Then we come to a major factor, for the 30 years leading up to 2008, there was a major push by the free market economics types to get rid of the depression era laws that separated investment banking from commercial banking and limited banks exposure to the securities market.One of the prime causes of the 1920’s crash was banks lending money for stock speculation, it drove the Glass-Steagal Act and other legislation.
By 1999, those laws were gone (and it was a rare one, neither democrats or republicans could hide from that one, Bill Clinton signed the law because his financial advisors were people like Larry Summers and Rubin, who pushed for allowing this). It created the financial giants like JP Morgan Chase, Citigroup and the like, and the firewalls were gone. Banks for example lent money to hedge funds (who operate, by the way, on 60 borrowed dollars to every dollar they have invested), who were heavy players in risky investments. In my opinion, it was one of the biggest factors in all this.
Tell you a little story, Bear Stearns was one of the first financial firms to go under, two of their hedge funds were heavy players in CDO’s. When Goldman publicly announced they were getting out of CDO’s, the market started to collapse. The hedge funds I am talking about, when their investors wanted their money (ie their ‘paper profits’), rather than closing the fund and paying off the investors with what it was worth, borrowed a ton of money from banks to pay off the investors, further leveraging themselves, and they used the CDO’s they owned as collateral, which the banks didn’t even bother to evaluate. When Bear went under, the Fed (shades of Long term capital in the 1990’s), brokered a deal to sell Bear to I believe Merril Lynch, and underwrote the transaction. Why? Had they let Bear fail totally, about a half a dozen commercial banks would have had deep cracks or folder, draining the FDIC…and that was one instance.
Put it this way, if we let the firms fail, it would have been a cataclysm as bad or worse than the 1929 crash IMO, it would have cripped the financial system, especially the overnight borrowing the libor measures. Put it this way, when Lehman failed, it crippled critical commercial lending, the libor spread between bid and ask was almost 7.5 points, normally it is half a point, basically meant there was no overnight/short term borrowing that businesses depend on all the time.
We are now 8 years out from the crash, and banks still are unwilling to lend, it is one of the reasons growth is anemic. Even though they can borrow at 0 percent, they don’t want to do it, and it is putting brakes on the economy. If we hadn’t had the bailout, it would be worse, that much I am sure of.
Dodd Frank in some ways did help, for example, most transactions now have to go through clearinghouses, including CDS’s and other derivative products, and there is more exposure with the trading, the regulations require these things not happen privately. Basel III has different regs, but by agreement, on key points they are supposed to be in line with Dodd Frank. For example, on swap transactions (a kind of derivatives trade) Basel required firms to keep escrow for the trade for 3 days, while in Dodd Frank it is one day. If they hadn’t reconciled that, firms would have moved clearing operations to the US, because the cost of Basel would have added about 15-20% to their costs.
And yes, Wall Street plays a horsepower war with regulators, they find new ways around regulations all the time. In the equities markets, all best prices are supposed to be published and by law any order has to be executed at the best price out there. However, there are executors out there that because they trade less than 5% of the given stock in a given day, don’t have to publish, so called dark pools. They claimed that they were out there because they served the institutional market (pension funds and the like), who trade long term…until, surprise surprise, they found out the average trade size on them was like 180 shares, which means they were likely serving the flash trading/rapid trading community, not institutions (institutional orders are usually large,>1000 shares on average). There is the whole flash trading, where orders are submitted with a cancel a millisecond behind the order, where they are taking advantages in how slow quotes update versus execution (if someone is publishing a price, even if the underlying order traded that caused that price, they have to execute the order, they are taking advantage of latency). With Dodd Frank, execution firms switched derivatives over to be classed as futures, because under Dodd Frank swaps require more margin and longer held escrow.
On the other hand, blaming Wall Street for everything is quite frankly, idiotic. Yes, there are questionable practices, yes, despite what that idiot Greenspan and the University of Chicago think, greed causes business people to make stupid decisions, gambling with our economic system, they don’t act rationally (Greenspan in front of congress with his head in his hands, after years of talking about the rationality of markets, saying he was flabbergasted was worth the price of admission).
Yet those same markets have made stock trading accessible to people, back in the good old days before electronic execution you paid a lot to trade, and you also paid a lot if you wanted to trade small lots (called odd lots, under 100 shares). Institutional investors used to pay through the nose to trade through full service brokerages, they paid for information, they paid to trade, electronic execution through agency brokers and ecn’s let them trade at a fraction of the price (when I started out, institutions paid well over 20c a share to trade stock in their portfolios, and they trade huge blocks most of the time, the firm I worked for had that down to about 7c, these days it is a lot less),whch given that most people have exposure to the markets in pensions, 401k’s and mutual funds, means you make more money. The same investment bankers who can pul a goldman sachs and take down the economy, also create all kinds of things, make things happen, like bond issues for municipalities, financing for new companies. Doesn’t mean I think everything i see is good, but Wall Street is like the banking industry, there are good players, there are a lot of good people, and there also are scum of the earth, but guess what, very few places you see absolute good any more…the same Catholic Church that promotes social welfare, does incredible charitable work, also committed one of the grossest breaches of trust in history…do you write off all Catholics because their leadership acted a lot of the time like thugs? Government has a lot of screw ups, but they also have done a lot of things that made the country into what it is (and I mean in a good way).
