations.
Finally, we have police charges only Franz Kafka could love.A man in Winnipeg in Manitoba, Canada was pulled over by police on March 2, 2012, and issued a $199.80 ticket for violating an ordinance against talking on a cellphone while driving.There’s just one problem: neither the man nor his wife were carrying—or even own—a cell phone!He begged the police to search the car, reportedly telling them he couldn’t have been talking on an imaginary cellphone.But that didn’t stop the police from issuing the ticket anyway.The driver even tried reporting the incident to the local police department, but was just laughed at, leaving him with only one choice: fight the ticket in court.
Most Americans know about the brave group of Texans who met 176 years ago on March 2 at Washington-on-the-Brazos to demand their God-given freedoms from a despot named Santa Anna, who was almost as unpopular in Mexico as in Texas.