The Big Takeover: How Wall Street Insiders are Using the Bailout to Stage a Revolution

It's over - we're officially,
royally fucked. No empire can survive being rendered a permanent
laughingstock, which is what happened as of a few weeks ago, when
the buffoons who have been running things in this country finally
went one step too far. It happened when Treasury Secretary Timothy
Geithner was forced to admit that he was once again going to have
to stuff billions of taxpayer dollars into a dying insurance giant
called AIG, itself a profound symbol of our national decline
- a corporation that got rich insuring the concrete and steel
of American industry in the country's heyday, only to destroy
itself chasing phantom fortunes at the Wall Street card tables,
like a dissolute nobleman gambling away the family estate in the
waning days of the British Empire.

The latest bailout came as AIG admitted to having just posted
the largest quarterly loss in American corporate history -
some $61.7 billion. In the final three months of last year, the
company lost more than $27 million every hour. That's
$465,000 a minute, a yearly income for a median American household
every six seconds, roughly $7,750 a second. And all this happened
at the end of eight straight years that America devoted to
frantically chasing the shadow of a terrorist threat to no avail,
eight years spent stopping every citizen at every airport to search
every purse, bag, crotch and briefcase for juice boxes and
explosive tubes of toothpaste. Yet in the end, our government had
no mechanism for searching the balance sheets of companies that
held life-or-death power over our society and was unable to spot
holes in the national economy the size of Libya (whose entire GDP
last year was smaller than AIG's 2008 losses).

So it's time to admit it: We're fools, protagonists in a kind of
gruesome comedy about the marriage of greed and stupidity. And the
worst part about it is that we're still in denial - we still
think this is some kind of unfortunate accident, not something that
was created by the group of psychopaths on Wall Street whom we
allowed to gang-rape the American Dream. When Geithner announced
the new $30 billion bailout, the party line was that poor AIG was
just a victim of a lot of shitty luck - bad year for
business, you know, what with the financial crisis and all. Edward
Liddy, the company's CEO, actually compared it to catching a cold:
"The marketplace is a pretty crummy place to be right now," he
said. "When the world catches pneumonia, we get it too." In a
pathetic attempt at name-dropping, he even whined that AIG was
being "consumed by the same issues that are driving house prices
down and 401K statements down and Warren Buffet's investment
portfolio down."

Liddy made AIG sound like an orphan begging in a soup line,
hungry and sick from being left out in someone else's financial
weather. He conveniently forgot to mention that AIG had spent more
than a decade systematically scheming to evade U.S. and
international regulators, or that one of the causes of its
"pneumonia" was making colossal, world-sinking $500 billion bets
with money it didn't have, in a toxic and completely unregulated
derivatives market.

Nor did anyone mention that when AIG finally got up from its
seat at the Wall Street casino, broke and busted in the afterdawn
light, it owed money all over town - and that a huge chunk of
your taxpayer dollars in this particular bailout scam will be going
to pay off the other high rollers at its table. Or that this was a
casino unique among all casinos, one where middle-class taxpayers
cover the bets of billionaires.

People are pissed off about this financial crisis, and about
this bailout, but they're not pissed off enough. The reality is
that the worldwide economic meltdown and the bailout that followed
were together a kind of revolution, a coup d'etat. They
cemented and formalized a political trend that has been snowballing
for decades: the gradual takeover of the government by a small
class of connected insiders, who used money to control elections,
buy influence and systematically weaken financial regulations.

The crisis was the coup de grace: Given virtually free
rein over the economy, these same insiders first wrecked the
financial world, then cunningly granted themselves nearly unlimited
emergency powers to clean up their own mess. And so the
gambling-addict leaders of companies like AIG end up not penniless
and in jail, but with an Alien-style death grip on the
Treasury and the Federal Reserve - "our partners in the
government," as Liddy put it with a shockingly casual
matter-of-factness after the most recent bailout.

The mistake most people make in looking at the financial crisis
is thinking of it in terms of money, a habit that might
lead you to look at the unfolding mess as a huge bonus-killing
downer for the Wall Street class. But if you look at it in purely
Machiavellian terms, what you see is a colossal power grab that
threatens to turn the federal government into a kind of giant Enron
- a huge, impenetrable black box filled with self-dealing
insiders whose scheme is the securing of individual profits at the
expense of an ocean of unwitting involuntary shareholders,
previously known as taxpayers.

I. PATIENT ZERO

The best way to understand the financial
crisis is to understand the meltdown at AIG. AIG is what happens
when short, bald managers of otherwise boring financial
bureaucracies start seeing Brad Pitt in the mirror. This is a
company that built a giant fortune across more than a century by
betting on safety-conscious policyholders - people who wear
seat belts and build houses on high ground - and then blew it
all in a year or two by turning their entire balance sheet over to
a guy who acted like making huge bets with other people's money
would make his dick bigger.

That guy - the Patient Zero of the global economic
meltdown - was one Joseph Cassano, the head of a tiny,
400-person unit within the company called AIG Financial Products,
or AIGFP. Cassano, a pudgy, balding Brooklyn College grad with
beady eyes and way too much forehead, cut his teeth in the Eighties
working for Mike Milken, the granddaddy of modern Wall Street debt
alchemists. Milken, who pioneered the creative use of junk bonds,
relied on messianic genius and a whole array of insider schemes to
evade detection while wreaking financial disaster. Cassano, by
contrast, was just a greedy little turd with a knack for selective
accounting who ran his scam right out in the open, thanks to
Washington's deregulation of the Wall Street casino. "It's all
about the regulatory environment," says a government source
involved with the AIG bailout. "These guys look for holes in the
system, for ways they can do trades without government
interference. Whatever is unregulated, all the action is going to
pile into that."

