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A cheater by any other name ...

Our economy has driven off a cliff and most Americans have to be wondering how it happened. How did we go from a nation of growing 401(k)s to the financial abyss so fast?

We all know the story by now. How the people running Wall Street investment banks, commercial banks and hedge funds made gobs of money by leveraging their firms to the hilt in order to gamble on exotic securities backed by bad loans. Then their house of cards collapsed and brought our economy down with it.

But why wasn't there regulation and oversight to restrain all the irresponsible bets?

Here's a news bulletin for you: It was methodically bought off.

Over the last decade the financial sector spent more than $5 billion on influence peddling, $1.7 billion on political contributions and $3.4 billion on lobbying. And the industry got its money's worth.

The details are contained in a blockbuster report by Essential Information and the Consumer Education Foundation, nonprofit groups that advocate for consumer information and protection.

"Sold Out: How Wall Street and Washington Betrayed America" is a must-read if you want to understand the anatomy of our current meltdown. It describes the 12 policy decisions that "led to cataclysm" and the revolving door between government and lucrative lobbying posts that essentially guaranteed that Wall Street's desires were well-received on the Hill.

You want to know why derivatives such as credit default swaps — the things that Warren Buffett called financial weapons of mass destruction — are unregulated? The "Sold Out" report describes the way the Clinton administration and particularly then-Fed Chairman Alan Greenspan quashed an effort by the Commodity Futures Trading Commission to assert regulatory control.

Then the final stake was driven in by then-Sen. Phil Gramm, the guy who was Sen. John McCain's chief financial adviser during his bid for the White House. The Commodities Future Modernization Act explicitly exempts financial derivatives from regulation and federal oversight. Its passage was orchestrated by Gramm in 2000.

Gramm was also a major player in the 1999 repeal of the Depression-era Glass-Steagall Act. The law was designed to keep commercial banks from engaging in risky securities trading. Without it, well, you know.

But Gramm and his fellow "Deregulation Now, Deregulation Forever" Republicans are not the only culprits in this morality tale. The financial industry's contributions flowed 55 percent to Republicans, 45 percent to Democrats. Both parties had their hands out and did the water carrying.

Another cataclysmic policy described in "Sold Out" was the Securities and Exchange Commission's decision in 2004 to give investment banks discretion in setting their own debt-to-net-capital ratio.

Since 1975 the SEC had told investment banks that they could take on no more than $12 in debt to every dollar they held in capital. But when Hank Paulson, President Bush's Treasury secretary, was the chair of Goldman Sachs, he fought to make borrowing ratios voluntary. The result was that investment banks took on as much as $40 in debt for every $1 in capital, obliterating their capital cushions.

But perhaps the most outrageous act of deliberate blindness by regulators is the way the SEC allowed banks to engage in "off-balance sheet accounting" to hide bad assets and reduce capitalization levels.

As the report tells it, banks would make loans and then place the securitized mortgages off balance sheet. That allowed them to then make more loans without having to put money aside in reserve-loss capital (money to cover potentially unrepaid loans.) All this made banks severely vulnerable even as investors were kept in the dark.

The train wreck that is our economy is a consequence of special interests buying their way out of commonsense regulation and enforcement that would have stabilized the financial system and made it transparent. The financial industry paid $5 billion for this privilege. Now it will cost taxpayers potentially trillions.

Which leads me to a "tree falls in the woods" kind of question: If a self-dealer gets the rules changed so that what he is doing isn't illegal, is he still a cheat?

I'd say. And so are the public officials who helped him do it.

A cheater by any other name ... 03/07/09 [Last modified: Saturday, March 7, 2009 2:14pm]

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