The Wall Street Journal has an excellent follow to its scoop yesterday that New York is planning to sue Ernst & Young for fraudulent accounting in the Lehman Brothers collapse.
Covering regulation well is difficult because it all too often involves writing about something somebody is not doing. “X happened” is always easier to sell to editors and readers than “X didn’t happen”.
But reporter Michael Rapoport got this one through. He reports that federal regulators are sitting on their hands despite clear evidence of wrongdoing. Everybody knows that, right? How do you make a story out of it? Like this:
In 2001, the regulator of the nation’s biggest banks told its examiners to be on the lookout for firms whose regulatory filings made them look healthier than they really were. That followed guidelines issued in 1990 that said banks could face disciplinary action if their filings “have significant inaccuracies or are ‘window dressed.’ “
But as early as this week, it is the New York attorney general—not the Office of the Comptroller of the Currency, the bank regulator—who is expected to file a lawsuit alleging accounting firm Ernst & Young LLP allowed Wall Street broker Lehman Brothers Holdings to fake its books so it could appear financially healthier.
I like that the Journal goes back one and two decades to point out that regulators are failing to follow their own guidance. One of the problems with beat reporting and with journalism in general is that reporters and editors typically shuffle from beat to beat ever two or three years, and whatever accumulated institutional and historical knowledge they’ve accumulated in their field goes into the dustbin. If you’ve got, say, 21-year-old reporters covering major beats, they’re not going to remember or be informed by what happened in the Asian Flu in 1998, when they were nine years old. Better hope their editors do.
Or that reporters dig into the history enough to learn it, as Rapoport has done here. And he makes the inaction easier to sell by juxtaposing it with New York state’s action.
Meantime, we get a prominently placed quote from Bill Black, the former S&L regulatory bulldog, who is a fierce critic of modern-day regulators and banks. And in bold below, some very smart context about why this is even more important going forward:
“They haven’t taken any significant action in pretty much forever,” said William K. Black, a bank regulator during the 1990s savings-and-loan crisis who now teaches economics and law at the University of Missouri-Kansas City.
“It’s the usual problem of what you do with a ubiquitous practice,” he said.
Bank regulators’ apparent reluctance to crack down on window dressing comes as agencies assume even more authority for overseeing the banking system in the wake of the Dodd-Frank law’s overhaul of financial regulation.
Bank regulators may have pressured some banks privately. But federal regulators have been criticized for their inaction and coziness with banks they police.
And the Journal gives it C1 play. Good work all around.
Here's a couple of McClatchy articles on how community banks raised capital without diluting their shares so they could make mortgages. Basically they put out bonds, that were converted into CDOs that were given high ratings by Moody's despite how the bank was putting the capital to use. (So basically they were counting debt capital as reserve capital and using the "reserve capital" to make loans upon)
http://www.mcclatchydc.com/2010/12/22/105707/how-rating-agencies-set-stage.html
"Of the 324 U.S. banks that have failed since 2008, 136 of them defaulted on a total of $5 billion in trust-preferred securities — called TRuPS in industry parlance — that they'd issued to raise capital."
So where was the Federal Reserve while these bans were expanding their balance sheets gorging on risky assets?
They were enabling it.
http://www.mcclatchydc.com/2010/12/22/105708/fed-could-have-saved-many-smaller.html
"The Federal Reserve Board, chastised for regulatory inaction that contributed to the subprime mortgage meltdown, also missed a chance to prevent much of the financial chaos ravaging hundreds of small- and mid-sized banks.
In early 2005, at a time when the housing market was overheated and economic danger signs were in the air, the Fed had an opportunity to put a damper on risk taking among banks, especially those that had long been bedrocks of smaller cities and towns across the nation.
But the Fed rejected calls from one of the nation's top banking regulators, a professional accounting board and the Fed's own staff for curbs on the banks' use of special debt securities to raise capital that was allowing them to mushroom in size.
Then-Chairman Alan Greenspan and the other six Fed governors voted unanimously to reaffirm a nine-year-old rule allowing liberal use of what are called trust-preferred securities.
This was like a magic bullet for community banks that had few ways to raise capital without issuing more common stock and diluting their share price. The Fed allowed the banks to count the securities as debt, even while counting the proceeds as reserves. Banks were then free to borrow and lend in amounts 10 times or more than the value of the securities being issued."
#1 Posted by Thimbles, CJR on Thu 23 Dec 2010 at 06:47 PM
Oh what the hell.
http://www.huffingtonpost.com/2010/12/21/federal-blocks-new-forecl_n_800010.html
"Top policymakers at the Federal Reserve are fighting efforts to rein in widely reported bank abuses, sparking an inter-agency feud with the FDIC and the Treasury Department. The Fed, along with the more bank-friendly Office of the Comptroller of the Currency, is resisting moves to craft rules cracking down on banks that charge illegal fees and carry out improper foreclosures. The FDIC supports such rules, according to an FDIC official involved in the dispute.
