When Geithner Goes to Goldman

Just an FYI: I plan to walk out my front door to punch the neighbor’s cat in the face, toward the end of this year, when US Treasury Secretary Geithner finally announces he’s joining Goldman, Sachs & Co as senior advisor and Managing Director.

While he’s indicated his intention of leaving his post as Treasury Secretary soon, Intrade gives Geithner a 37% chance of leaving before the end of Obama’s first term.  The departure of two top Geithner aides to Goldman Sachs in the past 4 months has increased the chatter that Geithner will soon be headed that way as well.

To be clear, I believe punching Mr. Biggins on his cute little cat nose will accurately reflect the combination of surreal injustice and rage that I will feel.  Consider it a measured, senseless act of violence and random mean-spiritedness to match the public mood that should accompany Geithner’s inevitable sell-out move.  What else can I do?  What else can any of us do?

While my act will be appropriately senseless, I want to be careful in how I explain my feelings.

I hold no particular grudges towards those who, in the spirit of providing a better life for their families, seek employment in the private sector following a long career in public service, like Timothy Geithner.

I won’t blame Goldman for offering Geithner the job, either, as it’s clearly in their interest to hire such a key player in shaping the current financial architecture.

I also hold no specific animus toward Geithner himself, who appears to have executed admirably on his difficult professional assignments.

Geithner’s resume deserves respectful review and appreciation.  The man served as Under Secretary of the Treasury under Larry Summers when the latter signed our dollar bills as Treasury Secretary.[1]  He moved up to President of the Federal Reserve Bank of New York in 2003.

Some FRB-NY Presidents have served in that position, easily the second most powerful seat at the Federal Reserve, in relative obscurity.  But not Geithner.  He had the interesting fortune to be on the FRB-NY President hot seat during the Great Credit Crunch in 2008[2], thereby putting his imprint on every major decision made about Wall Street from 2007 to 2009.

When Bear Stearns teetered on the edge of Bankruptcy and the FRB-NY offered a $25 Billion loan to tide Bear over, Geithner was there.  When the FRB-NY subsequently rescinded its offer to Bear, ensuring its immediate demise, Geithner was also there.

JPMorgan Chase then bought Bear Stearns for a song, and the FRB-NY provided up to a $30 Billion non-recourse loan to get the deal done.[3]  Geithner was there too.[4]

When the FRB combined with the US Treasury to lend up to $182 Billion to prop up AIG, a bailout understood at the time to be, and a bailout that actually was[5], a back-door bailout of the largest financial firms in the world, Geithner was there.[6] [7]

When the Federal Reserve and US Treasury made available to Bank of American $20 Billion in additional TARP funds[8] and an extra $118 Billion in asset guarantees[9]  to ensure that it followed through to purchase Merrill Lynch in December 2008, Geithner was there too.[10]

Obama took office in January 2009 and Geithner received a promotion from the FRB-NY President to US Treasury Secretary, a logical move to ensure continuity at a very dicey time in financial markets.  I’ve written in an earlier post about the tight circle of government officials running financial policy, and the trade-offs between continuity and stagnation.  It was not crazy for Obama to promote Geithner.

In the light of Geithner’s impending employment by Goldman Sachs, however, it’s interesting to review how Geithner has not “been there” on a number of issues.

When AIG paid bonuses to its executives after its $170 Billion bailout, the largest financial failure/bailout of all time,[11] Geithner as US Treasury Secretary did not force a clawback of those AIG bonus payments.  Under what authority could Geithner influence bonus payments?  The US government owned 92% of AIG at that time.  But Geithner somehow wasn’t there.

After Ken Lewis destroyed a perfectly healthy Bank of America in 2008 through his devestating purchases of Countrywide and Merrill Lynch, forcing the extraordinary Treasury and FRB-NY bailouts to stabilize the bank, Lewis departed in 2009 with an estimated $125 million retirement package.  Under what authority could the US Treasury Secretary influence executive payments?  Well, for starters, Bank of America owed $45 Billion at the time to the US Treasury.  But Geithner wasn’t there to claw back Lewis’ compensation.

