How We Nationalized America’s Banks

Banks

One of the great mysteries of the business world since the financial crisis has been why American banks have simply forked over huge sums in settlements rather than contest government charges that they were solely responsible for bringing on the housing crash.

Though estimates vary, the enormity of the sums in question is not in doubt. The Huffington Post says that big banks in the U.S. and Europe have paid at least $128 billion to regulators; the Wall Street Journal puts the figure at about $130 billion for the six largest U.S. banks alone. However you calculate the figure, it is clear that banks aren’t simply handing over pocket change to get regulators to go away.

At the time of the crisis, there was a sense in some quarters that the government should have pushed even harder. In 2009 Rahm Emanuel, then Obama’s chief of staff and the current, beleaguered mayor of Chicago, told an interviewer, “You never want a serious crisis to go to waste.” There was then a strain of thought on the political left that banks should have been nationalized rather than receiving what was often termed a bailout, though it was actually a backstop that was repaid and, eventually, made the government money.

A recent Wall Street Journal article solves the mystery of why banks kept paying and why regulators kept making them pay. The government didn’t “waste” the crisis at all. It used it to nationalize the banks; it just didn’t call it nationalization.

Instead, the government has aggressively inserted itself into banks’ boardrooms, which is where directors are supposed to represent shareholder interests above all. The Journal reported that members of the Federal Reserve and other regulators have been meeting with bank directors as frequently as every month, demanding to see detailed records of board meetings (or in some cases, attending those meetings) and holding directors responsible not merely for setting institutional policy, but for overseeing how it is carried out. In a few cases, though apparently only a few, directors have pushed back. As an independent member of the board of a large U.S. bank said, “A director isn’t management.”

But a director now may be held liable if the regulators aren’t satisfied. By overwhelming directors with regulatory demands backed by the implicit threat of ruinous legal action, the government has usurped bank boards’ power, effectively reducing them to management. This, in turn, reduces management to bureaucrats, whose job is to jump through whatever hoops regulators demand through their domination of the directors.

Not surprisingly, banks report that this increased scrutiny has made it difficult to recruit and retain board members. But the effects go further. The banks have effectively suffered a boardroom coup under another name. Executives get to keep their jobs and directors – at least those still willing to serve in this regime – retain their boardroom perks. Only the shareholders suffer direct financial injury. The rest of us suffer indirectly, since the thrust of the regulators’ demands has been to steer capital to politically favored destinations at the expense of the broader economy.

Under this de facto nationalization, the settlements forked over by banks at the expense of private shareholders are more properly viewed not as redress of malfeasance, but as dividends paid to the banks’ new beneficial owner: the government. Shareholder equity has effectively been seized just as thoroughly as was the case with Fannie Mae and Freddie Mac. In the case of those housing finance businesses, the government no longer merely demands repayment of sums it advanced, but instead hoovers all the profits that these ostensibly privately owned but government-backed entities generate.

Other than private investors, who might exercise their power to bring a shareholder derivative suit against directors they elect, there is nobody left to contest the regulatory boardroom coup. Even a shareholder suit, should one arise, has questionable chances of success. Regulators will simply assert that they are carrying out the Dodd-Frank reform legislation, whose sweeping oversight powers, they will plausibly claim, give them authority to dominate financial institutions’ management. The line between oversight and usurpation is very fine.

It is only now becoming clear that increased regulatory power amounted to nationalization, at least from the perspective of the Democrats who thought the government should have taken over the banks outright at the time of the crash. It turns out the crisis wasn’t wasted after all.

About Larry M. Elkin 552 Articles

Affiliation: Palisades Hudson Financial Group

Larry M. Elkin, CPA, CFP®, has provided personal financial and tax counseling to a sophisticated client base since 1986. After six years with Arthur Andersen, where he was a senior manager for personal financial planning and family wealth planning, he founded his own firm in Hastings on Hudson, New York in 1992. That firm grew steadily and became the Palisades Hudson organization, which moved to Scarsdale, New York in 2002. The firm expanded to Fort Lauderdale, Florida, in 2005, and to Atlanta, Georgia, in 2008.

Larry received his B.A. in journalism from the University of Montana in 1978, and his M.B.A. in accounting from New York University in 1986. Larry was a reporter and editor for The Associated Press from 1978 to 1986. He covered government, business and legal affairs for the wire service, with assignments in Helena, Montana; Albany, New York; Washington, D.C.; and New York City’s federal courts in Brooklyn and Manhattan.

Larry established the organization’s investment advisory business, which now manages more than $800 million, in 1997. As president of Palisades Hudson, Larry maintains individual professional relationships with many of the firm’s clients, who reside in more than 25 states from Maine to California as well as in several foreign countries. He is the author of Financial Self-Defense for Unmarried Couples (Currency Doubleday, 1995), which was the first comprehensive financial planning guide for unmarried couples. He also is the editor and publisher of Sentinel, a quarterly newsletter on personal financial planning.

Larry has written many Sentinel articles, including several that anticipated future events. In “The Economic Case Against Tobacco Stocks” (February 1995), he forecast that litigation losses would eventually undermine cigarette manufacturers’ financial position. He concluded in “Is This the Beginning Of The End?” (May 1998) that there was a better-than-even chance that estate taxes would be repealed by 2010, three years before Congress enacted legislation to repeal the tax in 2010. In “IRS Takes A Shot At Split-Dollar Life” (June 1996), Larry predicted that the IRS would be able to treat split dollar arrangements as below-market loans, which came to pass with new rules issued by the Service in 2001 and 2002.

More recently, Larry has addressed the causes and consequences of the “Panic of 2008″ in his Sentinel articles. In “Have We Learned Our Lending Lesson At Last” (October 2007) and “Mortgage Lending Lessons Remain Unlearned” (October 2008), Larry questioned whether or not America has learned any lessons from the savings and loan crisis of the 1980s. In addition, he offered some practical changes that should have been made to amend the situation. In “Take Advantage Of The Panic Of 2008” (January 2009), Larry offered ways to capitalize on the wealth of opportunity that the panic presented.

Larry served as president of the Estate Planning Council of New York City, Inc., in 2005-2006. In 2009 the Council presented Larry with its first-ever Lifetime Achievement Award, citing his service to the organization and “his tireless efforts in promoting our industry by word and by personal example as a consummate estate planning professional.” He is regularly interviewed by national and regional publications, and has made nearly 100 radio and television appearances.

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