With the appointment of Mark Carney to head the Bank of England, three major central banks will be headed by former Goldman Sachs banksters. Mario Draghi is ECB president, and William Dudley is the head of the Federal Reserve Bank of New York. Both, like Carney, are ex-Goldmanites.
Asymmetric incentives usually leads to conflicts of interests in relationships (seen in both the private and the public sectors), which typically is known as the principal-agent or the agency problem
On how this applies in the evaluation of sources of information I recently wrote,
This brings us to the most sensitive part of information sourcing: the principal-agent or the agency problem
Economic agents or market participants have divergent incentives, and these different incentives may result to conflicting interests.
To show you a good example, let us examine the business relationship between the broker and the client-investor.
The broker derives their income from commissions while the investor’s earning depends on capital appreciation or from trading profits or from dividends. The economic interests of these two agents are distinct.
How do they conflict?
The broker who generates their income from commissions will likely publish literatures that would encourage the investor to churn their accounts or to trade frequently. In short, the literature will be designed to shorten the investor’s time orientation.
Yet unknown to the investor, the shortening of one’s time orientation translates to higher transaction costs (by churning or frequent trading). This essentially reduces the investor’s return prospects and on the other hand increases his risk premium.
How? By diverting the investor’s focus towards frequency (of small gains) rather than the magnitude. Thus, a short term horizon tilts the risk-reward scale towards greater risk.
Writing at the New York Times, a recently resigned Goldman Sachs employee scathingly accuses his former employer of the said infraction.
Writes Greg Smith,
TODAY is my last day at Goldman Sachs. After almost 12 years at the firm — first as a summer intern while at Stanford, then in New York for 10 years, and now in London — I believe I have worked here long enough to understand the trajectory of its culture, its people and its identity. And I can honestly say that the environment now is as toxic and destructive as I have ever seen it.
To put the problem in the simplest terms, the interests of the client continue to be sidelined in the way the firm operates and thinks about making money. Goldman Sachs is one of the world’s largest and most important investment banks and it is too integral to global finance to continue to act this way. The firm has veered so far from the place I joined right out of college that I can no longer in good conscience say that I identify with what it stands for…
Goldman Sach’s agency problem, from Mr. Smith’s account (bold emphasis mine)
How did we get here? The firm changed the way it thought about leadership. Leadership used to be about ideas, setting an example and doing the right thing. Today, if you make enough money for the firm (and are not currently an ax murderer) you will be promoted into a position of influence.
What are three quick ways to become a leader? a) Execute on the firm’s “axes,” which is Goldman-speak for persuading your clients to invest in the stocks or other products that we are trying to get rid of because they are not seen as having a lot of potential profit. b) “Hunt Elephants.” In English: get your clients — some of whom are sophisticated, and some of whom aren’t — to trade whatever will bring the biggest profit to Goldman. Call me old-fashioned, but I don’t like selling my clients a product that is wrong for them. c) Find yourself sitting in a seat where your job is to trade any illiquid, opaque product with a three-letter acronym.
Today, many of these leaders display a Goldman Sachs culture quotient of exactly zero percent. I attend derivatives sales meetings where not one single minute is spent asking questions about how we can help clients. It’s purely about how we can make the most possible money off of them. If you were an alien from Mars and sat in on one of these meetings, you would believe that a client’s success or progress was not part of the thought process at all.
It makes me ill how callously people talk about ripping their clients off. Over the last 12 months I have seen five different managing directors refer to their own clients as “muppets,” sometimes over internal e-mail…
It astounds me how little senior management gets a basic truth: If clients don’t trust you they will eventually stop doing business with you. It doesn’t matter how smart you are.
I would add that the cultural transformation of the company may have largely been brought about by the amplification in the political role played by Goldman Sachs in shaping US politics.
A company that earns through political rent seeking or has been protected by regulators will largely become indifferent to its consumers. Since they have become substantially less subjected to market discipline, their priorities will run in the direction of influencing policymaking in line with their interests or gaming the system.
Bottom line: interventionism magnifies the agency problems.
This fantastic Venn diagram from Professor Mario Rizzo shows of the conflict of interests, particularly the US government's revolving door relationship with the too big too fail, Goldman Sachs.
This also serves as a good example of regulatory capture or when a “regulatory agency created to act in the public interest instead advances the commercial or special interests that dominate the industry or sector it is charged with regulating” (Wikipedia.org).
I had repeatedly argued here that the Goldman-SEC row had been nothing but a slick political publicity stunt, some excerpts:
“Moreover, it also seems ridiculous to perceive of a sustained path of attack, considering that Goldman Sachs has been more than a political ally to the Democratic Party. In fact the company has constantly played the role of key financier of the Democratic Party”
See Why The US SEC-Goldman Sachs Hoopla Is Likely A Charade
“We have long known that the global financial system have been "gamed" by the elite in cahoots with politicians. And part of the game is the borrow and spend policies, that actually benefits the banking cartel.
