Quantcast
Connect with us

Wall Street’s big banks are going to need another government bailout

Published

on

Thanks for your support!
This article was paid for by reader donations to Raw Story Investigates.

This article was paid for by Raw Story subscribers. Not a subscriber? Try us and go ad-free for $1. Prefer to give a one-time tip? Click here.

The Wizards of Wall Street are back with a blast from the Great Recession past: repackaging and selling off debt.

The banks are making a bundle. But with the way the economy is running, chances are that a lot of people will be burned when the foundation crumbles.

And if things go as they typically do, you, the taxpayer, will pick up the bill.

Debt is a popular way for the wealthy to make money. Donald Trump has called himself the “king of debt” and regularly directed his companies to take on massive amounts. When things went belly-up—like four times with casinos, where the house is always supposed to win—he left others to hold the bag and clean the mess.

ADVERTISEMENT

In theory, the financial engineering can work out, so long as the economy is stable and enough debt payments arrive on time and investors receive their payments.

But compared to the real experts, Trump is a piker.

Wall Street see sums many times Trump’s imaginarily inflated net worth pass through their fingers every day, often by repackaging other people’s debt rather than taking on their own.

The Setup

The current deals du jour are the collateralized loan obligation, or CLO, and the collateralized debt obligation—CDO.

CLOs are a way of making more money from corporate debt—the cash that companies borrow to do things like invest in new facilities or open markets. Or, these days, buy back their own shares to drive up stock prices and make their executives wealthier.

ADVERTISEMENT

A CDO is similar but uses other debt: consumer or commercial mortgages, credit cards, or auto loans as examples. A bank buys debt, which can include loans it originally made, bundles it together, and sells it off.

In either type, buyers pay a fixed sum, like buying a bond. In return, they expect payments over time that recoup their initial investment plus interest. The debt payments from the people or organizations that had borrowed the money fund the checks to investors.

In the process, the bank unburdens itself of the debt, collects a hefty amount, and moves on its merry way, investing the money it made in other projects—maybe more CLOs and CDOs. And if something goes wrong, it’s now someone else’s problem.

ADVERTISEMENT

Been Here Before

Sound familiar? It should. Home mortgage-based CDOs were all the rage up to 2007. And then crashing housing prices and predatory lending practices helped bring on the Great Recession. Those mortgages, and the CDOs, weren’t as creditworthy as banks and rating agencies told investors.

People began losing their jobs, more defaulted on mortgages, putting extra pressure on an economy that eventually collapsed.

ADVERTISEMENT

Although a CDO could withstand a certain amount of defaults, the proportion grew too large. Investors lost untold billions because the CDOs weren’t worth the paper they were printed on.

Teeing Up the Next Disaster

In theory, the financial engineering can work out, so long as the economy is stable and enough debt payments arrive on time and investors receive their payments.

But because of the Trump administration’s egregious handling of the coronavirus pandemic, the economy is anything but stable.

ADVERTISEMENT

States like California, Florida, and Arizona have had massive surges in infections, which will ultimately affect their economies. According to government figures, U.S. GDP for the second quarter fell at an annualized rate of 32.9%.

On July 11, there were still 30.2 million on unemployment insurance, almost a fifth of the labor force, and the latest figures show 5.4 unemployed people per open job. All while the GOP wants to pare down unemployment benefits to an effective 45% of the salary people had been making.

Tens of millions of people at this point aren’t even making that. The Republican-dominated Senate didn’t bother to act in time to keep any significant lifeline going.

As research and analysis firm Oxford Economics has been saying for a while, there is a looming economic “cliff” that could derail the recovery and send the economy even lower. About 68% of GDP comes from consumer spending and those people out of work largely can’t do their part.

ADVERTISEMENT

Companies Come Next

The Census Bureau has been running weekly surveys during the pandemic. The results are grim.

More than a quarter of adults missed their most recent rent or mortgage payment or are unsure they can pay the next one. Greater than half have seen a loss in employment income; a third expect even more loss in their households.

Companies and the economy fail if people don’t spend enough. A sudden cut in the income for this many creates a vicious circle. People can’t pay bills, including rent. They get evicted. There’s more lost income for companies. More layoffs. And it’s back to the start for another trip around.

Companies were already in a bad spot. According to the Washington Post,  nearly one in five public corporations are so-called zombies—staying afloat by borrowing more money to pay off previous loans.

