Banks at Risk: Global Best Practices in an Age of Turbulence

“The financial crisis of 2008 was a beauty pageant of fraud, failure, and forgiveness. Unrepentant bank honchos, hapless regulators, and toothless ratings agencies all sashayed down the glimmering runway, flashing their miserable wares. . . . Three years later, we have the same set of contestants, many of them rewarded for their perfidy.”

The financial crisis of 2008 was a beauty pageant of fraud, failure, and forgiveness. Unrepentant bank honchos, hapless regulators, and toothless ratings agencies all sashayed down the glimmering runway, flashing their miserable wares.

A few wastrels, apparently not too big to fail (Lehman, Washington Mutual), tumbled into the orchestra pit, destined to be picked over by the credit vultures.

Three years later, we have the same set of contestants, many of them rewarded for their perfidy. It’s only the rules of the game that need a slight adjustment—so sayeth our elected and credentialed sages.

If you subscribe to such a notion, Banks at Risk is a good starting point for figuring out what the new normal should be. This compendium of essays is written by people deep within the global financial system—not a household name among them—giving the anthology a certain wonkish patina.

The essays’ quality veers hither and yon. For example, poor translation or intentional obfuscation make the leadoff commentary by China’s top banking regulator Liu Mingkang unintelligible. Yet even many of the book’s English-speaking writers seem to be competing for the Alan Greenspan Opacity Award.

If there is one reason to get ahold of Banks at Risk, however, it’s Richard Kovacevich’s “Observations from the Epicenter.” Kovacevich, former chairman of Wells Fargo, began sounding the alarm about subprime mortgages as early as 2005. He lets no one off the hook, neither regulator nor banker; moreover, he isn’t particularly optimistic that all the bells and whistles hanging off the Dodd-Frank bill will do any good.

Kovacevich poses the key rhetorical question: “What regulatory authority did the New York Federal Reserve lack to rein in the risk of financial institutions like Citigroup?” The Fed was not powerless; they were the authorities. And who led the New York Fed during the era of synthetic, toxic security sales? Why, none other than our current Treasury Secretary, Timothy Geithner.

In fact, the impression Banks at Risk leaves is that those who regulate markets are from Venus, those who exploit them from Mars. The casino culture of Wall Street, the Bourse, and the City now attracts sharpies who can finesse every angle; prudence for them is the same as a mirror to Dracula. Our regulators, unfortunately, seem products of demure finishing schools.

If governments genuinely want to police the financial markets, they will need to take a page from law enforcement—the one about how to break up the Mafia: Do it with agents who come from the gangster’s neighborhood. In your regulators, you want the equivalent of those who picked the FBI rather than the Cosa Nostra to be their employer, but are still as tough as mobsters.

It won’t be easy to recruit such people. Wall Street is the big-money boulevard where, like a narco-state, anyone of substance seems to be on the take. In order for public service at the SEC or the Fed have any glamour, either we need to ramp up government enforcers’ salaries or bring back Glass-Steagall so that banks start to resemble what they used to be before the brokers and traders took over.

For all the talk about effective regulation, however, it will be the banks’ desire and ability to manage risk that save us from future crises; however, effective risk managers—like savvy regulators—are rare and inhabit the low end of the food chain in the political jungles of our financial lords. Books such as Nocera and McClean’s All the Devils Are Here provide chilling glimpses of the fate of those who tried to warn their bosses what was occurring in the mortgage and derivatives markets.

Yet bank lobbyists are quietly nursing loopholes in Dodd-Frank large enough to create the next catastrophe, including attempts to soften the very mortgage lending standards that brought the crisis on in the first place.

What Banks at Risk ultimately tells us is that all the regulation in the world will do nothing to prevent moral hazard. Yes, the politicians with their 1,500-page bills and vast new bureaucracies will crow, “This time it’s different,” but it’s already too late.

As you read this, schemes by the dozen are hatching in paneled conference rooms above West Street and Park Avenue—the very thoroughfares where Goldman Sachs and Citibank preside. There is much to fear as the masters of the universe smile upon the unwashed and new, exotic financial instruments are being readied for the runway.