Motley Moose – Archive

Since 2008 – Progress Through Politics

Cooking the Books

Well, the verdict is in on the investigation of the Lehman Brothers collapse in 2008 and in the words of Judge James M Peck, who unsealed the report today, it reads “like a best-seller.”  Yeah, by Stephen King.

Anyone who assumed that the collapse of Lehman Brothers was a consequence of high-risk, predatory, competitive practices by management and collegial institutions engaged in unrestrained profit-taking need look no further than the recently released full 2,200 page report.  It tends to confirm a culture of business activity barely skimming criminal malpractice and perhaps failing to insulate participants, at least in the case of the firm’s management and auditors, from civil liability.

The prime consideration in the minds of the other associated parties, primarily Citibank and JPMorgan Chase, is whether there is a case to answer in their involvement.  The report’s release was met with almost instantaneous denials of wrongdoing or culpability by both participants and it does seem they have dodged the bullet, though not by much:

The examiner in charge of investigating the bankruptcy of venerable Wall Street investment house Lehman Brothers, the most expensive bankruptcy in U.S. history, said in a report publicly released Thursday that senior officials failed to disclose key practices, opening them up to legal claims, and that JPMorgan Chase and Citigroup contributed to the firm’s collapse. In addition, the report concludes that the firm’s auditor, Ernst & Young, failed to meet “professional standards.”

Shahien Nasiripour – Lehman Bankruptcy Report: Top Officials Manipulated Balance Sheets … Contributed To Collapse Huffington Post 11 Mar 10

That these few institutions and individuals, through questionable business practices and apparently willful manipulation of their statuatory reporting reponsibilites, could have precipitated an economic meltdown which has adversely affected most wage-earners and every taxpayer in the United States, not to mention partner economies worldwide, is a situation which must be remedied.  One wonders what precautions are in place to prevent a repeat performance in future.

It is clear that there is a case to answer by some, and a new phrase enters the modern media lexicon, the ‘colorable claim:’

The business decisions that brought Lehman to its crisis of confidence may have been in error but were largely within the business judgment rule.

But the decision not to disclose the effects of those judgments does give rise to colorable claims against the senior officers who oversaw and certified misleading financial statements – Lehman’s CEO Richard S. Fuld, Jr., and its CFOs Christopher O’Meara, Erin M. Callan and Ian T. Lowitt.

There are colorable claims against Lehman’s external auditor Ernst &  Young for, among other things, its failure to question and challenge improper or inadequate disclosures in those financial statements.

Anton R Valukas – Lehman Brothers Holdings Inc Chapter 11 Proceedings Examiner’s Report Jenner & Block

Lehman’s CEO, Richard ‘The Gorilla’ Fuld, was characteristically unrepentant in October 2008, after taking his organisation up to, and over, the brink:

Hauled before Congress in October, his only public outing since the fall of Lehman, Fuld blamed “rumours, speculation, misunderstandings and factual errors” for the collapse. “I want to be very clear. I take full responsibility for the decisions that I made and for the actions that I took based on the information we had at the time,” he said, but there was nothing he would have done differently.

Like the bosses of other investment banks, Fuld had been salivating since the middle of the decade over the enormous profits on offer from slicing and dicing America’s mortgages into securities for sale to investors around the world. Lehman rushed headlong into this business, ignoring warnings that the US housing market had become dangerously overheated and that mortgage brokers were doling out loans to people who could never repay them. The bank was also one of the biggest financiers of commercial property and had taken some pretty optimistic views of its portfolio’s worth.

A reckoning was fast approaching and Lehman had put itself at more risk than most: to juice results and get ahead of the competition, it had pumped itself up on debt. The bank held less than a dollar in reserves for every $30 of its liabilities. As long as it had assets to match them, this was fine. But investors were increasingly sceptical about the value of the assets Lehman claimed.

Larry McDonald – Crash of a titan: The inside story of the fall of Lehman Brothers The Independent 7 Sep 09

Yeah, well, Dick better rethink the ‘nothing I would have done differently’ defense:

The examiner defines a “colorable claim” as those for which the examiner “found that there is sufficient credible evidence to support a finding by a trier of fact.” In other words, plaintiffs can start lining up.

The examiner notes that the issue giving rise to these potential claims was Lehman’s creative use of repurchase agreements, otherwise known as repo. These are agreements between financial firms that essentially act as loans for cash — one firm pledges collateral to another in exchange for cash with a promise that they’ll buy back that collateral.

The examiner said the sole function of Lehman’s use of repo was “balance sheet manipulation,” according to the report.

Shahien Nasiripour – Lehman Bankruptcy Report: Top Officials Manipulated Balance Sheets … Contributed To Collapse Huffington Post 11 Mar 10

The sole function was “balance sheet manipulation?”  And yet we had empowered these captains of industry, the “masters of the universe,” to chart the destiny of the American economy?  Well, things had better change, and promptly.  You would think the “fiscally prudent” Republicans would be on to it, wouldn’t you?  Maybe not so much:

Senate Banking Committee Chairman Christopher Dodd’s decision to break off negotiations with Republicans and go it alone on financial regulatory reform legislation came as a shock to some reformers.

“To be honest, a lot of us were surprised,” said one consumer advocate closely involved in financial reform efforts. “It seemed like a deal of some sort was imminent and on track.”

The advocate noted that Dodd’s decision was likely influenced by the outcry from progressives and other pro-reform groups who argued that Dodd, a Connecticut Democrat not seeking reelection this year, was giving Republicans and Wall Street-friendly Democrats too much sway over the legislation.

Shahien Nasiripour – Dodd Decision A Surprise To Reformers Huffington Post 11 Mar 10

This banking regulatory reform is perhaps as important, it not more so, to our future quality of life than health care reform.  Worth watching.  We may be close to a win here too.  It is vitally important and within reach though the obstacles are considerable:

“The challenge moving forward, of course, is that the industry seems to have in the neighborhood of 40 votes in the Senate,” [consumer advocate Steve Verdier] told HuffPost. “And it won’t stand for anything that isn’t written by the lobbyists,” the source added.

“That’s how broken Washington is.”

Shahien Nasiripour – Dodd Decision A Surprise To Reformers Huffington Post 11 Mar 10

Check out the Volcker Rule and watch for its progress:

The Volcker Rule is, at its heart, a proposal by American economist and former Federal Reserve Chairman Paul Volcker to restrict banks from making certain speculative  kinds of investments if they are not on behalf of their customers.  Volcker has argued that such speculative activity played a key role in the financial crisis of 2007-2010.  Volcker was earlier appointed by Obama as the chair of US President Barack Obama’s Economic Recovery Advisory Board, a board created on February 6, 2009.

The Volcker Rule was first publicly endorsed by President Obama on January 21, 2010.  The proposal specifically prohibits a bank or institution that owns a bank from engaging in proprietary trading that isn’t at the behest of its clients, and from owning or investing in a hedge fund or private equity fund, as well as limiting the liabilities that the largest banks could hold.

In a February 22, 2010 letter to The Wall Street Journal, five former Secretaries of the Treasury endorsed The Volcker Rule proposals.  The Volcker Rule remains unimplemented. As of February 23, 2010, the US congress began to consider a weaker bill allowing federal regulators to restrict proprietary trading and hedge fund ownership by banks, but not prohibiting these activities altogether.

Volcker Rule Wikipedia

Simple things are often the best.  We need comprehensive financial regulatory reform, the foxes have been watching over the henhouse for too long.


  1. HappyinVT

    But I do know that Chris Dodd finally figured out that working with Bob Corker on financial reform wasn’t going to get very far.  That’s some bright news.

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