[THS] Bill Moyers: Six Banks Control 60% of Gross National Product

[The Harder Stuff in news and commentary]

http://www.informationclearinghouse.info/article25308.htm

Six Banks Control 60% of Gross National Product
Is the U.S. at the Mercy of an Unstoppable Oligarchy?

Moyers and economists James Kwak and Simon Johnson wonder whether the
financial powers are more profitable, and more resistant to regulation than ever.

By Bill Moyers

April 23, 2010 "Bill Moyers Journal" -- So even if the Tea Party folks saw the light,
what can ordinary Americans do?

That's the question I want to put to my guests, Simon Johnson and James Kwak.
They have written this new book, 13 Bankers: The Wall St. Takeover and the Next
Financial Meltdown. It's a must read - already a best seller -- and it couldn't have
come at a better time. This book could change the debate over financial reform by
tipping it in favor of the public.

Simon Johnson is a former chief economist at the International Monetary Fund. He
now teaches at MIT's Sloan School of Management and is a Senior Fellow at the
Peterson Institute for International Economics.

James Kwak is studying law at Yale Law School - a career he decided to pursue after
working as a management consultant at McKinsey & Company and co-founding the
successful software company, Guidewire. Together James Kwak and Simon Johnson
run the indispensable economic website BaselineScenario.com

Welcome to you both.

Let me get to the blunt conclusion you reach in your book. You say that two years
after the devastating financial crisis of '08 our country is still at the mercy of an
oligarchy that is bigger, more profitable, and more resistant to regulation than ever.
Correct?

Simon Johnson: Absolutely correct, Bill. The big banks became stronger as a result of
the bailout. That may seem extraordinary, but it's really true. They're turning that
increased economic clout into more political power. And they're using that political
power to go out and take the same sort of risks that got us into disaster in September
2008.

Bill Moyers: And your definition of oligarchy is?

Simon Johnson: Oligarchy is just- it's a very simple, straightforward idea from
Aristotle. It's political power based on economic power. And it's the rise of the banks
in economic terms, which we document at length, that it'd turn into political power.
And they then feed that back into more deregulation, more opportunities to go out
and take reckless risks and-- and capture huge amounts of money.

Bill Moyers: And you say that these this oligarchy consists of six megabanks. What are
the six banks?

James Kwak: They are Goldman Sachs, Morgan Stanley, JPMorgan Chase, Citigroup,
Bank of America, and Wells Fargo.

Bill Moyers: And you write that they control 60 percent of our gross national product?

James Kwak: They have assets equivalent to 60 percent of our gross national
product. And to put this in perspective, in the mid-1990s, these six banks or their
predecessors, since there have been a lot of mergers, had less than 20 percent.
Their assets were less than 20 percent of the gross national product.

Bill Moyers: And what's the threat from an oligarchy of this size and scale?

Simon Johnson: They can distort the system, Bill. They can change the rules of the
game to favor themselves. And unfortunately, the way it works in modern finance is
when the rules favor you, you go out and you take a lot of risk. And you blow up
from time to time, because it's not your problem. When it blows up, it's the taxpayer
and it's the government that has to sort it out.

Bill Moyers: So, you're not kidding when you say it's an oligarchy?

James Kwak: Exactly. I think that in particular, we can see how the oligarchy has
actually become more powerful in the last since the financial crisis. If we look at the
way they've behaved in Washington. For example, they've been spending more than
$1 million per day lobbying Congress and fighting financial reform. I think that's for
some time, the financial sector got its way in Washington through the power of
ideology, through the power of persuasion. And in the last year and a half, we've
seen the gloves come off. They are fighting as hard as they can to stop reform.

Simon Johnson: I know people react a little negatively when you use this term for the
United States. But it means political power derived from economic power. That's what
we're looking at here. It's disproportionate, it's unfair, it is very unproductive, by the
way. Undermines business in this society. And it's an oligarchy like we see in other
countries.

Bill Moyers: And you say they continue to hold the global economy hostage?

James Kwak: Exactly. Because what's happened- what we learned in 2008 were
certain institutions are so big and so interconnected that if they were to fail, they
would cause systemic shocks throughout the economy. That's essentially what
happened in September 2008 when Lehman Brothers collapsed. And what's
remarkable, and I think what essentially proves the point of our book is that almost
two years later, nothing has changed.

Or the only thing that has changed is that these banks have gotten larger, more
powerful, both economically and politically. And they've been flexing their muscles in
Washington for the last year and a half. So Neal Wolin, the Deputy Treasury
Secretary gave a blistering speech to the U.S. Chamber of Commerce in which he
said, look, the financial sector has been spending more than one million dollars per
day lobbying against the reforms we need to fix the financial system. Now, Simon
and I think those reforms that the Administration has proposed do not go far
enough. But we think they're certainly better than nothing. What Wall Street wants is
they want nothing. They want to stop this in its tracks and go back to where we were
five years ago.

Simon Johnson: It's amazing, Bill. But this is this is politics and this is money. And you
know, there's a ground game, which is campaign contributions, which are surging in.
I'm sure on both sides of the aisle. And there's also the ideological space. It's
amazing. The Chamber of Commerce that claims to represent the broad cross section
of American business is siding with six big banks, who favor policies that are directly
contrary to the interests of most of the membership of the Chamber of Commerce.
And that's just not just me saying that. That's Neal Wolin. That's Treasury. That's the
White House saying that now. Calling fortunately, they've come to the point where
they're willing to call the Chamber of Commerce on that. But I don't know if that
message is getting through to people.

