Back in June, Portfolio.com released tournament brackets where users can vote on who killed the economy. Even though blame can’t rest with a single person or entity, this is a fun tool that’s still on their most-read list. Interestingly, former senator and current UBS investment banking executive Phil Gramm was not even on the list. Gramm has been a key player in the credit crisis as the timeline below demonstrates:
In 1999, Gramm was a lead sponsor of the Gramm-Leach-Bliley Act which paved the way for commercial and investment banks to consolidate (by repealing the Glass-Steagall Act that kept commercial and investment banks apart).
In 2000, UBS bought brokerage giant Paine Webber to establish its presence in the U.S., and was a pioneer in the post-Glass Steagall era by combining banking/wealth management, investment management and investment banking under one roof.
In December 2000, in the wake of the Supreme Court decision to make Bush president over Gore, Gramm added a 262 page “CFTC modernization” amendment to an existing spending bill that exempted energy trading from regulation which lead to the Enron debacle, and also exempted credit default swaps from regulation which is an underlying cause of the current crisis.
Two years later, Gramm became the vice chairman of UBS Investment Bank. On record, Gramm and two other lobbyists received $750,000 during 2005 and 2006 to lobby Congress on behalf of UBS to relax subprime lending consumer protections.
Did all this deregulation in residential mortgages work out? The $38+ billion in writedowns at UBS since then suggest maybe not.
But worse yet is the credit default swap situation that’s far from unwinding, and has taken down all but two of the major independent investment banks. It’s estimated that there’s about $62 trillion (four times larger than the stock market) in credit default insurance that’s been written, but since the market is unregulated, nobody really knows. This is one of the key reasons firms like AIG and Bear Stearns before it were considered too big to fail.
As things transpire, the prevailing message is quickly changing to say independent investment banks can’t survive, and the model must look more like commercial banks with investment banking divisions that get much more scrutiny and can’t take massive leveraged positions.
This seems inevitable at this point, but the big question is: if credit derivatives like CDSs were regulated in the first place, could investment banks have gotten into this much trouble so as to wipe themselves out?
Unfortunately, it doesn’t matter now. Because the new message among Gramm and fellow deregulation crusaders will be: investment banks did this to themselves and Gramm-Leach-Bliley was a prescient move to save investment banks from themselves. If ever pressed (which is only a matter of time), Gramm will say this and get away with it even though it is he who took a lead role in making credit derivatives utterly unregulated which lead to the investment banking meltdown (not to mention the Enron meltdown).
Why is this all even relevant? If McCain won the presidency, Gramm seems likely to be on McCain’s short list for Treasury Secretary. He’s certainly got the resume that they can make good headlines out of: former senator, senior banking executive, economics professor.
Gramm is certainly smart enough to navigate this chaotic environment and perhaps rise to the top of it. But what then? More privatized gains and socialized losses?