Wall Street's Dirty Little Secret

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Richard Drew / AP Photo The biggest problem with 2009’s megabonuses is economic, not moral. Tunku Varadarajan on how Wall Street made money soaking savers and taxpayers, rather than adding value.

Bankers do not deserve bonuses this year, at least not in the Western world. And I don't say this from atop some moral or aesthetic or populist high horse. Instead, my arguments are mostly economic.

Banks are making money because they're borrowing at ridiculously low rates from the public and central banks and then investing in higher-yielding government securities.

In my fantasy world, the entire bonus caboodle—every last cent—would go to the reconstruction of Haiti.

The banks receive deposits from savers (on which they pay negligible interest) and then leverage it several times by borrowing from other banks, or the central bank. LIBOR (the rate at which banks borrow from each other) as well as the Fed's discount window are below 0.5 percent. This is the cost of money to banks. The loot is then invested in government bonds, which are yielding anywhere from 3.75 percent to 4.75 percent in the U.S. and Europe.

This interest margin may not sound like much, but when applied to the trillions of dollars that make up various banks' balance sheets, it produces profits in tens, if not hundreds, of billions of dollars. For a well-leveraged bank, this is a safe "carry" trade as long as the value of government securities does not collapse. In fact, a bank would have to be incredibly inept not to make money in these circumstances. Awarding bankers bonuses is tantamount to paying them for not being certified cretins.

In my fantasy world, the entire bonus caboodle—every last cent—would go to the reconstruction of Haiti. A more realistic scenario would be for most of the money to go to the central banks and departments of treasury around the developed world that have done all of the heavy lifting. After all, the source of the banks' profitability is policymakers' actions, not bankers' skill or their managements' leadership.

The balance should go to savers. A forensic analysis of the banking system's trading books would show that it is the savers and the taxpayers who provided banks with the bulk of their profits last year. According to Bloomberg, personal savings rates in the U.S. have gone from negligible numbers to about 4 percent-6 percent in the past year. That is $500 billion to $700 billion of additional savings, a lot of which is sitting in low-interest bank accounts. M2 data suggests that in the last 12 months, the savings stock in the U.S. banking system has risen by about $700 billion. All of this money is then leveraged and invested in risk-free bonds issued by the Treasury.

We are now on the verge of President Obama's "Corporate Responsibility Fee." But an opportunity was missed in December when the U.K. Chancellor of the Exchequer Alistair Darling fired the first major bonus-tax salvo. He should have corralled his counterparts in the developed world to tax bank bonus pools at about 90 percent, instead of at the 50 percent he announced. A combined assault on bonuses would have greatly enfeebled bankers' resistance.

Such action would also have shown up as specious the argument that "if we do not pay, the talent will go away." If tax measures were implemented globally, where would the talent go? Some of it, perhaps, to hedge funds. That would be an appropriate, even elegant, solution, because the kinds of risks some of the bankers were taking are best suited for hedge funds. As for the rest of the bankers… they should just stay put and expect to get paid when they start adding value, not merely leeching from public policy.

Tunku Varadarajan is a national affairs correspondent and writer at large for The Daily Beast. He is also a research fellow at Stanford’s Hoover Institution and a professor at NYU’s Stern Business School. (Follow him on Twitter here.)

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Borriowing at 0.5% and lending at 5% is the bread and butter for banks. Bankers bonuses is not based on this basic business. What type of bankers are you refering to ? The community is diverse, from stockbrokers, bond salesmen, M&A people, research .. list goes on and on. Bonuses are taken from each line of business separetely. Then you have agency (commission only) and Prop (trading with the firm's capital). Most of losses came from a single and small unit, CDS. Banks' capital were just to heavily concentraded in those units, and the main problem remain that people bought houses they couldn't afford. The idea to give banks' bonuses to Haiti sound good on paper. But this is not how the world we live in work. Millions of people could be saved everyday anywhere from people in North Korea, Sudan, people dying of Aids, etc. We cant ask out of the blue to, lets say, billionaires, to give their fortune for a specific cause, or actors to give 50% of their huge movie fees for Aids, etc. Having money brings some responsabilities and I hope everyone who is making better than others can help in order to avoid to much disparities and help people who needs it most. Columns like this one are not good journalism. Way too simplistic and superficial. Hope he gives all his salary to Haiti, his next pay to Sudan, then North Korea, Buthan, etc.