James Kwak: You see what the bankers have done is they have taken a basic
principle which is more or less true. Which is that free financial markets do enable
money to go to the places where people need it. But on top of that, they've erected a
system that is indescribably complex. And gives many opportunities to make money
at the expense of their customers, at the expense of their counterparties. Even at the
expense of their own employers. So, one of the things that has happened has been
that Wall Street finance has become so complex and the internal systems of Wall
Street banks has become so complex that if you are a smart banker, who is out to
maximize your own income, you can find the loopholes in the system and you can
exploit them, even if it means taking money from your own-- from your own
company

Bill Moyers: You've been writing this week on your website-- about this hedge fund in
Chicago that's made a lot of money. In effect, betting against the American Dream.
What was that?

James Kwak: Magnetar is a hedge fund which means that other people gave them
money to invest. And their job is to make as much money as possible. And these
were the smart guys in the room. They saw that the system was broken. And they
found a specific way to exploit it. And they knew that they could go for example, they
could go to Wall Street banks and the banks would collaborate in making these
extremely toxic securities. Because they knew what the bankers incentives were.
They knew that the banker's incentives were to do the deal, to do the transaction, to
get the fees up front. And they knew that there was nobody watching out for the
investors. There was nobody watching out to make sure that securities they
manufactured were actually good securities. But essentially what they were doing is
they wanted to short the housing market. And they shorted the market in such a way
that they actually made the problem worse, because what they did is they
encouraged they tried to create these very toxic securities explicitly so that they could
then short those securities. And that's why in a sense, they were they were shorting
the American Dream. But what the real story of Magnetar, I think, is that they were
exploiting a system that was deeply broken.

So, we like to think that the financial system we have in Wall Street are set up so that
as people try to make lots of money they are they are indirectly helping the economy
by making sure their capital goes where it's needed most. What the Magnetar story
shows us that this is a casino, where you can make money you can make money
exploiting the weaknesses in the casino. And it has nothing to do with the American
Dream. It has nothing to do with making sure that capital goes to the places where
it's needed most. I have to say that we owe a great to debt to "ProPublica" and
"Planet Money" and "This American Life" for uncovering this story

Bill Moyers: Public radio's excellent program, "This American Life", did a terrific
broadcast on this subject, based upon the ProPublica investigation that you talked
about. And there's a song in it that I have to play for the two of you and for my
audience. Take a listen.

UNIDENTIFIED MAN: Step one. You write a check for 10 million dollars. Hand the
check to a Wall Street bank, and ask them to make us a CDO. Step two: they create
the CDO, using risky stuff, very risky stuff, extremely risky stuff. Step three: other
investors commit hundreds of millions of dollars to the CDO. Step four: we bet
against the CDO, using a credit default swap. Step five: the housing market crashes.
The CDO's value goes to zero, our bet pays off and we make hundreds of millions of
dollars and before you can say step six, we're rich! We're going to bet against the
American Dream, we're going to be on the winning team, purchase risky debt on a
massive scale. Then place a bet that the debt will fail. Hundreds of millions for
Magnetar, the economy collapsing like a dying star. No one will know till it's on NPR,
and who cares? It's time to hit the town, this sucker could go down. The housing
market's losing steam. And all we got to do to make our dreams come true is bet
against the American Dream!

Bill Moyers: You're smiling, James, but is it really that funny?

James Kwak: Well for decades, we've been told that Wall Street and financial
innovation were promoting the American Dream. And what they've I think what the
show and the song have really hit the hit the nail on is that in fact, you can make
even more money betting against the American Dream. And that's the kind of system
we have today.

Simon Johnson: My bumper sticker from this and I hope it does become a bumper
sticker is, "Trust me, I'm a banker."

I mean, you need to break through there's a level of progress here, Bill. Which is
when people can laugh about it. When people can break it down into pieces. When
you've got the 60-second version. And you can hammer that. And people understand
it. Then you're starting to fight back. This is about ideology. This is about belief. This
is about these guys are smart. These guys are well paid. So they must know what
they're doing. And that's wrong.

Bill Moyers: You wrote on your website this week about how JPMorgan Chase lost
$880 million on one of these kind of whacky obscure deals? But the executives still
paid themselves millions of dollars in up front fees. And you conclude that bankers
placed a ticking bomb on their own bank balance sheet. It exploded and personally
they still made money.

James Kwak: Exactly. Because this is an example so, this is from the "ProPublica"
investigation of Magnetar. essentially the bankers at JPMorgan Chase involved in the
transaction created a new CDO. A new collateralized debt obligation. Which was very,
very toxic. And either they knew at the time that it was toxic, or they should have
known, I have no way of knowing. JPMorgan decided to hold onto most of this toxic
product they-- they had built. A billion dollars worth of toxic product. And then when
the market collapsed, it turned out they lost $880 million on that position.

So, if we think about it, there are really two possibilities here. The bankers involved in
the transaction either really thought that this was a good product and a good
investment, in which case they're incompetent. Or they had- they may have doubts,
they may have thought it was toxic, but they knew that the way the internal systems
at JPMorgan Chase worked, they could get the fees front, they could get bonuses
based on those fees, and leave the bomb for later.

Bill Moyers: Somebody wrote on your blog this week, "If I were to buy an old house.
Make some cosmetic improvements that mask an underlying rot. Got my insurance
company to write an exorbitant homeowners policy exceeding any leans against the
property. Then burned it down, wouldn't that be fraud?" Did you answer this guy?

James Kwak: I haven't. That would

Bill Moyers: Would you?

James Kwak: That would be fraud.

Bill Moyers: That would be fraud. So, explain to me how you manage to lose $880
million on your own company's money to make a quick buck for yourself and you get
away with it?

