Stress Test, the memoir published last month by former US Treasury Secretary Timothy Geithner, documents the conspiracy to prepare and execute the 2008 bank bailout, from the point of view of the operation’s leading architect.

Geithner’s main goal in writing the book is to present his actions as president of the New York Federal Reserve and later as treasury secretary as justified and necessary.

The book is of interest not for Geithner’s self-justifications, but because it presents a detailed overview (at nearly 600 pages) of the bank bailout and includes significant new information about how the Bush and Obama administrations decided upon the course of action they took in 2008 and 2009.

So adamant was Geithner that he clashed with other dedicated defenders of Wall Street in Obama’s economic team, including his mentor, Lawrence Summers, who wanted to impose ‘haircuts, on the creditors of bailed-out firms, carry out some nationalisations, and replace executives

In his memoir, Geithner concedes that the average American thinks the bank bailout was aimed at protecting Wall Street interests at the expense of the population. As he puts it, “We did save the economy, but we lost the country doing it.” Geithner adds, “Conventional wisdom still holds that we abandoned Main Street to protect Wall Street.”

In this case, ‘conventional wisdom’ is correct.

The 2008 financial meltdown was precipitated by frenzied Wall Street speculation fueled by a real estate and credit bubble that swelled bank profits, executive pay and the wealth of the super-rich to the highest levels in US history. The speculation, which utilised highly complex financial instruments, was facilitated by government regulators. They not only turned a blind eye, they actively encouraged Wall Street’s ‘financial innovation’ while providing plenty of cash, via the Federal Reserve’s low interest rate policy.

When home values began to decline, the entire financial system became insolvent and the government bailed out every major bank with taxpayer money in the face of widespread popular opposition. According to Geithner, the government loaned nearly $7 trillion to the financial system, which was used to prop up over $30 trillion in financial assets—more than twice the yearly output of the United States.

These actions halted the collapse of financial asset values and led to the creation of another asset bubble. Since 2009, both the Dow Jones Industrial Average and the wealth of the super-rich have more than doubled, while the income of a typical US household has fallen by more than $5,000. The bank bailout was followed by more then $2 trillion in budget cuts and the layoff of more than half a million government employees.

Geithner’s memoir documents his emergence as the leading spokesman for the banks and financial interests within the Federal Reserve and the Obama administration. In every major policy debate, he directly took the side of the banks, to the point where even White House economic adviser and former Treasury Secretary Lawrence Summers—one of the figures most closely associated with financial deregulation—accused him of being “too cozy” with banking interests.

Throughout the 2008 crash and subsequent bailouts, Geithner served as a political whip and enforcer, a backstage operator working to maximise the bankers’ profits, cover their failed investments, and shield them from prosecution and accountability for their crimes.

The book, and indeed Geithner’s whole career, is a testament to the corruption of the American political system: its leading figures’ contempt for democracy and the popular will and, their hatred of equality. The real decisions are made in the background.

Instead of regulating derivatives, Geithner worked to expand, systematise and computerise their use. This was the goal of a 2005 meeting with the leading dealers of derivatives, to whom he refers in the book as “the Fourteen Families.”

As a result of his work with the “Fourteen Families,” Geithner boasts, “the backlog of unconfirmed credit derivatives had been reduced by 92pc, even though the volume had tripled. Electronic processing of equity derivatives had increased from 34 to 94pc.”

The deregulation of the financial industry, in which Geithner, Rubin and Summers played a leading role, allowed the banks, with the knowledge of regulators, to offload semi-worthless subprime home loans onto global investors by packaging them into mortgage-backed securities and collateralised debt obligations. This gigantic Ponzi scheme turned the market for home loans into a racket. It could continue to generate huge profits only as long as home prices continued to rise.

But more and more people were buying homes with loans they could not afford. When home prices began to decline, the entire financial edifice collapsed, triggering the 2008 crash.

Once the crisis erupted, Geithner took the tack that it “was not the time to focus on punishing the arsonists. It was the time to focus on putting out the fire.”

There was, as he put it, “intense pressure on us to punish the Wall Street gamblers who had gotten us into this mess—to nationalise or liquidate floundering firms, or force bondholders to accept ‘haircuts’ rather than the face value of their bonds.”

