Ask a Banker! Top Ten Questions for the Financial Crisis Inquiry Commission
Tuesday, 01/12/2010 - 1:39 pm by Eliot Spitzer, William Black, and Frank Partnoy | 29 Comments
When you’ve read this post, submit your own questions for the bankers appearing at tomorrow’s hearing. We’ll be collecting your ideas and featuring them prominently in the next few days.
The Financial Crisis Inquiry Commission (FCIC) is holding its first public hearings and will hear testimony from the CEOs of some of the largest financial institutions. This is not the hearing at which experienced investigators would produce fireworks. The FCIC has not used subpoena authority or voluntary requests for information to obtain the background information essential in order to hold a real investigative hearing. In particular, it has not obtained AIG (and Fannie and Freddie’s) emails and other critical internal documents such as their financial models, internal accounting records, and loss reserve data that are readily available and vital to understand what caused the crisis. Any aircraft crash investigator knows how critical it is to find the “black box” that records the information that is typically essential to finding the cause. In the financial context, these AIG, Fannie & Freddie emails and internal accounting and risk records are the “black box” that any competent investigator would demand to review.
FCIC should use this first public hearing for two quiet purposes. The primary goal should be to develop information. The subsidiary goal is to put the CEOs on record as to what went catastrophically wrong, which will allow the FCIC to judge their candor as the facts are developed. The FCIC, and the nation, need the utmost candor. The CEOs must testify under oath, as is the norm now for witnesses testifying before the House Financial Services Committee. Precisely because it is the norm it does not impute any wrongdoing to any witness.
The primary goal is gathering information because that is what the FCIC needs and that is what the CEOs can provide at the hearing and, more importantly, in response to requests for information that the FCIC should make at the hearing. The CEOs have expertise, access to all information on the facts critical to understanding the crisis, the analyses their firms’ have conducted or received on the causes of the Great Recession, and the steps their officers, firms, and other entities took (or failed to take) in response to those analyses. Those analyses are critical both for what they will reveal directly (what did they know and when did they know it?) but perhaps more importantly what they will reveal that the largest (surviving) financial institutions did not know or understand as the crisis was developing. For example, if the financial institutions did not conduct urgent analyses in response to the FBI’s September 2004 warning that an “epidemic” of mortgage fraud was developing that would cause a financial “crisis” if it were not contained and/or did not act on those analyses to change their operations that non-action would be one of the primary contributors to the Great Recession.
We suggest specific questions below, but our overall recommendation to FCIC for this initial hearing can be stated succinctly: the FCIC should enlist the financial industry as its research assistants. The industry should jump at the chance. Now, we are not naïve and the FCIC must not be naïve. The industry is self-interested. It has performed abysmally, sometimes criminally. It rightly fears that exposure of its emails, data, analyses, and actions (and failures to act) to the public will expose it to criminal prosecutions, administrative enforcement actions, civil suits, and well-deserved ridicule. The CEOs’ most salient fears are that disclosure of the information will demonstrate that the massive bonuses paid to them and their officers were paid improperly (because they were based on phony accounting) and should be “clawed back” and that many senior officials should be fired. Tough. The only way to reduce the frequency and damage of future crises is to find out what caused this one. So FCIC must insist on total disclosures by these firms — no selective release of analyses that make the senior officers look good or were written to try to justify bonuses or help the lawyers defend the officers. It all must come out — and it must do so promptly. FCIC, and the nation, need to know now whether the firms are unwilling to provide all the analyses and underlying facts that FCIC needs to fulfill its statutory duty. If they are not willing to do so then the nation needs to know whether FCIC has the guts and integrity to use its subpoena authority immediately to obtain the information.
For the sake of brevity in the questions below we have not repeated each time the critical specific details (who, when, how?) any competent investigator would need to ask in the formal request for information in order to learn the specifics and identify the essential documents.
Here are our top ten questions:
1. AIG: What was your firm’s relationship with AIG? How much exposure did you have to AIG? What information did you publicly disclose about that exposure? Did you think AIG’s CDS strategy was “good business”? Do you think we still would have needed to rescue AIG if its derivatives had been centrally cleared, as some in Congress have proposed?
2. Disclosure: Were your financial statements during 2005-08 accurate? What did your officers disclose to your board about your bank’s exposure to the nonprime mortgage markets before 2008? What specific information did you publicly disclose about your exposure to derivatives and nonprime mortgages? When did officers or employees of your firm recognize that there was a serious risk of a housing bubble? What did they recommend, and what changes did the firm implement, in response to the identification of this risk? Why?
