ADMAP REVIEW OF THE MOVIE – INSIDE JOB Rohan Rambhia | PGP-10-155 Inside Job is an exemplary recount of how administrator’s role when exploited to form risky administrative strategies by means of faulty processes lead to a crisis of the stature of the recession of 2008. It is a comprehensive documentary which narrates the history of the collapse, not only going into great, informative depth about the risk-based strategies that put the global economy on the line, but looks back to the rise of the financial industry.
The biggest question which the documentary arouses is that knowing what happened, why are the miscreants not being punished? As the director, Charles Ferguson, himself stated while receiving the Oscar, “Forgive me, I must start by pointing out that three years after our horrific financial crisis caused by massive fraud, not a single financial executive has gone to jail, and that’s wrong. ”1 Lets us first look at the prelude (context) of this financial crisis: ADMAP REVIEW OF THE MOVIE – INSIDE JOB The Clinton era (1990s) worked as a bridge between the Wall Street and the government.
More and more Wall Street CEOs gained access to the government, taking up administrative positions like 2 • Robert Rubin On Wall Street: Chairman and COO of Goldman Sachs For the Government: Secretary of Treasury under Bill Clinton Laura Tyson On Wall Street: Board director of Stanley Morgan For the government: Chair of the US President’s Council of Economic Advisers during the Clinton Administration. She also served as Director of the National Economic Council. during the Clinton Administration. In 1980s – the era of President Ronald Regean – set the foundation for deregulation of various aspects of financial markets.
The markets and financial services were deregulated, and the driving force for this liberalization was Alan Greenspan. The deregulation of Wall Street and the savings and loan industry led to less oversight (control and regulation), effectively leading to multiple cases of fraud, insider trading and bad loans/investments that led to massive losses. After “The Great Depression” of 1929, there was strict regulation for about 40 years. The financial industry was regulated and hence well under control.
This was the time when financial services resigned to a simple system of borrowers and lenders. Bankers and traders earned income that matched most working Americans. • • On Wall Street: Paid keynote speaker at banks including Goldman and JP Morgan; keynote speaker at annual Alpha Hedge Bermuda Global Hedge Fund Summit; consultant to hedge funds including D. E Shaw. Larry Summers For the government: Secretary of the Treasury from 1999 to 2001, 2|Page In the Bush era (2000s), regulation was further relaxed and more and more Wall Street professionals became a part of the Government.
With this increased inclusion of Wall Street into the Government, there were more and more cases of heavy lobbying, fraud, inflated speculation and unethical practices. Many specific laws were created to accommodate like financial biggies. The most prominent example was that related to Citi Corp’s merger with Travelers. The law prohibited a savings bank to merge with Investment bank. Instead of objecting this merger this deal was given an exemption from the law for a year and in the meantime ‘GrammLeach-Bliley’ Act was passed which validated the merger giving rise to Citi Group.
During this period most of the regulatory safeguards were revoked, allowing for huge Wall Street mergers and new laws favoring the financial services industry. The derivatives industry got created, which Wall Street government-administrators refused to regulate. An attempt was made to bring under regulation only to be opposed by the major investment banks supported by the Wall Street professionals turned administrators. This era also saw Bankers and traders making huge commissions off “junk deals” that lead to the Dot-com bubble burst. ADMAP
REVIEW OF THE MOVIE – INSIDE JOB Complex systems of investment were created, which tied everything from mortgages to credit up in the risky practices of the financial services industry. This resulted in inflated speculation and unethical practices by the nation’s leading finance, insurance and credit rating agencies, leading to the 2008 economic collapse. Some of the prominent Wall Street professionals/Academicians in the Bush Government and back to the Wall Street: 2 • Hank Paulson On Wall Street: Goldman Sachs CEO For the government: Secretary of Treasury under George W.
Bush Frederic Mishkin For the government: Mishkin was as a member of the Board of Governors of the Federal Reserve under George Bush. Academia: Professor at the Columbia Business School and coauthored a report called “Financial Stability in Iceland”. • • David McCormick On Wall Street: President and CEO at FreeMarkets and President of Ariba, consultant with McKinsey & Company. For the government: Under Secretary for International Affairs within the United States Department of the Treasury under George W. Bush 3|Page
The Obama era promised to bring in a change and also brought with it a ray of dauntless hope failed to keep the Wall Street executives out of his Government. In fact most of the very same Wall Street execs-turned-government administrators who pitched the U. S. into multiple financial crises over multiple decades of unethical practices still hold high ranks in Obama’s cabinet. Following chart gives a comprehensive account of the turn of event: ADMAP REVIEW OF THE MOVIE – INSIDE JOB 1980s Regean Era. 1990s Clinton Era- Bridging Government and Wall Street. 000s The Bush Era- further deregulation and relaxed enforcement Aministrative ProcessComplex systems of investment are created Result – inflated speculation and unethical practices leading to the 2008 economic collapse 2010 The Obama era – Business as usual. The very same Wall Street execs-turnedgovernment administrators responsible are multiple financial crises still hold administrative positions in the Government. 20XX No one knows when the next financial tnsunami will hit and more importantly how badly? Aministrative Process: Aministrative Unregulated Strategy: Laid the foundation Derivatives’ of deregulation.