I state over and over I am an independent candidate for president of United States. This is my fix. Our economy requires an innovative renewal. This is about that - about transferring the private wealth of interest payments from the private banksters to the public good, in such a way to benefit the whole country. Upon election, here is my program. We used to say, what's good for General Motors was good for America. But today, as America goes, so might go the health of our whole planet. We need to refresh our "cap id a list" structures, and renew our entrepreneurial spirit. Obama is not doing that. In Oslo, when Obama stated, accepting the Peace Prize, "We will not eradicate violent conflict in our lifetimes," he was endorsing the continuing ad infinitum Military Industrial Procurement Complex which we cannot afford, with or without true bankster reform. Everything hangs in the balance of sense. First, we, the people, through our government, must purchase every mortgage in USA, the good, the bad, and the ugly. Ugly mortgages are those known as "tock sick" because the clock is ticking on foreclosures affecting the value of whole neighborhoods. These residential mortgages can be purchased with Mortgage Savings Bonds. The Mortgage Savings Bonds is an original innovative financial instrument. Wed are not conducting the buy out with inflationary cold cash, hot off the presses, which in fact we don't have, but Obama's administration insists on printing. The Mortgage Savings Bonds couldn't be cashed until the mortgages are paid, but they could be sold or traded by their holders, the banksters, on the open market. Savings Bonds are backed by the good faith of the American people; in this case, real properties on which these proposed innovative instruments, Mortgage Savings Bonds, will be written. We can pay 85 cents on the dollar for the good, 70 cents for the bad, and 55 cents for the ugly; millions of mortgages, refinanced with thirty-year fixed rates, the interest spread, according to the credit worthiness of the mortgagee, running from 3% for triple A, to 7% for sub-prime, late payers rated deadbeat. This proposed buyout is a reasonable, yes we can do, beneficial refinance program! the giant too big to fail banksters will wet their pants because all of their rip off swap shenanigans are grounded in all the millions of mortgages they hold that by Executive Order we, the people are purchasing with innovative Mortgage Savings Bonds. Retooling these millions of mortgages, a giant job, can be accomplished with a fail-safe do-it-your self, online program. Those without computer literacy can get their numbers entered by income tax preparers, their fee, Uncle Sam guaranteed. Every homeowner benefits from a restructured fixed 30 years mortgage. Every home owning family will have a lower more reasonable mortgage payment with more money in pocket to improve the quality of their life. The whole world's economy will settle into non-inflationary growth from this mortgage solution. We can tack a non-interest bearing 2nd mortgage on sub-prime homes that swapped and sold for twice their value, (tock sick) toxic still, after a 60 percent whack, so people can remain in their sub-prime dream, pay down their debt, and eventually, as prices inch up, their mortgage drawn down, see their liens paid off fair and square, with their equity left intact. This is a healthy way to stabilize sub-prime neighborhoods. A foreclosed house devalues the street. After our Louisiana styled repurchase, the mortgages on every house in America will be divided amongst bank branches in the same zip codes, for servicing. The ex-mortgage holder banks are compensated for collecting our mortgage payments, on behalf of we, the people, the Mortgage Savings Bond backers. We let the banks hold 'our' money, twelve payments worth, before they have to begin handing over our ducats to Washington. With a year of mortgage money, banks at the branch level will be flush with liquidity for loans, replacing money central management blew on swap speculations. Branches can provide capital to all the capital hungry businesses in their zip codes the old fashioned way, after a visit to the businesses premise. There will be interest on the Mortgage Savings Bonds with which all the home mortgages were purchased. There will be interest on 'our' money, which we are allowing the banks to borrow from us expressly to loan out to all the businesses in their neighborhoods that require capital, so interest we accrue from our trillion-dollar mortgage purchase is washed. Our Treasury Secretary misstated on This Week, With George Stephanopoulos, "A core part of our plan involves making sure banks have enough capital to provide the lending we are going [slur] need to get recovery back on track" He was wrong. The banks used our bailout money to purchase other banks instead of loaning the money to capital hungry businesses! Now to the interest on these millions of mortgages: The interest goes to Washington every month! The monthly interest on all the home mortgages in USA, could total 300 billion dollars. All the income tax collected from taxpayers, their taxable earnings up to 125 grand's worth, might also total 300 billion dollars per month. The interest on all our home mortgages can replace our income tax, up to the first 125 thousand dollars worth of taxable income! Someone who rents has their income tax dollars in their own pocket to do with as they please, pay down credit card debt, save up for a house, a car, the kid's tuition, pizza. Keeping your money is a politic concept all the people can endorse as long as the government is able to operate and deliver services. A working homeowner is freed from paying income tax. The interest on his mortgage goes for our public works, replacing the tax on his hands. Washington, DC has operating capital. We keep what is ours. Apply this same principal to commercial mortgages. The mortgages are seized, not the property. Mortgage Savings Bonds are a great rock solid investment. This buyout is fabulous for commercial mortgage holders because so many are facing default. The advantage: their property is purchased, the mortgage in the Government's hands, via Mortgage Savings Bonds, letting the owners off the hook, their option, retain property management, which earns them money. The principal goes toward retiring the Mortgage Saving Bonds, the interest to cover the rising cost of living, example Medicare, so life is good for all. The above program provides permanent income tax relief for our citizenry, toxic asset relief for bogus banks, and effective capital replenishment for the government. With this mortgage innovation in place, other countries will be lining up to invest in America. We want that. 180 million taxpayers will vote for these recession stuffing relief measures in a heartbeat because every taxpayer benefits. President Obama should read this essay. His approach feeds the bureaucracies that fed his campaign by printing trillions of dollars in future debt, Obama's risk: a stick of chewing gum will cost our gum chewing electorate one dollar plus tax before the next election. This innovative program bypasses bureaucracies, the only ego inflated creatures on planet earth that both feed on themselves, and multiply. Can you suck on your toe and create two of you? Bureaucracies can and do. Bureaucracies are rigid, appearing unsinkable, but they must be "sliminated" for planet health. We need to rearrange how governments generate money so the funds are available to cleanly reenergize our good ship Mother "Urf." I am an independent candidate for president. The above is my mortgage program. (Insert Law and Order drum beat). michaelslevinson.com is the official web site of the Michael Stephen Levinson independent campaign for United States president and the page out of which the Independent Lev Party will become electoral reality. This way, with my Mortgage buy out we straighten out our balance sheet, eliminate a regressive withholding tax, and rejuvenate our economy. michaelslevinson.com

