Charting the background to the financial crisis - Part 2. The de-regulatory mania!

I have received such an enthusiastic response to my recent blog on charting the background to the financial crisis, so I thought I would expand the context and look at the failure of the regulatory process to prevent such a series of mishaps.

The Global Financial Crisis (GFC), or the second "Great Recession", is considered by many to be the worst financial crisis since the Great Depression of the 1930s. It began in the United States and has resulted in the collapse of large financial institutions, the enforced bailout of banks by national governments and downturns in stock markets around the world. In many areas, the housing market has also suffered. It contributed to the failure of key businesses, declines in consumer wealth estimated in trillions of U.S Dollars and a significant decline in economic activity, leading to a severe Global Economic Recession in 2008, from which we have not yet  shown any sign of recovering.

The financial crisis was triggered by a complex interplay of corrupted valuations and massive liquidity problems in the U.S banking system in 2008. The bursting of the U.S. housing bubble, which peaked in 2007, caused the values of securities tied to U.S. house pricing to plummet, damaging financial institutions globally. Questions regarding bank solvency, declines in credit availability and damaged investor confidence had an impact on global stock markets, where securities suffered large losses during 2008 and early 2009. Economies worldwide slowed during this period, as credit tightened and international trade declined. Governments and central banks responded with unprecedented fiscal stimulus expansion and institutional bailouts.

The questions which must underlie these bald statements of fact ask for the reasons why the international banking system had been allowed to become so vulnerable to economic downturns. We were all used to hearing about the efficiency and effectiveness of our financial regulators, weren't we, those men and women who get paid significant salaries to regulate the activities of the financial sector, so what were they doing when the brown stuff arrived and the fan got switched on?

I my last blog, I looked at the impacts on the City  of London by the policies of de-regulation in the financial sector introduced by Margaret Thatcher, as part of her attempts to re-engineer the dismantling of Socialism, and the creation of an 'equity-owning democracy'. Thatcher's vision was simple. If she could make everyone a shareholder, a mini-capitalist, by selling off vast swathes of formerly nationalised industries, by selling them their council houses, and by opening up the hitherto fiercely protected London market to international competition and foreign capital flows, she believed that they would all begin to benefit from the amount of money that would thereby be released, which would, in turn, discourage the new bourgeoisie from wanting to fall back into the arms of the old Labour barons and their Trade Union satraps.

We can look at that failure another time, when I will describe how an army of US mafia-backed share dealers flooded into London to part the unwary first-time share purchasers from their new acquisitions, but we must first examine the more fundamental underlying factors that led to the dismantling of the most important regulatory constraints on arrogance, ignorance and greed! (Many apologies to Show of Hands)!

"Greed is all right, by the way. I want you to know that. I think greed is healthy. You can be greedy and still feel good about yourself."

These words were spoken by Ivan Boesky, an American arbitrageur, in a speech he gave to a student audience at an American university back in the 1980's. Boesky would later be unmasked as a leading insider dealer and who was sent to prison for his criminal actions. The important thing is that Boesky enunciated what an awful lot of people in the financial sector also believed and practised.

In order for the greed factor to be fulfilled, the financial sector had to engineer a repeal of a lot of the laws that constrained dishonest and egregious behaviour in the financial markets. Inevitably, these moves were led by America, but they would soon have an immense impact upon the rest of the world and particularly in London.

Following the Wall Street Crash in 1929, and the era of Depression which followed, America watched as her once vibrant, but wholly unregulated markets wallowed in recession and bankruptcy. When Roosevelt was elected President, he set about immediately introducing the era of 'The New Deal' which sought to reinstate the American business and work ethic, which would enable Americans to find work, which would generate income and pay tax revenues, and he realised that one of the most vital requirements was the ability to control the financial markets, which had been allowed to get completely out of hand. He introduced a whole series of regulatory reforms for the banking sector, the securities sector, and set about reconstructing a series of market regulations whose aim was to require full disclosure of all salient facts, coupled with severe penalties for any breaches of those laws. At the same time, he did not seek to prevent individual investors from making fools of themselves, and he left alone any form of protectionist attempts to define what could and could not be sold in the markets. As long as the company concerned told investors what they intended to do with their money in clear and concise terms, they could offer virtually whatever scheme they liked.