The mess Cassano created had its roots in an investment boom
fueled in part by a relatively new type of financial instrument
called a collateralized-debt obligation. A CDO is like a box full
of diced-up assets. They can be anything: mortgages, corporate
loans, aircraft loans, credit-card loans, even other CDOs. So as X
mortgage holder pays his bill, and Y corporate debtor pays his
bill, and Z credit-card debtor pays his bill, money flows
into the box.

The key idea behind a CDO is that there will always be at least
some money in the box, regardless of how dicey the individual
assets inside it are. No matter how you look at a single unemployed
ex-con trying to pay the note on a six-bedroom house, he looks like
a bad investment. But dump his loan in a box with a smorgasbord of
auto loans, credit-card debt, corporate bonds and other crap, and
you can be reasonably sure that somebody is going to pay
up. Say $100 is supposed to come into the box every month. Even in
an apocalypse, when $90 in payments might default, you'll still get
$10. What the inventors of the CDO did is divide up the box into
groups of investors and put that $10 into its own level, or
"tranche." They then convinced ratings agencies like Moody's and
S&P to give that top tranche the highest AAA rating -
meaning it has close to zero credit risk.

Suddenly, thanks to this financial seal of approval, banks had a
way to turn their shittiest mortgages and other financial waste
into investment-grade paper and sell them to institutional
investors like pensions and insurance companies, which were forced
by regulators to keep their portfolios as safe as possible. Because
CDOs offered higher rates of return than truly safe products like
Treasury bills, it was a win-win: Banks made a fortune selling
CDOs, and big investors made much more holding them.

The problem was, none of this was based on reality. "The banks
knew they were selling crap," says a London-based trader from one
of the bailed-out companies. To get AAA ratings, the CDOs relied
not on their actual underlying assets but on crazy mathematical
formulas that the banks cooked up to make the investments look
safer than they really were. "They had some back room somewhere
where a bunch of Indian guys who'd been doing nothing but math for
God knows how many years would come up with some kind of model
saying that this or that combination of debtors would only default
once every 10,000 years," says one young trader who sold CDOs for a
major investment bank. "It was nuts."

Now that even the crappiest mortgages could be sold to
conservative investors, the CDOs spurred a massive explosion of
irresponsible and predatory lending. In fact, there was such a
crush to underwrite CDOs that it became hard to find enough
subprime mortgages - read: enough unemployed meth dealers
willing to buy million-dollar homes for no money down - to
fill them all. As banks and investors of all kinds took on more and
more in CDOs and similar instruments, they needed some way to hedge
their massive bets - some kind of insurance policy, in case
the housing bubble burst and all that debt went south at the same
time. This was particularly true for investment banks, many of
which got stuck holding or "warehousing" CDOs when they wrote more
than they could sell. And that's were Joe Cassano came in.

Known for his boldness and arrogance, Cassano took over as chief
of AIGFP in 2001. He was the favorite of Maurice "Hank" Greenberg,
the head of AIG, who admired the younger man's hard-driving ways,
even if neither he nor his successors fully understood exactly what
it was that Cassano did. According to a source familiar with AIG's
internal operations, Cassano basically told senior management, "You
know insurance, I know investments, so you do what you do, and I'll
do what I do - leave me alone." Given a free hand within the
company, Cassano set out from his offices in London to sell a
lucrative form of "insurance" to all those investors holding lots
of CDOs. His tool of choice was another new financial instrument
known as a credit-default swap, or CDS.

The CDS was popularized by J.P. Morgan, in particular by a group
of young, creative bankers who would later become known as the
"Morgan Mafia," as many of them would go on to assume influential
positions in the finance world. In 1994, in between booze and games
of tennis at a resort in Boca Raton, Florida, the Morgan gang
plotted a way to help boost the bank's returns. One of their goals
was to find a way to lend more money, while working around
regulations that required them to keep a set amount of cash in
reserve to back those loans. What they came up with was an early
version of the credit-default swap.

In its simplest form, a CDS is just a bet on an outcome. Say
Bank A writes a million-dollar mortgage to the Pope for a town
house in the West Village. Bank A wants to hedge its mortgage risk
in case the Pope can't make his monthly payments, so it buys CDS
protection from Bank B, wherein it agrees to pay Bank B a premium
of $1,000 a month for five years. In return, Bank B agrees to pay
Bank A the full million-dollar value of the Pope's mortgage if he
defaults. In theory, Bank A is covered if the Pope goes on a meth
binge and loses his job.

When Morgan presented their plans for credit swaps to regulators
in the late Nineties, they argued that if they bought CDS
protection for enough of the investments in their portfolio, they
had effectively moved the risk off their books. Therefore, they
argued, they should be allowed to lend more, without keeping more
cash in reserve. A whole host of regulators - from the
Federal Reserve to the Office of the Comptroller of the Currency
- accepted the argument, and Morgan was allowed to put more
money on the street.

What Cassano did was to transform the credit swaps that Morgan
popularized into the world's largest bet on the housing boom. In
theory, at least, there's nothing wrong with buying a CDS to insure
your investments. Investors paid a premium to AIGFP, and in return
the company promised to pick up the tab if the mortgage-backed CDOs
went bust. But as Cassano went on a selling spree, the deals he
made differed from traditional insurance in several significant
ways. First, the party selling CDS protection didn't have to post
any money upfront. When a $100 corporate bond is sold, for example,
someone has to show 100 actual dollars. But when you sell a $100
CDS guarantee, you don't have to show a dime. So Cassano could sell
investment banks billions in guarantees without having any single
asset to back it up.