“As we earlier said, it won't take long for this political masquerade to be unraveled...
“What I have been saying is that this has been a political ruse meant to either shore up somebody's electoral image or an attempt to control the gold markets.”
See SEC-Goldman Sachs: Hindsight Bias, Staged For Political Advantage
“And this gives even more motivation for the ruling political class to use the Goldman caper as a likely prop as the "fall guy" role for political ends.
“We just don't oversimplistically regulate cartels out of existence, not when the cartel itself is lead by the government via the Federal Reserve.”
See: SEC-Goldman Sachs Row: The Rising Populist Tide Against Big Governments
“Moreover, there have been pressures for Goldman to amicably settle with the SEC even if “they’re right on the merits of the case”.
“And surprisingly, President Obama despite earlier reports to verbally assail Wall Street turned up with a conciliatory voice at a recent speech ``Ultimately, there is no dividing line between Main Street and Wall Street,” Obama said in his speech at Cooper Union, about two miles from the financial district. “We will rise or we will fall together as one nation.”
See: Markets Ignore US SEC-Goldman Sachs Tiff, More Political Dirty Dancing
It appears that this has been the case, as the Goldman-SEC row has officially been settled.
This from Bloomberg/Businessweek,
``Goldman Sachs Group Inc.’s $550 million settlement with U.S. regulators yesterday will benefit the firm by ending three months of uncertainty at an affordable price. Now the rest of Wall Street begins calculating the cost.
``Investors welcomed the deal with the Securities and Exchange Commission, saying the company won key points: The cost was below some analysts’ estimates of at least $1 billion; no management changes were required; and Goldman Sachs said the SEC indicated it doesn’t plan claims related to other mortgage- linked securities it examined. The stock’s late surge on anticipation of a settlement yesterday added more than $3 billion to the company’s market value, and it climbed further after New York trading closed.
“You’d have to look at it as a victory for Goldman,” said Peter Sorrentino, senior portfolio manager at Huntington Asset Advisors in Cincinnati, which manages $13.3 billion including Goldman Sachs shares. “This takes a cloud off the stock.”
``In the settlement, unveiled less than two hours after the Senate passed legislation to reform the financial system and avert future crises, Goldman Sachs acknowledged that marketing materials for the 2007 deal at the center of the case contained “incomplete information.” In its April 16 suit, the SEC accused the firm of defrauding investors in a mortgage-backed collateralized debt obligation by failing to tell them that hedge fund Paulson & Co., which was planning to bet against the deal, had helped to design it.” (bold emphasis added)
Quid pro quo?
``Popular opinion ascribes all these evils to the capitalistic system. As a remedy for the undesirable effects of interventionism they ask for still more interventionism. They blame capitalism for the effects of the actions of governments which pursue an anti-capitalistic policy.” Ludwig von Mises, Interventionism an Economic analysis
Adding more arbitrary laws or “regulations”, which are usually founded upon noble goals, have been used as the main pretext for expanding political power by the incumbents.
This unfortunately is what people refuse to see yet has been a critical cause of much of today’s ills.
For the political economy, regulations can unilaterally skew the distribution of power from the ruled to the ruler. If there is such a thing as “income or wealth” inequality, the obverse side is the “political inequality”.
Professor Lawrence White[1] on the difference of rule of law and rule of men, ``The contrast between the rule of law and the rule of men is sometimes traced still further back to Plato’s dialogue entitled Laws. In that work the Athenian Stranger declares that a city will enjoy safety and other benefits of the gods where the law “is despot over the rulers, and the rulers are slaves of the law”. In other words, government officials are to be the servants and not the masters of society. The rule of law is vitally important because it allows a society to combine freedom, justice, and a thriving economic order.”
When government officials elect to end up as “masters of society”, one of the main acts to attain such goals is to deliberately trample upon with laws of the land to allow laws to work to their favor.
In short, despots legitimize their power grab by coercively instituting their own set of laws. The Philippines is no stranger to this as seen through former President Ferdinand Marcos’ proclamation 1081, ``Marcos ruled by military power through martial law, altered the 1935 Constitution of the Philippines in the subsequent year, made himself both Head of State as President and Head of Government as Prime Minister, manipulated elections and the political arena in the Philippines, and had his political party--Kilusang Bagong Lipunan (KBL) (English: New Society Movement) control the unicameral legislative branch of government called the "Batasang Pambansa". All these allowed Marcos to remain in power and to plunder.[2]”
And since the manipulation of laws tends to rearrange the political economic order according to the whims of those in power by restraining civil liberties and economic freedom, ergo, the benefits or privileges will be partial to those within the ambit of the administration.
Said differently instead of having resources distributed through the marketplace, resources will be allocated politically in accordance to the order of importance as seen by the authorities. Nevertheless when the concentration of power is left to a few to decide, then price signals will be distorted and that lobbying, favouritism, corruption and cronyism will be her common feature.