James Kwak: Well, I think that there are laws in this area. So, for any securities,
there has to be-- for this type of security, there has to be a document which explains
those securities. And that's a document that you give to the investors who might buy
them. And there are laws governing those. And if you put in facts in there that that
are materially false. That you know to be true, that is fraud. But I think the problem
is that in many of these cases, I don't think that many of these people are criminals. I
get a lot of criticism for saying that I don't think these people are criminals. But I
think it's relatively easy to write these documents in such a way that you're not saying
anything you know to be false. And so, they pass through, they pass through any
kind of you avoid any possible criminal liabilities there. But yet, they can be
misleading in a way that encourages people to buy them.

Simon Johnson: I think it's actually worse in some instance, Bill. Certainly for offshore
activities. Goldman Sachs was involved in hiding a lot of Greek government debt.
They then sold new Greek government obligations to people in the United States as
far as far as we understand it. And didn't reveal that they'd hidden the levels of the
true levels of government debt. Now, that is withholding material information. That's
a violation of rule 10B-5. and where is the legal process, you should ask, that holds
them accountable for that? I've talked to lots of very good lawyers about this. And
there are many complicated stories about why Goldman Sachs won't face any civil
action or criminal action. There are huge loopholes in our legal system with regard to
financial services that need to be closed.

Bill Moyers: There were some interesting hearings, as I know you saw, before the
Financial Crisis Inquiry Commission. And some of the first, some of the most
interesting testimony came from the former honchos at Citigroup. Mr. Prince and Mr.
Rubin. Take a look.

CHARLES PRINCE: Let me start by saying I'm sorry. I'm sorry that our management
team, starting with me, like so many others, could not see the unprecedented market
collapse that lay before us.

ROBERT RUBIN: My role at Citi, defined at the outset, was to engage with clients
across the bank's businesses, here and abroad. Having spent my career in positions
with significant operational responsibility at Treasury and, prior to that, at Goldman
Sachs, I no longer wanted such a role at this stage of my life, and my agreement
with Citi provided that I would have no management of personnel or operations.

ROBERT RUBIN: But almost all of us, including me, who were involved in the financial
system, missed the powerful combination of factors that led to this crisis and the
serious possibility of a massive crisis. We all bear responsibility for not recognizing
this, and I deeply regret that.

PHIL ANGELIDES: The two of you, in charge of this organization did not seem to
have a grip on what was happening. I don't know that you can have it two ways. You
were either were pulling the levers or asleep at the switch.

Bill Moyers: How can it be that a Robert Rubin, former Secretary of the Treasury,
pulls down $100 million as a senior advisor to Citigroup and claims he doesn't know
the risk that was involved in what he was trying to sell to clients and foreign officials?
How can that be?

James Kwak: I think there are two things. There's a narrow and a broad view of this.
The narrow view is I think Rubin is actually not lying. I think it is true that Rubin did
not know what the risks were. Although he certainly should have known what the
risks were. And that's because he was fully subscribed to this ideology that free
markets are good. That the market will take care of itself. That, he also suffered from
a lot of the blindness that corporate officers and directors have. Corporate officers
and directors manage these enormous organizations with tens of hundreds of
thousands of people. They have very little idea what's going on. They're getting their
information from subordinates, who are giving them a filtered view of the world. On
the other hand, when he says, no one could have foreseen this. This is what I call an
intellectual cover up. And I say that because it's very disingenuous. Over the past 20
years, these banks used their economic power and their political power to engineer
an unregulated financial environment in which precisely this sort of thing could
happen. And in that sense, I think that this was not an accident. It was not a natural
disaster. It was not unforeseeable. It was the product of the efforts by the sector
over the past 20 years to reshape Washington and to engineer an environment that
would allow them to make as much money as possible. Simon talked earlier about
money. And we know that the financial sector, especially Wall Street, has been, has
made enormous contributions to both campaign contributions and lobbying
expenses. But I think there were, there were two more potent weapons in their
arsenal. One is the revolving door. So, we've seen an enormous number of people
passing back and forth between Washington and Wall Street over the past 20 years.
This is not a new phenomenon. It happens in every industry. But there are certain
things that make it especially pernicious when it comes to finance. One is that, one is
a question of incentives. So, compared to other industries, Wall Street can simply
offer enormous amounts of money. I'm not saying that everyone did that. I'm not
saying that even the majority of people did that. But that is, that is very clear.

Bill Moyers: The New York Times has a story this week saying that 125 former
members of Congress and staffers are now working for the financial industry in
Washington. One of them is Michael Oxley, whose name is on one of the most
important pieces of business legislation in the last 20 years. The Sarbanes-Oxley bill,
which was designed to impose some very strict accounting rules after Enron on all of
this. And there he is now, he's a lobbyist for the securities industry.

Simon Johnson: But Bill, it goes even further and deeper than that. Robert Rubin
was Secretary of the Treasury in the 1990s. He oversaw the deregulation. He fought
hard against Brooksley Born, the only regulator in living memory who tried to prevent
derivatives from getting out of control. He then went to Citigroup. He presided over
this nonsense and this mess. He's now and he was he's clearly éminence grise of this
administration. Mr. Geithner and Mr. Summers are his protégés. But that's, that's not
all. Next week, the Hamilton Project, a project of the Brookings Institution founded by
Mr. Rubin, will have a big public event. Probably Mr. Rubin's most prominent
Washington appearance since the crisis broke. The headline act at this event will be
Vice President Joe Biden. Now, maybe Mr. Biden will be taking on the view of finance
that we all should fear greatly. But I'm not so optimistic.

Bill Moyers: You know, I don't get it. Recently when "Newsweek" wanted to give big
space to somebody to explain how we get out of this, who wrote the piece? Robert
Rubin. I mean, are they locked into this worldview so that they cannot see the
consequences of their own actions?