Secondly, Cassano was selling so-called "naked" CDS deals. In a
"naked" CDS, neither party actually holds the underlying loan. In
other words, Bank B not only sells CDS protection to Bank A for its
mortgage on the Pope - it turns around and sells protection
to Bank C for the very same mortgage. This could go on ad nauseam:
You could have Banks D through Z also betting on Bank A's mortgage.
Unlike traditional insurance, Cassano was offering investors an
opportunity to bet that someone else's house would burn
down, or take out a term life policy on the guy with AIDS down the
street. It was no different from gambling, the Wall Street version
of a bunch of frat brothers betting on Jay Feely to make a field
goal. Cassano was taking book for every bank that bet short on the
housing market, but he didn't have the cash to pay off if the kick
went wide.

In a span of only seven years, Cassano sold some $500 billion
worth of CDS protection, with at least $64 billion of that tied to
the subprime mortgage market. AIG didn't have even a fraction of
that amount of cash on hand to cover its bets, but neither did it
expect it would ever need any reserves. So long as defaults on the
underlying securities remained a highly unlikely proposition, AIG
was essentially collecting huge and steadily climbing premiums by
selling insurance for the disaster it thought would never come.

Initially, at least, the revenues were enormous: AIGFP's returns
went from $737 million in 1999 to $3.2 billion in 2005. Over the
past seven years, the subsidiary's 400 employees were paid a total
of $3.5 billion; Cassano himself pocketed at least $280 million in
compensation. Everyone made their money - and then it all
went to shit.

II. THE REGULATORS

Cassano's outrageous gamble wouldn't have
been possible had he not had the good fortune to take over AIGFP
just as Sen. Phil Gramm - a grinning, laissez-faire ideologue
from Texas - had finished engineering the most dramatic
deregulation of the financial industry since Emperor Hien Tsung
invented paper money in 806 A.D. For years, Washington had kept a
watchful eye on the nation's banks. Ever since the Great
Depression, commercial banks - those that kept money on
deposit for individuals and businesses - had not been allowed
to double as investment banks, which raise money by issuing and
selling securities. The Glass-Steagall Act, passed during the
Depression, also prevented banks of any kind from getting into the
insurance business.

But in the late Nineties, a few years before Cassano took over
AIGFP, all that changed. The Democrats, tired of getting
slaughtered in the fundraising arena by Republicans, decided to
throw off their old reliance on unions and interest groups and
become more "business-friendly." Wall Street responded by flooding
Washington with money, buying allies in both parties. In the
10-year period beginning in 1998, financial companies spent $1.7
billion on federal campaign contributions and another $3.4 billion
on lobbyists. They quickly got what they paid for. In 1999, Gramm
co-sponsored a bill that repealed key aspects of the Glass-Steagall
Act, smoothing the way for the creation of financial megafirms like
Citigroup. The move did away with the built-in protections afforded
by smaller banks. In the old days, a local banker knew the people
whose loans were on his balance sheet: He wasn't going to give a
million-dollar mortgage to a homeless meth addict, since he would
have to keep that loan on his books. But a giant merged bank might
write that loan and then sell it off to some fool in China, and who
cared?

The very next year, Gramm compounded the problem by writing a
sweeping new law called the Commodity Futures Modernization Act
that made it impossible to regulate credit swaps as either gambling
or securities. Commercial banks - which, thanks to Gramm,
were now competing directly with investment banks for customers
- were driven to buy credit swaps to loosen capital in search
of higher yields. "By ruling that credit-default swaps were not
gaming and not a security, the way was cleared for the growth of
the market," said Eric Dinallo, head of the New York State
Insurance Department.

The blanket exemption meant that Joe Cassano could now sell as
many CDS contracts as he wanted, building up as huge a position as
he wanted, without anyone in government saying a word. "You have to
remember, investment banks aren't in the business of making huge
directional bets," says the government source involved in the AIG
bailout. When investment banks write CDS deals, they hedge them.
But insurance companies don't have to hedge. And that's what AIG
did. "They just bet massively long on the housing market," says the
source. "Billions and billions."

In the biggest joke of all, Cassano's wheeling and dealing was
regulated by the Office of Thrift Supervision, an agency that would
prove to be defiantly uninterested in keeping watch over his
operations. How a behemoth like AIG came to be regulated by the
little-known and relatively small OTS is yet another triumph of the
deregulatory instinct. Under another law passed in 1999, certain
kinds of holding companies could choose the OTS as their regulator,
provided they owned one or more thrifts (better known as
savings-and-loans). Because the OTS was viewed as more compliant
than the Fed or the Securities and Exchange Commission, companies
rushed to reclassify themselves as thrifts. In 1999, AIG purchased
a thrift in Delaware and managed to get approval for OTS regulation
of its entire operation.

Making matters even more hilarious, AIGFP - a London-based
subsidiary of an American insurance company - ought to have
been regulated by one of Europe's more stringent regulators, like
Britain's Financial Services Authority. But the OTS managed to
convince the Europeans that it had the muscle to regulate these
giant companies. By 2007, the EU had conferred legitimacy to OTS
supervision of three mammoth firms - GE, AIG and
Ameriprise.

