Here is an excerpt from some of my work on the never ending financial crisis, caused by fraud and corruption...
The fraud, corruption, and weaponization of financial instruments at the heart of the crisis have continued years after the recession was declared over. Two brief examples illustrate the power of the financial industry to acquire billions using essentially no collateral, the degree of systemic risk of the entire system, and the extent to which fraud operates throughout the system.
The MF Global scandal is significant in two ways. First, it is significant because it demonstrated the lack of regard held for customer collateral accounts by the financial industry. Second, it illustrates how a process known as “re-hypothetication” has enabled multiple financial institutions to use the same pot of money as collateral. In January of 2012, the Wall Street Journal concluded that $1.2 billion in customer funds held in collateral accounts had “vaporized” due to “chaotic trading” (Funds From MF Global Feared Gone" A1). As collateral accounts, these funds were supposed to remain untouched. Christopher Elias, in his article "MF Global and the great Wall St re-hypothecation scandal" explains that customer accounts were essentially re-hypothecated, or used as collateral for borrowing billions of dollars in a complex repurchasing (i.e., “repo”) agreement:
Re-hypothecation occurs when a bank or broker re-uses collateral posted by clients, such as hedge funds, to back the broker’s own trades and borrowings. The practice of re-hypothecation runs into the trillions of dollars and is perfectly legal. It is justified by brokers on the basis that it is a capital efficient way of financing their operations much to the chagrin of hedge funds.
What is particularly of note is that the agent that lent billions to MF Global may have used the re-hypothecated customer funds as its own collateral for further trading. This is described as “churn:
In fact, by 2007, re-hypothecation had grown so large that it accounted for half of the activity of the shadow banking system. Prior to Lehman Brothers collapse, the International Monetary Fund (IMF) calculated that U.S. banks were receiving $4 trillion worth of funding by re-hypothecation, much of which was sourced from the UK.
With assets being re-hypothecated many times over (known as “churn”), the original collateral being used may have been as little as $1 trillion – a quarter of the financial footprint created through re-hypothecation.
Essentially, the “churning” of re-hypothecated funds allows many different financial players to use the same collateral base. That means if any player defaults, they all are in danger of default because the re-hypothecated funds would be vaporized. The MF Global disaster illustrates both vacuous capital accumulation has become and how vulnerable the entire system is to shocks.
The second major scandal is the Libor scandal. This scandal demonstrates the degree to which the market system is rigged by the powerful players. The scandal concerns the London interbank offered rate, which according to The Wall Street Journal is "the benchmark for interest rates on trillions of dollars of loans to individuals and businesses around the world" (Enrich & Munoz, A1). 15 big banks submit records of the inter-bank interest rates they pay and the Libor rate is supposed to be averaged from these records from the 15 biggest banks. However, the banks colluded in emails to submit falsified records in order to manipulate the Libor rate, and to profit from that manipulation. In June of 2008, Timothy Geithner, as Secretary of the New York Federal Reserve Bank, wrote a private letter to Bank of England Governor Mervyn King requesting six changes that would improve the authenticity of the Libor rate (Paletta and Hilsenrath, 2012). His letter included a request to "eliminate incentive to misreport" by banks. Geithner should have contacted the FBI because he apparently knew that fraud was impacting the rate.[i] The Wall Street Journal notes, “The latest disclosure makes clear that Fed officials were aware of irregularities in the Libor interest-rate market. What is less clear is how far Mr. Geithner and other officials went to address the problem” (cited in Paletta and Hilsenrath). It is clear that the Bank of England refused to take action because, as described in The Wall Street Journal, “they didn’t act more aggressively partly because they were unaware bankers were trying to manipulate the rate…” (Cimilluca, D., & Enrich, C1).
The British Bank, Barclays PLC was caught red handed and agreed to pay $453 million "to settle US and British authorities' allegations that the British bank tried to manipulate the London interbank offered rate..." (Enrich & Munoz, A1). The scandal widened when documents revealed that the British Labor Government may have condoned the conspiracy and fraud involved in manipulating rates (see Taibbi "Libor Banking"). This scandal to rig the Libor rate has profound implications because it is the benchmark upon which trillions of dollars of interest rate linked derivatives are based.
