De-Regulation, De-Supervision, and De-Criminalization Set the Stage for the 2008 Financial Crisis (Pt. 1/3)
White collar criminologist Bill Black analyzes how the U.S. got into the 2008 financial crisis and what it means that we have not learnt the lessons from that crisis 10 years later, on the anniversary of the Lehman Brothers collapse
MARC STIENER: Welcome to The Real News Network. I’m Marc Steiner. Great to have you with us.
On September 15, 2008, Lehman Brothers filed for bankruptcy, and the meltdown that met America, the world, and Obama as he entered the White House door began. It was the largest bankruptcy in American history. Lehman Brothers was too big to fail, over $600 billion in assets. The renegade firm, where you didn’t need an Ivy League pedigree to succeed or get in. It created the greatest financial disaster since the Depression of the 1930s. How did this happen? What precipitated this disaster 10 years ago that not only crippled our economy, but destroyed the lives and savings of millions of Americans, and triggered an international downturn in the world economy? How did they trigger such a financial crisis? What lessons did the nation learn from all this? Did Obama and Congress really rein in Wall Street? Could this happen again?
The Great Depression forced Congress to pass the Glass-Steagall Act of 1933 to regulate the financial industry. Bill Clinton and the new Democrats killed Glass-Steagall in the ’90s. After the meltdown of 2008, Congress passed a less comprehensive act, Dodd-Frank, that Trump is now disregarding and doing away with as quickly as he can as he appoints Wall Street leaders to the Federal Reserve, who want to further loosen restrictions on financial institutions of any kind.
So where does this leave us, after millions of people’s lives and savings have been destroyed? Are we heading for another crisis? Did our political leaders learn anything from the financial collapse of 2008? What do we need to know 10 years later? Well, joining us once again is frequent Real News contributor Bill Black, who is Professor of Law and Economics at the University of Missouri Kansas City, and author of the book The Best Way to Rob a Bank Is to Own One. And welcome back, Bill Black. Good to have you with us.
BILL BLACK: Thank you.
MARC STIENER: So take us back to some history. What happened there in 2008? And I know in that process you want to take us back even further, so start.
BILL BLACK: OK. So the crisis doesn’t begin with Lehman. Lehman dies because of the crisis. So the crisis became that bankers didn’t trust bankers anymore. And they didn’t trust them for good reason, because bankers were lying to each other about the quality of assets. So Lehman, for example, did not have $600 billion in assets. Maybe it had $300 billion in assets. It was planning to have $600 billion. And it didn’t have $600 billion, roughly, in liabilities; it had liabilities of over a trillion dollars which it wasn’t recognizing. Why? Because it was one of the leading sellers of fraudulent loans to the rest of the world. It sold hundreds of billions of dollars under false representations and warranties, and that’s how you get these massive liabilities for these institutions that you’ve seen in the lawsuits.
The crisis began, as I said, when markets started to shut down. And in particular they shut down for short-term borrowing. And Lehman and many other places had a strategy that was absolutely dependent on the ability to borrow incredibly short term. As soon as those short-term markets closed down, Bear Stearns first, which died in March, was absolutely certain it was going to fail, and then it was certain that Lehman Brothers was going to fail. As soon as Lehman Brothers failed, AIG, the massive insurer that had the CDS was sure to fail. As soon as Lehman failed, the largest- one of the largest money market funds in the world failed within six hours- actually within four hours of the opening. It failed in one of the largeest runs in world history.
MARC STIENER: So Bill, the question I have, though, and I think many people have, is how did this happen? In other words, one of the- I was doing the reading about, leading up to this, and during our intro here I talked about Glass-Steagall, that was put in place in 1933, that was supposed to regulate the financial industry, then was killed by the Clinton administration. And so I mean, what was not in place that would have regulated this industry to not allow this to happen? And could it have not allowed this to happen?
BILL BLACK: So again, there are the three Ds that we always emphasize: Deregulation, desupervision, and de facto decriminalization. And all three of those things had occurred. There had been some deregulation at the statutory level. You talked about one, Glass-Steagall. But the even bigger one was the Commodities Future Modernization Act, which said nobody, I mean nobody, is allowed to regulate over-the-counter financial derivatives. That’s what’s going to blow up AIG and much of the financial world. So there was deregulation on the statutory level.
There was much bigger deregulation at a regulatory level. In other words, just like Trump they just passed new regulations, they got rid of the old regulations. And they always substituted guidelines for regulations. And guidelines, by definition, are unenforceable. So when you told the institution, but look, the guideline says you should be doing this, they said go pound salt, what do we care what a guideline says? And then decriminalization. They simply stop even making criminal referrals, much less doing prosecutions. And of course, as everyone knows, that continued through the Bush and Obama administration. They simply refused to prosecute the white collar criminals.