While Too Big to Fail (TBTF) banks continue to this day to operate as large hedge funds, and continue to compensate their executives accordingly, under an implied government guaranty of safety, Geithner is not taking a public stance against this.

While I review the FRB-NY and US Treasury bailouts in some detail I want to be careful not to blame Geithner exclusively for mistakes that were made.  I don’t endorse every decision made by Paulson and him, but I acknowledge the battlefield conditions under which they labored.  I know the issues are complex; they weighed financial stability against moral hazard, justice against political feasibility.  I get it.  This stuff is hard.

But at no point in his tenure as FRB-NY President or US Treasury Secretary did we witness Timothy Geithner take a principled, unpopular stance – in the face of egregious moral hazard – to come down hard on Wall Street’s surviving behemoths.

I’m not a paranoid person by nature, and I believe Geithner’s actions to be defensible without accusing him of sucking up to his future employers.[12]

Clearly one analogy here is a powerful Congressman[13] who leaves office, moves down to K-street, and sets up a profitable lobbying shop influence peddling on his access to decision-makers.  We have some, albeit too few, restrictions on this type of brazen move.  Even that comparison, however, misses the magnitude of Geithner’s influence in recent years over $Billions in compensation and investment returns.

As an ex-banker I – oddly enough – still believe in the system.  I assume a basic decency tempers all but a few bad actors.  I’m still shocked by corruption.  I still can be disappointed by greed and influence peddling, and I believe the United States still boasts the least corrupt financial center in the world.[14]

More than any other single financial leader Geithner has argued within the administration for stabilizing and buttressing TBTF banks above all other factors, and seemingly has resisted efforts to extract proportionate commitments from the salvaged banks in the name of systemic reform or limitations on executive compensation.  Geithner’s heroic efforts on behalf of the TBTF banks have been worth billions of dollars to them, and he’s become the face of moral hazard within the Obama administration.[15]

Geithner’s move to become a Goldman Managing Director later this year – rightly or wrongly – will signal to journalists, Wall Street, SEC regulators, investors, you, and me, that all is for sale.  The move will signal that private gain trumps public good, every time.

But back to cat-punching for a moment.  If we have no way of preventing Geithner’s move to Goldman, then we have no reason (except sheer naiveté) to ever expect tough decisions to rein in Too Big to Fail banks.  I for one cannot stand to have my neighbor’s cat live peacefully in that kind of world.  Consider yourself warned, Mr. Biggins.

[1] One of my closest friends served under Larry Summers at Treasury.  I’ve shaken Larry’s hand a couple of times.  I’m not breaking any news here to say that Larry is not a super fun guy to spend your working day with.  Let’s agree to award Geithner a Bronze Star for that portion of his professional career.

[3] The $30 Billion non-recourse loan arranged by Geithner’s FRNNY  in this transaction was simply awesome for JP Morgan Chase.  Non-recourse means that only Bear Stearns collateral backed the loan, so if it turned out its portfolio was worthless, JP Morgan could walk away with only the first 3% of losses.  What that means is that the Federal Reserve agreed to absorb up to $29 Billion in losses on JP Morgan Chase’s purchase of Bear’s $30 Billion asset portfolio.  It’s kind of like being given a million dollar house by the Federal Reserve, but if you decide you don’t want it later you just owe 30K, and they can’t go after you for the other $970K.  Like I said, so awesome.  Jamie Dimon, you owe free drinks to Geithner for the rest of his drinking life.  We would all love the option to walk away from 97% of a $30 Billion loan.   We should seriously all try to get one of these loans from the FRB-NY.

[4] Bear Stearns initially got sold to JP Morgan Chase for $2/share, just 7% of what Bear Stearns had been worth 2 days before, before the FRB-NY rescinded its loan offer.  Later, sort of out of pity and to avoid further litigation, Paulson allowed an upward revision of JPMorgan Chase’s purchase price to $10/share, still an extremely low price.

[5] If you have a taste for wonkiness and financial history like yours truly, I highly recommend this link.  But for the rest of you let me summarize the key point of page 24.  The size of the bailout for each firm you’ve heard of, via the AIG loans from FRB-NY, were as follows: Societe Generale: $16.5B, Goldman $22.5B, Deutsche Bank: $8.5B, Merrill Lynch $6.2B, and UBS $3.8B.