In banking, the primary principle was enunciated as 'keep the depositors' money completely segregated from the activities of the investment bankers, and this was ensured by the terms of the Glass-Steagall Act, which maintained a rigid separation of function between retail and wholesale banks.

In the years that followed, the greed merchants began to chip away at these protections. This is a short time line of their actions.

Many critics have argued that the regulatory framework did not keep pace with financial innovation, such as the increasing importance of the shadow banking systems, derivatives and off-balance sheet financing. A recent OECD study in 2011 suggested that bank regulation based on the Basel accords encourages unconventional business practices and contributed to or even reinforced the financial crisis. In other cases, laws were changed or enforcement weakened in parts of the financial system. Key examples include:

• The Depository Institutions Deregulation and Monetary Control Act 1980 (DIDMCA) which phased out a number of restrictions on banks' financial practices, broadened their lending powers, and raised the deposit insurance limit from $40,000 to $100,000 (raising the problem of moral hazard), otherwise defined as a situation where there is a tendency to take undue risks because the costs are not borne by the party taking the risk. Banks rushed into real estate lending, speculative lending, and other ventures just as the economy soured.
• In October 1982, U.S. President Ronald Reagan signed into law the Garn-St.Germain Depository Institutions Act, which provided for adjustable rate mortgage loans, began the process of banking deregulation, and contributed to the savings and loans crisis of the late 1980s/early 1990s.
• In November 1999, U.S. President Bill Clinton signed into law the Gramm-Leach-Bliley Act, which repealed part of the Glass-Steagall Act of 1933. This repeal has been criticized for reducing the separation between commercial or retail banks (which traditionally had fiscally conservative policies) and investment banks (which had a more risk-taking culture).
• In 2004, the U.S. Securities Exchange Commission relaxed the net capital rule, which enabled investment banks to substantially increase the level of debt they were taking on, fuelling the growth in mortgage-backed securities supporting subprime mortgages. The SEC has conceded that self-regulation of investment banks contributed to the crisis. Affordable home ownership, especially for African-American and Hispanic borrowers, who had traditionally found it difficult and expensive to get a mortgage, was a key policy goal of the Clinton administration and one enthusiastically carried forward by President Bush. A laudable aim - but there is evidence that it led to severe political pressure on mortgage providers to lower their lending standards, spawning the now infamous "NINJA" loans for borrowers with "No Income, no Job or Assets."
• The mortgage finance company Fannie Mae was also being urged to fulfil its mission of helping low income homeowners by buying up more and more risky loans. This political pressure, as well as rock-bottom interest rates and unscrupulous lending practices, helped to inflate the sub-prime housing bubble.
• Financial institutions in the shadow banking system are not subject to the same regulation as depository banks, allowing them to assume additional debt obligations relative to their financial cushion or capital base. This was the case despite the Long Term Capital Management debacle in 1998, where a highly-leveraged shadow institution failed with systemic implications.
• Shadow banking is the collection of financial entities, infrastructure and practices which support financial transactions that occur beyond the reach of existing state sanctioned monitoring and regulation. It includes entities such as hedge-funds, money-market funds and structured investment vehicles (SIV). Investment banks may conduct much of their business in the shadow banking system (SBS), but they are not SBS institutions themselves.

·         The core activities of investment banks are subject to regulation and monitoring by central banks and other government institutions - but it has been common practice for investment banks to conduct many of their transactions in ways that don't show up on their conventional balance sheet accounting and so are not visible to regulators or unsophisticated investors. For example, prior to the financial crisis, investment banks financed mortgages through off-balance sheet securitisations and hedged risk through off-balance sheet credit default swaps.

·         The volume of transactions in the shadow banking system grew dramatically after the year 2000. By late 2007 the size of the SBS in the U.S. exceeded $10 trillion. By late 2009 the United States SBS had shrunk to under $6 trillion due to increased regulation, changes in business practice, and pressure from investors who in some cases no longer wanted their funds to be used in the shadow banking system. Globally, a study of the 11 largest national shadow banking systems found that they totalled to $50,000bn in 2007, fell to $47,000bn in 2008 but by late 2011 had climbed to $51,000bn, just over its estimated size before the crisis. Overall, the world wide SBS totalled to about $60 trillion as of late 2011.

