By Pam Martens and Russ Martens: February 9, 2016
Tomorrow, Janet Yellen will scurry over to the Rayburn House Office Building to give her semi-annual testimony to the House Financial Services Committee, now under the control of a deeply paranoid Republican majority when it comes to the Federal Reserve. (Not that some of that paranoia isn’t justified.) There is no question that Yellen will face hostile questioning from Republicans on the Committee, as she has in the past, although the questions tend to venture far afield from the real financial threats to U.S. stability.
Most Democrats, on the other hand, are so wedded to holding up the Dodd-Frank financial reform legislation as their grand achievement after the 2008 crash that they refuse to look out the window and see the equity capital of the Wall Street mega banks currently in a death spiral as the same banks invent ever more creative ways to loot the public and garner its distrust. With this fatal blind spot, House Democrats on the Committee are unlikely to fashion questions hinged to reality.
Thursday may hold out some promise, however. Yellen will present her semi-annual testimony to the Senate Banking Committee, beginning at 10 a.m. Since Republicans took control of the Senate in January 2015, this Committee has been chaired by Richard Shelby. Three Democrats well versed in Fed policy and the workings of Wall Street sit on the Committee: Senators Sherrod Brown, Elizabeth Warren and Jeff Merkley. Warren, in particular, has a penchant for zeroing in on hot button topics that produce nervous squirming from Yellen.
Back on July 15, 2014 when Yellen appeared before Senate Banking to present her semi-annual report, a tense exchange took place between Yellen and Warren. After reminding Yellen that Section 165 of Dodd-Frank mandated that the Wall Street mega banks had to submit annual, “credible” plans to the Fed explaining how they could be quickly liquidated if they got into trouble, rather than requiring another taxpayer bailout, Warren noted how massive some of these banks had become since the 2008 crash. Lehman Brother, said Warren, had $639 billion in assets and 209 subsidiaries when it failed in 2008 and it took three years to unwind the bank. Today, noted Warren, JPMorgan Chase has $2.5 trillion in assets and 3,391 subsidiaries. (The number of subsidiaries is likely a gross understatement since banks are now only required to report key subsidiaries.)
Yellen effectively buried herself by saying that the wind-down plans of some banks are “tens of thousands of pages.” That’s clearly not a “credible” plan since it’s hard to understand even a 100-page prospectus of Wall Street legalese let alone tens of thousands of pages.
Warren responded to Yellen with this:
“I have to say, Chair Yellen, I think the language in the statute is pretty clear, that you are required, the Fed is required, to call it every year on whether these institutions have a credible plan — and I remind you, there are very effective tools that you have available to you that you can use if those plans are not credible, including forcing these financial institutions to simplify their structure or forcing them to liquidate some of their assets — in other words, break them up.
“And I just want to say one more thing about this process, the plans are designed not just to be reviewed by the Fed and the FDIC, but also to bring some kind of confidence to the marketplace and to the American taxpayer that in fact there really is a plan for doing something if one of these banks starts to implode.”
That exchange between Warren and Yellen took place a year and a half ago when bank stocks were in an uptrend. Now, Wall Street bank stocks are plunging and the potential for a mega Wall Street bank to implode has risen dramatically from the shrinkage in the buffer of equity capital. Trillions of dollars more in derivatives exist today on bank balance sheets than were there in 2008 and the public has no clarity on whom the counterparties to this risk are. Investors are voting with their feet and stampeding out of all mega banks.
The Fed has hamstrung itself in terms of options to meet a financial threat by stalling to get off its zero-bound interest rate range until December 16 with its first minor rate hike. Slashing rates periodically in a crisis is no longer a weapon in its monetary arsenal. More quantitative easing hardly seems like an option either since the Fed’s balance sheet has already ballooned from $800 billion prior to the crisis to $4.5 trillion today and has produced only anemic GDP growth.
In the old days, when things got this bad with the banks, J.P. Morgan would simply lumber out his digs and reassure the market that the bank was ready and able to provide liquidity. That was before the 1929 crash and subsequent Senate hearings when the JPMorgan bank was exposed as just another scoundrel on Wall Street.
We have something of the same problem today. After seven solid years of fraud charges and felony counts against the Wall Street banks, there’s no one on Wall Street that the public trusts that can offer any reassuring words. That hasn’t stopped them from trying, however.
The Wall Street Journal is carrying soothing words from Goldman Sachs’ CEO Lloyd Blankfein this morning, who says that the mega banks have stockpiled capital and that “the silver lining is that it represents a substantial increase in safety and soundness, as intended by the regulators.” Goldman Sachs is the firm infamous for creating a $1 billion pile of subprime drek known as Abacus which was designed to fail but it told its clients it was a good investment. So you may want to take what Goldman Sachs has to say with a grain of salt.