The Phony War Against The “Cockroaches”
So what has these to do with the current state of the markets?
Alot.
The emergence of proposed regulatory reforms by the Obama administration for Wall Street comes timely with the US SEC-Goldman Sachs brouhaha.
Aside from the noteworthy coincidence[3], the US markets appears to be validating our view by ignoring the impact of the US SEC-Goldman tiff (see figure 1).
Figure 1: Political Act Slowly Unraveling
In contrast to the camp that sees the Goldman controversy as an issue of fraud, by looking at the incentives that drives the actions of political authorities, we have argued otherwise[4].
Besides, it is not within our ambit to comment on juridical merits of any legal case and neither are those who claim that it is about ‘fraud’. Commenting on the legal aspects based on news accounts signifies nothing but “trial by publicity”.
If Goldman had been truly a “cockroach”, then there must be other cockroaches too from which the sudden apostasy of the Obama administration must mean a total “war on cockroaches”.
And true enough, we find that Goldman’s practice hasn’t been isolated but an industry practice especially among the TOO BIG TO FAIL institutions.
According to the New York Times[5], ``Many banks on Wall Street and in Europe were even bigger players in the types of complex investment deals that Goldman is now defending. Merrill Lynch was at the top of the heap, assembling $16.8 billion worth between 2005 and 2008, according to a new report by Credit Suisse.
``UBS put together $15.8 billion worth of similar products, according to the Credit Suisse estimates, while JPMorgan Chase and Citigroup each created more than $9 billion worth. Goldman Sachs was a comparatively small issuer, at $2.2 billion.”
Yet if one looks at the market, except for Goldman Sachs (GS), the SPDR Financial Select Sector (XLF) [where JP Morgan, Citigroup, Merrill and GS is 24.3% of index weighting] and the S&P Bank Index (BIX) has simply shrugged off any “contagion” against a so-called “war on cockroaches”.
Noticeably, the broad based US markets as shown by the S&P 500 (SPX), which includes the Dow Industrials, the Nasdaq and the mid cap Russell 2000 all went to a bullish rampage by breaking to the upside as of Friday’s close.
Oddly too that the so-called aggrieved party in the controversial case was also reported as practicing the same allegedly skulduggery employed by Goldman, this from John Carney[6],
``It was a piece of regulatory arbitrage: In essence, IKB was investing in complex mortgage bonds without having to set aside regulatory capital or report the increase in risky assets to its regulators or auditors.”
``In short order, Rhineland became one of the biggest buyers of the complex investment products puked out by the likes of Lippman at Deutsche Bank, JP Morgan Chase—and Goldman. One banker told Euroweek that IKB—through Rhineland and similar tactics—had become one of the five or six largest investors in Europe. Thus, Goldman found them a willing buyer for the junk piled into Abacus” (underscore mine)
Take note of the word: regulatory arbitrage.(as we will be using this later)
More Dirty Dancing Politics
As the days go by, more and more Goldman-Washington ties are being uncovered.
In contrast to common knowledge that the Democratic Party has been less affiliated with Wall Street, this is turning out to be untrue, according to the Politico, ``The Democratic Party is closer to corporate America — and to Wall Street in particular — than many Democrats would care to admit.” A chart from the New York Times can be seen here.
Moreover, we discovered that there are five former employees of Goldman currently employed in the Obama administration. This perhaps reveals the extent of connection between the two supposed rivals.
In addition, the timing of Friday’s government lawsuit likewise coincided with SEC’s report about its “failure to investigate alleged fraudster R. Allen Stanford”[7]. This may seem like an effort to possibly dampen media’s impact from regulatory failure by exposing a much bigger news. Apparently this succeeded.
And speaking of regulatory competence, one cannot help but guffaw at news reports where 33 SEC employees, including high ranking officials, spent much time during the crisis in porno browsing!
According to the NY Daily News[8], ``The shocking findings include Securities and Exchange Commission senior staffers using government computers to browse for booty and an accountant who tried to access the raunchy sites 16,000 times in one month.”
Perhaps, Madoff, Standford and Goldman people were trying to arbitrage falling markets with “porno” finance-whatever that means. This resonates clearly of the quality of the bureaucratic mindset.
Moreover, there have been pressures for Goldman to amicably settle with the SEC even if “they’re right on the merits of the case”[9].
And surprisingly, President Obama despite earlier reports to verbally assail Wall Street turned up with a conciliatory voice at a recent speech ``Ultimately, there is no dividing line between Main Street and Wall Street,” Obama said in his speech at Cooper Union, about two miles from the financial district. “We will rise or we will fall together as one nation.”[10]
We read a popular American blogger offer a bet against anyone who thinks Goldman will win the suit. Apparently this perspective is looking at the wrong issue.
