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Privatizing Gains and Socializing Losses

This is what is happening with the bailouts of the financial sector.  Investors and executives get to keep their gains but any losses are assumed by us.  We are stupid!  We’ve been punked! Punked by the financial oligarchy. Punked by financial conglomerates. And yes, punked by the Obama Administration.

Currently, there is a story on Economic Populist about private equity firms feeding at the trough.  It talks about FDIC’s loss share agreements.  These are very generous sweetheart agreements whereby the FDIC, and more directly taxpayers, assume losses of assets sold to private equity firms and other acquirers of failed bank assets.  Here is a little taste of these loss share agreements:

“The FDIC, assuming its traditional role, brokered a sale of the bank’s deposits to BB&T Corp., ensuring that customers wouldn’t see any interruption. It also agreed to help BB&T buy a $15 billion portfolio of Colonial’s loans and other assets by agreeing to absorb more than 80% of future losses. Under the deal, the most BB&T can lose is $500 million, the bank says, and that is only in the unlikely event that the entire portfolio becomes worthless. The FDIC is on the hook to cover the rest.”

That’s right, BB&T can only lose $500 million on a $15 billion investment.

Or how about this one as it relates to private equity firms’ purchase of IndyMac:

As part of the deal, the FDIC entered into a loss-sharing agreement with IMB HoldCo. IndyMac will assume the first 20 percent of losses on a portfolio of “qualifying loans,” after which the FDIC will assume 80 percent on the next 10 percent of losses, and 95 percent on losses thereafter.

Nice deal. 

Private equity firms are salivating at these types of deals.  Who can blame them - the rules allow it and after all, this is American Capitalism at its finest - socialize the losses.

But wait.  Hedge funds are getting in on this action.  These funds see a great deal:

At least 20 top hedge funds boosted their positions in financial institutions in the latest quarter in a sign that Wall Street is ready to bet on more risky sectors in the hope of longer-term rewards.

This is “smart money”.  They see it.  Private equity funds and hedge funds know that our government has guaranteed that “TOO BIG TO FAIL” Institutions will be supported at any cost particularly any cost to the tax payer.  These investors know that their downside is protected by the government and the taxpayers while their upside is unhindered.  That is “smart money”. 

Look at this money quote:

“It’s a fundamental bet that they won’t go to zero, and that liquidity will come into the system” over time, said McGlynn, whose fund owns shares in Bank of America(BAC.N) and JPMorgan (JPM.N). Big banks have “breathing room,” he said.

Big banks won’t go to zero because there is value to a government/taxpayer guarantee (bailout).

Oh, but it is not just private equity firms and hedge funds that love these socialized losses.  The executives at these financial conglomerates love it as well:

As shares of bailed-out banks bottomed out earlier this year, stock options were awarded to their top executives, setting them up for millions of dollars in profit as prices rebounded, according to a report released on Wednesday.

The top five executives at 10 financial institutions that took some of the biggest taxpayer bailouts have seen a combined increase in the value of their stock options of nearly $90 million, the report by the Washington-based Institute for Policy Studies said.

Who is to blame?  The blame falls squarely on the Obama Administration.  It has done nothing to stop this feeding frenzy.  Its proposals for financial regulatory reform are weak at best.

Lord Adair Turner, chairman of UK’s Financial Services Authority, had the courage to say what everyone already knew but were to scared to say it:  That the financial sector is too big and much of what it does is “socially useless”.  But this is what he said to Prospect Magazine (UK):

“If you want to stop excessive pay in a swollen financial sector you have to reduce the size of that sector or apply special taxes to its pre-remuneration profit. Higher capital requirements against trading activities will be our most powerful tool to eliminate excessive activity and profits.

“And if increased capital requirements are insufficient I am happy to consider taxes on financial transactions – Tobin taxes

While I appreciate his courage in telling the truth and proposing a Tobin-like tax.  What he proposes overall doesn’t go far enough.  It still embraces “too big to fail”.

The Obama Administration and the Fed are talking about macro-prudential policies.  I say bullshit.  Any new capital requirements will have loopholes and financial conglomerates who can afford to hire the best and the brightest will find a way around any new capital requirements.

The answer is something that the financial oligarchy and the Obama Administration don’t want to hear: BREAK THEM UP!  I absolutely agree with Lord Turner assessment that much of what financial conglomerates do is “socially useless”.  Their size only helps their shareholders, debt holders and executives not society as a whole.  BREAK THEM UP!

Cross posted @ Economic Populist