JP Morgan did it. Citibank did it. Now Bank of America is about to do it as well—pay the U.S. government a whopping fine for their role in the subprime mortgage disaster and the financial market meltdown that followed. For Bank of America, the reported amount is $18 billion, one of the biggest hauls for the government to date.
You might view these fines as well-deserved comeuppance for institutions at the center of the subprime mortgage mess, and perhaps a good disincentive to future similar behavior. Frustratingly it is neither. Rather, the wrong targets are being penalized and we are only encouraging the same kind of behavior to occur again. The only question is where and when it will pop up.
The ‘bad’ mortgages Bank of America is being penalized for didn’t emerge from the bank itself. Rather, these products were brought into B of A’s balance sheet as a result of its purchase of Countrywide in 2008, at the start of the financial crisis. The purchase was the brainchild of Ken Lewis, Bank of America’s CEO at the time. It was a victory for him, as two previous attempts to purchase the lender were rebuffed by the former head of Countrywide and its CEO, Angelo Mozilo.
These two CEO’s—and the boards of directors who rubberstamped their many unwise decisions—clearly bear direct culpability for what happened. But both these gentlemen have quietly disappeared into the sunset. They weren’t mentioned in the settlement. Rather, it is Bank of America’s current shareholders who will be paying the $18 billion in fines (Disclosure: this includes myself since I have equity in holdings in broad based index funds that include all the large banks).
If this seems odd, well, you’re right. Mr. Mozilo was directly implicated for his role in the subprime mortgage mess. He was fined a little over $60 million, a fraction of his earnings during his stint at Countrywide. And Ken Lewis, whose quixotic desire to buy Mozilo’s firm had to be one of the worst financial decisions in the history of banking, isn’t being held accountable for much of anything. Nor, for that matter, are the boards of directors for either company who, in theory, are supposed to be representing the best interest of the shareholders.
When the big banks were rescued by direct intervention from the Federal government, the fear of many economists was one of moral hazard. By not making these institutions responsible for the mess they had made, the nation’s leaders were simply encouraging similar behavior in the future. But bailing the banks out was never the issue since the ‘banks’ are nothing more than a legal form of joint ownership of a variety of assets by thousands and thousands of owners. Bad ‘bank’ behavior was nothing of the sort—it was the bad behavior of those running the banks at the time, men who today are still very, very wealthy in large part because of their rolls in the run up to the meltdown.
Rescuing the banking system was a no brainer. Making sure that those running the banks during this time of massive malfeasance were punished for their role was an even simpler call—and yet has been largely ignored not only by regulatory institutions who have been glorifying the pointless wresting of wealth from truly innocent shareholders, but by the new set of pointlessly smothering regulations the financial system now has to endure.
With such skewed incentives, we have simply printed a license to steal in the financial world. The only question is what new form of malfeasance will be dreamed up to enrich the next set of executives in the system, who’s primary lesson from past crises is how to lawyer up and pre-indemnify themselves from their own future actions.