James Kwak: Well, I think there are a couple things going on. One of the things we
talk about in the book is how the Democratic Party became taken over by this Wall
Street friendly view in the 1990s, which is, you know, extremely important, because
in the 1980s, we had a deregulatory administration that was largely opposed by a
Democratic Congress. And it became very convenient for Democrats, because if you
believed in the ideology of finance, you could sincerely think, I am a Democrat, I am
a servant of the poor and the working class. And yet, I can take campaign
contributions from Wall Street, because I sincerely believe that Wall Street is doing
what's best, what's in the interest of the country.

I think it's been exposed in the last year and a half that a lot of what Wall Street did
was not in the best interest of the country, not in the interest of the people getting
these subprime loans, not in the interest of the taxpayer who was paying for the
immense fiscal costs of the financial crisis and the recession. But it's, there's a curious
time lag going on in the, in the Wall Street, intellectual and political establishment,
where they think they're still in 2005.

Simon Johnson: As I travel around the country, Bill, I'm really struck by the fact that
while people in Washington talk about populist anger in the country, most of what I
encounter is legitimate, sensible anger. People actually understand what happened.
They understand what went wrong. And they want to stop it. And the banks don't
get this. The belief system on Wall Street is the same. Jamie Dimon, head of
JPMorgan Chase, one of the most powerful men in the country. If you don't know his
name, you should look him up because this is a man to fear.

Bill Moyers: Very close to the President. Has dinner- lunch with the President.

Simon Johnson: The President called him a savvy businessman, recently. Jamie
Dimon told his shareholders, we just had probably our best year ever. They didn't
have their best year ever. They went through crisis. They were saved like the rest of
the financial system by the government, by the taxpayers, but that's not how they
see it. That's not what they believe. That's really important. That belief must be
shaken if we're to make any progress at all.

Bill Moyers: But we can't compete with those lobbying dollars. We can't compete with
this interlocking oligarchy that you say. That's a fact.

Simon Johnson: Bill, in 1902, when Theodore Roosevelt took on the industrial trusts,
nobody knew what he was doing. Nobody thought he could win. The Senate was
called the Millionaires Club for a reason. And it wasn't even any theory. The antitrust
theory, everything we know and believe about monopoly, why monopoly is bad for
society, didn't really exist, certainly not in the mainstream consensus, when Roosevelt
decided to take on J.P. Morgan, okay?

Ten years later, the mainstream consensus has shifted completely. People understood
from the debate and from the struggle, from the fact- from the way the trusts fought
back and the way they spent their money, they began to understand this was
profoundly dangerous, politically and socially. 1912, everyone agreed that breaking
up Standard Oil was a good idea. Had to be done. They broke into 35 companies,
most of them did well. The shareholders actually made money. It's a very American
resolution, Bill. And it's very clear that we've had this confrontation before in
American history: Andrew Jackson against the Second Bank of the United States in
the 1830s, Jackson won, barely; Theodore Roosevelt, the beginning of the 20th
Century; FDR in the 1930s.

The American democracy was not given to us on a platter. It is not ours for all time,
irrespective of our efforts. Either people organize and they find political leadership to
take this on, or we are going to be in big trouble, okay? Now, I agree, we don't have
Theodore Roosevelt. I agree. The only Senator who speaks complete truth and clarity
on this issue is Ted Kaufman from Delaware, who's an appointed Senator, he got- he
was appointed to Joe Biden's seat, and he's not running for reelection. He therefore
doesn't care about the money. I take that point. But there are others. There must be
others. We must find them and we must fund them, individually, sufficiently, to fight
against this nonsense from the corporate sector.

I would like to emphasize, Bill, I'm a professional entrepreneurship, James is a
successful entrepreneur. We're not anti-finance. We have many people endorsing the
book, backing us, and you know, they, we put their blurbs in the book for a reason,
who are from finance. Who really appreciate and understand this key point. Which is
the complexity has gone too far. It's become dangerous. And we need to return our
financial system to a simpler, more direct, easier to manage way.

Bill Moyers: You both paid attention last week, to the hearings in Washington, on the
Financial Crisis Inquiry Commission. Was there a theme that you heard emerge
there?

James Kwak: I think the biggest theme that I heard emerge was that this was an
innocent mistake. So, what I mean by that is-

Bill Moyers: You mean the collapse of 2008? All of this? What- was-

James Kwak: Exactly.

Bill Moyers: An accident?

James Kwak: Yes, an accident in the sense that-

Bill Moyers: Natural disaster?

James Kwak: As we heard Chuck Prince say and Robert Rubin say, we couldn't see it
coming. These were, there were risks that build up in the system, and our models
didn't account for it. We're sorry that it happened. Not even, we're sorry that we did
it. We're sorry that it happened.

And I think that this is, I mean, it's unfortunate if they really believe this. Because
again, if we just take a very small example, one of the things that clearly went wrong
is these banks were not able to manage their own risk. They did not know what
positions they had. They did not know what market forces they were exposed to. You
would think that should be the first job of a bank. And I don't think this was an
innocent mistake. And I say that for this reason. It was in the bank's short term
financial interest to underestimate their risk. Because if they had estimated their risk
accurately, they should have had to set more capital aside, they would have been
less profitable.

So, yes, it's possible that the CEOs of these banks honestly did not understand their
risk positions. But that mistake-- there was an incentive behind that mistake. You
know, banks never overestimate their risk. These mistakes always only go in one
direction. Because that's the direction they have an incentive to make the mistake in.

Bill Moyers: What do you mean they have an incentive to make a mistake?

