Monday, May 4, 2009

Simon Johnson Continues to Be Proven Right

In this recent article ( in The Atlantic, MIT professor and former head of the IMF Simon Johnson argues that the US has become emerging market-like as a result of the financial oligarchy that dominates both US politics and finance.

Last week in this article ( we learned that Citibank asked the man, Tim Geithner, who had a responsibility to regulate the firm the BE THE CEO after Chuck Prince. The idea that the company would even ask shows how close Geithner was to Citi and how skewed the lines have become between the government agencies and private intuitions. Does anyone else but me wonder what it is like when Vikram Pandit and the other leaders of Citi come to the White House to talk with the Treasury? I find it unbelievable that Geithner continues to be on the other side of the table from Citi despite what look like glaring conflicts of interest.

Obviously, this is not the first or only example of this phenomenon. Government Sachs as Goldman is often referred to has furnished the most recent administrations with numerous top financial men. Based on Hank Paulson's position at the Treasury, it is not a surprise that much of the government bailout money provided to AIG went to Goldman even though GS claimed it had hedged its position in AIG through CDS. This of course means that GS likely got paid on the CDS when the gov't took over AIG and then got paid for the contracts in which AIG was their counterparty. As a result of this double dipping, is it any wonder that GS was so profitable in its trading unit in Q1 2009?

At this point I barely even flinch when I see a blatant conflict of interest ignored by the investing and non-investing public. But today I came across this article

( in the Wall Street Journal and I couldn't help but post my reaction. Apparently, the current Chairman of the Fed Bank of NY is a former GS executive and sat on the Board of GS when the company became a bank holding company, an event that put GS under the regulatory umbrella of the Fed. Despite this conflict of interest Mr. Friedman not only continued his roll at both entities but also bought GS stock in December that has appreciated nicely since then. What's the problem you ask? Well, the fact that he owned GS stock was a blatant violation of Fed policy and he did not obtain a waiver until 2.5 months later. I have become so desensitized to all of this that as I was reading this nothing struck me until the following paragraph:

"Because he was wasn't allowed to own the stock he had, the Fed doesn't consider his additional December purchase to be at odds with its rules at the time. The Fed had no policy requiring directors to inform it of new stock purchases, and Mr. Friedman didn't. The Federal Reserve Board is now in the process of rewriting its rules for handling situations like Mr. Friedman's."

Huh, you say? Isn't that like saying that since you are already wanted for tax evasion you might as well go out and rob a bank because you have already broken the law? He was already in violation so it didn't matter that he went deeper into violation? Is it me or is this ludicrous? Of course Mr. Friedman steadfastly said "I see no conflict whatsoever in owning shares." Of course he doesn't. Because there is no longer a line between what is legal/acceptable and what is morally wrong within the US financial oligarchy. These people are so entrenched they don't even know when they are doing something that a normal person would see as wrong and probably go to jail or get fired for.

Well, Mr. Friedman is going to step down in December when his conveniently late waiver expires. Shouldn't he have done so originally? At least one person thinks so:

"Jerry Jordan, a former president of the Fed bank in Cleveland, says Mr. Friedman should have stepped down once Goldman became a bank holding company in September and thus fell under the Fed policy barring stock ownership by certain directors of Fed banks. "Any kind of financial transaction at all by any of the directors is always a problem," Mr. Jordan said. "He should have resigned.""

But why didn't he?

""Steve Friedman is a very capable chairman," said Tom Baxter, the New York Fed's general counsel, "and was the kind of person who we needed to head the search" for someone to succeed Mr. Geithner."

Oh yes, we were in the middle of a crisis and any little, tiny event (like not finding a replacement for Geithner immediately) could have caused the entire world to crumble. This excuse has been used for many things recently (be forewarned: a long post regarding the Fed and Treasury's pressure on Ken Lewis regarding the Merrill deal will be out soon) and the government's willingness to skirt the rules of law continues to be very troubling.

So, as the stock market continues to rally and people only focus on the green shoots we see (or think we see) in the economy, remember to pay attention to what is going on between Washington and Wall Street. I believe that it is this relationship, in the end, that will determine whether or not foreigners continue to pour capital into this great country of ours. This is unfortunate because this country has been the leader in non-financial innovation over the past 100 years and if anyone needs capital right now it is the entrepreneurs who seek to continue the US’s dominance when it comes to innovation.