That same year, as the subprime crisis was exploding, the
Government Accountability Office criticized the OTS, noting a
"disparity between the size of the agency and the diverse firms it
oversees." Among other things, the GAO report noted that the entire
OTS had only one insurance specialist on staff - and this
despite the fact that it was the primary regulator for the world's
largest insurer!

"There's this notion that the regulators couldn't do anything to
stop AIG," says a government official who was present during the
bailout. "That's bullshit. What you have to understand is that
these regulators have ultimate power. They can send you a letter
and say, 'You don't exist anymore,' and that's basically that. They
don't even really need due process. The OTS could have said, 'We're
going to pull your charter; we're going to pull your license; we're
going to sue you.' And getting sued by your primary regulator is
the kiss of death."

When AIG finally blew up, the OTS regulator ostensibly in charge
of overseeing the insurance giant - a guy named C.K. Lee
- basically admitted that he had blown it. His mistake, Lee
said, was that he believed all those credit swaps in Cassano's
portfolio were "fairly benign products." Why? Because the company
told him so. "The judgment the company was making was that there
was no big credit risk," he explained. (Lee now works as Midwest
region director of the OTS; the agency declined to make him
available for an interview.)

In early March, after the latest bailout of AIG, Treasury
Secretary Timothy Geithner took what seemed to be a thinly veiled
shot at the OTS, calling AIG a "huge, complex global insurance
company attached to a very complicated investment bank/hedge fund
that was allowed to build up without any adult supervision." But
even without that "adult supervision," AIG might have been OK had
it not been for a complete lack of internal controls. For six
months before its meltdown, according to insiders, the company had
been searching for a full-time chief financial officer and a chief
risk-assessment officer, but never got around to hiring either.
That meant that the 18th-largest company in the world had no one
checking to make sure its balance sheet was safe and no one keeping
track of how much cash and assets the firm had on hand. The
situation was so bad that when outside consultants were called in a
few weeks before the bailout, senior executives were unable to
answer even the most basic questions about their company -
like, for instance, how much exposure the firm had to the
residential-mortgage market.

III. THE CRASH

Ironically, when reality finally caught
up to Cassano, it wasn't because the housing market crapped but
because of AIG itself. Before 2005, the company's debt was rated
triple-A, meaning he didn't need to post much cash to sell CDS
protection: The solid creditworthiness of AIG's name was guarantee
enough. But the company's crummy accounting practices eventually
caused its credit rating to be downgraded, triggering clauses in
the CDS contracts that forced Cassano to post substantially more
collateral to back his deals.

By the fall of 2007, it was evident that AIGFP's portfolio had
turned poisonous, but like every good Wall Street huckster, Cassano
schemed to keep his insane, Earth-swallowing gamble hidden from
public view. That August, balls bulging, he announced to investors
on a conference call that "it is hard for us, without being
flippant, to even see a scenario within any kind of realm of reason
that would see us losing $1 in any of those transactions." As he
spoke, his CDS portfolio was racking up $352 million in losses.
When the growing credit crunch prompted senior AIG executives to
re-examine its liabilities, a company accountant named Joseph St.
Denis became "gravely concerned" about the CDS deals and their
potential for mass destruction. Cassano responded by personally
forcing the poor sap out of the firm, telling him he was
"deliberately excluded" from the financial review for fear that he
might "pollute the process."

The following February, when AIG posted $11.5 billion in annual
losses, it announced the resignation of Cassano as head of AIGFP,
saying an auditor had found a "material weakness" in the CDS
portfolio. But amazingly, the company not only allowed Cassano to
keep $34 million in bonuses, it kept him on as a consultant for $1
million a month. In fact, Cassano remained on the payroll and kept
collecting his monthly million through the end of September 2008,
even after taxpayers had been forced to hand AIG $85 billion to
patch up his fuck-ups. When asked in October why the company still
retained Cassano at his $1 million-a-month rate despite his role in
the probable downfall of Western civilization, CEO Martin Sullivan
told Congress with a straight face that AIG wanted to "retain the
20-year knowledge that Mr. Cassano had." (Cassano, who is
apparently hiding out in his lavish town house near Harrods in
London, could not be reached for comment.)

What sank AIG in the end was another credit downgrade. Cassano
had written so many CDS deals that when the company was facing
another downgrade to its credit rating last September, from AA to
A, it needed to post billions in collateral - not only more
cash than it had on its balance sheet but more cash than it could
raise even if it sold off every single one of its liquid assets.
Even so, management dithered for days, not believing the company
was in serious trouble. AIG was a dried-up prune, sapped of any
real value, and its top executives didn't even know it.

On the weekend of September 13th, AIG's senior leaders were
summoned to the offices of the New York Federal Reserve. Regulators
from Dinallo's insurance office were there, as was Geithner, then
chief of the New York Fed. Treasury Secretary Hank Paulson, who
spent most of the weekend preoccupied with the collapse of Lehman
Brothers, came in and out. Also present, for reasons that would
emerge later, was Lloyd Blankfein, CEO of Goldman Sachs. The only
relevant government office that wasn't represented was the
regulator that should have been there all along: the OTS.

"We sat down with Paulson, Geithner and Dinallo," says a person
present at the negotiations. "I didn't see the OTS even once."

On September 14th, according to another person present, Treasury
officials presented Blankfein and other bankers in attendance with
an absurd proposal: "They basically asked them to spend a day and
check to see if they could raise the money privately." The
laughably short time span to complete the mammoth task made the
answer a foregone conclusion. At the end of the day, the bankers
came back and told the government officials, gee, we checked, but
we can't raise that much. And the bailout was on.