3. Pay: What was your bank’s total compensation for officers for each year from 2001 to the present? What were the components of that compensation? Identify and explain where compensation created perverse incentives in the following contexts: your bank, other banks, executive compensation advisory firms, audit firms, appraisers, rating agencies, loan brokers, loan officers? What aspects of compensation produced these perverse incentives? When did employees of your bank become aware of the literature in economics, criminology, and compensation warning of these perverse incentives? What specific actions did the bank take in response? Which elements of your bank’s compensation system create perverse incentives?
4. Ratings: Why do you think the rating agencies gave AAA ratings to toxic CDOs? Did you think CDO credit ratings accurately reflected their credit worthiness? Did employees of your bank ever express concerns internally/publicly about the judgment of the ratings agencies? If so, when was the first time?
5. Moral hazard: What incentives at your institution helped lead to the financial crisis? What conversations did you have with the Fed regarding your exposure to CDS and other derivatives? What monetary value would you place on the government guarantee of your deposits?
6. Mortgage fraud: Name the three nonprime specialty lenders with the worst reputations for originating fraudulent mortgages. Name the three nonprime specialty lenders with the worst reputations for originating predatory loans. Is there any legitimate business reason why a secured lender would seek to induce appraisers to inflate the value of the secured property? When did employees of your bank become aware that coercion of appraisers to inflate appraised values was becoming common? What action did they take or recommend when they became aware?
7. Warnings: What were the three most significant specific steps your banks took in response to the FBI’s September 2004 warning that the developing “epidemic” of mortgage fraud would produce a crisis if it were not stemmed? Why do you think the spread on nonprime mortgages fell after this warning, and other warnings? Why did bank loss reserves also fall during this time? What were your bank’s analyses of these risks and the adequacy of loss reserves (industry-wide and at your bank) and how did they change as the markets exhibited these perverse patterns? What did your bank’s officers recommend that the bank do in response to these perverse market conditions and what actions did the bank actually take? Were the industry reactions, and your bank’s reactions, to the warnings adequate?
8. Lobbying: How much has your bank spent on lobbying over the last five years? This year? How many additional personnel has your bank hired full-time or as consultants to lobby the federal government?
9. Crimes: How many criminal referrals has your bank made for mortgage-related frauds in each year beginning in 2002? How many named your own officers or employees? Does the FBI have adequate resources to investigate such frauds? Explain how an epidemic of mortgage fraud must lead to widespread accounting and securities fraud if the mortgage paper is to be resold.
10. Regulation: Did the passage of the Commodities Futures Modernization Act of 2000 contribute to the crisis? Did the federal regulators’ efforts to preempt state regulation of predatory mortgage lenders contribute to the crisis? Should the Federal Reserve have used its authority under HOEPA to regulate nonprime lending during the financial bubble? Provide any contemporaneous analyses of the role of regulation, deregulation, and desupervision in contributing to the crisis. Did your bank lobby (directly or indirectly through trade associations) in support of deregulatory efforts that contributed to the crisis?
**HAVE A QUESTION FOR A BANKER? LEAVE YOUR QUESTION IN THE COMMENT FIELD BELOW!
Eliot Spitzer is a former attorney general and governor of New York. Frank Partnoy is a professor of law at the University of San Diego and the best-selling author of The Match King: Ivar Kreuger, The Financial Genius Behind a Century of Wall Street Scandals, about the 1920s markets and Ivar Kreuger, who many consider the father of modern financial schemes. William Black is Roosevelt Institute Braintruster and a former investigator of the S&L crisis and a professor of economics and law at the University of Missouri-Kansas City and the author of The Best Way to Rob a Bank is to Own One.
I have a question for the bankers: are you citizens of the United States, or the State of Finance? What loyalty/responsibility do you have to your fellow-citizens?
Posted by Nellie | January 12th, 2010 at 5:19 pm
What is your opinion concerning the role, if any, of the Community Reinvestment Act in contributing to the financial crisis? What is the factual basis for that opinion?
Posted by JDaniel | January 12th, 2010 at 6:54 pm
On question no. 8, “Are you familiar with the Byrd Anti-Lobbying Amendment (31 U.S.C. Section 1422, I believe), which prohibits recipients of federal funds from lobbying Congress or the Executive Branch? How do you justify the continued lobbying by TARP funds-receiving banks?”