• Regulators and accounting standard-setters allowed depository banks such as Citigroup to move significant amounts of assets and liabilities off-balance sheet into complex legal entities called structured investment vehicles, masking the weakness of the capital base of the firm or degree of leverage or risk taken. One news agency estimated that the top four U.S. banks had to return between $500 billion and $1 trillion to their balance sheets during 2009. This increased uncertainty during the crisis regarding the financial position of the major banks. Off-balance sheet entities were also used by Enron as part of the scandal that brought down that company in 2001.
• As early as 1997, Federal Reserve Chairman Alan Greenspan fought to keep the derivatives market unregulated. With the advice of the President's Working Group on Financial Markets, the U.S. Congress and President allowed the self-regulation of the over-the counter (OTC) derivatives market when they enacted the Commodity Futures Modernisation Act, 2000. Derivatives such as credit default swaps (CDS) are used to hedge or speculate against particular credit risks. The volume of CDS outstanding increased 100-fold from 1998 to 2008, with estimates of the debt covered by CDS contracts, as of November 2008, ranging from US$33 to $47 trillion. Total (OTC) derivative notional value rose to $683 trillion by June 2008. Warren Buffet famously referred to derivatives as "financial weapons of mass destruction" as early as 2003.

'...Consider the terrible consequences of the 'anything goes' Bush Administration, whose irresponsible non-regulation of the financial institutions has led to this crisis...'

Those words, from the Democratic Speaker of the House of Representatives Nancy Pelosi, sum up the charge against George W Bush (no economist he) - that in the eight years of his presidency he actively pursued policies of deregulation which caused the biggest financial and economic meltdown since the Great Depression. It is indeed a grim legacy for President Bush to contemplate in retirement. He presided over a widespread failure of regulation and, the US authorities did little to prevent the sale of millions of mortgages to people who could never afford them. They failed to police the market in mortgage-backed securities which has now collapsed with such devastating consequences. And credit default swaps, those multi-billion-dollar bets on other people going bust, went virtually unregulated, but I have tried to show in this timeline that the rot had set in long before Bush was elected, although he undoubtedly exacerbated the process.

Remember, all those US banking institutions had branches in the now de-regulated London market, and everyone knew the levels of salaries the US banks were paying, and more importantly, the level of bonuses. No-one wanted to be left behind in this Lemming-like rush to the financial cliff edge, and the impact of all these de-regulatory changes were making themselves felt in London. This is why Gordon Brown was so willing to be persuaded to soft-pedal on the regulatory requirements for British banks, because the crooked bankers were telling him that if they didn't offer the same level of financial services, then business would drift to the US banks; and if they didn't pay the same salaries and bonuses, then their staff would follow suit.

It all became one vast self-fulfilling prophecy, with Brown and Balls presiding over a market of fantasy finance, while the investment bankers filled their boots, put it up their nose or down their throats.

And when it all went tits-up, dear reader, you and I were left to bail out the whole rotten edifice with our hard-earned tax-payer's money, just so that the fat-cats could continue to live their worthless lives in a manner to which they had long been accustomed. This is why your savings cannot even keep pace with inflation because interest rates are so low in an attempt to encourage lending, which the banks are unwilling to do, but your credit card interest rates are at usurious levels. This is why your business cannot get a loan; this is why your children will probably never be able to afford a house in the town in which they grew up; this is why any pension you might hope to realise is worth less every day as the Government prints more and more money to push into these worthless banks; and this is why you should never, ever be willing, ever again to believe a thing these institutions tell you, because they are institutional liars and scoundrels and grow more and more like organised crime families every day.

Charting the background to the financial crisis - How on earth did we get in this mess?

Back in 1987, I published my first book entitled '...Too Good To Be True - How to survive in the Casino Economy...'

I had left the Metropolitan and City Police Company Fraud Department (The Fraud Squad) where I had been investigating a large number of investment-related frauds in both the securities and the derivatives markets, and I had become increasingly concerned about the level of ignorance that existed among the investing public, both as to the way in which the financial market worked, and the way in which they wanted to invest their capital. Having investigated a large number of losses caused by greed, ignorance and fear, which I would later come to call the 'Fraudsters Credo', I hoped to write a cautionary tale which might help first-time investors to avoid losing their shirts.