A short time later, it came out that AIG was planning to pay
some $90 million in deferred compensation to former executives, and
to accelerate the payout of $277 million in bonuses to others
- a move the company insisted was necessary to "retain key
employees." When Congress balked, AIG canceled the $90 million in
payments.

Then, in January 2009, the company did it again. After all those
years letting Cassano run wild, and after already getting caught
paying out insane bonuses while on the public till, AIG decided to
pay out another $450 million in bonuses. And to whom? To the 400 or
so employees in Cassano's old unit, AIGFP, which is due to go out
of business shortly! Yes, that's right, an average of $1.1 million
in taxpayer-backed money apiece, to the very people who spent the
past decade or so punching a hole in the fabric of the
universe!

"We, uh, needed to keep these highly expert people in
their seats," AIG spokeswoman Christina Pretto says to me in early
February.

"But didn't these 'highly expert people' basically destroy your
company?" I ask.

Pretto protests, says this isn't fair. The employees at AIGFP
have already taken pay cuts, she says. Not retaining them would
dilute the value of the company even further, make it harder to
wrap up the unit's operations in an orderly fashion.

The bonuses are a nice comic touch highlighting one of the more
outrageous tangents of the bailout age, namely the fact that, even
with the planet in flames, some members of the Wall Street class
can't even get used to the tragedy of having to fly coach. "These
people need their trips to Baja, their spa treatments, their hand
jobs," says an official involved in the AIG bailout, a serious look
on his face, apparently not even half-kidding. "They don't function
well without them."

IV. THE POWER GRAB

So that's the first step in wall street's
power grab: making up things like credit-default swaps and
collateralized-debt obligations, financial products so complex and
inscrutable that ordinary American dumb people - to say
nothing of federal regulators and even the CEOs of major
corporations like AIG - are too intimidated to even try to
understand them. That, combined with wise political investments,
enabled the nation's top bankers to effectively scrap any
meaningful oversight of the financial industry. In 1997 and 1998,
the years leading up to the passage of Phil Gramm's fateful act
that gutted Glass-Steagall, the banking, brokerage and insurance
industries spent $350 million on political contributions and
lobbying. Gramm alone - then the chairman of the Senate
Banking Committee - collected $2.6 million in only five
years. The law passed 90-8 in the Senate, with the support of 38
Democrats, including some names that might surprise you: Joe Biden,
John Kerry, Tom Daschle, Dick Durbin, even John Edwards.

The act helped create the too-big-to-fail financial behemoths
like Citigroup, AIG and Bank of America - and in turn helped
those companies slowly crush their smaller competitors, leaving the
major Wall Street firms with even more money and power to lobby for
further deregulatory measures. "We're moving to an oligopolistic
situation," Kenneth Guenther, a top executive with the Independent
Community Bankers of America, lamented after the Gramm measure was
passed.

The situation worsened in 2004, in an extraordinary move toward
deregulation that never even got to a vote. At the time, the
European Union was threatening to more strictly regulate the
foreign operations of America's big investment banks if the U.S.
didn't strengthen its own oversight. So the top five investment
banks got together on April 28th of that year and - with the
helpful assistance of then-Goldman Sachs chief and future Treasury
Secretary Hank Paulson - made a pitch to George Bush's SEC
chief at the time, William Donaldson, himself a former investment
banker. The banks generously volunteered to submit to new rules
restricting them from engaging in excessively risky activity. In
exchange, they asked to be released from any lending restrictions.
The discussion about the new rules lasted just 55 minutes, and
there was not a single representative of a major media outlet there
to record the fateful decision.

Donaldson OK'd the proposal, and the new rules were enough to
get the EU to drop its threat to regulate the five firms. The only
catch was, neither Donaldson nor his successor, Christopher Cox,
actually did any regulating of the banks. They named a commission
of seven people to oversee the five companies, whose combined
assets came to total more than $4 trillion. But in the last year
and a half of Cox's tenure, the group had no director and did not
complete a single inspection. Great deal for the banks, which
originally complained about being regulated by both Europe and the
SEC, and ended up being regulated by no one.

Once the capital requirements were gone, those top five banks
went hog-wild, jumping ass-first into the then-raging housing
bubble. One of those was Bear Stearns, which used its freedom to
drown itself in bad mortgage loans. In the short period between the
2004 change and Bear's collapse, the firm's debt-to-equity ratio
soared from 12-1 to an insane 33-1. Another culprit was Goldman
Sachs, which also had the good fortune, around then, to see its
CEO, a bald-headed Frankensteinian goon named Hank Paulson (who
received an estimated $200 million tax deferral by joining the
government), ascend to Treasury secretary.

Freed from all capital restraints, sitting pretty with its man
running the Treasury, Goldman jumped into the housing craze just
like everyone else on Wall Street. Although it famously scored an
$11 billion coup in 2007 when one of its trading units smartly
shorted the housing market, the move didn't tell the whole story.
In truth, Goldman still had a huge exposure come that fateful
summer of 2008 - to none other than Joe Cassano.

Goldman Sachs, it turns out, was Cassano's biggest customer,
with $20 billion of exposure in Cassano's CDS book. Which might
explain why Goldman chief Lloyd Blankfein was in the room with
ex-Goldmanite Hank Paulson that weekend of September 13th, when the
federal government was supposedly bailing out AIG.