New question: “As you watched the Federal Reserve invent all manner of lending facilities, expand credit, and constantly invoke special ‘emergency powers’ under Section 13(3) of the Federal Reserve Act the last two years, were you never moved to protest? What did you say to the Fed on those occasions? Were you consulted? If not, why not? If you were consulted and said supportive things, why did you do so? Were you unaware that you were seeking special privileges not ordinarily given to any other individuals or set of institutions in American society? How and why can you justify receiving such privileges?”
Posted by Walker Todd | January 12th, 2010 at 8:42 pm
For the 4 CEOs: Have you read Simon Johnson? What do you think of his thesis? Do you agree with his solution?
Posted by tom lamalfa | January 12th, 2010 at 10:19 pm
Being neither economist nor financial wizard, my question regards the people of the nation. I think it best to retell an ancient fable and then ask all of you how it will end.
Let’s imagine that the country is one giant human- like body, and each of you financial people plays a body part. As I tell, choose your part.
WE THE PEOPLE will play the part of the stomach….not beautiful. nor flashy at all compared to the colorful and glorious eyes, nor the brain whirling in its cranium, not the hands grasping and clutching, nor the teeth smiling and chewing furiously; neither the heart nor arteries and veins, nor muscles pumping 24/7….well you get the idea.
One day, those parts all decided that the stomach was really an ugly, unnecessary thing filled with yucky acid and germs, and what did it do after all, except grumble and complain?
They decided as a group to just ignore the stomach and get on with their glorious lives of free wheeling parts.
Sadly, these parts did not realize that it takes ALL of the parts in this body to function properly, and by starving the stomach ( or we the people) the ENTIRE BODY screached to a deathy stop! The stomach, by the way ate products and services, and converted them into actual somethings on which society lived, including those financial body parts.
Now in the original fable, the parts all finally realized that the stomach ( or we the people) really was necessary for the entire body to survive, and by recognizing this, they began to work with the stomach ( or we the people) because , after all, those parts really couldn’t exist without us.
Here’s my question , when will all of you financial parts realize that it takes all of us working for a common purpose to get this “body ” working again ? Although, it is possible that you don’t recognize the validity of this fable, but tell me, how do you think this 21st century tale will end if you keep starving, we the people of the stomach ?
Posted by gloriana casey | January 13th, 2010 at 12:57 am
i am the founder and publisher of the daily bail…we have been covering this nonsense for 12 months…all 3 of you have appeared on our site countless times…
one question i have been waiting to hear asked (all year) relates to the switch in gov’t position toward an aig bailout in the fall of 2008…
if you remember, for the days leading up to the bailout, paulson, geithner and bernanke all publicly said NO DEAL…aig will not get a bailout…
then overnight, they cahnged their minds completely…there have been rumors that lloyd blankfein let the FRBNY know about his exposure and that he even attended a meeting of 4 people that decided aig’s fate in terms of counterparty payout levels…
i think we deserve some color on these issues…
how much did friedman, blankfein and paulson not to mention william dudley influence the ny fed to decide to pay AT PAR…
and as you know, all 4 had strong goldman ties…
thank you,
steve
Posted by The Daily Bail | January 13th, 2010 at 1:38 am
Were American Banks and Investment Banks in compliance with the Basel II accords promulgated by the Bank of International Settlements? If not, why not?
Posted by william andre | January 13th, 2010 at 4:34 am
Lloyd Blankfein: (1) Why were you present at the meeting between AIG and the U.S. Treasury?
(2) Why was then Treasury Secretary Hank Paulson presentat a Goldman Sachs meeting held in Russia, and why was this meeting not written down on his calendar?
(3) Why did Goldman Sachs convert itself into a bank? If not to get the taxpayers bailout money, then for what other reason?
Posted by Tehmaas S. Gorimaar | January 13th, 2010 at 5:47 am
I believe that, in addition to fraud, there was significant conspiracy within the financial industry. I would like a string of questions around interactions between the big banks/finance companies in connection with the marketing and sale of toxic assets. For example,
Big Bank, what is your policy regarding disclosure when selling asset packages? Does that policy distinguish between large and small customers? Are there any examples you know of where that policy was not followed in recent years? What is your policy on reciprocal transactions?
Questions of that sort.
Posted by Ron | January 13th, 2010 at 9:01 am
At what organizational level were decisions made as to taking on more exposure to subprime mortgages and derivatives? To the extent that those decisions were made below the C-level, what supervisory controls could have been implemented to prevent excessive risk? To what extent were the Board of Directors at your bank asleep at the switch as to the decisions being made with regards to subprime mortgage risk exposure?
