In Bailouts End Responsibilities

Jesse Walker | April 23, 2009

As we sort out the disaster that was Bank of America's TARP-funded purchase of Merrill Lynch, read this remarkable passage from the testimony that bank CEO Kenneth Lewis gave to New York's attorney general:

Q: Wasn't [Treasury Secretary Hank] Paulson, by his instruction, really asking Bank of America shareholders to take a good part of the hit of the Merrill losses?

Mr. Lewis: What he was doing was trying to stem financial disaster in the financial markets from his perspective.

Q: From your perspective, wasn't that one of the effects of what he was doing?

Mr. Lewis: Over the short term, yes, but we still thought we had an entity that filled two big strategic holes for us and over long term would still be an interest to the shareholders.

Q: So isn't that something that any shareholder at Bank of America who had less than a three-year time horizon would want to know?

Mr. Lewis: The situation was that everyone felt like the deal needed to be completed and to be able to say that, or that they would impose a big risk to the financial system if it would not.

Q: When you say "everyone," what do you mean?

Mr. Lewis: The people that I was talking to, [Fed Chairman Ben] Bernanke and Paulson.

Q: Had it been up to you would you made the disclosure?

Mr. Lewis: It wasn't up to me.

Q: Had it been up to you.

Mr. Lewis: It wasn't.

Q: Why do you say it wasn't up to you? Were you instructed not to tell your shareholders what the transaction was going to be?

Mr. Lewis: I was instructed that "We do not want a public disclosure."

Q: Who said that to you?

Mr. Lewis: Paulson.

If you believe one of the causes of the crisis is the principal agent problem -- what happens when a company's representatives act more for themselves than for the organization's long-term interests -- then this should be yet another alarming moment. The government pressured a corporation's chiefs to take a very risky move while keeping the company's nominal owners in the dark. The end result was a big bailout for Bank of America (and a big payday for Merrill Lynch executives).

Don't think for a second that this was an enormous aberration. At a time when many of us are looking for ways to make owners more responsible for a company's fortunes, public policy is pushing us in the opposite direction: The government has been shielding companies from the consequences of their actions, and it has been inserting itself into their internal policies. The effect is to shift both fiscal liability and decision-making authority into the hands of the state, leaving owners even further removed from the risks being taken in their name.

Comments

|4.23.09 @ 2:11PM|#

I just read a Dick Morris column where he believes that Obama's conversion of preferred stock to common stock in the banks is his subtle trick of gaining more control over the banks, in other words, socialism of the banks.

JP|4.23.09 @ 2:25PM|#

The government has been shielding companies from the consequences of their actions, and it has been inserting itself into their internal policies. The effect is to shift both fiscal liability and decision-making authority into the hands of the state, leaving owners even further removed from the risks being taken in their name.

My hope is that the feds (continue to) do such a shitty job at this that any half-way rational managers of private companies will run in the opposite direction. "Don't worry, we'll give you the needed funds, and we'll protect you from prosecution. ... Oops, sorry, we can't protect you after all. You'll be bunking with Spike for a few years, 'kay?"

Fluffy|4.23.09 @ 2:31PM|#

Paulson should be in jail.

I'm unaware of any "it's for a good cause" exemption to the SEC's disclosure requirements. So it's pretty straightforward that Lewis broke the law, and that Paulson conspired with him to break the law.

|4.23.09 @ 2:31PM|#

Um...this should also be considered in light of the Washington Mutual case.

Washington Mutual was in the process of negotiating financing, and then the bank they were negotiating with stopped talking to them and started negotiating directly with the FDIC. The FDIC subsequently stripped Washington Mutual shareholders of their assets and sold them at rock bottom prices to the entity they were negotiating financing with...

And get this! 1) Washington Mutual wasn't even outside its reserve requirements at the time and 2) the FDIC wouldn't even give the money it sold those WaMu's assets for to the shareholders! They kept it for their own general budget--not for the fund that covers deposits!

http://en.wikipedia.org/wiki/Washington_mutual#Seizure_by_FDIC

So what does that have to do with Bank of America? In light of what regulators did to Washington Mutual, you'd have to be an idiot a) not to tell the regulators whatever they wanted to hear and b) not to do whatever they told you to do.

|4.23.09 @ 2:36PM|#

"My hope is that the feds (continue to) do such a shitty job at this that any half-way rational managers of private companies will run in the opposite direction."

Some of them are trying to run away by trying to give back the money. That money came with a price: government having more say in the way a bank or corporation operates. The bank and corporate managers don't like that power being taken away from them.

T|4.23.09 @ 2:40PM|#

I so wish I had stock in B of A, because I would lawyer up and sue Bernanke and Paulson in a New york minute over this bullshit. Anybody that owns a big chunk of B of A should be shopping lawyers right now.

|4.23.09 @ 2:40PM|#

Figures that the feds cost me thousands by prematurely killing WaMu. I didn't sell because WM actually had a good asset position (including a large deposit position).

Khaaaaaan!

Khaaaaaan!

|4.23.09 @ 2:56PM|#

Anybody that owns a big chunk of B of A should be shopping lawyers right now.

Believe me, they are. The bondholders probably are too. look for supreme court level litigation toarise from either this scenario, or others like it.

JB|4.23.09 @ 2:59PM|#

Every single one of these losers should be fired. Actually they should be tortured and killed, but I will settle for fired.