James Kwak: So, in the short term, a bank's profitability is going to depend on how
much capital it has to set aside. So, in banking, if I have a certain position, I have to
set aside a certain amount of capital to protect myself from that position going bad. If
I think the position is less risky than it actually is, I'm going to set aside less capital to
cover that position, and that's going to give me a higher profit margin.

If I'm the head of this bank, that means that in the short term, I'm going to have
higher profits, higher stock price, more money for me, but I'm underestimating the
risk of something blowing up several years down the line. But we know that the,
essentially, the incentive systems within these banks favor short term profits over long
term solvency.

Simon Johnson: The most profound thing, observation, on this structure, inadvertent,
I would say, observation, was by Chuck Prince, the former head of Citigroup. In July
2007, right before the whole structure began to crumble. He said, "As long as the
music is playing, you've got to get up and dance." And that's a statement about the
incentive structure. Saying, well, everybody's doing it. That's how we all make
money. We've got to do it, too. I'm just a bank doing what all the other banks are
doing. That's absolutely the heart of the problem. I would also say and tell you, and
emphasize, these people will not come out and debate with us. The heads of these
companies or their representatives, they will not come out. They're afraid. They don't
have the substance. They don't have the arguments. We have the evidence. They
have the lobbyists. And that's all they have.

Bill Moyers: They've got the power, the muscle, the money.

Simon Johnson: They have money.

Bill Moyers: You just have the arguments. You just have the facts. On your side.

Simon Johnson: Absolutely. That's exactly what it comes down to.

Bill Moyers: Let me show you one of my favorite moments of the week. The
commission on the crisis is looking into two former executives of the big mortgage
giants, Fannie Mae and Freddie Mac. And the Fannie Mae guy tries to say, what
happened was Congress made us do it.

BILL THOMAS: Was there an opportunity, perhaps, to reprioritize your charter and
focus on those things that were most relevant in the marketplace that would have
made the institution more sound?

ROBERT J. LEVIN: That wasn't done at my pay grade.

BILL THOMAS: My understanding is, between 2000 and 2008, you made $45 million.
So only people above 45 thousand-- 45, excuse me, million dollars, between two and
2008, could answer that question?

ROBERT J. LEVIN: What I meant by the, what I was addressing was the question of,
could we have affected the charter act--

BILL THOMAS: Right. And it was above--

ROBERT J. LEVIN: Of the company--

BILL THOMAS: Your pay grade.

ROBERT J. LEVIN: Yes. And my language was sloppy, and--

BILL THOMAS: No, it wasn't sloppy.

ROBERT J. LEVIN: And what I meant by that--

BILL THOMAS: It was flippant, if you want that as a choice.

ROBERT J. LEVIN: What I meant by that, sir, was that that was in the purview of the
Congress, not the company.

Bill Moyers: You're laughing.

Simon Johnson: So, look, what I say to my, to all my Republican friends: on Fannie
Mae and Freddie Mac, you were right. They became too big to fail. They captured
Congress. They were known as some of the most formidable financial lobbyists in the
1990s. They argued for the rights to take on these kinds of risks, okay?

And the Republicans were right. The Republicans called them on this. But now it's
the big private banks that have the same incentive structure. That have bulked
themselves up so big that you can't let them fail. That's what we saw in September
2008. Hank Paulson looked at his options. And they are all pretty awful. And I'm not a
big fan of Hank Paulson, but I think the moment where he looked at it, he was right.
That if you let JPMorgan Chase or Goldman Sachs fail, the consequences would have
been devastating, because they're so big. It's a Fannie May and Freddie Mac
structure come to Wall Street, come to the top guys on Wall Street. And our
Republican colleagues and friends should recognize this, they should acknowledge it.
And then we can all fix this together.

Bill Moyers: Well then why is Mitch McConnell, the Senator from Kentucky, who is the
Republican Leader in the Senate saying what he said this week? Let me show you
from his statement.

SEN. MITCH MCCONNELL: If there's one thing Americans agree on when it comes to
financial reform, it's that it's absolutely certain they agree on this: never again, never
again should taxpayers be expected to bail out Wall Street from its own mistakes [...]
This bill not only allows for taxpayer-funded bailouts of Wall Street banks, it
institutionalizes them. The way to solve the problem is to let the people who made
the mistakes pay for them. We won't solve this problem until the biggest banks are
allowed to fail.

Bill Moyers: He seems to be saying what you say, right?

Simon Johnson: It's a clever piece of political manipulation. It's not at all what we
say. What he says is dangerous and deliberately misleading.

Bill Moyers: How so?

Simon Johnson: He says let the biggest banks fail, go bankrupt, don't do anything,
leave the situation as it is now and when they get in trouble, let them fail. If you do
that, you'll have catastrophe. The bankruptcy system clearly and manifestly cannot
deal with the failure of a complex, global, financial institution. And we have the
evidence before us in what happened after Lehman Brothers failed. That was
bankruptcy. It caused chaos around the world, Bill. That's what the Republicans are
advocating. Is we just leave things as they are and next time we'll take that chaos
and we'll get a second Great Depression. We're arguing for reform. We're arguing for
change. We're arguing for ways to make those biggest banks smaller and safer. If
they were small enough to fail, that's a very different story. And that's a much safer
place to be.

Bill Moyers: What do these big six banks think about what Senator McConnell is
saying?

James Kwak: Well, the big six banks don't want any reform at all, essentially. So, I
think that they are, and there's some evidence that Senator McConnell has been
talking to the big banks and to other people on Wall Street.