I was particularly concerned by the way in which the London Financial market was going to be revolutionised following the 'Big Bang' and the philosophical process of 'deregulation' which was about to be rolled out. This policy was being driven by political ambition and aspiration, it encompassed the concept of 'wider share ownership' which Margaret Thatcher and her political philosopher guru, Keith Joseph, believed would turn the British people into a nation of petty-bourgeois property owners, thus driving a nail into the cadaver of Socialism.

I recently returned to my book, and re-read it again 25 years later, and I found that a significant number of my predictions had come to pass!

A friend of mine who shares my interests in all things financial, and who writes his own excellent blog, recently asked me where I thought things had begun to go wrong for the British financial services industry and why we were suffering so badly.

I now have no hesitation in placing the cause for our woes firmly on the shoulders of the de-regulatory changes ushered in by the new financial revolution, and particularly in the way we adopted American market methods without invoking American financial regulatory controls at the same time.

I had previously studied financial regulation in America, spending time with the Securities Exchange Commission and the Commodity Futures Trading Commission, as well as having studied and observed Exchange regulatory methods in Philadelphia, Chicago and New York. I had witnessed at first hand the way in which the Americans imposed draconian levels of regulatory control on their markets; I learned about their genesis in the era of Roosevelt's 'New Deal' following the Wall Street Crash, ( something I think we are going to have to introduce in Europe before the end of this recession if we want to move forward in the future), and I was under no illusion that if free markets were to be allowed to operate in an unfettered manner, then they had to agree to strong regulatory controls on those activities which had the potential to cause most damage to the market itself.

So, at that time, there was a complete separation of retail banks from wholesale banks, enforced by the Glass-Steagall Act; there was strong regulation of Thrifts (the equivalent of Building Societies to you and me); there was strong regulation of market manipulative practices such as insider dealing, and taken more generally, the Americans imposed a heavy standard of market regulation, but allowed a significant degree of freedom of activity as long as it stayed within the boundaries of the regulatory sphere. That is not to say they didn't have problems, of course they did, but they did not appear to be of the kind from which we suffered and were suffering more and more.

So when we in the UK moved to a greater degree of de-regulation of the London market, and we allowed foreign financial institutions to enter our markets and compete on equal terms with British financial houses, becoming members of the Stock Exchange, freeing the movement of international capital, abolishing exchange and currency restraints, we may have opened London up to take her place in a 24/7 international free market, but we also opened the floodgates to every scumbag, loblolly man, snake-oil salesman, and funny-money merchant under the sun. What was worse, we opened ourselves up to all the worst activities prevalent in an American-style market, but without the concomitant regulatory constraints.

When I was researching my first book, I was privileged to interview a number of leading commentators from both sides of the intellectual divide. Among them was Sir Peter Tapsell, (now the 'Father of the House of Commons') who was also a leading City stockbroker who specialised in Gilts. He shared a number of insights with me, which have since proved to be remarkably percipient. Among his concerns was the degree to which the City of the future would be driven by dangerous conflicts of interest, a temptation which had been tempered by the earlier structure of the dealing market where the two sides of the contracting process, the brokers and the jobbers were separate and  distinct functions with different ways of remuneration, thus mitigating the temptation to indulge in conflicts of interests.

The American required a segregation of client functions within regulated firms and where client interests were breached, the firms concerned faced huge fines and significant regulatory penalties. In the UK, attempts to impose what became known as 'Chinese Walls' between different departments of the same firm were routinely ignored. This failure to regulate this market aspect has led to massive insider dealing activities. Sir Peter said to me; 'I do not know why Chinese Walls are so called but I have visited the Great Wall of China. It has this characteristic. It has never kept anyone in or out,'

Following the changes brought about by the impact of Big Bang and de-regulation, the City of London was weakened immeasurably by the lack of regulatory constraints imposed. Instead of opting for an American-styled Regulatory Commission, the British model was to try and encourage a series of self-regulatory organisations (SROs) whose role would be to have responsibility for admitting their members, providing a set of rules by which they should operate, and then policing and enforcing them to ensure a satisfactory level of compliance. I have used the word 'policing' although that word was never ever used by anyone within the new regime and if you asked anyone about it, there would be a unanimous agreement that the compliance function was not there to 'police' its members activities. It was a concept which was considered to be anathema to financial practitioners and they would have none of it.

