Risk, Disaster and the Windfalls of Wall Street

By Sam Pizzigati, Too Much: A Commentary on Excess and Inequality. Posted March 25, 2008.

Nero fiddled while Rome burned. James Cayne, the chairman of investment banking giant Bear Stearns, would have played bridge. In fact, earlier this month, with Bear Stearns about to go up in flames, the 74-year-old Cayne did play bridge -- at a national tournament in Detroit.

Cayne could afford to be somewhat nonchalant about his company's future. His future will forever be secure. As Bear Stearns CEO -- he stepped down this past January -- Cayne pocketed over $232 million in compensation.

What did Cayne do to earn that excessive sum? He helped create what Nobel Prize-winning economist Joseph Stiglitz last week called "the worst financial problem we've had since the Great Depression."

America's top business journalists spent their last week trying to explain just how that problem evolved. By week's end, a consensus of sorts had emerged. Wall Street investment houses, analysts seemed to agree, had routinely flouted prudent business practices. They had followed, as Fortune magazine charged, "a highly flawed business model."

"Put simply," says Fortune, "Wall Street firms used towering leverage to make tons of money in a long-running bull market that blatantly underpriced risk."

The risk should have been easy to see. Shaky subprimes made up just 17 percent of all new mortgage loans in the year 2000. By 2006, researchers at First American CoreLogic calculate, subprimes constituted almost half, 44 percent.

Why didn't Wall Street's financial wizards recognize the obvious risk in those numbers? They were too busy counting their personal windfalls -- and angling to generate even more.

"I blame the system, I blame greed," as Stephen Raphael, a former Bear Stearns board member, noted after the bank's collapse. "Wall Street is really predicated on greed. This could happen to any firm."

Wall Street's "legendary largesse on pay,"Fortune adds, encourages "outrageous risk-taking" and "swashbuckling behavior."

That largesse cascaded magnificently at Bear Stearns. Over the five years from 2002 through 2006, James Cayne and his four top Bear Stearns executive buddies amassed $620.8 million in paychecks and perks and, reports Business Week, another $296.4 million cashing out their shares of company stock.

Rewards this outrageously mammoth, analysts note, give executives the incentive to behave outrageously. And some lawmakers are taking notice.

"It's time to revisit the issue of top executive compensation," Rep. Barney Frank, the chair of the House Financial Services Committee, contended in an interview last week.

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Sam Pizzigati is the editor of the online weekly Too Much, and an associate fellow at the Institute for Policy Studies.