JP|4.23.09 @ 3:06PM|#

At the end of the WSJ article on this today, it says that (according to Lewis) Paulson told him the incumbent BoA directors and management would be removed if BoA didn't consummate the acquisition.

Can Treasury remove bank directors or execs? I don't know enough about banking law.

Paul|4.23.09 @ 3:25PM|#

any half-way rational managers of private companies will run in the opposite direction.

Doesn't matter. The rear exit may be blocked. (reg required).

NPR noted yesterday, the same story where the more solvent banks wish to repay the A.S.S.R.A.P.E., erh, TARP funds to get out of the iron grip of the Feds. However, the Feds aren't going to allow it unless the bank is solvent, and probably not even then. The Feds are now unveiling this new clause which basically says that even if the bank is solvent, it may not be in the country's best economic interest to have the ASSRAPE (TARP) money repaid.

I grimmace at conspiracy theories but (you knew a big but was coming, didn't you?) I'm seriously beginning to wonder if the country's best economic interest means "the government controls the financial markets".

Paul|4.23.09 @ 3:31PM|#

Can Treasury remove bank directors or execs? I don't know enough about banking law.

Yes. There need not be any existing law or precedent. You do remember what country you're living in, right?

Paul|4.23.09 @ 3:32PM|#

JP: forgot to link this: http://content.usatoday.com/communities/theoval/post/2009/03/64826069/1

Not only can they do it, they've already done it.

|4.23.09 @ 3:35PM|#

Maybe if we let Bank Of America continue with massive fees and penalties on their credit card accounts to retired, fixed income holders, we wouldn't need to give them TARP $$$.

Imagine, BOA reducing the line of credit far below an existing balance, charging over limit fees to the account, then charging 31% interest on the fees and the account. Or BOA demanding full payment in 30days because they shut off your auto withdrawl. Or BOA increasing your rates from 17% to 31.5% because your credit score change (due to BOA making errors on your account and filing errors with credit bureaus).

Bank Of America execs are disingenuous should be placed in prison for the abuses from their credit card business on retirees alone. They should have never see a nickel of any form of bailout, execpt burning BOA execs at the stake. I guess that would be considered a greater social benfit and too practical.

BTW: WaMu was seized because their capitalization ratios were so far out of wack, the bank would not have recovered.

ed|4.23.09 @ 3:38PM|#

The government has been shielding companies from the consequences of their actions

But what to do about it? Regarding the apparatchiks, I'd like to see more suicides. And for those in government who enable them, the guillotine.

|4.23.09 @ 4:34PM|#

Employees (management) putting their interests above their employers' (shareholders). With the approval of government representatives.

Maybe the Congress should hold hearings.

While they are at it, they can consider how the tax code has encouraged the growth of income disparity.

I'll be right here, holding my breath.

|4.23.09 @ 4:52PM|#

""" in other words, socialism of the banks."""

The bank could have said no thanks to the money.

Maybe I'm a little hypersensitive to the use of the term socialism since the right likes to throw it around as if Obama is being Chavez, which Obama is not. With Obama the banks have a choice, no choice with Chavez.

""""Yes. There need not be any existing law or precedent. You do remember what country you're living in, right?""""

No just an agreement between the bank and government. The bank doesn't have to take the deal with the devil. If the bank does, it gets what it deserves. This applies to GM too. A quote from Paul's link

"The White House asked Wagoner to quit and he agreed,"

The government did not force Wagoner out.

|4.23.09 @ 4:59PM|#

"""However, the Feds aren't going to allow it unless the bank is solvent, and probably not even then. The Feds are now unveiling this new clause which basically says that even if the bank is solvent, it may not be in the country's best economic interest to have the ASSRAPE (TARP) money repaid."""

I would be surprised if the feds can legally apply it retroactively. If it wasn't in the agreement signed when the money was handed over, it's not enforceable. Of course we all know the feds will do what they want until SCOTUS slaps their hand, and maybe not then. I would not be surprised if it takes a trip to SCOTUS before the feds accept the repayment.

Personally, I enjoy the feds trying to push the BS onto the banks, it's all the more reason for the next company to say no thanks.

Paul|4.23.09 @ 6:03PM|#

""""Yes. There need not be any existing law or precedent. You do remember what country you're living in, right?""""

No just an agreement between the bank and government. The bank doesn't have to take the deal with the devil. If the bank does, it gets what it deserves. This applies to GM too.

Depends on how you define "agreement". Also depends on what was said behind closed doors when the government so nicely asked with a cherry on top to take ASSRAPE (erh, TARP) money. My guess is that we're going to get leaks on this for years to come. See testimony given above as evidence to how much "choice" there is in this whole process. There's been some rumour in the news about execs of healthy banks being threatened with crippling IRS audits if they didn't "agree" to take the TARP funds.

But really, do we need a long, philosophical hash about "choice" when the 900lb gorilla is standing in front of you, flanked by several other 900lb lawyers asking you nicely to comply?

A quote from Paul's link

"The White House asked Wagoner to quit and he agreed,"

The government did not force Wagoner out.

Uh huh. See my statement about 900lb gorillas.

I mean, ok, the government gave him an offer he couldn't refuse.

Smiles all around during that meeting.

I would be surprised if the feds can legally apply it retroactively. If it wasn't in the agreement signed when the money was handed over, it's not enforceable.

Uhhuhhuh... ahaha... AHAHAHAHAAA!