When asked why Blankfein was there, one of the government
officials who was in the meeting shrugs. "One might say that it's
because Goldman had so much exposure to AIGFP's portfolio," he
says. "You'll never prove that, but one might suppose."

Market analyst Eric Salzman is more blunt. "If AIG went down,"
he says, "there was a good chance Goldman would not be able to
collect." The AIG bailout, in effect, was Goldman bailing out
Goldman.

Eventually, Paulson went a step further, elevating another
ex-Goldmanite named Edward Liddy to run AIG - a company whose
bailout money would be coming, in part, from the newly created TARP
program, administered by another Goldman banker named Neel
Kashkari.

V. REPO MEN

There are plenty of people who have
noticed, in recent years, that when they lost their homes to
foreclosure or were forced into bankruptcy because of crippling
credit-card debt, no one in the government was there to rescue
them. But when Goldman Sachs - a company whose average
employee still made more than $350,000 last year, even in the midst
of a depression - was suddenly faced with the possibility of
losing money on the unregulated insurance deals it bought for its
insane housing bets, the government was there in an instant to
patch the hole. That's the essence of the bailout: rich bankers
bailing out rich bankers, using the taxpayers' credit card.

The people who have spent their lives cloistered in this Wall
Street community aren't much for sharing information with the great
unwashed. Because all of this shit is complicated, because most of
us mortals don't know what the hell LIBOR is or how a REIT works or
how to use the word "zero coupon bond" in a sentence without
sounding stupid - well, then, the people who do speak this
idiotic language cannot under any circumstances be bothered to
explain it to us and instead spend a lot of time rolling their eyes
and asking us to trust them.

That roll of the eyes is a key part of the psychology of
Paulsonism. The state is now being asked not just to call off its
regulators or give tax breaks or funnel a few contracts to
connected companies; it is intervening directly in the economy, for
the sole purpose of preserving the influence of the megafirms. In
essence, Paulson used the bailout to transform the government into
a giant bureaucracy of entitled assholedom, one that would
socialize "toxic" risks but keep both the profits and the
management of the bailed-out firms in private hands. Moreover, this
whole process would be done in secret, away from the prying eyes of
NASCAR dads, broke-ass liberals who read translations of French
novels, subprime mortgage holders and other such financial
losers.

Some aspects of the bailout were secretive to the point of
absurdity. In fact, if you look closely at just a few lines in the
Federal Reserve's weekly public disclosures, you can literally see
the moment where a big chunk of your money disappeared for good.
The H4 report (called "Factors Affecting Reserve Balances")
summarizes the activities of the Fed each week. You can find it
online, and it's pretty much the only thing the Fed ever tells the
world about what it does. For the week ending February 18th, the
number under the heading "Repurchase Agreements" on the table is
zero. It's a significant number.

Why? In the pre-crisis days, the Fed used to manage the money
supply by periodically buying and selling securities on the open
market through so-called Repurchase Agreements, or Repos. The Fed
would typically dump $25 billion or so in cash onto the market
every week, buying up Treasury bills, U.S. securities and even
mortgage-backed securities from institutions like Goldman Sachs and
J.P. Morgan, who would then "repurchase" them in a short period of
time, usually one to seven days. This was the Fed's primary
mechanism for controlling interest rates: Buying up securities
gives banks more money to lend, which makes interest rates go down.
Selling the securities back to the banks reduces the money
available for lending, which makes interest rates go up.

If you look at the weekly H4 reports going back to the summer of
2007, you start to notice something alarming. At the start of the
credit crunch, around August of that year, you see the Fed buying a
few more Repos than usual - $33 billion or so. By November,
as private-bank reserves were dwindling to alarmingly low levels,
the Fed started injecting even more cash than usual into the
economy: $48 billion. By late December, the number was up to $58
billion; by the following March, around the time of the Bear
Stearns rescue, the Repo number had jumped to $77 billion. In the
week of May 1st, 2008, the number was $115 billion - "out of
control now," according to one congressional aide. For the rest of
2008, the numbers remained similarly in the stratosphere, the Fed
pumping as much as $125 billion of these short-term loans into the
economy - until suddenly, at the start of this year, the
number drops to nothing. Zero.

The reason the number has dropped to nothing is that the Fed had
simply stopped using relatively transparent devices like repurchase
agreements to pump its money into the hands of private companies.
By early 2009, a whole series of new government operations had been
invented to inject cash into the economy, most all of them
completely secretive and with names you've never heard of. There is
the Term Auction Facility, the Term Securities Lending Facility,
the Primary Dealer Credit Facility, the Commercial Paper Funding
Facility and a monster called the Asset-Backed Commercial Paper
Money Market Mutual Fund Liquidity Facility (boasting the chat-room
horror-show acronym ABCPMMMFLF). For good measure, there's also
something called a Money Market Investor Funding Facility, plus
three facilities called Maiden Lane I, II and III to aid bailout
recipients like Bear Stearns and AIG.

While the rest of America, and most of Congress, have been
bugging out about the $700 billion bailout program called TARP, all
of these newly created organisms in the Federal Reserve zoo have
quietly been pumping not billions but trillions of dollars into the
hands of private companies (at least $3 trillion so far in loans,
with as much as $5.7 trillion more in guarantees of private
investments). Although this technically isn't taxpayer money, it
still affects taxpayers directly, because the activities of the Fed
impact the economy as a whole. And this new, secretive activity by
the Fed completely eclipses the TARP program in terms of its
influence on the economy.