Bless you for reiterating this info and trying, but it is hardly a secret. Clearly they are inept, get money at extremely low to no interest from us and everywhere else that they use to 're-invest' to create their 'products', are well connected bumble f**cks and it is the connections and preferential treatment that banks get that keeps them going. Everyone also knows about these, too. What does it take to unseat these loan sharks? Catastrophic failure on a global level didn't do it? Guess they have to piss off someone like Howard Hughes to get something done. In the meantime, it's just business as usual. Everyone who hasn't done it already should switch to a credit union to get a real rate of return, good service and ethical business dealings back.

You dont like banks ... ... well start paying cash. Maybe then people will stop buying things they dont need -on credit- and its probably the best way to avoid a subprime crisis. Assume yourself.

Supercorm- why not come down from up there on high and talk like a normal person? You are saying that it is the single mom nurse taking care of her babies, working hard who is supposed to know better than a bank what her loan power is. This is the bank's job. You don't expect a banker to ask that nurse how to give someone a shot. Just like you expect that brain surgeon, chemist, airline pilot, fire fighter, oil rough neck, etc., etc, etc, to know what to do and how to do their respective jobs, these bankers should know how to evaluate a person's risk. Otherwise, you are right; we do not need bankers at all. I hope you are paying a bankers rate to any other profession at let's say 2000 %, for any non-banking service you receive. This is how obscene the lack of responsibility is that bank execs are showing, not to mention their zero capacity to even imagine they have done something wrong. The bankers and other finance related execs on WS were the irresponsible ones in this entire scenario. You must truly have no respect for any other profession and I only wish bank execs were actual professionals instead of gambling, unethical loan sharks.