One example of how taxpayers have been robbed using the fixed-libor rates can be found in the interest rate swaps that exist between municipal entities such as cities, and big banks such as JP Morgan. The big banks help governments at all levels structure and re-structure their debts (e.g., outstanding bonds), encouraging governments to push debt repayment far off into the future. In the US, the big banks often sold interest rate swaps to municipalities when helping them structure debt (i.e., bonds). An interest rate swap essentially fixed the interest that the cities/counties would have to pay on their debt by arranging a swap with the seller. So, for example, X City might pay for a swap with JP Morgan that would fix their interest rates at 4%. The problem was that these fixed interest rate swaps were subsequently at rates higher than what the market rate for the debt would have been. Consequently, X City had to pay more interest to JP Morgan (hypothetically) than they would have to pay if their interest on debt floated at market rates. Plus, they had to pay massive fees. Matt Taibbi wrote a great essay on how this was creating financial havoc for municipal entities. He describes one county, Jefferson County, whose sewer bills skyrocketed in the late 1990s when they were between ten and fourteen dollars a month and recently when they were up to $200 a month, primarily because of the debt and fees accrued in that country by corrupt officials and the big banks
Another major scandal involved in fixing interest rates on municipal debt concerns fixed auctions. The company, CDR, which helps cities arrange auction for bonds collaborated with the major buyers of these municipalities to fix the interest rates the bonds would sell at. Matt Taibbi explains that bid rigging for municipal debt essentially stole millions. He describes how the auctions were fixed:
How did they rig the auctions? Simple: By bribing the auctioneers, those middlemen brokers hired to ensure the town got the best possible interest rate the market could offer. Instead of holding honest auctions in which none of the parties knew the size of one another's bids, the broker would tell the prearranged "winner" what the other two bids were, allowing the bank to lower its offer and come in with an interest rate just high enough to "beat" its supposed competitors. This simple but effective cheat – telling the winner what its rivals had bid – was called giving them a "last look." The winning bank would then reward the broker by providing it with kickbacks disguised as "fees" for swap deals that the brokers weren't even involved in. (Taibbi “The Scam” 2012).
Taibbi claims that every major US bank, including Bank of America, Chase, and Wells Fargo City were involved in this bid rigging.
At the time this chapter was written, state prosecutors were investigating whether their states incurred losses because of interest rate manipulation (Eaglesham, Albergotti, & Corkery, 2012). The Mass. State treasurer observes that "a significant portion of his office's $9.5 billion cash portfolio is tied directly or indirectly to the performance of Libor" (Eaglesham, Albergotti, & Corkery, 2012). However, the Libor scandal and the fix auction rates for government debt together suggest that the entire government debt system (outside of the federal government) is ridden with fraud and corruption. Furthermore, Goldman and other investment banks also sold synthetic collateralized debt obligations to public entities, which they subsequently betted against (Duggan 2010, C1, C3). The US government declined to prosecute those financial agents responsible for the crisis, for betting against clients, and for profiteering subsequently in rampant foreclosure fraud (see Tavakoli 2010).
[i] Jim Rickards on the K eiser Report July 19 2012.The Keiser Repor KR316] Keiser Report: Alien Bankers, Leave Earth Alone!
Black, William. Holder & Obama’s Propaganda is “Belied by a Troublesome Little Thing Called Facts.” New Economic Perspectives (2012, January) http://www.neweconomicperspectives.org/2012/01/holder-obamas-propaganda-is-belied-by.html
Black, William Recurring Crises Derive From Epidemics of Fraud Stemming from C Suite November 2011. Speech available: http://www.youtube.com/watch?v=N_AuvLTJNh0&feature=youtu.be See also http://www.financialsense.com/financial-sense-newshour/guest-expert/2011/09/14/william-k-black-phd/why-nobody-went-to-jail-during-the-credit-crisis
Cimilluca, D., & Enrich, D. Bank of England Rebuffed Tougher Libor Oversight. The Wall Street Journal (2012, July 21-22), B1, B2.
Eaglesham, Jean. Wall Street Journal May 14, 2012 p. C1, C5
Eaglesham, J., R. Albergotti, & M. Corkery. States Step Into Libor Probe. The Wall Street Journal (2012, July 16) C1, C2.
Elias, Christopher . "MF Global and the great Wall St re-hypothecation scandal" Thomas Reuters News and Insight (2011, December), http://newsandinsight.thomsonreuters.com/Securities/Insight/2011/12_-_December/MF_Global_and_the_great_Wall_St_re-hypothecation_scandal/
Enrich, D., & Munoz, S. S. (2012, July 5). Rate Scandal Set to Spread. The Wall Street Journal, p. A1, A5.
"Funds From MF Global Feared Gone." The Wall Street Journal, Jan 30, 2012 p. A1, A2.
Hart, Keith. Money in an Unequal World. New York: Texere, 2001.
Hutchinson, Martin. Ban Credit Default Swaps? These Corporate Bankruptcies Show We should. Monday Morning (2009, april 23).http://moneymorning.com/2009/04/23/ban-credit-default-swaps/
Lawder, D., & Youngla, R. (2010, March 9). Greek CDS overtures fall on deaf ears in Washington. Reuters [on-line]. Available: http://www.reuters.com/article/idUSTRE62900820100310
Taibbi, M. LIBOR Banking Scandal Deepens; Barclays Releases Damning Email, Implicates British Government. Rolling Stone (2012, July 4),
Read more: http://www.rollingstone.com/politics/blogs/taibblog/libor-banking-scandal-deepens-barclays-releases-damning-email-implicates-british-government-20120704#ixzz1zoUkO4qU
Taibbi, M. The Scam Wall Street Learned From the Mafia: How America's biggest banks took part in a nationwide bid-rigging conspiracy - until they were caught on tape. Rolling Stone (2012 , June 20), http://www.rollingstone.com/politics/news/the-scam-wall-street-learned-from-the-mafia-20120620?print=true