Industry Result: Multiple Result: “Junk financial crises deals” leading to the Dot-com over the bubble burst. decades. 4|Page Once the Wall Street executives got a foothold in the government, they started making and breaking the rules. These policies were bound to help them in making millions sometime in future due to the prevalence of the ‘revolving door’, whereby financial regulators could be hired within the financial sector upon leaving government. Also, many of the former Wall Street execs took up posts in Academia along with working as consultants. Thus the financial sector looked as following:
Inside Job breaks down the complexities that led to the rise of an out of control industry and the financial meltdown of 2008, plunging the world into crisis at a cost of $20 trillion and along with it millions of people’s jobs, homes, and dignity. Let’s look at how (roles and strategy) under the banner of “innovation,” the Politician/Lobbyists-cum-Financial Executives-cum-Academicians led to the big bubble bursting to the entire world. ADMAP REVIEW OF THE MOVIE – INSIDE JOB Wall Street Executives Academicians Financial Crisis Consultants Financial Regulators (Cabinet positions)
Due to the interchangeability of the positions there often arouse conflicts of interest. These conflicts of interest affected credit rating agencies as well as academics that received funding as consultants but didn’t disclose this information in their academic writing. 5|Page ** signifies ? contributed to A startling example given by Charles Ferguson is that of the derivatives market. The high risks that began with subprime lending were transferred from investors to other investors who, due to questionable rating practices, falsely believed that the investments were safe.
And these rating were done by Academicians-Consultants who were given millions of dollars for these false ratings. On being questioned by the law about the validity and basis for those ratings, the only answer which was given was that at that time they believed (or were made to believe) that those investments were good. Due to these false ratings the lenders were pushed to sign up mortgages without regard to risk, or even favoring higher interest rate loans, since, once these mortgages were packaged together, the risk was disguised. According to the film, the resulting products would often have AAA ratings, equal to U.
S. government bonds. The products could then be used even by investors such as retirement funds which were required to limit themselves to the safest investments. ADMAP REVIEW OF THE MOVIE – INSIDE JOB Another issue highlighted is that of the high pay in the financial industry, and its growth in recent decades out of proportion to the rest of the economy. Even as the banks that failed, the bank executives make hundreds of millions of dollars in the period immediately up to the crisis, all of which was kept, suggesting that the risk/benefit balance had been broken.
Another issue depicted by the film is that of the role of academia in the crisis. Many of the leading professors and leading faculty members of the economics and business school establishments often derived large proportions of their incomes from either engaging as consultants, or speaking engagements. For example, current dean of the Columbia Business School, Glenn Hubbard received a large percentage of his annual income from either acting as a consultant or through speaking engagements. Hubbard was also affiliated with KKR and BlackRock Financial.
In the documentary, Hubbard as well as current chairman of Harvard’s department of economics, John Y. Campbell, denied the existence of any conflict of interest between academia and the banking sector, but their actions spoke otherwise. Graph: Wall Street bonuses 3 before and after the crisis 6|Page American investment policies of the past decades and their deregulation over time, gave rise to an age of speculative investment banking and high-stakes trading. This led to predatory lending, CDOs, derivatives and mortgage fraud, ultimately leading Wall Street and its associated institutions to gamble with the fortunes of others.
AIG, the world’s largest insurance company, sold huge quantities of derivatives, called credit default swaps. For investors who owned Collateralized debt obligations (CDOs), credit default swaps worked like an insurance policy. An investor who purchased a credit default swap paid AIG a quarterly premium. If the CDO went bad, AIG promised to pay the investor for their losses. It’s clear by now that the main reason of the financial meltdown was the unregulated derivatives market but many different and innovative ideas led to the final breakdown.
Now let’s look at these processes involved. ADMAP REVIEW OF THE MOVIE – INSIDE JOB Since credit default swaps were unregulated, AIG didn’t have to put aside any money to cover potential losses Instead, AIG paid its employees huge cash bonuses as soon as contracts were signed. People were essentially being rewarded for taking massive risks. They generated short-term revenues and profits, and therefore were awarded with huge bonuses. That was a totally distorted system of compensation. Figure 4: AIG and Credit default swaps. The facility of insurance is not unusual.
But the extended part of the insurance was shocking. Unlike the regular insurance, speculators could also buy credit default swaps from AIG in order to bet against CDOs they didn’t own. In this way the derivatives universe enabled anybody to insure without actual ownership. So, if the CDO defaulted and a number of credit default swaps were issued against it, the number of losses in the system became proportionately larger. 7|Page In the end, it seems no one can be trusted. Even Obama, who represented change and hope, is himself heading a “Wall Street government”.
When everything seems to fail, there is only one thing that can be done – have law enforcement that is necessary to enforce the laws we have. Thus the initial idea of President Reagan that it was ‘unAmerican’ that in this capitalist society that oversight and restrictions should exist and that the companies would check themselves, eventually led to a serial of disastrous crises. Even now when many financial regulations are put back in place, the underlying system has not changed; rather the remaining banks have only become bigger, and have retained their incentives.
Conclusion: Thus Investment banks started selling CDOs specifically designed so that the more money their customers lost, the more money they made. Effectively they led the financial industry run the world into a huge economic crisis, while the industry itself earned from it. Going a step further some investments banks like Goldman Sachs didn’t just sell toxic CDOs; they even started actively betting against them at the same time. On one hand they were telling customers that these were high-quality investments and on the other hand they themselves were shorting them.
Investment banks also bought swaps from AIG, bet against CDOs they didn’t own (in fact the ones which they sold), and got paid when the CDOs failed. ADMAP REVIEW OF THE MOVIE – INSIDE JOB 8|Page References: ADMAP REVIEW OF THE MOVIE – INSIDE JOB 1. http://www. youtube. com/watch? v=mpz5DVwnbnk=player_embedded 2. http://www. businessinsider. com/people-who-have-worked-on-wall-streetwashington-white-house-2011-3? op=1#ixzz1Iugg1kcq 3. http://streetlightblog. blogspot. com/2011/02/plateau-in-wall-streetcompensation. html 4. http://gulzar05. blogspot. com/2008/09/nationalization-of-aig. html 9|Page