Goldman can lose a case and still win the war. In the game of chess, this is called sacrifice or even queen sacrifice. Yet in a staged or scripted dispute, like in wrestling, one party’s loss is just a part of drama to fulfil other goals. A real life example of a staged battle is the US-Spanish “Battle of Manila”[11].
History As Guide To Future Actions
Let us put the issue in historical context.
Rightly or wrongly banks and financial institutions have been in the public “hot seat” from nearly time immemorial[12]. But in contrast to having reduced power from financial reforms, the banking system had even acquired more political clout in spite of these. The Federal Reserve was even stealthily hatched amidst scepticism over the banking industry.
Here is G. Edward Griffin’s speech[13], Author of The Creature from Jekyll Island, on the inception of the Federal Reserve (all bold highlights mine),
``Why not? why the secrecy? what's the big deal about a group of bankers getting together in private and talking about banking or even banking legislation. And the answer is provided by Vanderlip [Frank Vanderlip president of the National City Bank of New York] himself in the same article. He said: "If it were to be exposed publicly that our particular group had gotten together and written a banking bill, that bill would have no chance whatever of passage by Congress." Why not? Because the purpose of the bill was to break the grip of the money trust and it was written by the money trust. And had that fact been known at the get-go, we would never have had a Federal Reserve System because as Vanderlip said it would have had no chance of passage at all by Congress. So it was essential to keep that whole thing a secret as it has remained a secret even to this day. Not exactly a secret that you couldn't discover because anybody can go to the library and dig this out, but it is certainly not taught in textbooks. We don't know any of this in the official literature from the Federal Reserve System because that was like asking the fox to build the henhouse and install the security system.
``That was the reason for the secrecy at the meeting. Now we know something very important about the Federal Reserve that we didn't know before, but there's much more to it than that. Consider the composition of this group. Here we had the Morgans, the Rockefellers, Kuhn, Loeb & Company, the Rothschilds and the Warburgs. Anything strange about that mixture? These were competitors. These were the major competitors in the field of investment and banking in those days; these were the giants. Prior to this period they were beating their heads against each other, blood all over the battlefield fighting for dominance in the financial markets of the world. Not only in New York but London, Paris and everywhere. And here they are sitting around a table coming to an agreement of some kind. What's going on here? We need to ask a few questions.
``This is extremely significant because it happened precisely at that point in American history where business was undergoing a major and fundamental change in ideology. Prior to this point, American business had been operating under the principles of private enterprise--free enterprise competition is what made American great, what caused it to surpass all of the other nations of the world. Once we had achieved that pinnacle of performance, however, this was the point in history where the shift was going away from competition toward monopoly. This has been described in many textbooks as the dawning of the era of the cartel and this was what was happening. For the fifteen year period prior to the meeting on Jekyll Island, the very investment groups about which we are speaking were coming together more and more and engaging in joint ventures rather than competing with each other. The meeting on Jekyll Island was merely the culmination of that trend where they came together completely and decided not to compete--they formed a cartel.”
In other words, the trend towards consolidation of the industry via “financial reforms” has empowered more cartelization than less. And today’s proposed financial reform bill will enhance and not reduce such relationship in contrast to opinion of the reform advocates.
John Paulson And The Survivorship Bias
I’d like to show the relevance of hedge fund manager John Paulson’s reputation during the latest boom-bust cycle (see figure 2).
Figure 2: Google Trend/Wall Street Journal: John Paulson’s Popularity
As we have earlier argued, the SEC-Goldman dispute is a fait accompli argument (Wall Street seems to agree[14]).
That’s because Mr. Paulson, among the 12,400 hedge funds as reported by Hedgefund.net during the 3rd quarter of 2007, only shot to fame in early 2008 (left window) after profits in his fund skyrocketed (in mid 2007) which left the field biting his dust (right window).
In most of 2007, John Paulson, like Manny Pacquiao in the early 90s, was relatively an unknown figure (Mr. Paulson has hardly been searched by anyone)! This means that counterparties when appraised of Mr. Paulson’s participation in early 2007 would have simply ignored him as he was just one among the many “mediocre” aspiring hedge fund managers.
This also reveals that many people tend to read and value information based on today’s account and not during the time when the controversial transactions was developed. This cognitive error is known as the survivorship bias, or the ``the logical error of concentrating on the people or things that "survived" some process and ignoring those that didn't[15].”
[1] White, Lawrence Avoiding and Resolving Financial Crises: The Rule of Law or The Rule of Central Bankers?
[2] Wikipedia.org, Proclamation No. 1081
[3] Norris, Floyd, Fortunate Timing Seals a Deal
[4] See Why The US SEC-Goldman Sachs Hoopla Is Likely A Charade
[5] New York Times, Questions for Banks That Put Together Deals
[6] Carney John, Goldman’s Dirty Customers, The Daily Beast
[7] Wall Street Journal, The SEC's Impeccable Timing The Goldman suit helped to hide the IG report on the Stanford debacle.
