Krugman called it: ‘Heads they win, tails we lose’


Take the money and run the banks — after the bankers ran them into the ground. That’s the tragicomic second act of the Great ’08 Bailout.

As newly crowned Nobel Prize winner Paul Krugman put it nearly a year ago in one of his many prescient columns, “Heads they win, tails we lose.”

The context of Krugman’s comments was, and is, right on the money: On November 23, 2007, he wrote in his New York Times op-ed column, under the head “Banks Gone Wild”:

Around 25 years ago, American business — and the American political system — bought into the idea that greed is good. Executives are lavishly rewarded if the companies they run seem successful: last year [2006] the chief executives of Merrill and Citigroup were paid $48 million and $25.6 million, respectively.

But if the success turns out to have been an illusion — well, they still get to keep the money. Heads they win, tails we lose.

Not only is this grossly unfair, it encourages bad risk-taking, and sometimes fraud. If an executive can create the appearance of success, even for a couple of years, he will walk away immensely wealthy. Meanwhile, the subsequent revelation that appearances were deceiving is someone else’s problem.

If all this sounds familiar, it should. The huge rewards executives receive if they can fake success are what led to the great corporate scandals of a few years back. There’s no indication that any laws were broken this time — but the public’s trust was nonetheless betrayed, once again.

The point is that the subprime crisis and the credit crunch are, in an important sense, the result of our failure to effectively reform corporate governance after the last set of scandals.

And now Wall Street executives’ poor decisions have earned its biggest banks $125 billion in cash money from U.S. taxpayers, the Treasury announces.

The Washington Post‘s Binyamin Appelbaum breaks it down in his front-pager this morning, “Treasury Invokes Patriotism In Pitch to Bank Executives”:

Citigroup and J.P. Morgan Chase will receive $25 billion each; Bank of America and Wells Fargo, $20 billion; Goldman Sachs and Morgan Stanley, $10 billion, Bank of New York and State Street $2 billion to 3 billion. Wells Fargo will get an additional $5 billion, for its purchase of Wachovia, and Bank of America gets the same for Merrill Lynch.

Yes, Hank Paulson‘s crew had to pressure the banks to take the money, because the banks didn’t like the terms.

The banks just wanted the government’s money — without the government’s interference. Miraculously, the government insisted on taking equity stakes.

But what are the banks complaining about? The government is reportedly getting preferred stock, which, as the Wall Street Journal notes, typically doesn’t come with voting rights.

And now the taxpayers — without voting rights — will be directly shelling out part of the outrageous executive pay in all these institutions. The bailout plan calls only for “appropriate standards for executive compensation.”

What’s “appropriate” is not detailed, as the Washington Post, among others, points out. And this comes despite the Democrats’ supposedly having control of Congress. As the Wall Street Journal says:

Along with the government’s involvement come certain restrictions, such as caps on executive pay. For example, firms can’t write new employment contracts containing golden parachutes and their ability to use certain executive salaries as a tax deduction is capped.

These restrictions are relatively weak compared with what congressional Democrats had wanted when they approved this spending, a potential flash point.

It’s not as if there wasn’t evidence of profligate pay. Bloomberg’s Christine Harper and Ian Katz pointed out just this past March 7 when reckless Wall Street execs had already jumped the tracks on their way to a big crash:

Goldman Sachs Group Inc., the most profitable securities firm in Wall Street history, awarded $67.5 million each to Co-Presidents Gary Cohn and Jon Winkelried, boosting their pay 27 percent from the prior year as the company evaded the mortgage losses spreading through the economy. . . .

The payouts amount to $185,000 per day, including weekends. The median annual income of U.S. households was $48,201 in 2006, the most- recent figures available from the Census Bureau. . . .

Goldman set a record for Wall Street in December when it granted Chairman and Chief Executive Officer Lloyd Blankfein $68.5 million in salary and bonuses for 2007, topping the prior year’s $54 million award. Goldman’s 22 percent jump in profit and 7.9 percent share-price gain last year outpaced Citigroup Inc. and Merrill Lynch & Co., which ousted their chief executive officers after posting losses from the collapse of the subprime mortgage market.

And now Paulson, Goldman’s ex-CEO, is handing over millions in cash to his old firm. There’s no plan to take back those unjustifiable bonuses to help defray the cost of the bailout.

Ordinarily, you’d say that the big banks now owe their souls to the company store. But most of these institutions — including Goldman Sachs — have been deep into predatory subprime lending since the Clinton administration’s repeal of the Depression I-era Glass-Steagall Act.

So it’s unlikely that they owe anything.