What bankers don’t have to tell us


by David Malone

Bankers really are whiners aren’t they?  This morning the FT news reports the whinings of Oswald Grübel, CEO of UBS, one of the big, Swiss bail-out banks.  Mr Grübel is described as a veteran whiner, sorry banker.  And this morning he is whining about over-regulation and not being loved enough.  He complains, “Only behind closed doors do they [governments] pay lip service to wanting to keep the City.”

He is having a little tantrum about the fact that Switzerland has said it will require banks to hold more capital against loans and is worried that London will do the same.  He then moves from petulance to wormy threats, saying how if one place requires 19% capital holding but another only 8%, then business will naturally move to the less regulated place.

If this is what he is saying you know all the other bankers are saying the same and, more importantly, they are making the same threats to everyone, pushing hard for the bottom.  Imagine what bankers like Mr Grübel are saying to, for example, Mr Enda Kenny.  Ireland has no effective financial regulation to speak of.  Not by accident but by policy.  Imagine if Mr Kenny tried to introduce some.  There would be chorus of Grübels all saying how they would leave and Ireland would sink.

As a group, bankers are working very hard to pit one jurisdiction against another, not to keep regulation as lax as it was, but to lower it.  The argument is that we are in such desperate straits that in the competition for growth, the banks must not be hindered.

So I thought, to balance the whining about how unfair bank regulation is, it might be good to remind ourselves of what the banks already don’t have to tell us or do.

Banks do not have to value their assets in any verifiable or objective way.  They value them according to models they themselves control.  Regulators do not even have oversight of the models.

Banks, when they report their earnings, losses and taxes do not have to show the profits or losses of any subsidiaries.  This means it is quite possible for a bank to show small losses and small exposure to future losses, simply because it has sold the losses to ‘another’ company.  That company now has the loss and the exposure to future losses and the bank may even show a profit from the sale!  This has actually been done an awful lot by many of the banks over the last few years.

What you end up with is a careful shuffling of assets from bank to subsidiary and back depending on the regulatory and accounting needs of the bank.  The bank may want to keep assets on its own books valued at some inflated mark to model price, until some question or stress test appears, at which point it may prefer to ‘sell’ those assets, thus making them disappear.  Away goes the asset and in comes some cash – and presto – lower liabilities and higher cash holdings.  Which may all seem fair enough until you remember these are not ‘other’ companies, but are subsidiaries.  Which means the bank is still, in reality, on the hook for the  debts.  But officially, what’s reported in the newspapers, the bank has ‘recovered’ and its liabilities are decreasing.

Banks do not have to list, register, declare or consolidate accounts from all their subsidiaries. And so they don’t.

Now add to this two other layers.  The subsidiaries can be in the same country or financial jurisdiction, but they don’t have to be.  So for example a bank like Hypo Real Estate or Depfa may be listed on the German exchange but domiciled in Ireland.  It may have a ‘separate’ funding bank listed and domiciled in the Isle of Man.  This bank’s job is to issue bonds to raise cash.  That cash is then available to the rest of the banking group.  It may also have a securitizing specialist business in Luxembourg or London and a holding company registered in the Cayman Islands which oversees a myriad of independent trusts, SIVs and investment companies,

Now not one of these regulatory authorities has to, or ever would, pass any information to another jurisdiction.  Which is of course the point.  Banks are set up this way for many reasons, not least of which is not paying taxes.  Banks, and other companies, with help from their banks, use the web of subsidiaries to move profits from high tax countries to low tax ones and to move debts and costs the other way.

So for example, if a German bank is doing a lot of work in high tax Germany it will pay lots of tax.  If it does the work in Germany, but does the last little bit, closes the deal and books the profits, in Ireland, then it will pay low taxes.  If on the other hand it should, perish the thought, make a large loss, in say … Ireland … it would be better off it it could ‘move’ that loss from Ireland to Germany, London or New York, where such pre-tax losses can in fact be counted against its German, British or American tax bill.  This sort of arrangement is exactly what our government here in the UK is currently trying to put in place to facilitate this sort of tax arbitrage, as it is called.

Now this is with subsidiaries.  We have not yet considered ‘other’ companies.  I put it in quotes because what constitutes an ‘other’ company is a vague thing once you become a banker or accountant.

Let’s consider the companies which all the bailed out banks set up in 2005-07 to bundle-up, house and sell on the CDOs (Collateralized Debt Obligations  – just bundles of loans) they were creating.  What we now know is that the ‘other’ companies which put the CDOs together had quite often been set up with a large ‘loan’ from the same bank whose CDOs they would then ‘buy’ and sell on.  Of course, it is what banks do – make loans, so companies can be set up.  But when the company being set up is so closely tied to the bank making the loan and the business is so important to the operation and apparent solvency of the bank itself,  at what point does such a loan arrangement constitute ownership or control?

In addition to which, once the CDOs were created, by the ‘other’ company, we also know that the banks then also set up, with their own money again, another company which ‘bought’ and housed the CDOs, that the first, ‘other’ company had put together, again, often using more loans from the same bank.  So the bank would have provided all the money and loans for all the companies bundling and selling the CDOs and to the companies (trusts) who eventaully bought them.  Confused?  That’s what the bankers hope.

Now all these various layers of ‘other’ companies, which are not subsidiaries, definitely do not have to be considered by either the bank or any regulator, when considering the health or otherwise of the bank itself.  The only connection between them all is the loans the bank made to them all.  And the health of those loans – are they good or toxic – is for the bank to decide.  Handy isn’t it?