[8] NY Daily News; While economy crumbled, top financial watchdogs at SEC surfed for porn on Internet: memo
[9] Bloomberg, Goldman Sachs Should Cut Losses in SEC Standoff, Lawyers Say
[10] Bloomberg, Obama Challenges Financial Industry to Join Regulatory Overhaul
[11] Wikipedia.org, The Battle of Manila (1898)
[12]see Quote of the Day on Wall Street: After Nearly A Century, Hardly Any Change
[13] Bigeye.com; A Talk by G. Edward Griffin Author of The Creature from Jekyll Island
[14] See SEC-Goldman Sachs Row: The Rising Populist Tide Against Big Government
[15] Wikipedia.org, survivorship bias
From Pew Research, (bold highlights mine)
``By almost every conceivable measure Americans are less positive and more critical of government these days. A new Pew Research Center survey finds a perfect storm of conditions associated with distrust of government -- a dismal economy, an unhappy public, bitter partisan-based backlash, and epic discontent with Congress and elected officials.
``Rather than an activist government to deal with the nation's top problems, the public now wants government reformed and growing numbers want its power curtailed. With the exception of greater regulation of major financial institutions, there is less of an appetite for government solutions to the nation's problems -- including more government control over the economy -- than there was when Barack Obama first took office.
``The public's hostility toward government seems likely to be an important election issue favoring the Republicans this fall. However, the Democrats can take some solace in the fact that neither party can be confident that they have the advantage among such a disillusioned electorate. Favorable ratings for both major parties, as well as for Congress, have reached record lows while opposition to congressional incumbents, already approaching an all-time high, continues to climb.
``The Tea Party movement, which has a small but fervent anti-government constituency, could be a wild card in this election. On one hand, its sympathizers are highly energized and inclined to vote Republican this fall. On the other, many Republicans and Republican-leaning independents say the Tea Party represents their point of view better than does the GOP."
In contrast to those who see and think in terms of their political party lines, the polls suggest that there is ballooning discontent about bi-partisan polity.
And it's why perhaps both the Democratic Party and the Republican Party have felt the backlash from the public and thereby has seen their approval ratings plummet, which has mostly been a reflection of the performance of the US congress.
And it is also why the Tea Party has spontaneously emerged.
Yet some would stubbornly argue that more government activism is likely the answer. For instance more regulation in the financial sphere. This camp never seem to realize that in politics, what you see isn't what you get.According to Ben Smith of the Politico, ``Though many hedge fund managers lean Democratic, Paulson has split his giving, offering maximum six-figure contributions both the the Democratic Senatorial Campaign Committee and to the Republican National Committee. Paulson, ranked 45 on Forbes' list of America's richest individuals, made maximum contributions to the presidential campaigns of Mitt Romney, John McCain, and Rudy Giuliani in 2008, but has also given to key Democratic senators for the finance industry, including Chris Dodd and Max Baucus.
``Paulson hasn't given directly to Schumer, though he maxed out to Schumer's committee. But he did host a fundraiser for the senior New York senator earlier this month, describing him in the invitation as "one of the few members of Congress that has consistently supported the hedge fund industry." (bold emphasis mine)
The point is that the polls suggest that there seems to be a growing public recognition that the previous "big government" or "activist government" experiment has noticeably been a failure, from which is being manifested in politics, as shown in the intratrade.com prediction markets chart courtesy of Bespoke Invest.
We find new information from the dispute from the Wall Street Journal Editorial: (bold highlights mine)Like us, the Wall Street Journal finds this as reeking with sensationalism.
``Did Goldman have an obligation to tell everyone that Mr. Paulson was the one shorting subprime? Goldman insists it is "normal business practice" for a market maker like itself not to disclose the parties to a transaction, and one question is why it would have made any difference. Mr. Paulson has since become famous for this mortgage gamble, from which he made $1 billion. But at the time of the trade he was just another hedge-fund trader, and no long-side investor would have felt this was like betting against Warren Buffett."...
[my comment:
People become attracted or conscious about full disclosure ex-post.
When the bubble blossomed no one essentially cared. This is an example of time constancy-interpretation of information depending on the conditions of that period, ergo full disclosure may not have been significant at all.
Heck, lots of institutions fell for pyramiding and Ponzi schemes like Bernard Madoff!
If the public have been circumspect fraudulent get rich schemes as PONZI and PYRAMIDING won't have existed at all. The fact is that there are just too many intellectual patsies out there.
And just piggybacking on the skyrocketing prices mattered then. Would there have been a crash if there had been no antecedent boom?
Besides, I have hardly seen any argument which stated that the counterparties which had been big financial institutions have a battery of lawyers, economists, accountants, statisticians, quants, security analysts, financial analysts and other experts who would have had the power from preventing this to happen. The so called losers (no they are not victims) were not gullible individuals.