Genni2002 Many people bought houses thinking its a one way trend. Many bought more than 1 house, speculation. The intermediaries make the loan assessment, not Wall Street, who only buys mortgages in packages. One flaws. Your economy was reckless. I have no sympathy. You were undertaxed to consume more, now you have to pay the bill. You buying cheap goods from China, now you're facing unemployment AND a debt issue (China owns you), thx to Wal Mart. You know what, another crisis is coming, people who weren't subprime not too long ago .. guess what, you'll blame the bankers again.

Supercorm - WS obviously thought that the housing market would go up and up and up and created investment packages. If WS doesn't understand investment risk then who should? I do agree with you that mortgage brokers also play a part in this, but the banks are the ones who have the job to loan money and to evaluate loan risk, incl. credit cards. If not, they are totally unnecessary and should be allowed to fail. Why is it that the American people are supposed to be smarter than bankers and WS investment firms wrt investment and risks associated with them? This is what they do. It is wrong to heap this onto the consumer. I know of several situations wherein the bank used its personal trusting relationship with people to coerce them into investment products that were very risky. They act like they know and they present info in this all knowing way and then they suddenly want to act all innocent when the shit hits the fan. No, that is not acceptable. You would not allow it for any other job (one of the reasons we have Sarbanes-Oxley for example), why do banks want to act like they don't know how to evaluate money related risks? Nice try Supercorm.

You want to know what Wall Street's Dirty little secret is? They're Democrats!! Now that's funny!

Funny ? How pathetic ...

People have such short term memory ... ... in fact Democrats seems to be the party of fiscal responsability. Everytime the Republicans lower taxes and spend more (usually for the army) increasing the debt/deficit, then the democrats come in power to fix problems and balance the budget just in time for the Republicans to be elected again on lower taxes promises (that will only benefit the riches). President Obama's deficit is huge, but his budget take in consideration the cost of he war, for which President Bush's budget kept seperate. The fact is that Americans have been "undertaxed" for too long. They lived on credit. Now the bill come and they accuse President Obama even though he's been in office for less than 1 year. If you were undertaxed for so long, you need to pay more down the road ... and this is where you are now. Is that funny ?

At least another person understands things.

Wrong!, actually there are more Republipukes in Wall Street than Democrats. You jackass.

This article is cheap journalism which will get the sympathy of people who dont understand better the world they live in ... ... although I welcome the idea that the most fortunate should help the poorest, this article is too simplistic and utopic. There are hundreds of disaster every year with millions dying of hunger and diseases. This do not call for the rich to donate their fortune to alleviate the sufferance, The world we live in is more complicated than that. Tunku doesn't even understand the banking sector to start with and he criticize people and a system he doesn't even know. This is again cheap sensationalism to appeal to a frustrated minority, although yes I hope fortunate people will do everything they can to help the less fortunate, and I dont expect any to pledge poverty to achieve this goal. I gave to the red cross, medecins sans frontiere and another direct link from my hometown newspaper. What about you Mr Varadarajan, do you deserve your salary ? Give it up for Haiti ...

This use of taxpayer money has to be stopped. Simply increase the interest rates until the banks squeal like the pigs they are, the add two more points.

Spot on - you would have to be an idiot not to be making momey as a banker with the yield curve the way it is. Even worse, they are taking money from Uncle Sam for 0 interest and loaning it back! I am a conservative capitalist, but this is not capitalism, it is robbery.

If Wall Street bonuses were pegged to unemployment figures--meaning both manufacturing and service sectors would have to improve--problem solved.

The financial sector has become a heads we win, tails the taxpayer loses enterprise. This must be changed. Take all the chances you want. You win, great. You crap out, tough luck. George Petton

The fundamental problem is that the exotic derivatives are in no way tied to the real economy. They are essentially poker chips in a high-stake casino. So what is good for wall street is not necessarily good for America.

NO SHIT SHERLOCK!!!...Are these the insights the Beast pays you for ? The idea that (this year's) bonuses are based on "value created" is absurd. It's based entirely on the recovery of the nominal PRICE of securities from their lows.

When will all of you people realize you are libertarians and act as such? Seeing people argue over whether the democrats or republicans are more fiscally conservative is hilarious to me.