Geithner relentlessly fought against such positions, and Obama took Geithner’s side in every case.

Throughout the book, Geithner seeks to present himself as an impartial technocrat and pragmatist, taking the steps necessary to save the financial system with no regard to ‘politics.’ He claims that the course of action he took was the only way to prevent a new depression. In fact, Geithner had a well worked-out and consistent line on how to handle the bank bailout, from which he and the Obama administration did not depart.

• There would be no ‘haircuts’ for bank creditors: debts of bailed-out companies would be paid in full at taxpayer expense.

This was most notable in the bailout of the credit insurer American International Group (AIG), where the insurer’s debts were paid one hundred cents on the dollar, with Goldman Sachs being the largest beneficiary of a $200 billion handout from the government.

• There would be no meaningful restrictions on executive pay.

At Geithner’s insistence, the White House allowed $165 million in bonuses to be paid to employees at AIG’s Financial Products unit only a week after the company received an additional $30 billion in bailout funds. “Let me get this straight,” Geithner recalls Obama saying. “We’re going to pay bonuses to the very people who caused all this damage to the financial system?” “Yeah, basically,” replied Geithner.

And that was that. The Obama administration made sure that a bill to tax the AIG bonuses at 90pc which passed in the House of Represen­tatives did not make it to the Senate.

• Bailed-out companies would not be nationalised.

At Geithner’s insistence, the White House had financial regulators ‘sign in blood,’ as he put it, a statement that “The strong presumption… is that banks should remain in private hands.”

• CEOs at bailed-out banks would not be replaced, much less prosecuted.

Geithner was adamant that the financial institutions that received government capital retain the leaderships that ran the firms into the ground. Prosecuting executives was likewise out of the question. Geithner writes that, “the financial activities most responsible for the crisis weren’t illegal, however unethical or dumb they may have been.”

• There would be no substantive assistance to borrowers.

Geithner fought against forcing banks to reduce loan principals for mortgage borrowers falling behind on their payments. Instead, the Obama administration’s housing assistance programme merely had banks voluntarily lower borrowers’ monthly payments. As a result, the homeowners help programme was an empty shell.

So adamant was Geithner in upholding these principles that he clashed with other dedicated defenders of Wall Street in Obama’s economic team, including his mentor, Lawrence Summers, who wanted to impose ‘haircuts, on the creditors of bailed-out firms, carry out some nationalisations, and replace executives.

Geithner declares that he did not share Summers’s view that “we could fashion a crisis response that was both effective and politically popular.” He notes that in the administration’s “internal strategy discussions, some participants—at times including Larry [Summers]… suggested that widespread nationalisation was inevitable and even necessary. Nationalisation was a threatening word for investors in a market economy, implying that shareholders could be wiped out, creditors could be haircut, and politicians could be taking control of private firms.”

The book also sheds light on the demise of Lehman Brothers, which Treasury and the Fed allowed to collapse for reasons that have never been coherently explained in official accounts.

Geithner presents at least three reasons for letting Lehman collapse: that the White House would not allow the Federal Reserve to bail out Lehman, that British regulators stopped a buyout deal that would have averted bankruptcy, and that Lehman was in a fundamentally worse position than either Bear Stearns, which was purchased by JPMorgan Chase in March, 2008 with a $30 billion government subsidy, or AIG, which was bailed out the day after Lehman collapsed.

Geithner then proceeds to suggest, in a backhanded fashion, that Lehman’s demise created the political climate for the ensuing bailout of the whole financial system.

He writes: “Even in a world where we somehow rescued Lehman, and then still went ahead and rescued AIG, we would not have eliminated the fundamental factors driving the crisis. The economy was collapsing, and the financial system would have kept lurching toward disaster —undercapitalised, overleveraged, still burdened by mortgage assets the markets wouldn’t touch, still under threat of a broader run. It took the fall of Lehman and the impending collapse of AIG to persuade President Bush and Hank [Paulson] to seek legislative authority to try to repair the entire system.”—Courtesy: WSWS

Published in Dawn, Economic & Business, June 23rd, 2014