Now let’s add another layer for those of you still not confused and put off.

Let’s make sure these other companies, particularly the ones who are going to be actually holding the assets being sold by the banks, are not just separate companies, not just in different jurisdictions but make sure those different jurisdictions are all in offshore jurisdictions that have ‘bank approved’ regulations and regulators – like Ireland or the Caymans or London for that matter.

So the bank has its subsidiary in the Isle of Man issue some debt.  That raises cash which the Isle of Man bank can ‘lend’ to other subsidiary parts of the bank.  It does so, and then the London or Frankfurt branch uses its contacts to set up some great deals.  If necessary the deals can be closed in Ireland for tax purposes and any costs can be moved back to London or Frankfurt by having the Irish branch bill London or Frankfurt do some ‘consultancy’ work on the deal, leaving all the profits in Ireland and all the costs in London.  Of course you don’t want to do this to every deal because you need to have enough profits to show in London to create your bonus pot so you can pay billions to you and your friends.

Now the resultant ‘assets’ created by all this frenzy of money movement need to be housed somewhere.  You have already got the profits where you want them.  Now you need to make sure any risk of losses on those ‘assets’ is well away from the profits.  The undoubted best place to house those CDOs   and their risks is offshore.  Set up a company, a trust is a good kind of company for this, which has no business other than to house the loans you sold it.  It will sell the income from those loans to investors.  Those investors will not be connected to the bank. They will be investors in the trust only.  So should anything go wrong with the trust and its CDOs the bank will say, “Who me?”

If the trust and its CDO go bust you have no recourse to the bank.  All you can do is try to prove that there was fraud by the bank or the company which chose and bundled the ‘assets’ when the trust was set up in the first place.  You will have to prove that the bankers knowlingly lied to you about the real value and riskiness of the assets.  If you can’t do this then you’re stuffed.  This is why we are seeing all the allegations and law suits claiming that the banks lied about the assets.  But fraud is hard to prove.  And who was the fraudster?  The person who ran the CDO who should have looked more closely at what they were overseeing and selling?  The people who chose and bundled them in the first place?  Or the bank who created the loans in the first place?  Lots of layers, lots of defendants all of whom will have lawyers.  It’s called defence in depth.

Now, to return to the scene of the crimes; trusts are a wonderful way of of loading”sacks of shit”on to other people, as a JP Morgan banker recently said.  They are also a great way of hiding losses from regulators.  If a bank has lots of worthless loans on its books there is nothing at all to stop it selling those loans to a completely separate company.  A trust, set up in an offshore jurisdiction, could buy them couldn’t it?  And being offshore, the regulator in London cannot find out who set up or who owns the trust.  The Paris branch of a bank could have set up such a company.  The London regulator is not privy to that information.  And there is no trace of a link from the London bank to the trust.  The London branch did not set up the trust.  The London bank and the London regulator can both say ‘honestly’ that all is fine, legal and above board.

What the London regulator sees is the bank making a profit from selling some assets to a trust.  The assets disappear from London’s radar.  They have gone.  What is left is the profit from the sale on the London bank’s books.  A healthy bank!

The trust now owns the rotting ‘assets’.  So what happens as the trust goes bankrupt?  Well nothing happens to London.  Paris however has made an unwise loan, which if it was sensible, it will have securitized and sold to bag holders, sorry customers, as AAA rated investments which it aquired from a major and therefore reliable bank.  Or it may have taken out insurance in which case the insurer is on the hook for the losses.  If it did not do any of this, worry not, it will go to its government saying it has some more unforeseen write downs and ask for a bail out.  Must protect those banks.

Of course it might be better if Paris in the meantime had moved the liability to somewhere where there is more panic and less oversight – Greece maybe?  Surely we have a branch/subsidiary/trust down there?  We do?  Marvellous.  Get them on the phone!  The Greek bank can go to its government and ask them instead, and then its government, too broke to pay, can go to its people and tell them they have loans to pay off so some more cuts will have to be made and if this isn’t enough then they’ll just have to go to the ECB or the IMF or the tooth fairy for all that London cares – remember them in the story, where it began – and say we might default if you can’t help us cover this loan.  And the ECB will buy up the debt and the banks who started this and whose debts this is all about, will tut about levels of debt and suggest that nations and the ECB will have to cut back more on spending on some ‘non-essentials’ like schools or hospitals.

Meanwhile the bankers whine to their friends in the press and threaten any government which even thinks of introducing a regulation or two.  And yet the truth is that there is already no effective regulation or oversight of banks.  What there is are gnat-like inconveniences which buzz around the places where the huge, shrouded machinery protrudes into the world of people and their governments for the purposes of being physically housed somewhere and for getting their hands on deposits and bail outs.

Those protrusions of the banking world are like the brass buttons on a policeman’s uniform.  They are just the tips of a massive machine which exists elsewhere and whose bidding the policeman does.  The truth is most of the money in the world is not under any national jurisdiction at all.  It is not physically in any country.  It is not subject to any nation’s laws nor those of any international body.  Democracy has virtually no control over it at all.  The banks print and control their own debt backed currency (that is what securities and derivatives amount to).  And when, as has happened, the value of the bank’s currency implodes, they use our politicians to loot our currency to replace theirs.  And then bill us the interest on the money we have loaned or given them.

There are no regulations which oversee money or the banks, once money is on the move.  And keeping money on the move is what modern banking is about.  It is an unregulated, extra territorial, global power for and by a global elite.


David Malone is the author of the book Debt Generation. You can read and listen to excerpts from his book here: http://www.debtgeneration.org/index.php