What non-pay perverse incentives exist, if any, that might have contributed to the taking on of excessive risk?
Disclose any communications between your bank and the ratings agency, particularly to the extent that your bank provided any interpretive guidance to explain the [excessively complicated] nature of a particular CDO.
Posted by Patrick H. | January 13th, 2010 at 10:30 am
To a select few–and you know which ones: Do you prefer the upper or lower bunk (in your jail cell)?
Best of luck, gentlemen.
Posted by Jane Doe | January 13th, 2010 at 11:27 am
Ask the bankers: Why not let banks be banks and investment firms be investment firms? Banks should not sell their loans. Keep them at home and make sure people have jobs and a downpayment before they buy a home. Why can’t we make loans the “old fashioned may”? Also, why do bankers get bonuses if the bank lost money? Don’t say “we have to pay bonuses to keep the best people”. Let them go find another job. Find one of our few unemployed people to run these banks. How could they do much worse?
Posted by Sue Davis | January 13th, 2010 at 11:44 am
What the people already know about the banking crisis. This needs to be taken in consideration in these hearings. Everybody is watching. The talking points are here…
http://raenergy.igc.org/bankingfraud.html
Thankyou
Raleigh Myers
Ra Energy Fdn.
Posted by Raleigh Myers | January 13th, 2010 at 12:28 pm
Define a “derivative”.
Posted by Rick S. | January 13th, 2010 at 12:32 pm
Ask the regulator:
About ten years ago, the Fed was the last domino to fall by appointing resident Central Points of Contact (CPC) to large global banks. The goal was to avoid the former “cold call exam” where examiners would have to familiarize themselves with an institution before they could determine where to focus their attention. The CPC, who was on-site all year, could steer the examiner teams to the important areas.
Unfortunately, many CPC’s grew more attached to their bank than the Fed. Visiting examiners were discouraged (very effectively) from criticizing the institution in reports (”Let’s verbally tell them to clean up their act and we will re-visit next year”)…fat chance! CPCs became advocates of their banks and written criticism was discouraged by CPCs and senior officials of the Fed who preferred chummy collaboration to toe-to-toe confrontations. The bankers understood the system and played it to the max. Regulatory oversight suffered.
So, time to study the resident examiner system. They cannot help but be co-opted. Grill the regulators on this issue! Don’t listen to their rationalizations. Do some correlations in advance to determine whether institutions with the worst performance also had the longest-serving resident examiners. What to do? Go back to the old system. That’s when the bankers feared examiners, because they were strangers and were not puppets of the banks.
Posted by Thomas Flattery | January 13th, 2010 at 1:27 pm
I understand that there were banks that did not want to take the TARP money, but were threatened with having their credit-worthiness downgraded if they refused the funds. I understand that some of the banks have paid the money back, some are tryig to pay the money back, and some are not. I think the American people have a right to know which banks are in which category.
Posted by Sharon Holmes | January 13th, 2010 at 3:01 pm
YOU HAVE CHOCKED THE AMERICAN PEOPLE !..YOU AND YOUR HIGH FLYING FRIENDS HAVE NOT GONE WITH OUT FOOD, AS A SENIOR CITIZEN OF THIS GREAT COUNTRY , I HAVE …WILL THERE BE ANYONE , YOU OR HIGHER UPS” BE ACCOUNTABLE AND GO TO FEDERAL PRISON ?..NO , YOU” ARE HURTING SO MANY GOOD PEOPLE , ..NOW GO HAVE A NICE ‘WHITE TABLE CLOTH LUNCH !…AND CHOKE ON IT !
Posted by BONBON | January 13th, 2010 at 3:08 pm
Your questions are great. Why not add:
- In what asset classes is your money currently invested? What major changes in your personal investment portfolio have you made in the last two year, when and why?
- Do you believe any significant conflicts of interest persist in the financial services industry? If so what are they and what should be done about them?
Posted by Alex Wilks | January 13th, 2010 at 4:01 pm
At one time we had banks that loaned money to individuals and businesses that they felt were credit worthy and they made a decent profit. Their executives were paid a great salary and they paid their shareholders a good divedend, or return on investment. The country and business flourished under this system. Then banks became something other than banks, they made loans to everyone, they invested in derivatives, they paid their executives a salary not in proportion with what they accomplished, and lost their proverbial asses. They then asked us the common citizen, who makes $15,000 to 300,000 to bail them out and to insure that they could keep their exorbitant salaries.