No one knows who's getting that money or exactly how much of it
is disappearing through these new holes in the hull of America's
credit rating. Moreover, no one can really be sure if these new
institutions are even temporary at all - or whether they are
being set up as permanent, state-aided crutches to Wall Street,
designed to systematically suck bad investments off the ledgers of
irresponsible lenders.

"They're supposed to be temporary," says Paul-Martin Foss, an
aide to Rep. Ron Paul. "But we keep getting notices every six
months or so that they're being renewed. They just sort of quietly
announce it."

None other than disgraced senator Ted Stevens was the poor sap
who made the unpleasant discovery that if Congress didn't like the
Fed handing trillions of dollars to banks without any oversight,
Congress could apparently go fuck itself - or so said the
law. When Stevens asked the GAO about what authority Congress has
to monitor the Fed, he got back a letter citing an obscure statute
that nobody had ever heard of before: the Accounting and Auditing
Act of 1950. The relevant section, 31 USC 714(b), dictated that
congressional audits of the Federal Reserve may not include
"deliberations, decisions and actions on monetary policy matters."
The exemption, as Foss notes, "basically includes everything."
According to the law, in other words, the Fed simply cannot be
audited by Congress. Or by anyone else, for that matter.

VI. WINNERS AND LOSERS

Stevens isn't the only person in Congress
to be given the finger by the Fed. In January, when Rep. Alan
Grayson of Florida asked Federal Reserve vice chairman Donald Kohn
where all the money went - only $1.2 trillion had vanished by
then - Kohn gave Grayson a classic eye roll, saying he would
be "very hesitant" to name names because it might discourage banks
from taking the money.

"Has that ever happened?" Grayson asked. "Have people ever said,
'We will not take your $100 billion because people will find out
about it?'"

"Well, we said we would not publish the names of the borrowers,
so we have no test of that," Kohn answered, visibly annoyed with
Grayson's meddling.

Grayson pressed on, demanding to know on what terms the Fed was
lending the money. Presumably it was buying assets and making
loans, but no one knew how it was pricing those assets - in
other words, no one knew what kind of deal it was striking on
behalf of taxpayers. So when Grayson asked if the purchased assets
were "marked to market" - a methodology that assigns a
concrete value to assets, based on the market rate on the day they
are traded - Kohn answered, mysteriously, "The ones that have
market values are marked to market." The implication was that the
Fed was purchasing derivatives like credit swaps or other
instruments that were basically impossible to value objectively
- paying real money for God knows what.

"Well, how much of them don't have market values?" asked
Grayson. "How much of them are worthless?"

"None are worthless," Kohn snapped.

"Then why don't you mark them to market?" Grayson demanded.

"Well," Kohn sighed, "we are marking the ones to market that
have market values."

In essence, the Fed was telling Congress to lay off and let the
experts handle things. "It's like buying a car in a used-car lot
without opening the hood, and saying, 'I think it's fine,'" says
Dan Fuss, an analyst with the investment firm Loomis Sayles. "The
salesman says, 'Don't worry about it. Trust me.' It'll probably get
us out of the lot, but how much farther? None of us knows."

When one considers the comparatively extensive system of
congressional checks and balances that goes into the spending of
every dollar in the budget via the normal appropriations process,
what's happening in the Fed amounts to something truly
revolutionary - a kind of shadow government with a budget
many times the size of the normal federal outlay, administered
dictatorially by one man, Fed chairman Ben Bernanke. "We spend
hours and hours and hours arguing over $10 million amendments on
the floor of the Senate, but there has been no discussion about who
has been receiving this $3 trillion," says Sen. Bernie Sanders. "It
is beyond comprehension."

Count Sanders among those who don't buy the argument that Wall
Street firms shouldn't have to face being outed as recipients of
public funds, that making this information public might cause
investors to panic and dump their holdings in these firms. "I guess
if we made that public, they'd go on strike or something," he
muses.

And the Fed isn't the only arm of the bailout that has closed
ranks. The Treasury, too, has maintained incredible secrecy
surrounding its implementation even of the TARP program, which was
mandated by Congress. To this date, no one knows exactly what
criteria the Treasury Department used to determine which banks
received bailout funds and which didn't - particularly the
first $350 billion given out under Bush appointee Hank Paulson.

The situation with the first TARP payments grew so absurd that
when the Congressional Oversight Panel, charged with monitoring the
bailout money, sent a query to Paulson asking how he decided whom
to give money to, Treasury responded - and this isn't a joke
- by directing the panel to a copy of the TARP application
form on its website. Elizabeth Warren, the chair of the
Congressional Oversight Panel, was struck nearly speechless by the
response.

"Do you believe that?" she says incredulously. "That's not what
we had in mind."

Another member of Congress, who asked not to be named, offers
his own theory about the TARP process. "I think basically if you
knew Hank Paulson, you got the money," he says.

This cozy arrangement created yet another opportunity for big
banks to devour market share at the expense of smaller regional
lenders. While all the bigwigs at Citi and Goldman and Bank of
America who had Paulson on speed-dial got bailed out right away
- remember that TARP was originally passed because money had
to be lent right now, that day, that minute, to stave off emergency
- many small banks are still waiting for help. Five months
into the TARP program, some not only haven't received any funds,
they haven't even gotten a call back about their applications.

"There's definitely a feeling among community bankers that no
one up there cares much if they make it or not," says Tanya
Wheeless, president of the Arizona Bankers Association.