[6] To briefly review the history of this particular bailout: AIG got taken out by a series of lightly-collateralized credit default swap trades done with some of the largest Wall Street firms.  The trades were meant to be, from AIG’s point of view, a nearly riskless cash-flow stream based on insuring the credit of a large portfolio of high quality companies, as well as some highly rated but ultimately dodgy mortgage securities.  When the unexpected mortgage downturn happened, and some high-quality companies got downgraded, AIG’s Wall Street counterparts asked AIG to provide additional collateral to reflect a change in value of the trades.  The portfolios themselves did not necessarily suffer outright losses, but the collateral requirements to Wall Street meant they had to come up with many $billions in cash very quickly.  If AIG had failed to post collateral, suddenly many major Wall Street firms would have suffered immediate life-threatening cash shortages, at the worst point in the crisis, September 2008.  When the FRB-NY (along with Treasury) provided essentially unlimited funds to AIG, the rest of Wall Street got their collateral and bought themselves a bit more breathing room.

[7] When the FRB-NY went back in November 2008 to ask, you know, if maybe Wall Street would give some of that AIG money back because it kinda looked bad at the time, Wall Street told FRB-NY, essentially, to go fuck themselves.  The whole report of Wall Street’s response is in the link in the main text above, but, linked to again here for your convenience.

[8] This $20 Billion exceeded the $25 Billion already invested by the US Treasury to shore up Bank of America in October 2008, and the extra $20 Billion legally could not be offered without creating an entire special work-around program just for Bank for America, called the Targeted Investment Program (TIP).  Bank of America said, “thanks for the TIP.”  See what I just did there?

[9] Again, these latter guarantees were non-recourse to Bank of America, and the Federal Reserve pledged to absorb 90% of losses after the first $10 Billion write-down.  Again, non-recourse meant Bank of America could default on loans from the government without any negative hit to their credit.  It also meant that the Federal Reserve, again under Geithner’s leadership, took on (up to) a theoretical additional $100 Billion liability so that Bank of America would complete its purchase of Merrill Lynch, all in the name of bank stability.

[10] Details and a review of the rationale behind this move are here, starting on page 23.

[11] Incidentally, isn’t a bonus an optional reward for a job well done? I’m just going to go out on a limb here and say that AIG executives, more than ANY other financial executives who kept their jobs through the Crisis, should not have been rewarded for ‘a job well done.’  Were there any forced clawbacks of bonuses at AIG?  Nope.  Not one.  To steal a phrase from my favorite sports writer, I will now douse myself with kerosene and light a match.

[12] However, I will note that Geithner’s longtime financial benefit to Goldman Sachs and a few other surviving banks far exceeds by multiple billions of dollars the comparatively miniscule compensation of a few million dollars he’ll receive as a new GS Managing Director.  It’s really the very least Goldman could do, to put him on the payroll for a few years.

[13] Or more commonly, his senior staff members.  Wall Street has long considered the SEC a joke for this reason, as the only way to get well compensated as an SEC executive is to cash in on your position for a senior role at a Wall Street firm after a stint supposedly regulating the Street.

[14] Ok, I know you’re all groaning out there at my sudden earnest patriotism.  But I stand by my statement and it’s not based in patriotism.  Why does the dollar, despite our weakened government credit, continue its role as the dominant reserve currency?  Why do M&A transactions worldwide get done by US-based law firms, and financial litigation gets fought in US-based courts?  Because we are the least corrupt place in the world for financial transactions, that’s why.

[15] Paul Krugman lays out Geithner’s role within the Obama Adminsitration in his review of recent books on economic policy “…it is Tim Geithner, Obama’s treasury secretary, who appears, even more than Obama, as the decider in this saga. In contrast to Summers, whom [one of the authors] Scheiber portrays as a flexible, reformist Rubinite, willing to alter his views in the face of evidence, believing in particular that shareholders of bailed-out banks could and should pay more to taxpayers, Geithner is described as a doctrinaire Rubinite who viewed his primary task as one of restoring financial market confidence, which in his mind meant doing nothing that might upset Wall Street.”

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