Even when I was in charge of the Investigatory Department of one of the SROs which regulated the activities of so-called financial intermediaries, my work and methods were criticised bitterly by our members because they felt I was adopting 'policing tactics' to uncover wrong-doing and criminality. It was while I was at FIMBRA as it was called, that I first became aware how little regulation was going to be properly applied. Even when I undertook a major investigation into the activities of one of the country's leading firms of intermediaries for egregious breaches of the client money rules, (the firm was depositing client's money on overnight deposit, and not paying for the securities and investments the clients thought they had bought, for a minimum of 6 months, before finally settling with the issuing houses). The money being generated by the interest there from belonged of course to the clients, but the intermediary firm kept it for themselves. When I investigated and proved how much was being unlawfully acquired from the clients, other members of the FIMBRA hierarchy burgled my office and leaked a copy of my report to the member, who began a press campaign saying how unfair it was that they were being singled out for investigation in this way.

The person who stole my report took the copy I had deliberately doctored and left for him to find, because I was certain that he was dumb enough to do such a thing, so that when the terms of the report were being discussed, later, it was the doctored report to which they referred. Even when I was able to prove what he had done, the FIMBRA Board did nothing about it.

The firm concerned is still in business by the way, and its former owner and my suspect is now a multi-millionaire.

So, we had a new market which was wide open for exploitation; we had a regulatory regime that had no intention of imposing any kind of meaningful controls over the actions of its members; and to compound the problem, we were faced by the actions of a group of men who became known as the 'arbitrageurs' or 'greenmailers', whose actions were causing mayhem in the traded securities markets.

These men, led by people like Ivan Boesky, Denis Levene, Michael Milken, Sir James Goldsmith, and a host of others were making aggressive bids to take-over large companies, with the aim of 'releasing shareholder value'. They were buying up the shares of companies whole balance sheet value outweighed their share value. These were long-established and good companies that played an important role in the community life of the towns in which they were situated. The 'arbs' bought them up with the aim of stripping out all the assets, selling them off at a profit, keeping the cash and jettisoning the shell of the company. In this way, thousands of working men and women were thrown on the industrial scrap heap, while the 'arbs' moved on to new targets. Sometimes, the mere threat of these men's activities would be enough for the company concerned to pay them off, hence the word 'greenmail', blackmail with greenbacks!

The direct impact of this activity which was funded by the aggressive use of a new derivative-inspired financial product which became widely known as a 'junk bond', led to companies everywhere divesting themselves of spare capital in order to reduce their attractiveness to the predators. The immediate effect was to lead to a policy of short-term thinking and focus on immediate returns, ensuring that revenues were maintained while divesting every last penny of profit in the form of dividends to shareholders. What became known as 'optimising shareholder value' became instead a gadarene rush to quick profits, fast returns, and short-term gains, which had to be fuelled by offers of enhanced bonuses in order to stimulate the growth demands.

Thus the bonus culture was born, and banks and financial institutions began to focus more intently on the generation of quick profits, enhanced revenues, and self-generated returns in the form of financial gambling. The fact that it was called 'proprietary trading' did not alter the fact that banks found it easier, and more profitable to gamble with their money in the exponentially-growing market for derivatives, swaps, options, and other financial alchemy, than they could by traditional banking practices.

And when after the revocation of the Glass-Steagall Act, they found that they could amalgamate their actions, so that both wholesale and retail arms fell under the same roof, opening up the access to client's deposits, and subject to the same feeble regulatory restraints, then the market was wide open for every kind of skulduggery you can name.

The Reagan-inspired de-regulation of the Savings and Loan industry, coupled with the emergence of securitised and thus tradable baskets of mortgage instruments, where mortgages could be created, sold on, stripped, and re-packaged in an ever-upward spiralling tsunami of debt, meant that no-one had any ultimate responsibility for their outcome. Pay brokers huge bonuses for selling more and more mortgages; encourage people who didn't have enough money to feed their children properly to buy houses they couldn't afford, and underpin the whole damn thing by taxpayer's money, and you have a recipe for a major disaster.

When you have banks which by now have become part and parcel of each other's debts, and who hold each other's obligations on a global basis, and you can begin to perceive the likelihood of a global financial meltdown.

We are now paying for that madness, and as I have said before, we shall go on paying for long time to come.

