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On April 16, 2010, the Securities And Exchange Commission (SEC) filed a civil fraud suit against Goldman Sachs, alleging that the Wall Street investment bank sold mortgage-backed securities to investors that were secretly designed to fail. About a week later, A Senate subcommittee investigating the financial crisis released internal Goldman Sachs e-mails that seemed to support the SEC's allegations that Goldman Sachs was simultaneously selling the securities and betting against them. Sen. Carl Levin (D-Mich), the chairman of that committee, said "Goldman made a lot of money by betting against the mortgage market."
I find myself in the unenviable position of offering a partial defense of Goldman Sachs at this point. Imagine for a moment that you work at Goldman Sachs, and have been selling mortgage-backed securities for years. Those securities were very profitable, ever since 1999 Clinton administration legislation (introduced by Republicans and with more Republican than Democratic support in Congress) allowed investment banks like Goldman Sachs into the mortgage market, which was previously illegal. From 1999 forward, a huge housing market bubble was created, and in 2007 that bubble began to burst. Housing prices began to fall dramatically, as did the value of those mortgage-backed securities. If you worked at Goldman Sachs in 2007, wasn't it the smart move to bet against the mortgage market by short-selling on the futures of those securities ? We all know now that it certainly was the smart move. The short-selling of those securities was not illegal. In fact, it's the essence of what Wall Street does. It buys and sells based upon market conditions, and market conditions CHANGE. As Lloyd Blankfein, the CEO of Goldman Sachs, wrote in one of the released e-mails, the firm "lost money" on the housing market, "then made more than we lost because of shorts." In another e-mail, Goldman's Chief Financial Officer wrote of making $50 million in one day via short-selling. In another e-mail, Goldman executives wrote about how one subprime lender was facing "wipeout," and another's demise was "imminent." Another executive said "sounds like we will make some serious money," by short-selling.
If there was any fraud at Goldman Sachs, it wasn't because they were selling short, it was because they were selling short without advising their customers to do the same. They were still selling the mortgage-backed securities they were betting against. That determination will be left to the courts.
This leads me to the next part of Sen. Carl Levin's statement condemning Goldman Sachs:
"Investment banks such as Goldman Sachs were not simply market-makers, they were self-interested promoters of risky and complicated financial schemes that helped trigger the crisis," Levin said. " They bundled toxic mortgages into complex financial instruments, got the credit rating agencies to label them as AAA securities, and sold them to investors, magnifying and spreading risk throughout the financial system, and all too often betting against the instruments they sold and profiting at the expense of their clients."
Sounds pretty bad, but let's put it in perspective. Goldman Sachs did about $500 MILLION worth of residential mortgage business in 2007, less than 1% of the firm's business. By contrast, the quasi-government agency Fannie Mae's mortgage portfolio was in excess of $700 BILLION as of August 2008. Fannie Mae was the largest bundler and securitizer of mortgage loans in the country, BY FAR. Goldman Sachs is a small fish by comparison. Where are Sen. Levin's condemnations of Fannie Mae ??? Fannie (and her little brother Freddie Mac) kept bundling and selling those "toxic mortgages" right up until the moment the financial system imploded. Fannie Mae executives knew the market was collapsing. Where are the fraud charges against Fannie ? There are none, and to add insult to injury, Fannie Mae is exempted from regulation under the financial regulation reform legislation working it's way through Congress. In addition, Fannie Mae, as a Government Sponsored Enterprise (GSE), was also exempt from regulations in place for private financial institutions. For example, private firms had to maintain a capital/asset ratio of greater than or equal to 3%. A GSE like Fannie did not, placing it a greater risk than the private firms, thus placing the entire housing sector at significantly greater risk.
Btw, to my knowledge, the so-called financial regulation reform under consideration does NOT prohibit investment firms like Goldman Sachs from remaining in the mortgage market (though Goldman Sachs has become a bank holding company now). It does not re-implement the laws in place from the Great Depression (Glass-Steagal) up until the 1999 Clinton legislation (Gramm-Leach-Bliley). Fannie Mae has now gone into government consevatorship, but there are no plans to liquidate it. A July 30, 2008 law enabling expanded regulatory authority over Fannie Mae and Freddie Mac increased the national debt ceiling by $800 billion. In other words, the taxpayers are massively on the hook for the excessive risks placed on our financial system by Fannie Mae and Freddie Mac, which were/are effectively run by the government. THAT is the systemic risk, not Goldman Sachs.
But our politicians tell us we're supposed to be really angry at Goldman Sachs, and with tons of media reinforcement, we have largely bought into the misdirection. I even bought into it myself, more than I should have. I apologize for actually believing anything any politician ever says. I should know better by now. We're supposed to be angry at Wall Street, with good reason, but why the hell aren't we angry at the government who did this to us ?
There's a lot wrong with the incestuous relationship between Goldman Sachs and the federal government. No question there. Goldman Sachs received over $12 billion in TARP money it didn't need (Goldman Sachs made a net profit of $13.39 billion in 2009 and also made a profit in 2008). Goldman Sachs repaid it's TARP loan plus interest within several months of receving it. Many of the banks getting TARP funds didn't need them, and were forced to take them. The government was playing a good game of charades with those bailouts.
The latest estimate of the bank bailout losses is down to $87 billion. The single largest loss is the GSE's, Fannie Mae and Freddie Mac ($85 billion). The second largest loss is the help given to homeowners facing foreclosure ($49 billion). Next is AIG ($48 billion). Then General Motors ($28 billion). The private financial institutions have repaid their TARP loans plus interest, actually MAKING A PROFIT for the Treasury of $115 billion, offsetting the real losses.
So tell me, who should we be the most angry at...banks who made the risky loans the government wanted them to make (to increase homeownership so the politicians could pat themselves on the back)...or the government (both parties), who set the entire financial house of cards in motion, who legislated the financial crisis into existence, and who constantly demonize the private sector while never placing any responsibility on itself for it's massive irresponsibility ? That government irresponsibility ($12.8 trillion national debt, unrestrained spending, and exploding unfunded entitlement liabilities) has placed the entire future of the country at systemic and excessive risk.
Placing complete confidence in politicians to do the right thing is like relying on a referee who has bet on the game he's officiating to call the game fairly. Odds are pretty good that won't happen. The odds are even greater that politicians who are vying for re-election and partisan power over the entire country are not going to be honest. Much greater. Off the charts. Question everything they do and say, especially the ones who are currently IN power. They are the most dangerous.