Do you feel that we the people should return to the first senario
or keep wasting our money on your skrew ups?
Posted by Joe Petrusky | January 13th, 2010 at 4:20 pm
My queston is short and to the point :
What action do you plan to take to avoid this type of problems in the futire and when are you going to instigate those plans ?
Posted by Larry Jenkins | January 13th, 2010 at 4:29 pm
On the balance sheet of the Fed one can see that there has been a huge shift from(1) loans to banks garanteed by structured credits to (2) buys of structured credits mainly financed by the increase of banks reserves.
How is the Fed accounting those huge structured assets that cannot be nor totally nor immediately sold on the financials markets?What is the one year Value at Risk and how does that number compare with Fed’s shareholder’s funds?
Posted by Straet Jean-Pierre | January 13th, 2010 at 4:33 pm
Is there any reason that the banking system as it now exist should not be broken up into smaller unites as the phone company (IT&T) was so that there would be no future “Too Big To
Fail” banks?
Posted by haas | January 13th, 2010 at 11:15 pm
What were you wearing when you sold your soul to Satan?
Posted by S in PA | January 13th, 2010 at 11:17 pm
I love gloriana casey’s little stomach story, but technology being what it is, they had bypass surgery.
I also wonder why they will be getting this open book test?
The only real question left is from jane doe, upper or lower bunk.
Posted by Lynore G. | January 14th, 2010 at 1:22 am
The run up in home prices and the majority of sub prime mortgages were very concentrated in 4 states…California, Nevada, Arizona and Florida. How did the bankers and regulators miss this red flag and important warning sign?
Posted by Mallory | January 14th, 2010 at 10:24 am
When a person applies for a loan or a credit card… the rate offered is allegedly determined by the lenders perception of “risk”. If the lender decides an applicant is a high risk… the higher rate charged is suppose to “cover” the lenders risk. Sound familiar?
This higher rate is explained by “we have to cover our potential losses”… the excessive interest charged creates an “insurance pool” so if one person defaults… the excessive interest charged to all high risk borrowers will cover the loss. Spread the potential loss over the entire class of “high risk” borrowers. Like insurance. The higher rate allows the lenders to “self-insure”.
So… the lenders lost money on some of their high-risk loans. If the real reason for charging more is to cover the high risk… to “self-insure”… what’s their problem? They made a lot of bad bets - too bad for them.
Why did taxpayers have to cover their bad bets?
Apparently… bankers perceive that their profit is fixed… their compensation is fixed. Isn’t that a rather unique business plan? Isn’t it the case that when a business takes a loss… that loss is absorbed through lowered profits… reduced bonuses… and cutbacks?
They run the numbers… they evaluate the level of risk… they chose the amount to increase the rate… supposedly… to cover the potential loss. And when they lose the bet… what happen to all that additional money they charged… an amount based on their assessment of risk.
Something is not right here. Clearly… the higher rates the lenders charge is not to cover their bet. The rate is not based on risk.
It certainly appears to be “because they can”.
Posted by Vito Caputo | January 15th, 2010 at 3:57 pm
re: AIG & CDSs
For those of you who bought CDSs from AIG…
1. When did you first hear about a credit default swap?
2. When did you realize it could be used to avoid losses on any high-risk investment or deal?
3. When did you begin using them for that purpose?
4. Did you believe they were backed by AIG’s insurance reserves?
5. By what did you believe they were backed?
6. Did you ever discuss these issues with anyone? Whom and when?
7. Who lobbied Congress to end regulation of CDSs as insurance?
8. When did naked CDSs come into use?
9. Did you ever use them?
10. Did you ever try to damage or undermine the asset your naked CDS “insured”?
Posted by MarkH | January 16th, 2010 at 12:39 am
Will a bank loan money for a house if the roof of the home is over 5 yrs old? I live in Pennsylvania and we recently told this.
Is this true?
Please email me at my email address, i woud love a quick reply if possible.
thank you
Posted by Rhonda | January 31st, 2010 at 5:33 pm
Using the experience of the Fed from 1913 until 2009 and the Bank of N. Dakota from 1918 until the present as general examples of private vs public sector monetary policy.
What are the real net social and economic advantages and benefits of a central bank controlled by the private sector rather than the public sector?
Posted by Robert Bostick | March 3rd, 2010 at 6:20 pm