It seems to me the answer is very simple.

People who deal in money are motivated by nothing more than greed. The more they have, the more they want. The more they want, the more they will be tempted to cut corners to get it. To keep on earning the profits they require to satisfy their short-term ambitions and shareholder demands, they must engage in practices which will impact others unfairly and to their financial detriment. For every winner there has to be a loser. We cannot expect them to regulate themselves in such a way that they turn aside from these dishonest and unfair practices, they have to be forced into line, and the only way we will achieve that is through good and effective regulations, properly applied, with penalties which mean something and hurt if they have to be applied.

Sir Peter Tapsell reviewed for me the future for financial regulation as he saw it coming, he said this. Remember, this was in 1986, so applaud him for his percipience. He said;

'...Whether in the long run the general community will be well served by having these huge financial conglomerates, where you get banks and merchant banks and foreign banks all mixed in together, with a British stock-broking firm, I very much doubt. I think it's going to be extremely difficult to regulate. I think that the authority of the Bank of England will be greatly undermined and I think a great many of the people who will be operating in the future ...will have different traditions from those in which my generation has grown up and I think you will get a lot of scandals as a result of moving into internationalisation. I fear we shall lurch from scandal to scandal, and when these scandals break, the Government will be held responsible for them...'

Anybody want to say he was wrong?

Bank of England Governor finally 'fesses up'

"...If you owe a bank £1,000, they can determine your every move, because they can control your life. If you owe a bank £100 million, you own the bank, and they will leave you alone..."

An old con-man once taught me this adage when I was a young detective at the Metropolitan Police Fraud Squad.

What is true with con-men is true also of the banks themselves. When the tax-payer is underwriting your liabilities to your depositors, you can throw caution to the winds, because if you end up spending more than you own, the Government will be forced to step in and bail you out sooner than have to pay all the depositor's losses, while watching you go to the wall.

That is the bottom line in banking, and the banks always knew it.

Oh, they might like to trot out the bromides about being careful and prudent, and employing highly-trained people who need special consideration when it comes to remuneration, but the reality is that when someone else is footing the bill, banks will throw money around like there is no tomorrow.

And, in the case of the vast majority of British banks, they truly did believe there would be no tomorrow.

Now, Sir Mervyn King, Grand Panjandrum at the Bank of England, and someone who should have tried harder to make his voice heard at the salient time, has now come clean about the financial crisis, and he has laid the blame fairly and squarely on the banks for the recession. He stresses that it is now absolutely imperative that there is a separation of retail banking from 'risky investment banking', in order to make the economy safe.

He admits that the Bank of England should have shouted louder to warn about the risks, but they didn't. Why not? Because that's not the way financial regulation is carried out in this country. The British tend to use academics and accountants when it comes to financial regulation. They may take on a few superannuated bankers to advise them on practical issues, but by and large, the men and women who oversee the actions of the men and women with their hands on the till (and in the till half the time), are theoreticians.

King studied at Cambridge and Harvard before becoming an academic. He is a very clever man and no doubt a fine theoretical economist, but he has never worked in a bank at the sharp end. He has never known what it is like to be bullied by some sales manager into making credit card sales, or selling PPI insurance to gullible customers who merely wanted a small bridging loan.

Banks on the other hand are capitalists, red in tooth and claw. They are in the business of making money, and in the age of modern banking, they don't really care how they do it.                                               

When it became clear that the Government would underwrite a significant proportion of depositor's money, the banks no longer needed to operate with any degree of caution anymore. In addition, they had also discovered a wonderful new way of limiting their own downside to lending money, it was called 'securitisation'.

Banks used to have to be wary about the people to whom they lent money, in case the debt wasn't repaid, but with the advent of securitisation, and the ability to treat debts as investment products, the prudency problem was resolved. All that was needed was a steady stream of mugs who needed to borrow money, and you were in business.

Having made a loan to someone you had never met before and about whom you knew nothing, you then sold them an insurance policy to underwrite their indebtedness, just in case they couldn't repay the loan. You made it easy because you made it a single premium policy and wrapped it all up in the cost of the loan package. You were careful not to tell them that they wouldn't be able to activate the policy for fear they might not want it, and in many cases, you told them it was a condition of the loan anyway.

