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Aug 19th
Home Columns Tremendous Trifles Q&A on the Massive Financial Meltdown
Q&A on the Massive Financial Meltdown PDF Print E-mail
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Columns - Tremendous Trifles
Monday, 20 October 2008 23:24

T his is the first installment of my paper on the great crash of 2008.  I was inspired to write again by my friend, local columnist Bambi Harper, who asked me incisive questions about the massive financial "nervous breakdown" America is going through.  It might be of interest to the’s Filipino-American readers.

There are five more questions from my friend I am yet to answer.  Each question appears to need a full-length article as reply.  The remaining questions are:


2)  So, how did the subprime mortgage market balloon and then unravel?

3)  What happens to free enterprise in the light of this "bailout"?

4)  Does this mean that the U.S. Government will now "own" shares in businesses?

5)  What should be done about companies that paid excessive retirement packages to their executives? And what is to prevent them from doing so again?

6)  How will this financial crisis affect emerging countries like the Philippines and what can our government do about it?


Q&A on the massive financial meltdown


1)  The sub-prime mortgage crisis appears to be the straw that broke the camel's back but weren't the conditions that led to this situation in place years before?


This is the key question. Conditions were different before and after banks started approving subprime mortgage loans.  In the wake of the stock market crash of 1929, there was a long period when Washington tightly controlled the banking system. 


Then the "deregulation" period came, initially in the 1980s, when the U.S. Congress began chipping away at regulations to get government off the bankers' back to make "free enterprise" work more suitably for the bankers but not for the consumers.


Between 1927 and 1929, of the 25,000 banks in the U.S., about 15,000 suspended operations.  Some $7 billion of depositors' money were wiped out in the process.  From 1930 to 1932, 600,000 homeowners lost their property due to bank foreclosures. 


Millions of Americans lost both shelter and life savings because banks were allowed to invest depositors' money in risky stocks. Banks were   even permitted to underwrite new shares!  Then the stock market crashed in 1929 due to gross corruption (insider trading) and manipulation of the stock market particularly by big banking giants like the House of Morgan.


Government as lending-industry watchdog


W ithin 100 days from taking office, President Franklin D. Roosevelt signed the 1933 Banking Act, better known as the Glass-Steagall Act (GSA).  The law sought the protection of bank depositors by establishing the Federal Deposit Insurance Corporation.


In addition, GSA barred banks, stock brokerages and insurance companies from entering each others' industries.  Investment banking and commercial banking operations were separated.  Existing banks were made to choose between loaning depositors' money as commercial banks or else putting investors' money in stocks and other securities as investment banks.


Editor’s Note: Former Board of Investments Governor Ben Sanchez was the first Professional Economist to come out of De La Salle College. He earned graduate degrees in Economics from the University of Notre Dame and Yale University.

GSA also encouraged home ownership with the creation of other federal agencies like Fannie Mae, and the Federal Housing Administration.  GSA, one of the central pillars of Roosevelt's New Deal, secured the stability of the banking system. The system worked for 60 years.


Washington as bankers' lapdog


D uring the waning months of the Carter administration, voracious banks sought more profitable outlets for their capital.  Hence, under heavy pressure from banks, the U.S. Congress adopted – on a bipartisan basis – the Depository Institutions Deregulatory and Monetary Control Act of 1980 which was implemented during the Reagan administration. 


This legislation removed interest caps from loans.  Suddenly, lending services became more profitable.   This led to the invention of perilous "loan packages" – subprime lending in particular – which put borrowers at great risk.


With this major deregulation, the lending industry, especially Savings and Loan Associations, went into a frenzy of lending not only by financing homes, but also golf clubs, shopping malls, office buildings and condo projects.  Many of these loans had no financial justification other than "quick-buck profit" an analyst commented.  And that means out and out greed!


By the end of the Eighties, hundreds of S&Ls and banks collapsed after billions of dollars of commercial loans became useless because otherwise sober bankers turned speculators.  ("The stable neighborhood S&L became a thing of the past," a report stated.) Under its deposit insurance program, government organized a huge bailout to return depositors' money risked by these speculators.


After passing the 1994 banking deregulation bill which permitted bank holding companies to operate in more than one state, the U.S. Congress became even more laissez-faire and approved the Financial Services Modernization Act of 1999 which President Clinton signed into law.  It was enacted by Congress on a near-unanimous bipartisan basis after American banks successfully lobbied for its passage by arguing that foreign banks, who were not as severely restricted, rendered them less competitive globally.