The new regulations would rein in debt collection, loan modification and foreclosure proceedings at bank divisions called "mortgage servicers." Servicers have committed widespread fraud in the foreclosure process. While the recent robo-signing of fraudulent documents has received the most attention, consumer advocates have complained about improper fees and servicer mistakes that lead to foreclosure for years...
Widely reported servicer fraud, whether in the foreclosure process or in the systematic assessment of illegal fees against homeowners, is . . . a serious problem," the letter reads, noting that, "problems of this magnitude are a threat not only to the economic recovery, but to the safety and soundness of all insured depository institutions."
The Wall Street reform bill signed into law by President Barack Obama this summer requires regulators to craft new rules to ensure the securitization market functions properly. The FDIC wants those rules to include standards for mortgage servicer conduct and hopes to have rules ready by the end of next month.
Nevertheless, the Fed and the OCC are pushing back, according to a source at the FDIC. Spokespeople from both the Fed and the OCC said their agencies support new mortgage servicing standards but declined to comment on the new rules being advocated by the FDIC. A spokesman for the Treasury Department said the Treasury supports regulating mortgage servicers, but was unable to comment on the FDIC plan by press time."
Even now? With the all MERS business and the fraudulent foreclosures where the dog ate everybody's promissory notes and the banks changing the locks on people's houses who don't have an outstanding mortgage, even now they're fighting for the banks? The Fed and the OCC...they never seem to learn.
The Fed in particular needs to be washed out. They have a real attitude (towards regulation) problem:
http://neweconomicperspectives.blogspot.com/2010/01/anti-regulators-federal-reserves-war.html
#2 Posted by Thimbles, CJR on Fri 24 Dec 2010 at 09:33 AM
A good interview by Bill Black I stumbled across helps put in context why we are having such a hard time with the regulators doing their jobs.
One is ideology "Free markets, fraud does not exist".
Two is stuff like this:
http://parkerspitzer.blogs.cnn.com/2010/12/20/black-the-dominance-of-unethical-banking/
"State Attorney Generals’ investigations have found that it was lenders and their agents who put the lies in “liar’s” loans. The NY AG found, for example, that Washington Mutual (WaMu), which specialized in nonprime loans, (and is the largest bank failure in U.S. history) kept a “black list” of appraisers. Appraisers got on the black list, however, if they refused to provide WaMu with inflated (fraudulent) appraisals. Survey data of appraisers confirms that nonprime lenders and their agents commonly coerced appraisers to inflate market values. The borrower has no leverage to coerce appraisers...
a lender making thousands of bad loans has to gut its “back office” operations – the folks who are supposed to document loans and prevent bad loans. We know that this is exactly what happened. Bank officers and employees of nonprime lenders were reamed out by their superiors if they tried to block the bad loans. This dynamic is an independent reason why recordkeeping at the nonprime lenders is often horrific.
Finally, lenders like Bank of America, Citibank, and WaMu acquired major nonprime lenders that were notorious for their predatory and fraudulent lending. These banks then often place the employees they obtained via these mergers in charge of loan servicing. It was utterly predictable that they would continue their unethical practices when they functioned as loan servicers – particularly because the alternative would be to admit that their loan servicing files were a shambles. Far better to simply file false affidavits and claim that everything was in order – which is exactly what many of the largest loan servicers did ten thousand times a month..."
Those are the internal checks, what about the external checks that regulators, accountants, and ratings agencies are supposed to do?
"Deregulation, desupervision (the rules remain in place but the anti-regulators running the regulatory agencies don’t enforce them) and de facto decriminalization (the three “de’s”) produce the ideal criminogenic environment. The regulators are the “cops on the beat” when it comes to sophisticated frauds. If you remove the cops of the beat, cheaters prosper and honest businesses are driven from the markets. President Obama largely kept in place the failed anti-regulators he inherited from President Bush. Indeed, Obama promoted Geithner – an abject failure as a regulator in his capacity as President of the NY Fed – and renominated Bernanke, an even greater failure. Obama should fire Attorney General Holder and Treasury Secretary Geithner and ask Chairman Bernanke to resign. He should appoint regulators and prosecutors who have a track record of success...
Professional compensation is perverse. Accounting control frauds deliberately exploit this to create the Gresham’s dynamic that allow them to suborn the outside professionals – appraisers, attorneys, auditors, and rating agencies – who are supposed to prevent fraud, but who actually become the frauds’ most valuable allies. Honest professionals don’t get hired, the unethical professionals prosper. This process creates “echo” epidemics of control fraud. Fraudulent nonprime lenders, for example, shaped financial incentives to be perverse to create endemic appraisal and loan broker fraud. The banks should not be able to hire or fire the appraisers, credit rating agencies, and auditors – except for fraud or serious incompetence. Those professionals can only be truly independent if they are assigned to work for the bank by a trul
#3 Posted by Thimbles, CJR on Fri 24 Dec 2010 at 10:03 AM