Bill Moyers: There have been published reports that he attended a fundraiser with
hedge funds and other Wall Street poobahs just last week, before he made this
statement. And the reporters, knowing that he had been at this big fundraiser for
hedge fund and Wall Street tycoons a week before, begin to press him in an
unusual, and actually promising way. Take a look at this.

REPORTER: How do you push back against this perception that you're doing the
bidding of the large banks? You know, there was a report that you guys met with
hedge fund managers in New York. A lot of people are viewing this particular line of
argument, this bailout argument as spin--

SEN. MITCH MCCONNELL: You could talk to the community bankers in Kentucky.

REPORTER: I'm not asking you about the community bankers--

SEN. MITCH MCCONNELL: But, I'm telling you about the community bankers in
Kentucky. This is not, everybody--

REPORTER: Have you talked with other people other than community bankers?

SEN. MITCH MCCONNELL: Well, sure. We talk to people all the time. I'm not denying
that. What's wrong with that? That's how we learn how people feel about legislation.
But the community bankers in Kentucky, the little guys, the main street guys, are
overwhelmingly opposed to this bill.

REPORTER: Well what would you say to folks who say that this is just spin to deflect
attention from the fact that you're representing the large banks?

Bill Moyers: So, he deflects their questions about being at this meeting with the large
banks, the oligarchs, as you called them. And talks about community banks back in
Kentucky. What do you make of that?

Simon Johnson: Well, two things, Bill. First of all, he's embarrassed, as he should be,
and that's good. I don't think they used to be embarrassed. I think-- I hope Vice
President Biden is somewhat embarrassed by the event he's going to attend next
week with Robert Rubin, unless he criticizes Rubin and goes after Rubin's view of the
world. In which case, I'm okay with that.

James Kwak: This other part of the problem which Simon and I talk about more in
the book, and that we don't think is fully solved by the legislation in the Senate, is
why do you have to have these too big to fail banks in the first place? So, we think
that's the obvious and simplest and almost unarguable solution that you should
simply not have banks that are too big and too interconnected to fail.

Simon Johnson: There are no benefits to society, Bill, from having banks that are
larger than $100 billion in total assets. This is a well-established fact. The evidence
does-

Bill Moyers: You make the case.

Simon Johnson: There's nearly 100 pages of footnotes for a reason.

Bill Moyers: But don't let the facts get in the way.

Simon Johnson: I understand. But there's no evidence, okay? We've let our banks
get to $2 trillion-- Citigroup when it almost failed or did fail in fall 2008 was a $2.5
trillion bank. Jamie Dimon runs a $2 trillion bank at JPMorgan Chase and says, if
we're big, it's 'cause we're beautiful and efficient. And we should be allowed to get
bigger. It's not true. They're big because of the government subsidy, right? That's
what gives them the profits at this level. If they get bigger, they'll become more
dangerous. That's, those are the costs. On the benefit side, there's no economy of
scale or scope or anything else to support the case that banks bigger than $100
billion. That's on a pure cost/benefit basis.

James Kwak: So, there's no way that Jamie Dimon, who according to many observers
is perhaps the savviest bank CEO, the best one out there, there's no way that he can
know what's going on within his organization. There's no way he can even have an
information system that will let him know, efficiently, all the things that he needs to
know. So, why is JPMorgan Chase so big? One reason is that it's in the interest of
CEOs to have large banks. Because if you have, the larger your bank, the bigger your
salary. But then at the same time, it creates this incentive among the traders, the
people who really make the money or lose the money in these banks. It creates an
incentive to the traders to essentially exploit the management failings of the
company.

Bill Moyers: The toughest hearing in Washington this week was conducted by
Senator Carl Levin in the Senate, looking into Washington Mutual. That's the largest
bank ever to go under in our history, and there are some friends of mine in
Washington say there's some possible criminal indictments going to be coming out of
this. Let me show you Senator Levin laying out some of the evidence.

SEN. CARL LEVIN: To keep that conveyor belt running and feed the securitization
machine on Wall Street, Washington Mutual engaged in lending practices that
created a mortgage time bomb...WaMu built its conveyor belt of toxic mortgages to
feed Wall Street's appetite for mortgage-backed securities. Because volume and
speed were king, loan quality fell by the wayside and WaMu churned out more and
more loans that were high risk and poor quality.

Destructive compensation schemes played a role in the problems just described.
These incentives contributed to shoddy lending practices in which credit evaluations
took a back seat to approving as many loans as possible.

Bill Moyers: He goes on, you know? There's evidence that WaMu knowingly sold
fraudulent loans to investors in the form of securities. That loan offices were falsifying
documentation in order to churn out as many lousy loans as they could. And that
senior management was putting pressure on the loan officers to do just this. And he
claims, what we were talking about, that destructive compensation schemes were
part of the problem.

James Kwak: I think that some people may go to jail. I think that falsifying loan
documents, I think there's a good chance people could go to jail for that. I think that
if there are- you know, when you get the emails of people at midlevel managers at
these banks saying, you know, falsify the loan documents. They might go to jail as
well. I don't think anyone who's high up in these banks is going to go to jail for this
reason.

I think that, for example, these loans were eventually sold on to investment banks
which used them to manufacture new securities. Those investment banks were
getting documents from Washington Mutual. These are like representations and
warranties. So Washington Mutual is saying, you know, these loans meet these
criteria. And the investment bank is going to say, I got this document from
Washington Mutual. They told me the loans were good. You can't send me to jail.

And he's absolutely right. So, you've got investment bankers who must have known.
Who should have known that a lot of these loans are bad. But they've got a piece of
paper from the person selling them the loan saying they meet these criteria. He's
pretty much Scott free when it comes to criminal liability. So--

Bill Moyers: Mistakes were made, but not by me, right?

James Kwak: Exactly.

