Thursday, September 25th, 2008
Baton Rouge, Louisiana
GREED IS GOOD IN LOUISIANA
The national financial crisis finds Wall Street and financial regulators scurrying for cover, and trying to find a quick fix to financial problems that have festered for years. It's puzzling that there is been nary a peep out of Louisiana officials, particularly in light of the fact that lack of regulation of the very financial institutions creating this meltdown has been part of the culture of Louisiana regulators for years. Where is the outrage by Louisiana members of Congress? And why have Louisiana legislators failed to address a number of serious financial problems right here at home?
Oh you will hear that this is a federal problem, and there is not much which Louisiana officials can do about the financial meltdown. But even though there is plenty of blame to go around, at least in other states, there is a scurrying of effort to tighten the regulatory system that in recent years has acquired a laissez-faire mindset.
So can we get a simple explanation as to exactly what happened? Here's a quick summary. In the old days (pre-1990s), if you wanted to buy a new home, you went down to your banker or savings and loan to submit a financial plan. A solid down payment was required, generally 20%, that you might have obtained by saving a little each month over a number of years. You had to show the bank or savings and loan that you had decent credit, and that you had a job. You had to have some income coming in. The financial institution would check out your credit, and if you qualified, then, and only then, did you become a homeowner. Your loan was approved.
That all changed in recent years, driven by Wall Street greed that required more churning of large blocks of money to create more fees to line their pockets. Your bank or savings and loan no longer required a down payment. And the money was cheap, often financed by state government. Banks were encouraged to loan to almost anyone, and if the loan defaulted, there always seemed to be some state or federal program to pay it off.
While the financial markets were churning and loaning all this money, they were supposed to hold something back in reserve. Loans fail. You have to have a safety net. And here' is where state and federal regulators really dropped the ball. For every $30 loaned out, there was often as little is only one dollar held back. That just was not enough. Not enough in reserve. So the economy began to slow down, a number of people lost their jobs, they could not pay their home loans, and defaults begin to take place in pretty sizable numbers. When major Wall Street firms like AIG, which has a major presence in Louisiana, began getting cash calls, they had to put up big bucks. And they just didn't have the money to put up.
Here is how companies like AIG got into trouble. They began insuring something called credit default swaps, which any way you slice it is an insurance policy. AIG was insuring against the possibility that a bank or other lender would not be able to pay on its obligations. Now I know all this sounds complicated. Simply put, AIG was selling insurance to be sure that banks or other lenders would continue financing new homeowners.
Now all these "credit default swaps” have been packaged in something called derivatives. These derivatives were bought by banks all over the world. And you know what? They were not regulated. Insurance regulators, including those in Louisiana, turned their heads, and let these insurance products be bundled and sold with no oversight.
Banks and insurance companies are supposed to have certain regulatory capital requirements. They have to have so much money on hand. They have to have funds available when it's time to pay claims. Surprisingly, these unregulated derivatives were able to be counted towards those requirements of having money available. Simply put, the derivatives were allowed by financial regulators to be bought by banks to get around their regulatory capital requirements. It was a sham. Because you just don't know what the derivatives are worth. A bank or insurance company may say the derivatives are worth $1 million, when in actuality, they end up selling for only $100,000. It's often very hard to tell just what they're worth. And that's why it's imperative the derivatives be regulated. But they, unfortunately, are not.
The New York insurance department has jumped into this financial mess big time, obviously trying to cover their you know what. They will immediately begin regulating the use of credit default swaps since they now admit that such products are insurance that should have been regulated all along. At least they have the courage to face up in New York about their failure to give proper oversight. Here is what the New York insurance commissioner said this week: "It's about the government choosing not to regulate, standing by and doing nothing. That is what is shaking up the world today."
Warren Buffett, who has always been considered one of the shrewdest financial investors and wealthiest men in America, recently called these insurance products, these credit default swaps, "financial weapons of mass destruction." Former President Bill Clinton was on the David Letterman show this week, and also laid blame at the feet of regulators, saying: "There were not enough financial reserves required, and there surely was not enough regulation."
AIG and other financial institutions have a significant presence in Louisiana. Many Louisiana homeowners are insured by AIG and its subsidiaries. A number Louisiana banks are directly tied to the bundling of these credit default swaps. If the Governor and other state officials continue to express concerns about Louisiana's image, they may want to focus in on the lack of financial regulation. It's not just a national problem. It festers right here in our own backyard
“The point is, ladies and gentleman, that greed, for lack of a better word, is good. Greed is right, greed works. Greed clarifies, cuts through, and captures the essence of the evolutionary spirit. Greed, in all of its forms; greed for life, for money, for love, knowledge has marked the upward surge of mankind.”
Gordon Gekko- “Wall Street”
Peace and Justice.
Jim Brown’s column appears weekly, and is published in a number of newspapers and on websites throughout Louisiana. You can read past columns by going to Jim’s website at www.jimbrownla.com. Jim’s regular radio show on WRNO, 995fm out of New Orleans can be heard each Sunday from 11:00 am till 1:00 pm. It is streamed live, world-wide at WRNO.com.