Friday, November 28, 2014

Too Big to Jail

WASHINGTON, DC – Among the fundamental principles of any functioning justice system is the following: Don’t lie to a judge or falsify documents submitted to a court, or you will go to jail. Breaking an oath to tell the truth is perjury, and lying in official documents is both perjury and fraud. These are serious criminal offenses, but apparently not if you are at the heart of America’s financial system. On the contrary, key individuals there appear to be well compensated for their crimes.

As Dennis Kelleher of Better Markets has argued, the recent so-called “robo-signing” settlement – in which five large banks “settled” their legal liability for carrying out fraudulent foreclosures on mortgages – is a complete sell-out to the financial industry.

First, there was no serious criminal prosecution – meaning that no one will be charged with a felony, and no one will go to jail. In terms of affecting executives’ incentives, this is the only thing that matters.

Even the terminology used to frame the discussion is wrong. Kelleher, an attorney with extensive experience in private practice and the public sector, tells it like it is: “‘robo-signing’ is massive, systematic, fraudulent, criminal conduct.” Alternatively, as he points out, we could just call it “lying, cheating, and stealing.”

Second, the civil penalties in this settlement – a form of fine – are minuscule relative to the size of the companies involved. As Shahien Nasiripour, one of the best reporters on this issue, dryly put it: “None of the five lenders have said they expect to incur a material charge due to the settlement.” In other words, from a corporate perspective, the penalty is a trifling affair.

Third, such fines are, in any case, paid by the companies’ shareholders, not by their executives or board members (all of whom carry insurance). In the rare cases in which fines have been levied on individuals, either their insurance policies picked up most of the bill, or the penalties were trivial relative to the cash compensation that they received while committing their crimes – or both.

As if all of this weren’t bad enough, the banks reportedly will be able to use government money to write down the value of mortgages, which amounts to subsidizing them to pay their own meaningless fines.

The Obama administration and its allies have worked hard to sell its roughly $20 billion settlement with the banks as one that will have a meaningful impact on the housing market. But nothing could be further from the truth. As Kelleher points out, the United States has “more than 10 million homes under water” (the outstanding mortgage exceeds the house’s value). “Twenty billion dollars doesn’t make a dent in that: one million homes at $20,000 loan forgiveness is it.”

In fact, the Obama administration’s settlement with the mortgage lenders is consistent with its track record on all of its policies related to the financial sector, which has been abysmal. But it is also puzzling. Why would the administration continue to bend over backwards to be lenient towards top bankers under these circumstances?

I honestly do not believe that the administration’s stance reflects any form of corruption – payments made to individuals or even to political campaigns. And, in this case, it does not even appear to reflect the lobbying power of big financial players. That power certainly explains why the Dodd-Frank financial reforms enacted in 2010 were not stronger, and why there is now so much opposition to effective implementation of that legislation (for example, there is currently a huge fight around the “Volcker rule,” which would limit proprietary trading by megabanks). But mortgage lenders’ criminal activities are another matter.

Indeed, at stake in the mortgage settlement are fundamental and systemic breaches of the rule of law – perjury and fraud on an economy-wide scale. The Justice Department has, without question, all of the power that it needs to prosecute these alleged crimes fully. And yet America’s top law-enforcement officials have consistently – and now completely – backed off.

The main motivation behind the administration’s indulgence of serious criminality evidently is fear of the consequences of taking tough action on individual bankers. And maybe officials are right to be afraid, given the massive size of the banks in question relative to the economy. In fact, those banks are bigger now than they were before the crisis, and, as James Kwak and I documented at length in our book 13 Bankers, they are much larger than they were 20 years ago.

Top bankers want to make a lot of money. They also want to stay out of prison. Political leaders can huff and puff as much as they want, but, without a credible threat of poverty and time behind bars, bankers have no reason to comply with the law. For them, it’s all about the trade – and you can be the sucker in public policy as easily as you can be the sucker in an individual loan agreement.

The message to bank executives today is simple: build your bank to be as big as possible – and then keep growing. If you manage to become big enough, you and your employees are not just too big to fail, but also too big to jail.

The Obama administration has just made everyone else the sucker.