Bill Moyers: I mean, that seems to be the mantra that came through all these
hearings this week: mistakes were made but not by me.

Simon Johnson: Or, no, I think they also say, Bill, well, everyone made mistakes, Bill.
You know, we're just human. This was beyond our control. And that's not true, these
are systems they controlled, they designed. Mr. Rubin designed this, right? And I
want to point out there's something very interesting in this WaMu conversation.

It's only when a firm collapses that you get full discovery. Now, Senator Levin is a
great voice on this. And I think he's absolutely nailing this. But he only has the ability
to get at this level of detail and documentation from a company that failed like
WaMu. For the people who were able to keep going. The Goldman Sachses of this
world, you'll never know what they were really up to.

These are incredibly smart people. They're very well paid. They have ever incentive.
The regulators are totally outgunned. It's not an accident that this complexity allows
them to get away with it. It's by design. That's the system. Not a conspiracy, Bill.
Don't say that.

Bill Moyers: I wouldn't.

Simon Johnson: It's a system of--

Bill Moyers: A system.

Simon Johnson: It's a system of beliefs and incentives, much more profoundly
dangerous than a conspiracy.

Bill Moyers: Why?

Simon Johnson: Conspiracies you can unroot. Conspiracies you can have, you know,
a couple of hearings. People can understand it on TV. You get the sound bite. This is
very complex. This is about what many, many PhDs and specialists in finance have
cooked up over 20 years with the active participation of the people who were
supposed to oversee that in Washington.

Bill Moyers: Is this what the blogger meant when he posted on "The Baseline
Scenario" this week, "Unnecessary complexity just creates rich opportunities for
systemic corruption"?

James Kwak: That is certainly one of the things he meant.

Bill Moyers: What should be the purpose of reform? Should it change the behavior of
Wall Street, or should it change the regulation of Wall Street? And there is a
difference, is there not?

Simon Johnson: Absolutely. Look, I don't know if this will work or not. I don't know if
at the end of the day, we will end up supporting the bill. I hope we will, okay? But
whatever happens, this is one legislative cycle. Theodore Roosevelt did not change
the mainstream consensus in this country with regard to power and monopoly and
the dangerous side effects of big business overnight.

He didn't do it in one year or two years. It was a ten year process. The consensus
has to change, Bill. And regulation, the role of regulation or understanding of
regulation with regard to finance has to change. The regulation is there to limit the
downside to society and to make sure that all of these activities have as much as
possible of the positive effect on the economy without generating these massive
negative shocks. And we're a long way from that point.

James Kwak: I think the distinction you made is a very good one. Between changing
the regulation of Wall Street and changing Wall Street itself. I think the bill does a lot
of things that will improve the regulatory system.

I think it does not do a lot to change Wall Street. Certainly, better regulation will
change Wall Street a little bit, but some of the basic fundamental issues, I think, for
example, the fact that in many realms, Wall Street banks knowingly make money by
finding, because they want to put on a trade, they find a sucker to take the other
side of that trade.

They're making money directly off of their customers. You can't really have it any
other way when you're engaged in proprietary trading. These, this is not going to
change. The fact that we have these enormous banks that are too big to manage
and that have a competitive advantage, because they're big. That's not going to
change.

And that's one reason I think why it's not going to satisfy the many people in America
right now who are upset and frustrated about what's happen. Because they're going
to see that what we've done is we've made Washington a little bit better at regulating
Wall Street. We haven't changed the fundamental causes.

Bill Moyers: Well, I've seen one regulatory agency after another taken over by the
very industries they were supposed to regulate.

Simon Johnson: This is absolutely right, Bill. And, you know, the person who nailed
this intellectually a long time ago was from the University of Chicago. George Stigler.
Not a man of the left. He got a Nobel Prize for his observation. All regulated
industries end up with the industry capturing the regulators.

And what's happened to us is a Stigler, exactly what Stigler warned against on a
massive scale. And you have to think very hard about this. The Administration still
argues that we should delegate responsibility, going forward, for lots of things
around finance. Like how much capital you should have. Delegate that to the
regulators.

Now, that's crazy. That's not acceptable. That is not what they should do. Particularly
because, and any Democrat should say, well, wait a minute, next time a free market
President who doesn't believe in regulation comes in will gut the system. And any
person from the right who's read Stigler should say, Well, these regulators are just
going to get captured. You've got to put it in legislation. You've got to design the
legislation. You've got to go after the things that can be legislated. Congress must not
abdicate this responsibility.

Bill Moyers: So, you would break up the banks. That's what you would do, right?

Simon Johnson: We would set a hard size cap on the banks. And the banks, in order
to comply with that, would have to break themselves up. So, take a bank like
Goldman Sachs, for example. It's about ten times bigger than what we would be
comfortable with. And, you put that cap in-- they have to figure out how to do it.
They have a fiduciary responsibility to their shareholders not to lose value as they
comply with this law, not a regulation, law, right? Our book is called "13 Bankers"
because it was 13 bankers who were pulled into the White House last March, and
they were saved completely and unconditionally in the most amazing deal ever: their
jobs, their pensions, their board of directors, their empires. But the title is also an
echo of a remark made forcefully in 1998 by Larry Summers, who was then Deputy
Treasury Secretary to Brooksley Born, who was trying to regulate over the counter
derivatives.

And she was way ahead of her time, by the way. None of this nonsense existed. But
she had- she saw this coming in a very profound sense. And she wanted to act in a
preemptive and preventive way. Now, Larry Summers called her up. This is according
to the public record and it's not been disputed by any of the protagonists here.