Then, having made the loan, you then packaged it up and sold it on to some other institution, being paid back the cost of the loan you had just made. You made a profit from the sale of the dodgy insurance policy you had just foisted on the mug, so you were quids in.

The second institution then packaged up a load of similar loans and mortgages, and sold them on. It became a vast game of 'pass the parcel'. Everybody was making loads'a money because the banks were paying good commissions and bonuses for making these loans, because no-one gave a damn whether they were ever re-paid or not! Whys should they, they had got them off their book?

An so the merry-go-round went on and on, the level of personal indebtedness rose and rose, people were leveraging their houses for holidays, cars, school fees, credit card bills, and all the time the banks were lending and making the level of debt higher and higher.  Gordon Brown and his little mate, Ed Balls, were happy watching the banks paying taxes on their earnings and profits (little realising how little they were actually paying in reality, and how much was being syphoned off offshore).

The Government even went so far as to instruct the financial regulator, the FSA, to soft-pedal on the regulatory line, requiring a 'soft-touch' approach, and all the while, the banks were lending more and more, and making more and more bonuses, secure in the belief that tomorrow would never come, and even if it did, they were protected, because if they showed any signs of collapse, the Government would be forced to step in and save them, or face ignominy for their lack of foresight and absence of prudence.

And all the while, the Bank of England were sitting on the sidelines observing this upward spiral of debt, and doing and saying nothing.

And that, dear reader, is why it all went pear-shaped. No-one wanted to be the boy who pointed out that the Emperor had no clothes on, no-one wanted to be the one to call a halt to the giddy gadarene rush to bonuses and false profits. No-one had the guts to tell Gordon Brown that his policies were flawed and that it would all end in failure. A few shrewd businessmen looked at the figures and realised it couldn't last and sold up and got into cash before it was too late, but the vast majority got burned.

And at the end, the tax-payer had to bail the whole rotten fucking mess out! And we are still paying, and we will go on paying for a very long time to come, and our children's futures have been mortgaged up to the hilt to pay for this mess, and I doubt whether we will see the end of this recession for the next twenty years. I think we will have to get used to a reduced standard of living and an austere environment for a very long time to come.

The one group of people who will not feel the pinch is the bankers, on that you may depend. And that is why I think Mervyn King should be put in the pillory outside the Bank of England, because he had the power to do something about this, he had the staff to crunch the numbers, and he could have done something, anything to voice his concern. But like the good, safe pair of hands that he is, he murmured here, he quietly opined there, he let it be known in the proper quarter that he was making a sermon, and no-one took any damned notice of him!

What is the point of a Governor of the Bank of England if when he speaks, no-one listens?

London - The Money Laundering Capital of the World

On the Andrew Marr programme on 23rd March 2012, the writer Max Hastings reported a conversation he had had with a ' senior central banker' recently in which he had been told that today, London is considered to be the money laundering capital of the world. Max Hastings was commenting on the recent shooting of a Russian banker in London, but his piece was all the more relevant not only because Russia is now said to be controlled by a 'gangster culture', but because of his report of the large number of Russian, so-called businessmen (among the 200,000 or so Russians now living in the UK), who have moved to this country to carry on their activities here. A lot of these people seem to carry their criminal baggage with them, but there appears to be an apparent disregard within Government for any concern that London may have become the leading business centre for the world's funny money.

How can we have got to this state of affairs, when, on paper, we have some of the strictest anti-money laundering legislation in the world? The answer, I believe, lies in the fact that despite our many laws and regulations, they have never been effectively enforced by the financial regulators, and the banks and financial institutions appear to know that as long as they continue to pay lip service to the rules, they will not be required to implement them too effectively.

Only this year has the FSA managed to bring a money laundering charge against a financier, and he is a very small fish indeed. In an insider trading case against Richard Anthony Joseph, it has added charges of money laundering. It has charged him with eight counts of insider dealing and two counts of money laundering.

The charges follow on from the arrest of Joseph on 19 May 2010. The interest in the case is not in the insider dealing, per se but in the addition of charges of money laundering. Although the FSA has had the power to prosecute this offence for some time, it has rarely, if ever, used it.

