Too big to jail

The Global Financial Crisis, in my view, was caused by a combination of a few factors.

First, complacency – a long period of relatively stable macroeconomic conditions in advanced economies led investors, regulators and others to underestimate low probability but high impact events – what is known as disaster myopia.

Second, poor supervision by regulators (who were also caught up in complacency and who did not use the tools they had on hand) and a lack of understanding of complex financial instruments (to be fair, it seems that the management of some of the banks didn’t understand the risks associated with such instruments either).

Third, and perhaps most importantly, extreme moral hazard and the  socialising of losses from financial institutions that were bailed out. Unfortunately, the reaction of authorities to the GFC has actually increased moral hazard, and this is demonstrated starkly by the most recent settlements involving HSBC and Standard Charter. Instead of allowing the crisis to resolve itself, a huge scare campaign was mounted by vested interests who argued and persuaded governments that they could not be allowed to fail – they were ‘too big to fail’. There is not a shred of evidence to support this contention. In their efforts to prevent a crisis, the authorities have unwittingly spread the seeds for the next mega crisis. (As an aside, I think it is better to allow the odd crisis to hit an economy – a few small crises can prevent a megacrisis. The goal of authorities of ensuring stability – at any cost – has actually led to the creation of a system where it is more likely to be hit by far larger magnitude crises, even if less frequently).

Now we find that HSBC and Standard Charter have reached settlements with the US Department of Justice over money laundering involving substantial transactions with drug cartels and other criminal organisations (including terrorist organisations). HSBC has agreed to pay $US 1.921 billion and Standard Charter $US 667 million. In return, there will be no criminal prosecutions. In other words, the shareholders will pay for the misdeeds of the executives and staff involved who bear no consequence for their actions.

I think Matt Taibbi is spot on in condemning the DOJ’s settlement. Apparently the argument the DOJ is spreading is that the bank (HSBC) would lose its license and people would lose their jobs had they pursued criminal charges. This is from a country that is quite happy to throw numerous people into jail for drug trafficking, yet the HSBC executives get off without consequence, even though the bank has admitted to laundering billions of dollars for Colombian and Mexican drug cartels. Assistant Attorney-General Lanny Breuer said that drug dealers would go into HSBC’s Mexican branches to

deposit hundreds of thousands of dollars in cash, in a single day, into a single account, using boxes designed to fit the precise dimensions of the teller windows

As Taibbi states

This bears repeating: in order to more efficiently move as much illegal money as possible into the “legitimate” banking institution HSBC, drug dealers specifically designed boxes to fit through the bank’s teller windows. Tony Montana’s henchmen marching dufflebags of cash into the fictional “American City Bank” in Miami was actually more subtle than what the cartels were doing when they washed their cash through one of Britain’s most storied financial institutions.

It doesn’t take a genius to see that the reasoning here is beyond flawed. When you decide not to prosecute bankers for billion-dollar crimes connected to drug-dealing and terrorism (some of HSBC’s Saudi and Bangladeshi clients had terrorist ties, according to a Senate investigation), it doesn’t protect the banking system, it does exactly the opposite. It terrifies investors and depositors everywhere, leaving them with the clear impression that even the most “reputable” banks may in fact be captured institutions whose senior executives are in the employ of (this can’t be repeated often enough) murderers and terrorists. Even more shocking, the Justice Department’s response to learning about all of this was to do exactly the same thing that the HSBC executives did in the first place to get themselves in trouble – they took money to look the other way.

So you might ask, what’s the appropriate financial penalty for a bank in HSBC’s position? Exactly how much money should one extract from a firm that has been shamelessly profiting from business with criminals for years and years? Remember, we’re talking about a company that has admitted to a smorgasbord of serious banking crimes. If you’re the prosecutor, you’ve got this bank by the balls. So how much money should you take?

How about all of it? How about every last dollar the bank has made since it started its illegal activity? How about you dive into every bank account of every single executive involved in this mess and take every last bonus dollar they’ve ever earned? Then take their houses, their cars, the paintings they bought at Sotheby’s auctions, the clothes in their closets, the loose change in the jars on their kitchen counters, every last freaking thing. Take it all and don’t think twice. And then throw them in jail.

Sound harsh? It does, doesn’t it? The only problem is, that’s exactly what the government does just about every day to ordinary people involved in ordinary drug cases.

The settlement is an outrage, and shows that, in the US at least, there is a two-tiered justice system. One of the most important precepts of the legal system is that all should be equal under the law. The US Department of Justice has failed to honour its obligations under the US Constitution.

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24 Responses to Too big to jail

  1. Brett

    Democracy will be brought undone by the increasingly obvious and shameless disconnect between the way governments use laws to bludgeon the general population into compliance while at the same time living by and applying an entirely different standard to themselves.

    It is just Napoleon and the pigs; all animals are equal, but some animals are more equal than others. But this must be what the polity wants, because they keep voting for it.

  2. Chris

    OMG I agree with a Samuel J post. Where multiple managers have been complicit in a crime and its not just the case of a rogue employee then the company should be punished. Not only fine it, but put it in “jail” – ie not allowed to trade at all – for as long as you would put a person in jail and not allow them to work for. Freeze the assets too.

    Perhaps that would provide sufficient incentive for execs and shareholders to ensure there is sufficient oversight of what their employees do, and not turn a blind eye to the legality of operations as long as they’re making lots of money.