ADVERTISEMENT

Corporate defaults on loan obligations are higher now than in 2009, right after the massive crash, as banking expert Mayra Rodriguez Valladares wrote at Forbes. The total number of defaults could pass those in 2009. That’s bad news for the bundled debt business.

According to data from S&P Global Ratings, hundreds of CLOs have been downgraded to junk status.

If That Weren’t Bad Enough

The ineptitude of the Trump administration’s response to the pandemic has created an economic catastrophe. The country is really near the edge of a new depression.

But economic conditions aside, banks have taken outrageously dangerous liberties. A Wall Street whistleblower claims that big banks have been awarding commercial mortgages that corporate financials couldn’t support, according to ProPublica.

CDO-like financial vehicles called commercial mortgage-backed securities, or CMBSs, bundle commercial property mortgages and sell shares. Investors are interested in the profit level of the buildings to see if the mortgages are likely to be paid.

ADVERTISEMENT

The charge is that the claimed profit levels have often been puffed up by banks—as much as 30% higher than they previously had been. Investors put money in based on lies.

No reason for surprise. Fabrication has been one of the features of bundling. As the authors of the new book Boom and Bust: A Global History of Financial Bubbles note, when lenders sell off debt, they are less likely to check its quality. Any losses land on the buyers. Morality and ethics walk out the door with responsibility and consequences.

Then there are other deals called synthetic CDOs. Instead of actual debt, these vehicles include financial derivatives. A derivative is—put plainly—legalized betting on whether a person or business pays off a loan.

Insurance giant AIG would have collapsed in 2008 over its derivatives trading had not the American taxpayer bailed it out.

ADVERTISEMENT

Wall Street still hasn’t learned that incredibly complex mechanisms are dangerous. Their creators don’t understand all the things that can go wrong.

It’s worth wondering, if Senate Majority Leader Mitch McConnell (R-Ky.) and the GOP get their way with shielding business owners from legal liability in COVID-19-related suits, whether enterprising lawyers will find ways to extend the concept to banks. “Oh, sorry, your Honor, we had no idea what the real conditions of these companies would be during the pandemic.”

Or maybe the bankers won’t even worry. Whether after the Great Recession or in any other calamity the industry has caused over the decades, Wall Street has always gotten bailed out and taxpayers keep picking up the bill. Why will this time be any different?

This article was paid for by Raw Story subscribers. Not a subscriber? Try us and go ad-free for $1. Prefer to give a one-time tip? Click here.


Report typos and corrections to: [email protected].
READ COMMENTS - JOIN THE DISCUSSION
Continue Reading

Breaking Banner

Attorney George Conway reveals two ‘great’ questions — that Trump can’t answer

Published

on

Prominent Republican attorney and Lincoln Project member George Conway on Monday offered his analysis of how reporters should question President Donald Trump.

Conway, the husband of White House counselor Kellyanne Conway, made his comments after watching video of Trump refusing to criticize Russian President Vladimir Putin.

“Who do you think poisoned Alexei Navalny in Russia?”

“Uh,” Trump replied. “We’ll talk about that at another time.”

Continue Reading

2020 Election

Jaime Harrison says ‘I am living rent free in Lindsey Graham’s head’ — and he might be right

Published

on

Jaime Harrison, the Democrat challenging Sen. Lindsey Graham, on Monday said that his upstart campaign is panicking the incumbent.

Harrison was interviewed on MSNBC by "The Last Word" anchor Lawrence O'Donnell, who noted the most recent polling shows a tied race.

"Have you experienced any extra fund-raising surge over the weekend?" O'Donnell asked.

"Well, Lawrence, we have gotten tremendous support and we really appreciate it," Harrison replied.

"Do you believe you have the resources and the campaign team and the ground troops you need in South Carolina to actually pull this off?" O'Donnell asked later in the interview.

Continue Reading
 

2020 Election

Outrage against Dianne Feinstein as potential Judiciary chair comes out against Senate reform

Published

on

Sen. Dianne Feinstein (D-CA) received harsh criticism on Monday after coming out against Senate reform of the filibuster.

“I don't believe in doing that. I think the filibuster serves a purpose," Feinstein argued.

"It is not often used, it's often less used now than when I first came, and I think it's part of the Senate that differentiates itself," Feinstein falsely claimed.

https://twitter.com/sahilkapur/status/1308169580658012160

Feinstein is in line to chair the Senate Judiciary Committee if Democrats regain the Senate, despite never attending law school or having ever tried a case.

Continue Reading
 
 
Democracy is in peril. Invest in progressive news. Join Raw Story Investigates for $1. Go ad-free. LEARN MORE