He called her up and he said, Brooksley, if you do what you want to do, which is
regulate the derivatives. Over- regulate all this over the counter derivatives, you- I
have 13 bankers in my office who say you will cause the greatest financial crisis since
World War II., right? That was what he believed. That was the prevailing philosophy
of the Rubin wing, the Wall Street wing of the Democratic Party.

That was Alan Greenspan's view. That is what brought us to this point. The idea that
if you regulate, in any fashion, in any form, you will cause problems, you will prevent
growth, you will cause crisis. That view is profoundly wrong. It has been manifestly
and repeatedly demonstrated to be wrong. And the people who hold that view must
change their minds or they should be voted out of office.

Bill Moyers: If Wall Street's behavior doesn't change, can we have another financial
catastrophe like the one in 2008?

James Kwak: The definition of insanity is repeating the same thing over and over
again and expecting a difficult result. And I think one of the core messages in our
book is that the fundamental conditions of the financial system today are the same as
the ones we had leading up to this crisis. And it would be folly to expect a different
outcome.

Now, the legislation will help in certain ways. It will certainly, you know, it'll bolt the
barn door after the horses have fled. The Consumer Financial Protection Agency will
make it much harder to have a bubble built on subprime mortgages. But we'll have a
bubble built on something else. And it may even be on a market or a product that
doesn't even exist yet.

And that's why, again, legislation is helpful, but if you're going to have the same kind
of incentive structures on Wall Street and the same degree of concentration, the
same degree of political power, it's likely that we'll have another financial crisis.

The financial world has gotten much more dangerous in the last 30 years. We had
this one. We had the stock market bubble of 2000. We had the long term capital
management crisis. We had the S & L crisis. We had the Latin American debt crisis.
And the question is, are these crises going to-- are we going to somehow figure out a
way to have fewer of them, or a way to make them less damaging? And I'm not sure
I've seen that.

Simon Johnson: The structure of the system is such that people will take these
egregious risks. That's what they're paid to do. They will mismanage their companies.
That is absolutely in their incentive. And they get the upside, remember? Goldman
Sachs just helped Geely Automotive, a Chinese car company, buy Volvo from Ford.

Now, that's an interesting investment. It's a very risky investment. If that goes well,
Goldman will get tremendous upside. If it goes badly or if Goldman's other
investments go badly, who gets the downside? Well, Goldman Sachs is a bank
holding company now. They were allowed to become that in September 2008 as a
way to rescue them. They have access to the Federal Reserve discount window.
Okay? If Goldman Sachs gets into trouble, that's the responsibility of the Federal
Reserve and the downside is for society. That is an untenable, unacceptable position
in America today.

Bill Moyers: We are moving now toward the decisive moment in this fight for reform,
sometime in the next two or three weeks, we may well have a vote in the Senate. But
what are you going to be looking for over the next two weeks that will convince you
there is some possibility of true reform?

James Kwak: Well, it's going to be a little bit difficult, because right now a lot of the
action is in the fine print. As often happens in the last phase of bills. But I think
there's going to be an attempt to weaken the Consumer Financial Protection Agency.
Even more than it's been weakened already.

And essentially, what will happen is opponents will try to make the C.F.P.A.
subordinate to some other regulators, who can veto it. I think that on derivatives,
there's going to be a lot of action, essentially on this issue of exemptions.

So, the derivative legislation looks quite good if you read the first page and look at
the headlines. But then there are exemptions inside it. And the question is how big
are the exemptions. The thing that we care about most is on the too big to fail issue.
So, are we going to have real constraints on the size and scope of these banks?
Things that the Obama Administration unveiled in principle to great fanfare in
January.

They had a press conference with Paul Volcker and said we're going to have these
Volcker rules. Those rules have been considerably watered down in the legislation.
And I think that, you know, what we would most like to see are serious constraints on
the scope and the size of these banks. Those are the main issues that I'll be looking
at.

Simon Johnson: So, the second Volcker rule was proposed in January was to put a
size cap on our largest banks at their current size. Now, that-

Bill Moyers: $2 trillion?

Simon Johnson: Yes.

Bill Moyers: 2 trillion- a

Simon Johnson: Now, a size cap is a good idea. Obviously, the current size makes no
sense at all, because that's how we got into this mess. There will be amendments
brought forward to the floor of the Senate, if this process has any integrity at all. For
example, Senator Sherrod Brown has a very good draft amendment.

Bill Moyers: Ohio, right?

Simon Johnson: Absolutely. And he will, in that amendment, press for a hard cap on
the size. And I think also restrictions on the scope. And they'll give a lot more
restrictions in legislation, which regulators will have a hard time getting out to, in
terms of what can be allowed in our biggest financial institutions.

For me, at least Bill, that is going to be the critical moment. How many people
support that amendment or that kind of amendment. Does the Democratic leadership
come out in favor of it? Where does the White House stand on this? If the White
House steps back and the White House says well, it's all up to the Senate, we're
staying out of this. I think you know what's going to happen. You're going to get
mush, right? Nothing really meaningful will come of it.

If the President takes the lead, the President takes this one, if the President takes this
to the country, takes on the Chamber of Commerce, goes directly to people. And
explains why you need to make our biggest banks smaller. As one way, that's not a
sufficient condition for financial stability, but it's necessary and it gets at the heart of
their political power. Take on the big banks. Take them on directly. That's what
Jackson did. That's what Theodore Roosevelt did. That's what Franklin Roosevelt did,
too.

Bill Moyers: Simon Johnson, James Kwak, thank you for being with me. The book is
13 Bankers: The Wall St. Takeover and the Next Financial Meltdown. We will link this
conversation with your website, BaselineScenario.com.

Bill Moyers is the host of Bill Moyers Journal on PBS.