So what stopped them? A stasis in thinking?! A mental blackout?
The fact is that these institutions fell for the seduction of the inflation boom, which after all was generated by the government. Expert or no expert they paid the price for falling into the trap set up by their own cognitive biases ]
``By the way, Goldman was also one of the losers here. Although the firm received a $15 million fee for putting the deal together, Goldman says it ended up losing $90 million on the transaction itself, because it ultimately decided to bet alongside ACA and IKB. In other words, the SEC is suing Goldman for deceiving long-side investors in a transaction in which Goldman also took the long side. So Goldman conspired to defraud . . . itself?...
[my comment: see Hyman Minsky quote in prior post]
``Perhaps the SEC has more evidence than it presented in its complaint, but on the record so far the government and media seem to be engaged in an exercise in hindsight bias. Three years later, after the mortgage market has blown up and after the panic and recession, the political class is looking for legal cases to prove its preferred explanation that the entire mess was Wall Street's fault. Goldman makes a convenient villain. But judging by this complaint, the real story is how little villainy the feds have found."
[my comment: Oops, " an exercise in hindsight bias" seems representative of our "fait accompli argument".]
Bill Sardi in Lewrockwell.com argues that additional regulatory lapses had been part of the story,
``the Commodities Futures Modernization Act which Congress passed a decade ago, opened the door for trades like John Paulson’s. This legislation eliminated the long-standing rule that derivatives bets made outside regulated exchanges are legally enforceable only if one the parties involved in the bet were hedging against a pre-existing risk. Prior regulations said the only people who can bet against an investment actually have to own shares in it. Here is Paulson betting against an investment he had no ownership in."
Like us, Mr. Sardi believes that this is being "staged for political advantage" of the administration in preparation for the Mid term elections.
``For sure, the Administration in Washington DC will be portrayed in coming months as the hero, rescuing the public from the blood-suckers on Wall Street. Be it government to save us all from problems it created and then pin a badge of honor on itself. The current and former administrations in Washington DC are, and have been, so tightly controlled and managed by Wall Street, even with its ex-CEOs strategically implanted within the Executive Branch, as to call all alleged reforms and sanctions into question. These are just for show...
``Goldman Sachs knows it has to make the President look good or there will be unending SEC prosecution. The public wants to know whose side is the President is on, the financial titans on Wall Street or the unemployed on Main Street? It will be scripted from the beginning.
``And now a final question – will Goldman Sachs be the fall guy in exchange for future favors from the government? If fines are handed out and nobody goes to jail, you will know this was likely preplanned."
We have long known that the global financial system have been "gamed" by the elite in cahoots with politicians. And part of the game is the borrow and spend policies, that actually benefits the banking cartel.
As we earlier said, it won't take long for this political masquerade to be unraveled.
Perhaps if the markets continue to stumble more and deeper, then there will "compromises" (via fines), which ends the US government part of the story.
But the unintended consequence could be the potential follow on class suits by other private parties. It's like opening the Pandora's box. The ultimate risk here is that the incentives to remove the profit and loss mechanism in the markets will lead to a total market malfunction.
Update:
Just to be clear, nowhere in this blog space (as well as in my earlier post) did I say that the political implication here is for the US Government to take over Wall Street. Nationalization betrays the essence of the banking cartel.
What I have been saying is that this has been a political ruse meant to either shore up somebody's electoral image or an attempt to control the gold markets.
``In discussing the situation as it developed under the expansionist pressure on trade created by years of cheap interest rates policy, one must be fully aware of the fact that the termination of this policy will make visible the havoc it has spread. The incorrigible inflationists will cry out against alleged deflation and will advertise again their patent medicine, inflation, rebaptising it re-deflation. What generates the evils is the expansionist policy. Its termination only makes the evils visible. This termination must at any rate come sooner or later, and the later it comes, the more severe are the damages which the artificial boom has caused. As things are now, after a long period of artificially low interest rates, the question is not how to avoid the hardships of the process of recovery altogether, but how to reduce them to a minimum. If one does not terminate the expansionist policy in time by a return to balanced budgets, by abstaining from government borrowing from the commercial banks and by letting the market determine the height of interest rates, one chooses the German way of 1923.-Ludwig von Mises, The Trade Cycle and Credit Expansion: The Economic Consequences of Cheap Money
Goldman Sachs, one of the top ‘too big to fail’ pillars of Wall Street have recently been sued by the US Security and Exchange Commission for allegedly intermediating mortgage securities that allowed several investors to ‘short-sale’ the housing market and for the buyers of the said securities a market that supposedly ``was secretly intended to fail”[1].
In my view, this is a bizarre case from a fait accompli standpoint.
