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Corruption and Policy Vacillation: Two Sides of the Goldman Sachs Problem

America has faced the dangerous combination of vacillating government policymaking and financial industry corruption before. Here's what we can do to fix it.
 
 
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The biggest PR headache for the powerful Wall Street bank Goldman Sachs right now is likely Greg Smith, an insider who resigned Wednesday through a New York Times op-ed article, citing the investment firm’s culture of immorality and cheating.

Smith’s righteous public resignation went viral, circulating to millions of people who agreed with his basic take on the predatory nature of our modern banking system. He described a hyper-inflated version of what the banker Jonathan A. Knee wrote in “The Accidental Investment Banker,” years ago, that Wall Street deal-making culture is one of grab money today and ignore the consequences, or IBG-YBG (“I’ll be gone, you’ll be gone”).

As one person exited Goldman on Wednesday, another joined. Goldman has brought in a person well suited to address this problem: Jake Siewert, a former aide to Treasury Secretary Timothy Geithner. Siewert, a well-known Democratic press operative and PR expert, will likely use his skills to figure out the best way of tamping down the media firestorm. Good luck.

Yet this dangerous combination of vacillating government policymaking and corruption within the financial industry has happened before, and America successfully addressed it then with bold and broad solutions.

In the 1930s, policymakers were also loath to act — until the high-profile Pecora Commission hearings revealed deep and widespread abuse in the banking industry. This was preceded by cultural movements such as the “Bonus Army,” a group of World War I veterans, who camped out on the Mall seeking early payment of the bonuses due them. Eventually, we succeeded in both imposing a safe regulatory structure and an ethical culture on Wall Street. Americans will have to mimic our forebears now.

Meanwhile, what the Smith and Siewert episodes reveal is disturbing. The problems that Smith revealed in his op-ed were what lead to the crisis — ones that the Dodd-Frank regulations were supposed to solve. Smith described how clients were referred to as “Muppets” and Goldman executives were “ripping eyeballs out” of their clients in the derivatives division.

Goldman now has access to the Federal Reserve’s discount window as a result of the financial bailouts — which means taxpayers subsidize the predatory trading practices that Smith describes. Dodd-Frank is supposed to seriously reform derivatives. Its Volcker Rule is meant to prevent abuses at the discount window.

That Treasury officials, responsible for making sure financial reform and other regulations are strongly implemented on behalf of the administration, are taking jobs at firms like Goldman looks like a serious conflict of interest.

This is, to say the least, a deeply problematic incentive system. Smith, the insider done right, will lose his multimillion-dollar salary for telling the truth and doing his best to stop the abuse in the banking industry. Siewert, the insider, meanwhile will gain a multimillion-dollar salary for helping spin a still unsolved problem.

Meanwhile, the presidential race continues, with those who righteously and angrily read Smith’s argument simultaneously cheering on the electoral prospects of President Barack Obama, who seems to be doing nothing to stop what is taking place.

Elites, politicians, citizens, and banking institutions are abandoning notions of collective welfare all at once. So what’s next?

One thing we can expect, of course, is smear jobs against Smith. The same social networks that promoted his piece are already buzzing that his screed is self-interested, that he’s just mad his bonus was small. We can assure you, financial insiders say, that no one in banking, a clubby little world, publishes brutal pieces hoping for professional advancement.

But shooting the messenger seems something that people with an interest in seeing the current predatory banking model survive surely know how to do. Consider the case of Elizabeth Warren and her Consumer Financial Protection Bureau. There will likely be more tricks.

Yet, the public’s dislike of predatory banking practices is not going away. The revelatory information around fraud in foreclosures continues to shock most Americans, who expect prosecutions for obvious criminality. But all they have heard is happy talk about how crimes weren’t really committed.

We need a real policy framework to address both Wall Street’s culture of predation and the financial interests’ capture of the government. This includes a substantial boost to the budgets of the Commodity Futures Trade Commission and the Security and Exchange Commission, the agencies responsible for derivatives regulation. We might consider giving the SEC criminal jurisdiction, so it can prosecute people.

The Office of the Comptroller of the Currency, the regulator responsible in the last decade for eviscerating subprime mortgage laws all over the country, needs to be restructured and its top leadership changed. Real prosecutors need to be at the Justice Department — like Neil Barofsky, who has a track record of enforcing the law against banks.

In addition, we need new electoral regulation, so that corruption stops seeping in through campaign donations.

The more bold solutions put on the table, the better. Our government seems captured by financial interests — and this requires dramatic action. Neither Obama nor his Republican challenger, both dependent on Wall Street plutocrats, have demonstrated much interest in reigning in an industry that has gone unchecked for far too long.

The change will have to come from the people, from a cultural revolt against these banks. It will have to come from insiders like Smith, who, by speaking out, can encourage those ethical parties in the industry to fight back. It will have to come from the customers who now know they are derided, cheated and mocked behind their backs. It will have to come from judges like Jed Rakoff, who has repeatedly knocked down weak SEC agreements with banks. People who show integrity and competence and demand high standards from the industry and the government.

It will have to come from citizens — from us. America has done it before. We can do it again.

Matt Stoller is the former senior policy adviser to Rep. Alan Grayson and a fellow at the Roosevelt Institute. He blogs frequently for Naked Capitalism. Follow him on Twitter at @matthewstoller.