Amen brother or sister! A pox on both parties and death to crony capitalism where the government rigs the game in favor of its benefactors. Let's go back to real capitalism and let these Wall Street type fail when they guess wrong. A simple fix is for the government to charge the banks the prevailing interest rate for government money borrowed. I have no problem with paying bonuses for adding real value to the economy but not for simply taking free money and investing it in guaranteed government bonds. If any banks are paying bonuses based on that, they ought to fire all of their executives and beat the shit out of their boards.

EXACTLY RIGHT!!!!!!!!!!!!!!!

The Beast looks foolish publishing articles about economics and finance by authors who clearly know NOTHING about these subjects. Several previous responses by knowledgeable readers clearly explain this. I'd like to cover 2 points: 1) Whenever we hear about things like obscene bonuses (and they are), socialist whiners come out in force. Anti-rich populism makes good press but lousy economics. Stockholders should complain about inflated bonuses; management is giving away stockholder's profits to themselves; the public has no right to these profits. 2) As already pointed out a carry trade of borrowing at low interest and lending at higher interest generated these profits. This is the basic business model behind banking. If I offered you a loan at .5% interest you could bank at 1.5% interest with 100% safety, you'd be an idiot not to take it. It's free money. I'm the idiot for offering the loan. Our government is the idiot with the bailout money. The bankers simply saw a good deal and took it. If you want to do something about it, support opponents of every congressman and senator who voted for this nonsense.

Makes sense, good point!!!!

Why so much scorn for the writer? Borrowing cheap and lending dear is obviously banking business - except when they screw up in a big way. As for instance did Freddie and Fannie who created the subprime disaster with the help of cheap Treasury money. And bribed Congressmen not to control their reckless conduct,the single biggest cause of the disaster. And now - get this - the Obama administration is exemping these incompetents exemption from the banking tax and exempting the big unions, too. More and more like a banana republic.

While Obama is going after these bankers, perhaps he would like to investigage his "close advisor" Franklin Raines who took tens of millions of dollars in bonuses while running Freddie Mac into the ground. Mr. Obama has never asked his friend, Mr. Raines to pay back a penny of his obscene bonuses. Of course, Obama got paid off pretty well for his assistance in perpetrating Mr. Raines' fraud on the American people? Typical Chicago hand greasing with public money. Don't hold you breath waiting on consigliere Holder to investigage Raines and his ilk. Obama's cronies are always held to a different standard than the nameless, faceless "Wall Street" types.

The banks and financial institutions that were bailed out deserve a great deal of the blame. But let us not forget about Barney Franks, Christopher Dodd, and to some extent George W Bush for pushing the fantasy that homeownership is every American's birthright. Using the giant Ponzi schemes that are known as Freddie Mac and Fannie Mae, the pols convinced imbecilic Americans to take on "interest only" mortgages, ARM's and other such high risk loans that could only be affordable if home values continued to climb at a rate way above inflation. A fool and his money are soon parted and when the inevitable occurred, BOOM, these fools were no upside down in a home they could never afford in the first place. Then the Bush/Obama idiots once again interfered in the markets and bailed out these banks and financial institutions who should have been allowed to fail and starting wasting even more of the dollars of hard working and responsible people who have lived within their means and followed all of the rules. Are those of us in this latter group pissed? Hell yes. Do these bank bonuses for people who add very little of a productive nature to the economy piss us off? Hell yes. This is nothing more than the largely Eastern elites and their political cronies taking a crap on the working class and the real enterpreneurs. It is almost pitchfork, torches and nooses time, folks. Death to the patronizing elites and to the false crony capitalism practiced for the last 50 years by both parties! Who is John Galt?

The real crime is that the banks are sitting on the taxpayer-provided infusion of capital. Any idiot with a few billion dollars of taxpayer funds could do what the writer describes. The problem is that the bankers are not making loans to the businesses and consumers who will dig this country out of recession. As long as the banks keep all this money under the mattress and out of circulation, recession will stretch on.

Thank you category5 finally a big picture comment. That's the real crime here, loans to real business and real people have ceased. Argue all day about the details and geek out on economic BS jive.

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