  3. duncanm

    The US DOJ is corrupted. There can’t be any doubt.

    Fast and Furious and now this.

  4. Bruce

    Samuel – You failed to mention the mad lefty housing policies that lit the match.

    These were hyperdesigned to get poor people to buy homes despite any ability to actually pay for them. So, mortgage interest deductibility, collateralisation to remove any meaningful oversight of the mortgagee, Fannie and Freddie as gigantic great honeypots for pollies to use as involuntary mortgage writers. Teaser rate loans. No recourse loans! Ninja loans!

    When the housing bubble built by lefties popped it took the whole financial system with it.

    And fortunately here in Oz we have had almost none of these crazy policies. Wonder why?

    Jail the pollies first. THEN you can jail the merchant bankers.

  5. Adam Diver

    First, complacency – a long period of relatively stable macroeconomic conditions in advanced economies led investors, regulators and others to underestimate low probability but high impact events – what is known as disaster myopia.

    That applies equally to almost all facets of current life IMO. Could be talking about any of the current self-destructing policies of the western world.

  6. Paul

    I’m surprised that those who only see the world in Left vs Right terms haven’t descended on you as being a wicked Leftist for suggesting that a major bank should be made to shoulder some responsibility for its criminal behaviour.

  7. Mk50 of Brisbane

    I am hoping that you will not see that, Paul. HSBC’s executive class should be destroyed for this.

    What this proves is that the highest institutions of the USA have been corrupted. Maybe it really is time for them to have a second revolution.

  8. Thank you Mk50 – precisely what I decided needed to be done several years ago.
    The system is now so rotten, that only jailing the upper echelons of society and removing them from positions of influence will save us.
    Unfortunately, this will require throwing out some babies with the bathwater. But you can’t make omelets etc…

  9. Tel

    You simply cannot believe in Capitalism and simultaneously believe that rewarding failure is a good idea. Those two approaches fundamentally conflict with one another. They are not compatible.

  10. Disgusting. They should be renamed the Dept Of Injustice.

    But you missed something else – long-term artificially depressed interest rates.

  11. Tel

    How about all of it? […] And then throw them in jail.

    The banks have a lot of people bluffed that the world can’t do without them, and any attempt to mistreat these guys in the slightest way will cause the whole house of cards to come down.

    Remember a few decades back where you would tell a dockyard worker to finish lunch on time and suddenly every dock in the country shuts down… now translate that across to banking.

    The only problem is, that’s exactly what the government does just about every day to ordinary people involved in ordinary drug cases.

    Which has done what to the number of drug dealers?

  12. What is criminal is making the manufacturing, distribution, and sale of (some) drugs a crime. It has become an excuse for civil forfeiture and the reason for the US having the largest prisoner population.

    Yes, it is hypocritical to have a two-tiered system of justice (and the banks should be allowed to fail when they become insolvent), but it is through the liberalization of drug policy rather than an attack on banks that the end of this situation should be achieved.

  13. Mundi

    Bruce, althought the lending policies were bad, it was the way the securities were put together that was the actual problem. When they started doing subprime the interest rates were quite high. It was the federal banks that guaranteed returns on the securities which drove the interest rates down.

  14. Bruce

    Mundi – I did mention collateralisation. Without oversight of dodgy mortgagees and with the connivance of the rating agencies. I have no problem putting some loan slice & dicers in the pokey, but I want the pollies who are the real villians in with them for company.

  15. Chris M

    Was going to add cue junkies demanding all drugs be legalised but I see that has already happened….

    Agree with SJ, the outcome of US justice system process is now officially is based on your income. Some of them also should be gaoled (or jailed as this is the US). It’s all downhill now folks.

  16. .

    Brian is correct in the circumstance, absolutely.

    Drug laws are stupid, illiberal and counterproductive.

    Bailing out failing banks just adds to moral hazard.

  17. Samuel J

    Note: this blog was not about the efficacy of drug laws. I have previously argued that they should be liberalised.

    But if one has a law, it should apply to everyone equally. Moreover, the HSBC example is about money laundering and terrorism as much as drug crimes.

  18. Tel

    Without oversight of dodgy mortgagees and with the connivance of the rating agencies. I have no problem putting some loan slice & dicers in the pokey, but I want the pollies who are the real villians in with them for company.

    I believe that both the concept of mortgage backed securities, and the guarantees backing them up started out with government interference in the market. Then it gradually spread to the subprime and onto the CDO’s. Very likely the banks have a bit of insurance policy and probably a lot of documents on file that the government don’t want published. That’s my other guess as to why normal law does not apply here. We have run out of good guys.

  19. Keith

    The settlement will be seen by the bankers as simply a cost of doing business, to be factored into their p&l.
    Another source of moral hazard. First they were guaranteed not fail, now they’re guaranteed not to be held to account for any other behaviour.

  20. William Bragg

    The GFC was cause first and foremost, as well as second, third, fourth and fifth, by the failure of markets and private institutions. While its not surprising that Catallaxians would attempt to shift the blame, regulators and governments were about as culpable relative to private institutions and markets as Michael Clarke was for losing the test series against South Africa.

  21. James Bauer

    William: The GFC was caused by central banking and too much regulation.

  22. JC


    You’re an imbecile. Go away.

  23. Pingback: Crony capitalism at Catallaxy Files

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