There is a world of difference between having rules which are meant to be obeyed, and doing everything within one's power to avoid providing any meaningful form of compliance with the rules. The purpose of the regulations is to make it as difficult as possible for people who have acquired their money illicitly, anywhere in the world, to find a safe haven in the international banking system. So there are rules and regulations which impose a burden on banks and financial institutions requiring them to ensure that before they accept money from a client, that they have a clear picture of its provenance, that they know as much as possible about their clients, their businesses, the sources of their funds, and if they have held high political office, to make sufficient enquiries to ensure that the monies being deposited are not in fact the proceeds of international aid payments which have been stolen from the country's Treasury.

These rules are routinely flouted by the financial institutions.

They will say that they have large compliance departments, with many staff dedicated to ensuring that such situations do not arise, and in many senses, they are telling the truth. The problem is that they are not telling the whole truth. In 2011, The Financial Services Authority conducted an investigation into London banks and found that three quarters of them were not doing enough to verify the sources of some customers’ wealth. This probe shed some light on a system that is failing to stop the flow of corrupt money, a problem that continues to have disastrous consequences for millions of people. Predictably, the regulator did not name the banks that had ignored the rules, nor gave any indication they would do so.

Again, predictably, the FSA failed to take any public action against any of these institutions for this egregious flouting of the rules. They could have brought prosecutions against them for failing to implement the relevant regulations, but they did not do so. This is so typical of the regulatory response to flagrant wrong-doing in our banking sector, and it is looked upon by the banks and their employees as a sign of immense weakness, which they feel able to exploit at every opportunity.

The compliance regime is undermined by the calibre and quality of people employed by the banks to implement the anti-money laundering regulations. Repeatedly, in discussions with recruitment consultants I am told that the kind of person being sought to fill a particular role is a 'low-level' employee with minimal length of service. They are looking for someone with a couple of years' experience who might be capable of filling a new position, but they don't want to pay any real money for anyone with any skills, real experience, or more importantly, the sense of independent knowledge to be able to stand up to the commercial people and say, 'you can't do that'!

You only have to look at the salary levels paid to compliance officers and then compare them to the salaries paid to traders and business getters, to see the huge discrepancies in functional importance the banks place on compliance. At a Group Compliance Director level, you may be seeing 6 figure salaries, but these are rare. The vast number of employees in this function are being paid peanuts compared to the business side of the organisation.

Another problem with the British mentality towards compliance is the over-emphasis on 'process' as compared with 'effective enforcement'. The compliance function is awash with processes and procedures, they have manuals full of them, but all they are doing is seeking to demonstrate to any regulator that if asked, they have a process to comply. Any process, which is not rigorously tested and then analysed by a skilled and experienced person is worthless. I once did a pre-Arrow review for a major global bank of their anti-money laundering function. They had processes and procedures written down in manuals, provided at vast expense by one of the Big 4 consultants. When I tested how the staff were applying these processes, I found a huge lacuna in their areas of knowledge. To make matters worse, they had no-one with any 'grey hair' sitting in the middle of the web, holding all the ends of the processes, in order to ensure that they were being effectively implemented.

If we have a regulatory agency who repeatedly refuses to enforce the anti-money laundering regulations, and is sufficiently inept to accept that the level of compliance being provided by the banks and other financial institutions can be performed using a 'tick box' mentality, then we have the answer to why London is now seen as the money laundering capital of the world.

This is so typical of the British attitude towards any kind of financial regulation. It is as if Governments of whichever persuasion, have swallowed the nostrum that if they are seen to be heavy-handed towards the banks, then this will in some way deprive the UK of some hidden special advantage. So, we have regulations which only get enforced at the margins, and which the major players ignore at whim. Yes, from time to time the regulators do seek to fine the banks for the worst examples of their egregious behaviour, but fining a bank is nothing more than an HP commitment as far as the bank is concerned. All it does is dilute their profitability which is reflected in even less tax being paid on their profits. If they are not named and shamed, as is routinely the case, then there is no reputational risk attached to the penalty either, so there is no stigma applied.

As with so many other areas of financial wrong-doing, it would appear that the banks have seen off the regulators yet again, and the only loser would appear to be the UK financial services' arena which is now, apparently, the venue of choice for every international crook's dirty money. We must prepare ourselves to witness more Russian-style assassination attempts on our streets, as the organised criminals who deposit their money with the even better organised criminals in the banking sector, continue to see London as the money laundry of choice!