The Most Important Story You Won't See on TV

Yesterday, Judge Jed Rakoff, pictured, rejected the proposed settlement of $33 million by the Bank of America with the SEC over allegations that Bank of America had lied to shareholders regarding bonuses for Merrill Lynch managers. BofA acquired Merrill Lynch last January, just after over $3 billion in bonuses were paid to Merrill management. The SEC alleges that BofA's proxy letter to shareholders was materially misleading.

Judge Rakoff states:

"Oscar Wilde once famously said that a cynicis someone 'who knows the price of everything and the value of nothing.' The proposed Consent Judgment in this case suggests a rather cynical relationship between the parties... And all this is done at the expense, not only of the shareholders, but also of the truth."

The reason this is so important is that it affirms the rule of law and accountability in our financial markets. I don't know if the BofA executives committed a crime or not; but look at the perverse incentives in the system. For a mere $33 million, not even your own dough, but that of your shareholders, you, the CEO of BofA get to waive prosecution, WITHOUT ADMITTING PERSONAL GUILT. Considering that your own future bonus might be at stake, better to get this thing over, if you're the CEO. On the SEC side, you've got plenty of egg on your face already, from Bernie Madoff, to a number of bonus related issues. The fine allows the SEC to maintain that they are on the job.

But it is all crap. The SEC says that the execs relied on the lawyers for advice, so we didn't prosecute. OK, so why not prosecute the lawyers? WHO IS ACCOUNTABLE? There is also a back story that no one wants exposed here. The chairman of the Fed, Ben Bernanke, has claimed that neither he nor then Treasury Secretary Paulson pressured Bank of America to buy Merrill Lynch. I think he's lying. I want to see a trial. I want to see the truth come out.

Transparency and the rule of law are necessary for capitalism to work. Much of last year's melt down can be traced to a lack of both. I find myself applauding Judge Rakoff, along with Dennis Kucinich of all people. However, I suspect Kucinich is just upset over the bonuses, my interest is in the rule of law. We'll see if the SEC has the guts to prosecute. There case might be weak. If it is, that will tell us something too.

Why is this the most important story not on TV? It's neither glamorous nor gruesome, but goes to the heart of what makes capitalism work. Our future economic growth depends as much on ethical behavior as it does on defeating big government spending.

Why This Fed Solution Won't Work

Ben Bernanke wants foreclosure rates to decline. So do I, but it's not going to happen anytime soon. Forbes online explains why. Before I explain, a pop quiz related to this subject: Who owns the mortgage debt of America's homeowners?
a. Mortgage brokers
b. Banks
c. Foreign governments
d. Who knows?

If you answered d., you are correct. Amazingly, telling banks to stop foreclosures is futile because the loans have been sliced between so many different investors, that no one really knows who owns the debt!

From the article:

Who is supposed to take the loss when these debts are reduced? Servicers don’t have any skin in the game, beleaguered lenders who originated the poorly underwritten loans often quickly sold them and the investors who ended up owning many mortgages through sliced and diced securities called collateralized loan obligations would probably be better off with a foreclosure.

Ultimately, the lack of transparency for all parties involved, along with a lack of accountability for bad practices led to the mortgage mess. If an individual homeowner could go back to the holder of the note and re-negotiate, all parties would be better off. But there is no one with whom to negotiate. This mean this mess will be terribly difficult to clean up. I am a firm believer in free markets, but any economist will say that free markets require transparency to operate properly.

Final quote:

The behind the scenes debate over who should take the loss on mortgage workouts is one of the most important issues that U.S. policymakers and lenders are faced with, and one that they are most loath to discuss. This is because unjustly hurting investors would create an alarming precedent that the American government no longer considers a business contract sacrosanct, which runs the grave risk of alienating those abroad who have looked to the U.S. as an investment haven governed by the predictable rule of law.