After the bill was passed, Democratic and Republican congressmen and industry lobbyists trumpeted that deregulation would spark competition and improve services to consumers.  These did not occur; certainly, not the latter.


The consequence was that this legislation effectively dismantled the Glass-Steagall Act (GSA) of 1933 which governed and successfully stabilized the banking industry for over 60 years.  To protect bank depositors from the additional risks connected with security transactions, GSA created firewalls between commercial banks, investment banks and insurance companies.


These firewalls were taken apart by the law "modernizing" the financing-services sector and the distinction between these three industries became blurred.  As a result, many commercial banks put up their own brokerage units which provided investment services to their depositors.


After restrictions on the integration of banking, insurance and stock trading were removed, there came a wave of major mergers and acquisitions in the financial-services sector as a result of which vast numbers of consumers were tied up to the volatile stock market.  For example, in a $72 billion deal, Citibank – the biggest New York bank – merged with Travelers Group Inc. a huge insurance firm which in turn owned Salomon Smith Barney a major Wall Street brokerage company. Thus, the giant Citigroup was formed.  Another salient example: JP Morgan Chase acquired Bank One Corp. for $49 billion.


At the time, critics declared that the deregulation act will move the financial sector into a higher degree of monopolization to the detriment of consumers.  "The bigger they are, the harder they fall" was the impression given. Before the bill was passed in 1999, one opponent even wrote that "The bill ties the banking system and the insurance industry even more directly to the volatile US stock market, virtually guaranteeing that any significant plunge in Wall Street will have an immediate and catastrophic impact throughout the US financial system." His words were prophetic.


Massive campaign of influence-buying


S ince the mid-Nineties, the combined forces of commercial banks, insurance firms and investment banks mounted the best financed campaign of influence-buying Washington had ever seen. In 1997 and 1998 alone, the three industries were reported to have spent over $300 million on the effort.  More than half of this amount was expended on lobbying of elected officials    The balance was spent as "soft money" contributions to the Democratic and Republican parties and in direct support to both parties' candidates. 


That assured the almost unanimous passage of the major banking deregulation act of 1999 which is also known as Gramm-Leach-Bliley Act.  Only six senators opposed the bill.


Republican Senator Phil Gramm of Texas, an economic conservative, chaired the Senate Banking Committee at the time.  He was reportedly the main author of the deregulation bill and after its passage, Senator Grimm established himself as the preeminent foe of government regulation.



Editor’s Note: Former U.S. Senator Phil Gramm is mentioned prominently in this article that Bobby Reyes wrote: The Truth About the Filipino Veterans' Lobby (Part Two)


Naturally, Gramm was a major recipient of the tri-industry dole-out.  Later on he became a congressional lobbyist of giant bank UBS (Union Bank of Switzerland) of which he is now Vice Chairman since March of this year.  Late last week, UBS took sick with a heavy load of toxic subprime mortgage loans.  The Swiss government is paying the hospital bill with a bailout.


Lately, CNN has been gradually releasing the names of the "Ten Most Wanted Men" in connection with the massive financial meltdown.  Last week Phil Gramm was named No. 3 on the list.  Christopher Cox, SEC Chairman, occupies the No. 2 spot for the lax enforcement of his oversight powers.


It surprises no one that the most recent Gallup poll's rating of the U.S. Congress showed a mere 20%  - five points lower than the approval rating of George W. Bush which stands at a near-ground level 25%.


(To be continued . . .)


E ditor’s Notes: Mr. Sanchez was the first Professional Economist to come out of De La Salle College. He earned graduate degrees in Economics from the University of Notre Dame and Yale University.


While supervising the Export Department of the Board of Investments, Governor Sanchez helped boost non-traditional exports which doubled every two and a half years during his term.


Today, exports of manufactures make up 87 per cent of total Philippine exports.

He spent the remaining sixteen years of his career in the UN system advancing the cause of small-scale enterprises in 33 developing countries. 


Governor Sanchez regularly sends e-mails to a group of friends, especially those who live abroad. Many of the stuff that he sends to his friends are about the Philippines – articles, news items, historical notes, even unique Filipino jokes. He occasionally writes articles about the Philippine economy (for he is an economist by profession).


He writes also to newspaper editors about happenings they report on. Our columnist intends to provide our readers the materials about the Philippines and Filipinos that he e-mails his friends.


He is very choosy about the articles that he forwards because he keeps in mind that the subject should be of major importance.


Governor Sanchez can be reached at He welcomes readers' feedbacks as hearing from readers interest him a lot.


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Last Updated on Monday, 20 October 2008 23:28

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