Read more from our "The Big Bank Battle" Focal Point.

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    1. Commentedpeter fairley

      I never read one good robo-signing article and feel it was a very left wing prejudiced issue. Some mistakes were made...but did it really affect millions of people in a criminal way? People don't pay their mortgages and get foreclosed on. That is a clerical issue. A lot of the foreclosures involved homeowners pulling so much cash out their house on re-fi's with alt-a ,subprime and even "normal" loans, they were in effect selling their house to the bank in advance, or even robbing the bank. If you look at the FBI website, you see that the FBI goes after gangsters for doing this same thing. It was a disservice for bank execs, the Fed, the FDIC and state govt overseers to have allowed this, but the homeowners did get the cash and the banks should at least get the keys and be able to take the loss. Mr Johnson has made a bad impression on me in Bloomberg interviews for catering to popular leftist prejudice and would make a better impression here if he detailed exactly how criminal these bankers were to millions of people regarding the robo-signing, otherwise he is just joining the vague left wing and calling names.

        Commentedpeter fairley

        Hi Andrew. Respectfully. The main effect of the robo-signing was to give attorneys a loophole to tie foreclosures up in court for a long time. Nonpaying homeowners got to live rent free for a very long time. Banks were further weakened. Govt purse & taxpayers supporting banks further strained. The markets did not clear, financial crisis prolonged. Have you ever lived in a state like Massachusetts? Lol, I have. Simon Johnson is a famous and somewhat excellent economist but he should not be encouraged to be corrupted by populism & crowd pleasing. That is big part of why we got into this mess.

        CommentedJohn Aho

        Enforcing the rule of law in a democracy is hardly 'left wing'. What are you saying? And since when is defending fraud a "right wing" stance? It certainly isn't a conservative principle. And yes, it really did affect millions of people in a criminal way. Systemic fraud is like that. With respect to prosecuting just the "lawyers", fair enough but they are hired, instructed and paid by their clients to make documentation as complicated as possible. This is what justice has become in America, yet another example of the harm caused by letting the TBTF banks have a free ride to commit fraud against America, that then becomes a defended and honored way of doing business. Meanwhile, the rest of the world is laughing at us. A "disservice". Really?

        Commentedpeter fairley

        Put the lawyers in jail who advised the banks that it was ok to process the paperwork this way. The lawyers generate so much paperwork and complexity, no one can deal with it. How many homeowners were actually harmed by robo-signing? Not many!! This is the worst legal circus since the silicone breast implant lawsuit against Dow Chemical, no evidence of harm but millions paid in damages. The crime was being out of touch with real issues and dangers and this article is following that same out of touch path.

    2. CommentedJohn Brian Shannon

      I think Simon, that your chosen title may be more right than even you may realize!

      No matter which administration would have been in power over the past two years, the result would have been the same. It's not a democrat thing, nor would it have been a republican thing had that party been holding executive power.

      What citizens see as the one-time solution, is merely a down-payment - a dry-run for the next round of financial bailouts for financial institutions, which, according to your calculation is one-tenth, or even less, of what is actually needed to solve the numbers problem.

      I fully expect to see bailout after bailout about every two years, or so, until the numbers return to a stable condition.

      It's no secret that it is up to government to set legislation, regulation and oversight of the financial sector.

      If the government have let standards slide to a certain state of affairs since the 1990's, to now prosecute the individual banks and bankers who merely function under the regulatory controls set and enforced by the government - would seem counter-productive.

      Counter-productive, because those bankers would be only too happy to hold forth in a packed courtroom about the lax regulatory environment they found themselves operating in.

      Rather than air all that in public, the government (any government in power, whether it would have been democrat or republican) just decided to make the problem disappear - using the government two-year installment plan.

      As long as things are kept to a dull roar, the banks will get the money to balance their books, nobody needs to go to jail and the government doesn't need to be embarrassed in the media.

      In the end, all that has really occurred is that the government has acted as the insurer of last resort to the financial institutions that the government were supposed to oversee, but for unknown reasons were unable.

      The Obama administration is merely addressing a problem which evolved into a major event over a time-span of two or three decades.

      If citizens feel they need someone or something to blame, they should at least be told what it is and was, a systemic failure.