Which, of course, is exactly the opposite of what should be
happening, since small, regional banks are far less guilty of the
kinds of predatory lending that sank the economy. "They're not
giving out subprime loans or easy credit," says Wheeless. "At the
community level, it's much more bread-and-butter banking."

Nonetheless, the lion's share of the bailout money has gone to
the larger, so-called "systemically important" banks. "It's like
Treasury is picking winners and losers," says one state banking
official who asked not to be identified.

This itself is a hugely important political development. In
essence, the bailout accelerated the decline of regional community
lenders by boosting the political power of their giant national
competitors.

Which, when you think about it, is insane: What had brought us
to the brink of collapse in the first place was this relentless
instinct for building ever-larger megacompanies, passing
deregulatory measures to gradually feed all the little fish in the
sea to an ever-shrinking pool of Bigger Fish. To fix this problem,
the government should have slowly liquidated these monster,
too-big-to-fail firms and broken them down to smaller, more
manageable companies. Instead, federal regulators closed ranks and
used an almost completely secret bailout process to double down on
the same faulty, merger-happy thinking that got us here in the
first place, creating a constellation of megafirms under government
control that are even bigger, more unwieldy and more crammed to the
gills with systemic risk.

In essence, Paulson and his cronies turned the federal
government into one gigantic, half-opaque holding company, one
whose balance sheet includes the world's most appallingly large and
risky hedge fund, a controlling stake in a dying insurance giant,
huge investments in a group of teetering megabanks, and shares here
and there in various auto-finance companies, student loans, and
other failing businesses. Like AIG, this new federal holding
company is a firm that has no mechanism for auditing itself and is
run by leaders who have very little grasp of the daily operations
of its disparate subsidiary operations.

In other words, it's AIG's rip-roaringly shitty business model
writ almost inconceivably massive - to echo Geithner, a huge,
complex global company attached to a very complicated investment
bank/hedge fund that's been allowed to build up without adult
supervision. How much of what kinds of crap is actually on our
balance sheet, and what did we pay for it? When exactly will the
rent come due, when will the money run out? Does anyone know what
the hell is going on? And on the linear spectrum of capitalism to
socialism, where exactly are we now? Is there a dictionary word
that even describes what we are now? It would be funny, if it
weren't such a nightmare.

VII. YOU DON'T GET IT

The real question from here is whether
the Obama administration is going to move to bring the financial
system back to a place where sanity is restored and the general
public can have a say in things or whether the new financial
bureaucracy will remain obscure, secretive and hopelessly complex.
It might not bode well that Geithner, Obama's Treasury secretary,
is one of the architects of the Paulson bailouts; as chief of the
New York Fed, he helped orchestrate the Goldman-friendly AIG
bailout and the secretive Maiden Lane facilities used to funnel
funds to the dying company. Neither did it look good when Geithner
- himself a protege of notorious Goldman alum
John Thain, the Merrill Lynch chief who paid out billions in
bonuses after the state spent billions bailing out his firm -
picked a former Goldman lobbyist named Mark Patterson to be his top
aide.

In fact, most of Geithner's early moves reek strongly of
Paulsonism. He has continually talked about partnering with private
investors to create a so-called "bad bank" that would systemically
relieve private lenders of bad assets - the kind of massive,
opaque, quasi-private bureaucratic nightmare that Paulson
specialized in. Geithner even refloated a Paulson proposal to use
TALF, one of the Fed's new facilities, to essentially lend cheap
money to hedge funds to invest in troubled banks while practically
guaranteeing them enormous profits.

God knows exactly what this does for the taxpayer, but
hedge-fund managers sure love the idea. "This is exactly what the
financial system needs," said Andrew Feldstein, CEO of Blue
Mountain Capital and one of the Morgan Mafia. Strangely, there
aren't many people who don't run hedge funds who have expressed
anything like that kind of enthusiasm for Geithner's ideas.

As complex as all the finances are, the politics aren't hard to
follow. By creating an urgent crisis that can only be solved by
those fluent in a language too complex for ordinary people to
understand, the Wall Street crowd has turned the vast majority of
Americans into non-participants in their own political future.
There is a reason it used to be a crime in the Confederate states
to teach a slave to read: Literacy is power. In the age of the CDS
and CDO, most of us are financial illiterates. By making an already
too-complex economy even more complex, Wall Street has used the
crisis to effect a historic, revolutionary change in our political
system - transforming a democracy into a two-tiered state,
one with plugged-in financial bureaucrats above and clueless
customers below.

The most galling thing about this financial crisis is that so
many Wall Street types think they actually deserve not only their
huge bonuses and lavish lifestyles but the awesome political power
their own mistakes have left them in possession of. When
challenged, they talk about how hard they work, the 90-hour weeks,
the stress, the failed marriages, the hemorrhoids and gallstones
they all get before they hit 40.

"But wait a minute," you say to them. "No one ever asked you to
stay up all night eight days a week trying to get filthy rich
shorting what's left of the American auto industry or selling $600
billion in toxic, irredeemable mortgages to ex-strippers on work
release and Taco Bell clerks. Actually, come to think of it, why
are we even giving taxpayer money to you people? Why are we not
throwing your ass in jail instead?"

But before you even finish saying that, they're rolling their
eyes, because You Don't Get It. These people were never about
anything except turning money into money, in order to get more
money; valueswise they're on par with crack addicts, or obsessive
sexual deviants who burgle homes to steal panties. Yet these are
the people in whose hands our entire political future now
rests.

Good luck with that, America. And enjoy tax season.

[From Rolling Stone Issue 1075 - April 2, 2009]