And so three epidemics of fraud occurred that drove the financial crisis. One was appraisal fraud. The second was liar’s loans. And those are the frauds that count the most. That’s in the loan making process, the loan origination process. Well, you know, there’s nobody that’s really an exorcist. So once the loans are fraudulent and you sell them to the secondary market, the only way you can sell them is through a fraudulent representation and warranty. You can’t say, hi, I want to sell you fraudulent loans. It doesn’t work. So you have to commit to a next act, a coverup of the fraud. And that has to go all through the level, right? Because they’re selling fraud and they’re repackaging it, and then selling fraud and then repackaging it and selling fraud.
So it became pervasively fraudulent. And that works as long as the bubble is expanding, because we can just keep exchanging the paper and refinancing the bad loans. And you know, you don’t suffer really big losses. Meanwhile, the bubble’s hyperinflating.
MARC STIENER: So the question I think that our viewers probably have as they’re watching us talk together is what’s the root of this? Is the root in the Clinton administration of the 1990s when they got rid of Glass-Steagall? I mean, what is the- what’s the root of how this was allowed to happen? Where did it begin?
BILL BLACK: The root is when they got rid of the rules on underwriting-
MARC STIENER: Which was when?
BILL BLACK: And that actually is basically just before the Clinton administration comes in. It’s one of those January midnight rule type situations. That’s actually by far the most important change, because that let them do these liar’s loans, which were 90 percent fraudulent. Now, appraisal fraud was illegal all through the period. The appraisers began warning in 1998, 10 years before Lehman goes down, three years before Enron. In other words, this scandal didn’t begin in 2008, much less 2006. It began in 1994, when we kicked out the last of the entities doing liar’s loans. Actually, they voluntarily gave up deposit insurance, gave up their charter as a savings and loan, for the sole purpose of escaping our jurisdiction. Changed their name to Ameriquest. And that became the vector that spread these frauds, originally through the shadow financial sector.
And because, again, you have a bubble expanding the saying in the trade is ‘a rolling loan gathers no loss.’ To roll a loan is to refinance it. So as long as they increase the fraud, they massively increase the number of people buying homes, what’s going to happen to home prices? Home prices are going to go up. When you have a bad loan, what do you do? You simply refinance the loan and book new fees.
Well, this will last. And the more frauds you have and the faster they expand, it can last as it did for 14 years. But eventually it’s going to burst. And when it does, counterparties, the two sides of the transaction, to banks will sort of go, wait a minute. If I do this exchange, I’ll end up with these trash assets. And I, like Lehman, might actually fail in those circumstances. I might not get bailed out entirely. I’m not going to handle this. And then markets ceased to function. And if I can’t borrow money short term, then I’m forced into defaults, because these places had set themselves up in that way. And that means that asset prices are going to fall further, which are going to cause more of a liquidity crisis. And it all becomes the opposite of a virtuous cycle, and drags the economy down into the Great Recession.
MARC STIENER: So how would you answer this question? Let me set this up here. This is this is a video from 2008 or ’09, I believe. Congresswoman Diane Watson from Los Angeles in this video is is questioning Richard Fuld, who is Lehman Brothers, chair of Lehman Brothers investment and its CEO. And it has to do with its responsiblity for the 2008 and the crisis. Here’s the question. Here’s his answer. Respond to his answer. Here it goes.
DIANE WATSON: Do you think this deregulation and lack of oversight contributed to the meltdown on Wall Street?
RICHARD FULD: I cannot talk to what-.
DIANE WATSON: Do you think it contributed- and my time is almost up- to the meltdown on Wall Street?
RICHARD FULD: I cannot talk to what the SEC did with the other firms.
DIANE WATSON: Do you think it contributed? Or are you wholly and solely responsible for the meltdown on Wall Street?
RICHARD FULD: I actually gave the SEC high marks for trying to be constructive.
DIANE WATSON: OK. Here’s my bottom line question. If all the things I just spoke of you think were just fine and work like they should, the regulations, then it’s your total responsibility for the failure of Lehman Brothers through bankruptcy?
RICHARD FULD: In retrospect, in retrospect it’s easy to go back-.
DIANE WATSON: Yes, no? Yes, no? My time is up.
MARC STIENER: Our time is not up. So yes or no, Bill Black?
BILL BLACK: So all of these things, these three deals, contributed. By the way, I testified at a House hearing sitting six feet from Dick Fuld that they ran a fraudulent operation from front to back, and not a single member of Congress from either party was interested enough in their testimony to ask a followup question about the frauds.
MARC STIENER: That’s interesting. So let’s pick up on that point. We’re here talking to Bill Black, a frequent contributor here on The Real News. And because, you know so much about all this and the experience, understands it theoretically and practically. We’re going to go to break. Join us here, don’t go away. The rest of the news coming right behind us.