        Commentedpeter fairley

        It would be more appropriate here to also give a link or some summary of the lawyers defending the banks. Lawyers get paid to give one side only. Professors should give both sides and additional detail. We need leaders devoted to OBJECTIVE truth and information that includes BOTH sides. Were New England academics banging the table during the Real Estate bubble about too easy credit, subprime & negative amortization loans? about the possibility of a DOWN RE market as well as an UP market? No. They were banging the table and signing formal letters from their colleges that Larry Summers, president of Harvard was sexist and should be censored, or worse.

    3. CommentedSanjeev Chadha

      Isn't their a conflict of interest in possessing such views and yet being a senior fellow at the Peterson Institute.

    4. CommentedAndrew Purdy

      Why should this surprise anyone? Obama has been amazingly good to the Financial Industry. They give only token support to his political opponents (minor hedging of their bets with Romney), and he only pretends to have the DOJ shake a stick at them. A mutually beneficial arrangement.

    5. CommentedPaul A. Myers

      I'm a CPA with a small business practice. The answer to Simon Johnson's question is simple: there's one tax code for "us," and another tax code for "them." Mitt Romney pays taxes in accordance with "them." There are also two sets of "equal application of the law" in this country: one for "us," and another for "them." Banks are "them."

      If you are a small business and taken to court for one the myriad reasons upon which you can be sued, you are forced to settle because you cannot afford to lose and you know that the entire game is rigged against you. The plaintiffs' attorneys' clients will commit perjury like rain coming down on a winter day. In California, the entire civil court system is a temple to perjury and fraud; a system designed to shake down insurance companies. That is why Johnson's opening sentence is naive: false documents and perjury are a commonplace in our system.

      The US Congress has decided to let moral hazard go by the boards. Let the future shift for itself is the message. What we have is what Congress wants: a system of privilege that Congress can hold hostage to campaign contributions and cushy post-retirement jobs (People have been paying Rick Santorum, a truly failed ex-senator, almost a million a year to be a lobbyist. Imagine what someone with some intelligence must make!).

      Once again Simon Johnson is to be commended for making clear the serious fundamental problems with our banking and finance system.

    6. CommentedProcyon Mukherjee

      The article raises the question why big banks should be above law when it comes to punitive actions for crimes committed that led to bail outs with tax-payer funds that were stratospheric in nature. The question is perhaps not about how big the problem could be compounded to merit such a denouement, the moot point is how the process had been rigged right from the start when the bubble had been orchestrated by an ensemble of ‘banker-intermediary-rating agency - legislature-judiciary’ system that was based on the fundamental assumption that prices have only one way to go regardless of all other signs in the economy. But if the corrections have now been made with commensurate fall in net worth of all affected individuals it is noteworthy that big bankers could still stay completely unaffected going by the positive change in their net worth, that in some ways is a malaise for the common good.

      Procyon Mukherjee

    7. CommentedJake Lopata

      You are being very critical here, U.S. law has taken shape over the course of our history. I don't think it's a stretch to assume that some of the biggest players in history have helped shape our Laws (for better or worse).

      Where we are today is only our own fault, we have allowed the legal system to assume its present form.

      If you want to stop bailing banks out, letting crooked bankers off the hook, and create justice for those who were victims; then you fix the system.

      This is the largest and most daunting, yet necessary, task of all.

    8. CommentedPatrice Ayme

      The law was the domineering notion ruling the Roman state. It lasted 5 centuries under the form of a pure republic. And, overall, 21 centuries in maximum extent.

      If there is no respect for the law, there is none for the republic, nor civilization. The non prosecution of some of the most major criminals may have the exact same effect as it did in Rome, namely switching from a republic with elections to a fascist empire with much fewer elections. This is exactly what is happening with the most major bankers right now. Worse: to make sure they will not be prosecuted, they augment their influence.
      By the way, as Goldman Sachs was the biggest private contributor to Obama's 2008 campaign, it is more than curious to claim that corruption played no role in Obama's decisions. The evidence, as history will no doubt remember it, is the exact opposite.

      But distorting even the most basic common sense is what is taught when the law is grossly violated for all to see.