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Goldman Sachs: Sometimes a Scapegoat Is Just A Goat

Posted on April 28 2010 11:57 am
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Even The New York Times admitted the obvious in a front-page article today entitled “For Democrats, Bankers Make A Handy Foil.”  Senators relished the opportunity to put Goldman Sachs CEO Lloyd Blankfein and his senior managers under withering fire during hours of testimony, especially the Democrats who treated the villain Goldman Sachs as the poster boy for evil Wall Street in order to build support for their legislative overhaul of the financial industry.

It is easy to point out the hypocrisy of Senators who call Goldman Sachs to task when their own sleazy backroom deals got Obamacare passed and when these same Senators continue to run interference for Fannie Mae and Freddie Mac, the quasi-government entities that pushed reckless housing loans in the service of Congress’ housing-for-all policies.

Republican politicians and conservative commentators such as Sean Hannity and former press secretary for George W. Bush, Dana Perino, have been harping on this hypocrisy.  But they need to be careful that they do not appear to be giving Goldman Sachs and other Wall Street firms a pass when those firms do wrong and callously injure innocent investors and consumers in the process.

Goldman Sachs deserves to be held to account for its wrong-doing.  It bet against its own clients, pushing deals on unsuspecting clients that its own traders used epithets to describe.  It stacked the deck against clients betting on a continued rise in prices of mortgage-backed securities by selling them bundles of derivatives tied to toxic mortgage loans secretly hand-picked by a hedge fund client who was betting on the failure of those loans.  It was an integral part of the churn of bad mortgages entered into by people who could not afford the loan payments, some of whom were defrauded.

Blankfein told the Senators ripping into his company’s ethics and business practices that customers buying securities from Goldman came looking for risk, and “that’s what they got.”  But that isn’t what they got at all.  What they got was a card game where the dealer knew that the cards he was dealing to a player were guaranteed to be a losing hand.

The Goldman trader in the middle of the scam that has led to civil fraud charges by the Securities and Exchange Commission, Fabrice Tourre, told the Senators with a straight face how sorry he was by what happened in the market but said:

I believe my conduct was proper

Yet in an e-mail to one of his girlfriends he boasted about the circumstances that he was exploiting:

the business is totally dead and the poor little subprime borrowers will not last long

Goldman Sachs’ misbehavior was not confined to the imploding U.S. housing market.  It helped bring about Greece’s day of reckoning, which is reverberating throughout Europe today.

Several years ago, Goldman helped Greece mask the true extent of its debt by devising a special kind of swap with fictional exchange rates to disguise what was really up to an additional $1 billion dollars of credit that Goldman arranged for Greece to receive.

This credit disguised as a swap did not show up in the Greek debt statistics, giving investors a misleading picture of Greece’s solvency.

When the house of cards finally came tumbling down after the truth came out, Goldman was right there betting against the Greek economy and exacerbating Greece’s already precarious position.  How did it do this?  By the same gimmick it used to exploit the housing crisis – contracts, known as credit-default swaps, which effectively let banks and hedge funds wager on a default by an individual borrower, a company or, in the case of Greece, an entire country.  If Greece reneges on its debts, Goldman and other traders who own these swaps make a windfall of profits.

As one financial credit expert put it:

It’s like buying fire insurance on your neighbor’s house — you create an incentive to burn down the house

Without excusing Congress for its own malfeasance, Goldman Sachs and other Wall Street firms which behaved badly deserve to be on the hot seat.  They deserve to pay for their wrong-doing.  Self-dealing against their own customers, fraudulent concealment from investors of material facts, and market manipulation are serious violations of trust on which efficient markets depend to function properly.  Innocent people across the entire economic spectrum got hurt as a result.

But the last thing we need is another set of elaborate regulations that Wall Street can game just as easily as the last set.  I get nervous when Goldman’s CEO says that he welcomes the Democrats’ regulatory reform proposals.  Considering all of the donations going to the Democrats from Goldman and the revolving door between Goldman and the government, the fix may already be in.

Instead, simply end speculation on derivatives by parties who have no economic stake in the underlying asset or transaction to which the derivatives are tied.   As for those companies deemed “too big to fail,” then they are simply too big and should be broken up to reduce systemic risk and eliminate conflicts of interest.

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