From the news reports, unless there are signs of blatant manipulation or misrepresentations or procedural deviations or deliberate indiscretions, Goldman Sachs only acted as “market maker” or a bridge for parties that intended to bet on the opposite fence of the housing industry. This means that if there was a willing buyer and a willing seller, then obviously one of the two parties was bound to be wrong. Ergo, if the property boom had continued until the present and where the buyers benefited, would the SEC have sued the Goldman Sachs for the same reasons with respect to the losses incurred by the seller, particularly led by the popular hedge fund manager John Paulson, who allegedly orchestrated the creation of the controversial instruments?
Outside the technicalities of the suit, we can only sense political maneuvering out of the SEC-Goldman Sachs row.
Unless one thinks that regulators are divine interpreters and hallowed dispensers of the law, laws can be (or are many times) used as instruments to extract political goals, for the benefit of the regulator/s and or the political leadership and or some vested interests group in cahoots with the regulator/s.
Or unless President Obama is recast into a Thomas Jefferson, which means the next strike will be against the US Federal Reserve, only then, upon this new setting should we rethink of a vital shakeup in how things will be done. But this would seem hardly the case.
This brings us to the possible reasons why the Obama administration has resorted to such actions and if the attack on Wall Street will take the sails away from today’s inflation based markets.
It’s All About Politics
It’s public knowledge that following the forced passage of the highly unpopular Obamacare or President Obama’s signature health reform program, Obama’s job approval popularity rating has plunged to its lowest level[2], where the odds for his reelection is now in jeopardy[3], and worst, in a hypothetical match-up between libertarian champion Texas Congressman Ron Paul and President Obama, the odds appear to be dead-even[4]!
And if we are to interpret actions of politicians as a transfer of the “rational actor model of economic theory to the realm of politics”[5], then this only implies that as human being with a career to contemplate on, President Obama’s actions as seen through the SEC are merely designed as means to extend his tenure as well as expand the scope of his power.
As this LA Times article rightly argues, ``White House officials can't bank on a sudden surge in the economy coming to their rescue for the midterm elections. So they are hoping they can redirect voter anger by accusing the GOP of coddling large banks.[6]”
In short, it’s all about politics.
Moreover, it also seems ridiculous to perceive of a sustained path of attack, considering that Goldman Sachs has been more than a political ally to the Democratic Party. In fact the company has constantly played the role of key financier of the Democratic Party (Figure 4)
Figure 4: Opensecrets.org: Goldman Sach’s As Key Political Financier Of America’s Ruling Class
Goldman Sachs had even been the second largest contributor to Obama’s 2008 Presidential campaign[7]!
In addition, where action speaks louder than words, Goldman Sachs has been a key beneficiary from the US government’s bailout to the tune of $10 billion from the US Treasury’s Troubled Asset Relief Program (TARP)[8] which the company had fully redeemed in mid 2009[9].
More to this is that Goldman Sachs had also been a key beneficiary of the AIG bailout from which the company also recovered $12.9 billion out of the $90 billion of taxpayer funds earmarked for payment to AIG counterparties[10].
And these rescues merely demonstrate that as part of the “Too Big Too Fail” cabal, Goldman Sachs evidently has been operating under the protective umbrella of the US Federal Reserve.
As Murray N. Rothbard defines the principal roles of the Central Bank[11],
``The Central Bank has always had two major roles: (1) to help finance the government's deficit; and (2) to cartelize the private commercial banks in the country, so as to help remove the two great market limits on their expansion of credit, on their propensity to counterfeit: a possible loss of confidence leading to bank runs; and the loss of reserves should any one bank expand its own credit. For cartels on the market, even if they are to each firm's advantage, are very difficult to sustain unless government enforces the cartel. In the area of fractional-reserve banking, the Central Bank can assist cartelization by removing or alleviating these two basic free-market limits on banks' inflationary expansion credit.
So would President Obama afford a “possible loss of confidence leading to bank runs; and the loss of reserves should any one bank expand its own credit” from one of its major cartel member banks? The most likely answer is a BIG NO!
My guess is that the assault on Goldman Sachs seems likely a sign or an act of desperation, hence possibly miscalculated on the unintended impact on the markets via Friday’s selloff. Nevertheless, as noted above the markets appear to be extremely overbought and had been readily looking for an excuse or a trigger to retrench.
Yet even if under the scenario where President Obama may be politically desperate to shore up his image, a continued legal barrage on Wall Street that would send markets cascading lower betrays the populist ideals of a rising markets=rising confidence=economic growth, which is unlikely to achieve the intended goals.
It’s a silly thing for the perma bears to naively believe and argue that President Obama is on a warpath against the forces which brought him to power and against the oligarchy that has a strategic stranglehold on key US institutions and the US political economy.
Fighting Wall Street is essentially waging a proxy battle against the US Federal Reserve! And fighting the Fed is a proxy battle for Congressman Ron Paul, who not only wants an audit[12] of the Federal Reserve but also has been asking for its abolishment[13] (Yes, I am in Ron Paul’s camp!).
And this is why President Obama is shown to be quite in a tight fix where his actions could be read as publicity stunt or political vaudeville or an outright charade that is meant to be eventually unmasked.
The worst part is for the dispute to set a precedent and generate incentives from the losers of 2008 to lodge similar legal claims not only against Goldman Sachs but on different institutions. This will be tort on a massive scale, the unintended consequence.
Legal Actions As Counterbalance To Commodity Market Whistleblowers?
Yet there might be another angle to consider. It’s a conspiracy theory though.
Over the past weeks, there had been two accounts of whisteblowing[14] on the silver markets, where the precious metals have allegedly been under a price suppression scheme or have long been manipulated so as not to reflect on its market value, by a cabal of major institutions such as JP Morgan.
Since the exposé at the end of March, gold and silver has been on the upside (see figure 5)
Could it be that the surge in gold and silver prices has put tremendous pressure on the precious metal naked shorts of major financial institutions that they have asked the US government to intervene by declaring an indirect war against the whistle blowers via the SEC-Goldman Sachs tiff as a subterfuge?
Remember the key personality involved in the political squabble is John Paulson, who currently owns more gold in tonnes compared to Romania, Poland, Thailand, Australia and other nations (based on Oct 2009).
Although Mr. Paulson isn’t part of the lawsuit, his involvement could be designed to put pressure on his investors so as to force him to liquidate on his gold holdings, and thereby ease the pressure on the colossal exposure of the clique of financial institutions on their “short” positions.
Unless the government can pin Mr. Paulson down to be part of the wrongdoers in the proceedings, this precious market “Pearl Harbor” isn’t likely to be sustained.
At the end of the day, whether it is an attempt to spruce up Mr. Obama’s image or an attempt to contain the sharp upside movements of the precious metal market, all these, nevertheless, reeks of dastardly politics in play.
The worst part would be to see the unintended consequences from such political nonsense morph into full scale disaster.
Revaluation of Asian Currencies and Market Outlook
So while we see financial markets, perhaps, may be looking for an excuse for a recess (anywhere 5-20% on the downside or a consolidation instead of a decline), it is not likely a crash in the making.
Politicians and bureaucrats, who watch after their career and status, more than we acknowledge, aren’t likely to roil the markets that would only defeat their goals.
Under such conditions, we see global markets as likely to continually respond to the massive inflationism deployed by global authorities. And there could be rotational activities in the global asset markets instead of a general market decline.
With the recent revaluation of Singapore currency[16], we see this as a further positive force and a cushion on the markets as other Asian currencies will be under pressure to revalue and this applies to China too. Along with the Singapore Dollar, Philippine Peso surged 1.2% this week to 44.385 against the US dollar.
Though a global financial market may stem this dynamic out of the corrective pressures, any reversal would prove to be temporary.
So yes, we expect the markets to possibly look for opportunities to rest. But no, we don’t expect market to crash, not at this stage of the bubble cycle yet.
Finally, the Philippine Phisix nearly shares the same record with the US markets, of having gains in 6 out of 7 weeks, which only proves that the Philippines has not moved in an isolated manner, but rather in sync with region's markets, if not the worlds' markets. This also goes to show that Philippine elections have been eclipsed by global forces.
So like the rest of the markets, until we can establish self determinism, we see global dynamics to prevail due to the linkages of inflationism.
In my view any correction should pose as a buying opportunity as we are still in the sweetspot of inflationism.
[1] New York Times, S.E.C. Accuses Goldman of Fraud in Housing Deal
[2] Gallup.com; April 12,2010 Obama Weekly Approval at 47%, Lowest Yet by One Point
[3] Gallup.com April 16 Voters Currently Divided on Second Obama Term
[4] Rasmussen Reports: April 14, 2010; Election 2012: Barack Obama 42%, Ron Paul 41%
[5] Shughart, William F. II, Public Choice
[6] Nicolas, Peter; Goldman Sachs case could help Obama shift voter anger, Los Angeles Times
[7] Opensecrets.org; Top Contributors, Barack Obama
[8] Wikipedia.org, Goldman Sachs
[9] Reuters.com, Goldman Sachs redeems TARP warrants for $1.1 billion
[10] Reuters.com, Goldman's share of AIG bailout money draws fire
[11] Rothbard, Murray N. The Case Against The Fed p. 58
[12] RonPaul.com Audit the Federal Reserve: HR 1207 and S 604
[13] Paul, Ron; End The Fed
[14] Durden, Tyler; Exclusive: Second Whistleblower Emerges - A Deep Insider's Walkthru To Silver Market Manipulation, Zerohedge.com and
Durden, Tyler; Whistleblower Exposes JP Morgan's Silver Manipulation Scheme, Zerohedge.com
[15] See Chart of the Day: John Paulson's Gold Holdings Bigger Than Reserves Held By Many Central Banks
[16] Businessweek, Singapore’s Revaluation May Spur China, South Korea, Bloomberg
